UNION BANK OF INDIA

BANKING: MOTHER OF FINANCIAL SYSTEM

UNION BANK OF INDIA

FGMO MUMBAI

1
UNION BANK OF INDIA

BANKING: MOTHER OF FINANCIAL SYSTEM

Prepared For

Union Bank of India

Prepared by

SAMIP KETAN YAJNIK

PGDM FINANCE

SEMESTER III

ROLL NO: TM-08045

Balaji Institute of Telecom & Management

Sri Balaji Society

Pune

October 26th 2009

2
UNION BANK OF INDIA

Balaji Institute of Telecom & Management

Sri Balaji Society

55-2/7 Tathawade, Off Mumbai Banglore Bypass Pune-411033

Tel- 020 66741029

Date:_________________

Samip Ketan Yajnik

PGDM FINANCE, BATCH 08-10

Balaji Institute of Telecom and Management

Sri Balaji Society

Pune, 411033.

Dear Sir,

The institute has approved your project titled under the guidance of
Mr. Powar AGM, Union Bank Of India.

You may proceed on this project as per the framework given in the
synopsis approved by the institute.

Thanking You,

Yours faithfully,

Co-ordinator (Project Work)

3
UNION BANK OF INDIA

Acknowledgement

This project report by me is a result of the joint effort of several helping hands
of various departments. The Knowledge of our theoretical studies is
absolutely incomplete without its proper implementation and application in
the diversified corporate world of today.

I would like to thank Mr. Powar, Assistant General Manager, Union bank of
India, my project guide as well as a mentor throughout my term with Union
Bank of India. I am very great full to him for his high involvement and
teaching different facets of banking. I would also like to thank:

Mr. D. S. Tripathi General Manager

Mr. Padma Neelkantan Chief Manager(H.R.)

Mr. Pathak Chief Manager (Risk Mgt.)

Mr. Girish Kashyap Chief Manager (Capital Mkts)

Mr. Panda Senior Manager( Legal Dept.)

Mr. Chauhan Senior Manager(CRLD)

Mr. Traver Senior Manager (Monitoring)

Mr. Sankarnarayan Senior Manager (Credit)

Mr. Sanjay Samudra Senior Manager ( ALM Desk)

Mrs. Lata Bhargavi Asst. Manager (Risk)

Mrs. Rajalakshmi Asst. Manager (Forex)

I would also like to express my sincere gratitude towards the entire faculty
guides for their immense support, continuous guidance and impartation of
their valuable knowledge which made this internship successful and their
friendly nature which made me comfortable while working at Union Bank
throughout the training period.

4
UNION BANK OF INDIA

TABLE OF CONTENTS

Chapter Chapter Name Page Number

Number

1 ART OF LENDING 8

2 PRINCIPLES OF GOOD LENDING 11

3 CREDIT LOAN POLICY 16

4 INCOME STMT ANALYSIS 18

5 BALANCE SHEET ANALYSIS 26

6 IMPORTANT POINTS IN CREDIT 44

APPRAISAL

7 RATIO ANALYSIS 49

8 LOAN CATEGORIES 58

9 SUPERVISION AND MONITORY POLICY 72

10 NPA & RECOVERY 78

11 BRANCH BANKING 89

12 CREDIT RISK MGT 91

13 FOREIGN EXCHANGE 103

14 ASSET LIABILITY MANAGEMENT 124

Preface

5
UNION BANK OF INDIA

It gives me great pleasure in presenting the project titled “Analysis of Credit

Appraisal, Monitoring System, Foreign Exchange Department and Asset
Liability Management” at Union bank of India.

The project has helped me in gaining lots on knowledge in the field of Bank
Finance(Credit Department), Credit Appraisal and Proposal Processing,
Banks Credit Loan Policy, Monitoring and Recovery Policy, Foreign
Exchange Department and Asset Liability Management. Also a
understanding of various products offered by bank at Branch level,
functioning of Capital Market Department and basics of Risk Management.

