Collections 3.

0
Bad debt collections:
From ugly duckling to white swan

Outgrowing the
ugly duckling

The consumer lending environment in South Africa has

become materially more competitive. Relatively new
lenders are gaining a stronger foothold in the market
and competition from non-traditional lenders such as
retailers, is becoming more common place. Customers
in turn are not loyal to one lender and have multiple
credit relationships, which has pushed many lenders
to reconsider their collections strategy. To put this into
context, it was recently reported that there are now
5.8 million more credit active consumers than there
are people employed in South Africa, indicating that
consumers are likely to have more than one account.
Based on comments by some financial research
analysts, it is likely that many consumers have over
four accounts1.

There has been an upward trend in the growth of

credit transactions over the past few years and this
trend is likely to continue as the economy grows.
While, credit extension has not been as aggressive as it
was before the introduction of the National Credit Act
the growth seen is substantial enough to require an
effective collections strategy.

Number of transactions

Credit granted by type (number of credit transactions)

40 000 000
35 000 000
30 000 000
25 000 000
20 000 000
15 000 000
10 000 000
5 000 000

Mortgages
Secured credit
Credit facilities
Unsecured credit
Shortterm credit
Q4

8-

0
20

Q4

9-

0
20

Q4

0-

1
20

Q4

1-

1
20

Source: National Credit Regulator

1 BNP Paribas Cadiz Securities. May 2012. Moneyweb

Collections 3.0 Bad debt collections: From ugly duckling to white swan

Gross debtors book by credit type

2008 Q4

Gross debtors book by credit type

2009 Q4

1%

1%
5%

14%

5%

Mortgages

15%

15%

Secured credit

Mortgages

15%

Secured credit

Credit facilities
65%

Credit facilities
64%

Unsecured credit

Unsecured credit

Short-term credit

Short-term credit

Gross debtors book by credit type

2010 Q4

Gross debtors book by credit type

2011 Q4

2%

2%
5%

16%

5%

Mortgages

13%

19%

Secured credit

Mortgages
Secured credit

12%

Credit facilities
64%

Credit facilities
62%

Unsecured credit

Unsecured credit

Short-term credit

Short-term credit

Source: National Credit Regulator

Unsecured lending as a share of overall credit exposures has increased over the past four years as a result of
increased lending.

South African housing price averages (year-on-year growth)

32%

23%

21%
17%
14%

15%

15%

15%

7%
4%

2%

0%
2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

Source: ABSA. January 2012. House Price Indices

With a slowing in South African housing price growth, reliance on security to mitigate credit loses is no longer the
only collection strategy.

Lenders are increasingly looking to gain a competitive

advantage through the introduction of market leading
risk-based collections strategies and operations.
Collections 3.0

to enhance the quality of predictive analytics,

decision making and recovery rates, but only where
these external service providers generate value to
the business that cant be achieved internally.
Enhanced reporting. Real-time metrics captured in
an executive dashboard can improve management
visibility of performance and thereby ensure more
responsive and informed decision making.

A risk-based collections strategy encompasses the

following key areas:
Insight from sophisticated behavioural models.
Predictive analytics improve decision making and
efficiency by analysing a wide set of customer data
to determine the risk level of each account and/
or customer, and therefore the most appropriate
treatment strategy. This operational strategy aims to
ensure that the right treatment and mechanism is
used at the right time and at the right cost for each
account or customer segment.
More efficient, effective processes. Increasing the
automation of collections activities make collections
processes significantly more efficient and effective.
Organising activities by the risk level of accounts
and customers adds to the efficiency gains with low
value activities automated and high value activities
aligned to the most experienced collectors.
An extended business model. External data
providers and debt collection agencies are
increasingly being used by successful organisations

Alignment across the credit lifecycle. Aligning

sales and marketing, finance, risk management,
pre-delinquency, collections and recoveries functions
ensures that the lessons learnt from each function
and credit lifecycle stage are shared across the
organisation to minimise losses and maintain
control.
A robust technology infrastructure. Underpinning
all these enhancements is a strong technology
infrastructure. Successful collections departments
use data mining to assist in segmenting the portfolio
and developing the predictive analytics model. They
have a well-developed capability to rapidly develop
and deploy these predictive models and strategies.
They employ decision engines that automatically
determine the appropriate treatment strategy for
each account/customer. Finally they have workflow
systems that reduce costs by automating the
collections activities driven from decision engines.

What are predictive analytics?