Through my interaction with the corporate employees, this training has serve
as a guiding platform for my foray into the Corporate World.

I thank Union Bank of India for providing me this opportunity to complete my

internship.

Executive Summary

6
UNION BANK OF INDIA

The nationalization of major commercial banks in July 1969 was a significant

landmark in history of commercial banking in India.

Union Bank of India over the years as grown by leaps. It is ranked at 6 th

position in terms of operating and net profit for the year 2008-2009 among
the 21 nationalized banks.

The Re-branding and new logo from 1 st Sept 2008 has given a new unique
identity to the bank.

Union bank of India has seen a phenomenal increase in their deposits and
advances over the years. This report studies consists of ways of granting
Bank Finance and Monitoring of account and also a study of Banks Credit
Loan Policy, Recovery Policy, Branch Banking, Foreign Department and
Asset Liability Management.

The scope of this report includes a thorough understanding of bank finance

by the way of study of diversified sectors i.e. Textiles, Oil and Gas, Metals
etc.

CHAPTER 1: THE ART OF LENDING

7
 UNION BANK OF INDIA

Credit Decision making is similar to match making. The idea is that while
selecting a borrower, we should take the same degree of care as is taken by
the parents while finalising an alliance for her daughter.

In selecting the borrower, we as bankers should not only satisfy that the
project is viable but also that the borrower is one who can be entrusted with
the banks money. Before entertaining any Credit application, we as bankers
should ask ourselves following questions:

1. Who is the borrower?

2. What is the Project?
3. How bank funds are going to be repaid?

Who is the borrower?

The most vital part of Credit analysis is identifying the right type of borrower.

Borrower

Existing New

Banker can formulate his Here as the information

opinion on the person about the past is missing, it
based on his past records. is on the part of the banker
to make proper enquiries
from all the parties related
to borrower and also
obtain report from the
existing banker of the
borrower

It is advisable to interview the applicant, when his so called consultant is not

around. A banker should always be of the wary of any applicant who is in the
habit of dropping names or citing his contacts with high officials as he is not
confident of his project being approved on merit. The applicant is expected to
take his banker into confidence and share with him the strong points and
pitfalls about his business.

Where we as bankers have belief that the borrower is holding back critical
information that has vital bearing on the success of the project, it is better not
to entertain credit appraisal.It is also very important to see the enthusiasm of
client in maintaining relationship with the bank.

The applicant is required to contribute margin towards the project out of his
own resources towards the project. Quite often the capital is brought in the
form of Quassi Equity i.e. by way of loans from friends and relatives.

8
UNION BANK OF INDIA

It is very important to ascertain this source of capital, who the donors are?
Their relationship with the borrower, terms of repayment etc.

To make sure that there will be no sudden demand for refund of amount as
this is going to cause liquidity problem for the promoter/borrower.

If the applicant has relationship with other banks then it is advisable to obtain
a secret report from the other banks, about the track record of the borrower.

What is the project?

We as bankers are not technical people, so we prepare a project report

prepared by a consultant to know about:

 Technical feasibility
 Financial Viability.

Of the project. But the same project report will not guarantee the success of
the project should be understood.

Example:

If a unit is manufacturing a particular product that is doing well in a particular

area, this means that adequate infrastructure is available to support this
activity and sanctioning of finance to one more unit will not entail risk
provided that there is no oversupply.

However projects with long Break Even points should be avoided.

With integration of global economy with local economy, doors have opened
up for international competition. It has become imperative for us as bankers
to be well equipped with technology, and that full advantage of available
resources is taken.

How the bank funds are going to be repaid?

It is very important to observe elements of business that are generally

overlooked by financial statements and market studies.

If a person is earning or starts his own business and say he earns Rs. 100/-

9
 UNION BANK OF INDIA

100Rs.

60Rs. 40 Rs. Is
available.

Own welfare/leisure
Does he have provision for his
employees working for him?

Is he having any existing debt?

Family Health
Will he be able to meet our
commitment in spite of having
existing debt?

Will he be able to bear any

contingency, like increase in
cost?

Is the borrower ready to sacrifice

on way of living?

Will his business generate

revenue ethically?

Is the borrowers motive to

obtain finance good or bad?

The most critical factor is to analyse all this, which can only happen if we as
bankers step in shoes of borrower and think what all factors can affect us and
then take a proper and appropriate decision.

CHAPTER 2: PRINCIPLES OF GOOD LENDING

10
UNION BANK OF INDIA

Accepting deposits of money for the purpose of lending or investment is the

main function of the banker.

Lending is a technique. Its success depends on our judgement and skill of

appraisal. The lending technique is required to be modified from time to time
to suit the changing economic environment and banking habits of clientele.
Nevertheless, there are principles of good lending which are time tested and
would form a sound foundation of any lending proposition.

Safety

Safety means, we as banker must feel that money lend would definitely come
back. If not should not be lent for speculative or unproductive use. It should
be given to right type of borrower who is competent and honest. End use of
advance should be ensured.

Liquidity

It is statutory and contractual obligation of the banker to repay deposits when

demand is made as per agreed terms. This means that bank should remain
adequately liquid so that a demand made at any point of time is honoured.
Obviously while lending banker has to take care that it is not enough that
money will come back regularly, but also that the money is obtained on
demand or in agreed terms of payment (this explains why banks want to lend
large quotient as short term loans). This necessitates to ensure that surety
and security is there against which advance is granted can be easily sold or
liquidated.

Purpose

Purpose of loan has assumed significance in the developing bank. The

purpose should be productive so that money not only remains safe but also
provides a source of repayment. It should not be anti social nor used for
hoarding or speculation. Loans for personal expenses should be
discouraged.

Profitability

Like other commercial organisation banks must make profits and remain
viable units. Within the frame of statutory reserves, lending rates prescribed
by RBI and targeted lending, it has been a uphill task for banks to maintain
profitability.

Each lending proposition should be examined to ensure that it is directly or

indirectly profitable to the bank. Indirect profit may be brought in by
compensatory benifits such as sizable deposits, commission etc.

11
UNION BANK OF INDIA

Security

Security is considered as an insurance or a cushion to fall back in case of

emergency. There may be unexpectated hange in circumstances which may
affect the safety and liquidity of advance. It is to provide against such
circumstances that security is taken which can be realized and banker can
reimburse himself if well calculated and almost certain source of payment
fails.

The merits and competence of borrowers ( CAPACITY AND CAPTIAL)

should be given due regard. It should also be kept in mind that it is not very
difficult for a dishonest borrower to raise money from other sources against
the same security.

National objective

A lending proposition, however safe and profitable may not enjoy prefernace
if it does not fall in the priorites set by government or RBI or other social
obligation.

Spread/Diversification of Risk

Lending is a calculated risk. It is advisable that risk is minimised in case

adverse circumstances. Not all eggs to be kept in the same basket. There
fore bank should finance different types of business activites spread in
different types.

Post sanction supervision and control

The short comings n the appraisal acan be corrected by effective supervision

and control. Regular follow up advances has the same importance as of
sanctioning the proposal.

The operation in the account iself keep on sending signals about the general
health of the units. Stock Statements, financial statements etc. Should be
inspected regularly. The adverse features should be noted well in time and
corrective actions need to be taken.

Documentation should be given due importance because minor lapses in

executing documents may render them invalid in court of law.

To summarise “an ideal advance is one which is granted to a reliable

borrower for an approved purpose in which the borrower has adequate
experience, sound knowledge and money will be repaid in reasonable
amount of time from the proceeds of the project.”

12
UNION BANK OF INDIA

NORMS OF LENDING

Each bank has a Credit policy like ours to serve its corporate goals. It is also
changed from time to time to suit the economic environment and aspirations
of people.