Insight from
sophisticated
behavioural
models
More efficient,
effective
processes

More accurate
metrics

An organisations data is full of potential. Stored throughout

the business, is a wealth of possibilities. Leading financial
services providers recognise that a better understanding of
data (particularly as a predictor of the future or as an identifier
of existing issues) can create new opportunities and make a
significant difference to managing performance. Predictive
analytics is a set of statistical tools and technologies that use
current and historic data to predict future behaviour.

Collections 3.0
Predict
What might happen
in the future?

An extended
business model

Monitor
Whats happening
now?
Complexity

A robust
technology
infrastructure

The risk-based collections

approach

Alignment
across the
credit lifecycle

Analyse
Why did it
happen?

Enhanced
reporting
Report
What happened?

Business Value

The Collections 3.0 model

Collections 3.0 Bad debt collections: From ugly duckling to white swan

 More accurate metrics. Some institutions are

moving beyond traditional measures, such as total
rands collected and cost to make a call, to employ
cost to collect R1 metrics that more accurately
measure the return on collections spending, and
facilitate more robust decision making.
Currently, certain financial institutions are faced with
under-performing collections and recoveries functions
due to general under-investment over the past few
years in the function, in an effort to lower costs.
Ignoring collections, as though it were the ugly
duckling, has resulted in these financial service
providers having out of date systems, data and skills
in this function of the business. Collections functions
have also generally been viewed as a cost centre,
rather than a revenue recovery centre, and have
therefore not received the necessary investment
required to enhance efficiency and effectiveness,
and in so doing have reduced the ability to further
increase profitability and performance. Combining
these concerns with new consumer regulation such as
Treating Customers Fairly and the Consumer Protection
Act and risk-based regulations such as Basel II and
III has created the need for lenders to adopt a more
risk-based approach to collections. Those lenders that
do embrace risk-based collections gain a significant
first mover advantage through enabling increased
collections, better credit decisions, and reduced
operating expenses.

Finding the swan

hiding in the data

Most financial service providers find that their

collection efforts are inefficient relative to the
experience of the global market, which indicates
that efficiencies can be found across the entire
collections lifecycle from pre-delinquency to write
off and recoveries. If financial service providers with
inefficient collections functions continue with their
current collection strategy, collectable balances older
than fifteen months will continue to provide minimal
return. These financial service providers will also have
difficulty in determining whether the cost of collection
outweighs the return on these collectable balances.

In an effort to assist in realigning the collection

and recovery function Deloitte has developed the
Collections 3.0 approach. This approach, which
encompasses both a quantitative and qualitative
component identifies areas of improvement within the
collections and recoveries space, as well as comparing
completed accounts (i.e. non-performing accounts
that have either cured or written-off) loss figures
against industry peers. Collections 3.0 involves
the processing and transforming of default data for
various purposes and by using a standard loss-given
default (LGD) calculation to run the data, the losses
experienced on the completed accounts and trends
can be analysed over time.

Cumulative Recovery

Recovery by Period

Duration
Market Cumulative Recoveries

Client Cumulative Recoveries

Market Implied LGD

Client Implied LGD

Cumulative recoveries on a lenders defaulted book. (fictitious data)

Collections 3.0 Bad debt collections: From ugly duckling to white swan

The completed accounts loss figures can be compared

across the banks and from this, various metrics can be
extracted, including for example:
Write-off policy impacts
Debt-counselling impacts
Impact of restructuring
Compared write-offs over time

What is Collections 3.0?

Collections 3.0 involves a qualitative and quantitative combination of analysing
the current state of a collections and recoveries function and benchmarking
it against peers, thereby enabling efficiency gaps within the function to be
revealed. Then through the use of predictive analytics a new and enhanced
target operating model can be developed and optimised for the collections and
recoveries function. This target operating model can be tailored to the credit
base, enabling increased efficiencies to be realised.

Current state analysis

Benchmarking

Collections 3.0

Target operating model design

Predictive analytics

The Collections 3.0 difference

The qualitative aspect of the Collections 3.0
approach also involves the use of a proprietary tier
structure model for collections and recoveries. This
tool facilitates quick and effective comparison of the
relative sophistication of an institutions collections
organisation. The comparison is made across a number

of high level elements, each of which assessment

is based on a more detailed analysis of lower level
aspects of performance. It allows mapping of as is
and to be positions and so can be used to illustrate
a programme for change to transform the collections
organisation. The following table illustrates the
continuum of practice between traditional collections
and the risk-based Collections 3.0 approach.