The policy is framed on the directives of RBI. The factors such as availibilty
of resources for deployment, safety of the funds, profitability etc. Are taken
into consideration. Effort is also made to foster the culture and enhance the
imgae of the bank. New thrust areas to be financed are mentioned
separately.

Having defined the overall credit policy, bank formulates various schemes for
schematic lending in order to reach the targeted group of borrowers. This set
of guidelines is called as norms of lending.

Norms encompasses areas such as:

1. Eligibility criteria.
2. Differential rate of interest.
3. Margins.
4. Repayment schedule.
5. Inventory holdings.
6. Financial indicators.
7. Credit rating.
8. Penalties and concession.

And so on.

Amplitude of deviations from norms is also indicated which can be used to

deal with cases on its merits. Thus permitted deviations makes norms more
flexible.

The rational of these norms is discussed in brief here under:

Eligibility Criteria

The norms set for deciding eligibility criteria for availing bank loan are
genrally precautionary and differential in nature. The purpose is to identify
bonafied person or corporate body.

For example:

 Bank may consider loan request of individuals or firms which have

been registerd with appropriate authorities. This helps to properly
identify the body and in later date, if need be, legal recourse should be
taken against them expeditiously. Organisations like CIBIL, CREDIT
RATING AGENCIES etc. Are helpful here.

13
UNION BANK OF INDIA

 Norms for financing sister concerns are separately mentioned to

nuillify possibilities of diversion of funds, like KITE FLYING.
 Norms regarding income, caste, age, sex etc. Are set to see the
benefit or concession such as subsidy, concessional rates etc. Are
seen and passed on to beneficiary.
 Certain type of industries for which financing is not allowed will be
clearly mentioned inside the policy.

Interest Rates:

Interest is the main source of income for the bank, however bank has
prescribed minimum possible interst rates for loans to remain competitive
and attract business.

Rate of interest are also used to extend concessions to foster targeted

lending .

For example:

 Under govt. Sponsored schemes loans are extended to Students,

Exporters, women entrepreneurs at a concessional rate of interest.
 Interest charged to sick units is concessional.
 If the loan is not productive rate of interest must be higher.
 Interest rate also depends on Credit Rating, amount of finance availed
etc.

Margins

Margins are stipulated to maintain the owners stake in the security being
financed and as a cushion to fall back in cases of emergency.

Margin thus depends on nature of security.

For example:

 If goods are perishable then margin is higher.

 If security has high depreciation, obsollence, margin is higher.

Repayment Schedules

Banks would like to recover term loans as early as possible so that funds
could be recycled. However this is to be done without affecting the sustaining
levels of the borrower. Banks therefore should be indicating minimum
prscribed DSCR for every project.

Inventory holdings:

14
UNION BANK OF INDIA

To discourage the borrower from using banks money for hoarding, it is

advisable not to allow bank finance against inventory which is against or
beyond the normal levels. Tondon committee has done commendable work
in recommending norms for holding levels.

Financial Indicators:

The norms in this area generally relate to the financial soundness and
owners stake in the business.Credit rating has now become mandatory ever
since Basel 2 approach has been adopted by major banks.

Many important ratios like DER, current Ratio, Sales turnover etc. Are
important parameters that are to be examined.

To sum up we can say that norms of lending broadly indicate to a loan officer
like us the minimum parameters the must fulfilled or looked into while
processing the proposal. However norms could not be rigid or absolute. This
could be made flexible in deserving cases.

CHAPTER 3 CREDIT LOAN POLICY

15
UNION BANK OF INDIA

Policy overview is worked out by taking into consideration the various factors
such as,

1) GDP forecast.
2) Importances of growth were advances are given to priority sector.
3) Index of Industrial Production.
4) Growth of Service Sector.
5) Inflation.
6) Balance of Payment position.
7) Import Concentrated to Oil
8) Infrastructure Advance.

Bank Mission:

The mission is “to gain market recognition “ in the chosen areas like
Agriculture, SME, Retail & Corporate Credit.