High level Tier Structure Model (TSM) for collections and recoveries
Traditional collections
Tier 1

Transitional collections
Tier 2

Tier 3

Risk-based Collections 3.0 approach

Tier 4

Tier 5

No formal co-ordinated
setting of a credit risk
management strategy
(including collection and
recoveries).

A strategy for credit risk

management set at a Group
level is not clearly linked into
business strategy.

Risk management strategy is

communicated and accepted
across the business units,
with clear objectives in line
with business strategy.

The strategy is adopted by all

business units and it is
integrated into all risk classes.
Strategy is dynamic in nature
and focused on specific
customer characteristics.

The strategy is totally

embedded into the businesses
and fully integrated into other
risk classes. Champion versus
challenger methodologies
fully embraced.

Roles and responsibilities are

not defined or clearly
allocated for credit risk.
No clear role for risk within
the organisation.

Some roles and responsibilities

are defined in a co-ordinated
fashion generally focusing
on Group centre. Risk is
recognised as a clear role in
the organisation.

Individual roles and

responsibilities are aligned
to the individual
components of credit risk.
Risk primarily seen as cost
centre.

Duplications are eliminated.

There is clear role and
responsibility allocation
between Group centre and
business units. Risk increasingly
seen as profit centre.

There is fully optimised and

cost efficient model in place
with all responsibilities
clearly defined. Risk is seen
as business enabler.

Collections and
recoveries
definitions

No clear and universal

definition of collections and
recoveries terminology
exists.

Collections and recoveries

definitions are defined in
some business units but not
others.

Multiple definitions of credit

risk exist across the
organisation, with no clear
distinction between fraud,
credit abuse and credit risk.

There is a single set of

definitions but they are applied
or interpreted in an inconsistent
manner across the organisation
with respect to specific measure
and timeframes.

There is a single fully

integrated set of definitions
used consistently across the
group.

Processes and
methodologies
qualitative

There are limited formal

processes for management
of credit risk, uncoordinated
across the organisation.

There are Group-defined

processes for managing
credit risk, but which lack
robustness and business
buy-in.

There are methodologies

and tools which are
consistently applied by the
business units.

There is a complementary
and integrated suite of tools
to cover each aspect of the
process.

An optimal control
framework, including full
cost vs. benefit analysis of
the methodologies
employed.

Processes and
methodologies
data and
analytics

No formalised or
co-ordinated collection of
credit risk data.

There is some tracking of

credit risk data, although
not complete for all business
lines.

There is complete coverage

of loss and transaction data
across all business units.
Internal data predominantly
used.

External data used to

supplement internal data. Loss
information collected is
largely accounting based and
customer contact information
poorly structured.

The organisation has

complete economic loss data,
seamlessly incorporating
internal and external data,
including detailed customer
contact information.

Processes and
methodologies
quantitative

No formal quantitive
measurement of credit risk
(collections and recoveries
elements).

Some form of credit risk

(collection and recoveries
elements) quantification
takes place using collections
scorecards.

Credit risk (collections and

recoveries elements) is
quantified using collections
and recoveries scorecards.

Risk quantification models

take into account alternative
communication media and
strategies.

Risk quantification models

used to optimise collections
and recoveries performance
by considering all tools and
strategies available.

Communication
and information
flows

There is no formalised
management reporting of
credit risk and an
unsophisticated customer
communication strategy.

Some reporting formally

defined for management at
a Group level. Customer
communication strategies
are more formalised but still
unsophisticated.

Reporting supports decision

making and the proactive
management of credit risk,
used by Group and business
units. Multiple
communication media used.

Reporting is embedded in the

businesss day-to-day activity
and is integrated across risk
class. Communication media
varied and determined by
scorecards.

Reporting is fully automated

and real time. It is fully
integrated with other risks.
Sophisticated multiple
communication media can
be employed.

Skills and
resources

There are only a few

individuals within the
organisation who have
necessary collections and
recoveries skills.

Collections and recoveries

risk management roles are
generally populated by
individuals with necessary
skills.

Collections and recoveries

responsibilities within the
business units are discharged
by individuals with appropriate
credit risk skills supported by
appropriate training.

High degree of understanding

of collections and recoveries
skills across the organisation,
supported by training,
incentive schemes and
competency model.

Effective allocation and use

of resources efficiently
applying the skills sets of
existing resources.

No formal validation of the

credit risk management
framework occurs.

Internal audit include the

credit risk management
framework in their reviews on
an ad hoc basis.

Internal audit provide

formal assurance to the
Board of the validity of all
aspects of the framework.

Stress tests of qualitative and

quantitive factors to assess
the future validity of the risk
management framework.

The credit risk framework

contains embedded
validation and assurance on
a real-time basis.

Strategy and
policy

Risk governance
and organisation

Validation and
assurance

Continuum of practices

Collections 3.0 Bad debt collections: From ugly duckling to white swan

Transforming from ugly

duckling to white swan

Deloitte has been working with a number of clients

across the globe for the past seven years to transform
their collections and recoveries operations. In Ireland,
we have spent the last 18 months transforming a
banks collection function with significant results.
When we began working with the client the economic
environment in the country was deteriorating rapidly
with unemployment increasing and housing prices
falling. In the political environment the blame the
bankers concept was resulting in trade unions
encouraging their members to boycott making
mortgage payments. There was also an increased

swing towards consumer protection in the context of

collection strategies but also increased occurrence of
strategic debtors.
The original business case for the transformation was
to improve efficiency by 25% and effectiveness by
15%. By February 2012, the Collections 3.0
transformation journey enabled efficiency
improvements of circa 35% and effectiveness of
circa 22% to be realised at a time when the credit
environment was still worsening.

A business case for collections transformation: Deloittes experience with financial service providers in Ireland
What needed to be addressed?

What was the result?

Strategy, Appetite and Policy

Champion versus challenger strategies were not
embedded.

Strategy, Appetite and Policy

Champion versus challenger strategies became
embedded into the collections culture and within
reporting, including in standard management
information (MI) packs. Collections strategies became
fully aligned to organisational risk appetite.

Risk governance and organisation

There was a lack of end-to-end credit risk lifecycle
alignment.

Risk governance and organisation

Greater interaction between the collections, recoveries
and the credit risk function (covering acquisition and
account management processes).

Delinquency definition
Internal definitions were not aligned to regulatory
definitions and confused the strategy implementation.

Delinquency definition
Definitions aligned to regulatory definitions became
widely documented and understood.

Processes and methodologies Qualitative

There was no evidence of consistent process
implementation that was aligned to strategy

Processes and methodologies Qualitative

Collection processes became fully documented and
embedded into collection systems, increasing process
and regulatory compliance and efficiency of collections
operation.

Data, Analytics and IT

An under-investment in infrastructure meant it
was fragmented which limited the efficiency of the
operation.

Data, Analytics and IT

The integration of technology and data infrastructure
allowed greater strategy automation and associated
reporting and MI benefits.

Processes and methodologies Quantitative

There were no quantitative models in place within
collections.

Processes and methodologies Quantitative

Risk based collection models embedded into collections
processes.

10

Communication and information flows

Poor data infrastructure limited the timeliness and
accuracy of MI.

Communication and information flows

Robust communication plans were put in place, and
MI was transformed to provide both operational
and financial performance at sufficient enough
granularity for on-going strategy development and post
implementation reviews.

Skills and resources

Key skills had been lost since last recession, and no
robust training and development plans had been put
in place.

Skills and resources

Training and development plans were put in place.
A competency framework was developed and the
operating model became aligned to the skills set of
teams.

Validation and Assurance

Validation and assurance had been undertaken on
ad-hoc basis by Internal Audit and Compliance.

Validation and Assurance

A specialist collections compliance manager was
recruited, and organisational design changed to include
a training and development manager responsible
for call listening and process assurance, which has
increased the control framework.

Collections 3.0 Bad debt collections: From ugly duckling to white swan

11

The Collections 3.0 transformation journey

Phase 1:
Collections and Recoveries
Benchmarking

Phase 2a:
Target Operating Model
Development

Phase 2b:
Quick Wins and Soft Skills
Transformation

Phase 2c:
Support Infrastructure
Transformation

Phase 2d:
Management Information
(MI) transformation
Phase 3a and b:
Strategy Transformation
(including late arrears)

Phase 3c:
Predictive analytics
transformation

12

Review of the entire collections and recoveries function including its interaction with other functions
in the organisation (including risk management, legal, compliance, internal audit and customer
services). This facilitates the establishment of an as-is review and maturity assessment of the current
environment in light of the Tier Structure Model (TSM) (qualitative benchmarking). The relative
strength of the collections and recoveries function can also be achieved through a quantitative
benchmarking exercise, using market data to standardised internal Deloitte models (quantitative
benchmarking).
This phase incorporates a thorough review of existing operating model and the development of
a clear vision for a Target Operating Model (TOM) for collections across various domains such as
strategy, processes and governance. This enables the organisation to establish a coherent vision for
their collections and recoveries function.

Instigation of a Collections and Recoveries Transformation Programme relating to quick wins (i.e.
those matters that will require little investment, but offer a large return in the short term) that is
designed to focus initially on improving the softer skills and implementing quick wins within the
collections and recoveries functions.

Efficiency and effectiveness improvements within the collections and recoveries function may require
some major changes to the data and IT infrastructure of the lender, and specifically better integration
of the lenders systems.

Following on from data and infrastructure developments, it may be necessary to devise a

comprehensive set of collections metrics and reports to support efficiency and effectiveness
improvements in their collections operations and associated strategies. This will cover financial MI,
collections MI, operational MI and customer and product MI.

Improvement to the lenders data and IT infrastructure may result in a major shift in the effectiveness
of its operations. This is as a result of greater automation of low value processes, and a more
standardised approach to collections strategies. However in order to improve the effectiveness of
the collections operation, it is important that the appropriate strategy is designed, managed and
developed first.
In order to fully optimise collections it is important to incorporate behavioural analytics into the
collections and recoveries function. This includes the identification of customer-level scoring drivers
for pre-delinquency, recovery and litigation levels. If necessary, the lender may also wish to develop
Basel III and IAS 39 compliant models.

The appeal of the swan

cannot be denied

Better understanding as to what drives recoveries not

only allows management to increase the bottom line,
but also provides a strategic mechanism to further
entrench market share, achieve business growth
and enhance shareholder returns. The outcomes of

improving collections processes can have additional,

frequently unexpected benefits such as deeper
customer insights, which in turn enable better and
more efficient collections strategies.

Benefits of adopting the Collections 3.0 approach

Through incorporating a risk-based collections strategy, many of our financial services clients have been able to realise
tangible benefits such as:
Improvements of up to 20% in
Rands collected

Reductions of up to 30% in
cost to collect

Payback on investment in
technology usually within 12
months

Charge-off reductions of up
to 10%

Enabling roll-rate declines

Identifying potential risks to

the business

Improving the efficiency and

effectiveness of the collections
function

The ability to make

comparisons against
benchmark measures

Effectively comparing
operations against competitors
using consistent definitions

Improved customer retention,

by eliminating calls to those
likely to pay without contact

Reduced call volumes, making

more efficient use of call
centre resources

Identifying new opportunities

for revenue streams as well as
cost reductions

In addition to the bottom line benefits available through investment in risk-based collections, there are substantial intangible
brand-enhancement benefits from which clients could benefit. Through better understanding who the most risky collections
customers are, and through better tailoring strategies for contacting them and recovering in-arrears funds, lenders can
dramatically reduce unnecessary or mis-timed customer contact. This has enabled our clients to realise the following intangible
benefits:
Facilitating a better marketing
strategy through a more
targeted approach

Improve customer retention

efforts through better
customer understanding

Understanding the market

trends and how they impact
on the business

Overcoming obstacles to
adjust to new trends

Collections 3.0 Bad debt collections: From ugly duckling to white swan

13

Become the swan

Due to the wide uptake of credit in South Africa, the

collections function is increasingly becoming a key
focus to any lending organisation. To grow out of
the ugly duckling and embrace the swan, requires
an understanding and a willingness to optimise
collections strategy, governance systems and data.
Aligning this knowledge throughout the organisation
is important. The Collections 3.0 approach is
emerging, which combines predictive modeling
techniques with the increased productivity achieved
by automating collections activities, improving metrics
and realigning the organisational structure.

14

Lenders that migrate to these greater levels of

collections sophistication will capture substantial
benefits in lower operating costs, a higher rate of
promises kept, more Rands collected, greater brand
loyalty, and more satisfied customers. An institution
that creates a truly risk-based collections organisation
will achieve a significant advantage in an ever more
competitive industry.

Contact us

Damian Hales
Partner
dhales@deloitte.co.uk

Pravin Burra
Director
pburra@deloitte.co.za

Derek Schraader
Director
dschraader@deloitte.co.za

Jonathan Sykes
Senior Manager
jsykes@deloitte.co.za

Collections 3.0 Bad debt collections: From ugly duckling to white swan

15

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