Chosen Areas for deployment of Credit:

1) Priority Sector, with emphasis on Agriculture (including Micro

Finance).
2) Exports.
3) Retail Finance
4) Software/IT Enabled Services sector including BPO/Call Centres.
5) SMEs with thrust on Medium Enterprise.
6) Infrastructure Finance.
7) Cement.
8) Service sector like Tourism, Health, Transportation.
9) Gems & Jewellery other than Cut & Polished Diamonds.
10) Food Processing including Branded Foods.
11) Rent Receivable Finance (Union Rent).
12) Biotech.
13) Paints/Varnishes.
14) Textiles except texturising yarn (on standalone basis) and Jute.
15) Fast Moving Consumer Goods (FMCGs) – Cosmetic, Toiletries,
Oral Care, Soaps & Detergent.
16) Auto Ancillaries.
17) Channel Financing.
18) Iron Ore Mining, Steel Alloys, Steel Flats-CR, GP/GC, Steel, Flat-HR.
19)Advance against warehouse receipts to Traders.

Priority Sector Lending:

16
UNION BANK OF INDIA

Priority Sector Lending is linked through Adjusted Net Bank Credit (ANBC). It
should be 40% of ANBC.

ANBC = Net Bank Credit + Investments made by banks in non-SLR bonds

held in HTM category.

Low Priority Areas:

i.e Low priority/ negative list for lending.

1) Casting of Iron & Steel

2) Naptha / Fuel Oil (FO)/ Low Sulphur (LS) / Low Sulphur Heavy Stock
(LSHS) based fertilizer plants.

3) Manufacture of Plastic in primary form and Plastic products.

4) Refractories.

5) Solvent Oil Extraction.

6) Vegetable Oil and Vanaspathi sector.

7) NBFCs.

8) Newsprint Paper.

9) Telecom Cables and Equipments.

10) Textiles – Jute, Texturising (on standalone basis).

11) Breweries

12) Power – Financing of State Electricity Boards (SEBs)

13) Steel Intermediaries including Sponge Iron.

14) Diamonds.

15) Multiplexes/ Malls.

16) Mfg of B&W TVs.

Prohibited areas of Lending:

Bank would not take on any fresh exposures under Lease Financing. The
existing exposures will however continue till their completion.

Bank will not lend to industry producing Ozone depleting substances

(negative list).

17
UNION BANK OF INDIA

CHAPTER 4: INCOME STATEMENT ANALYSIS

Profit and Loss Account

It is the simplest form of the income statement. However income or expenses

for a given period of time shows revenue and expenditure taking place. If
these transactions are grouped systematically, and compared year wise, the
same may throw useful information for a banker to understand and analyse
the ‘operations’ of business concerns.

Income statement is prepared for a given period generally one year. It is

prepared on basis of accrual concept.Income earned but not realised is
included; so also expenditure incurred but not paid is also included and
prepaid expenses are excluded.

Let us understand and discuss the P/L statement as per Credit Authorisation
scheme format.

It may be noted that this statement is not names as Income or P/L statement
but as ‘operating statement’. This is so because only P/L figure may not
disclose the actual position about the operations of the unit. There may be
losses but it could be for valid reasons. Likewise there may be profit which
might be due to sale of assets, i.e. no business activity. In both the cases
ther reliance on P/L account may be misleading. Therefore apart from P/L
figure, using installed capacity, streamlining of expenses, increase in sales
volume, gross cash accruals and so on. There fore
P/L account as per CAS format design is desired for the banker.

The operating statement can be divided into 4 segments.

1. Sales
2. Trading/Mfg account
3. Operating profit
4. Net profit/loss

(The format is there for reference at the end)

Sales

Items 1 to 4 relate to sales activity. We desire to find out the ‘net sales’ figure
from gross sales, by reducing excise duty, adjusting sales return. The
bifurcation of net sales into export sales and inland is necessary. This gives
an idea of export sales to net sales which gives us an idea of financing.

The banker looking at sales figure can judge the companies previous and
present performance.

18
UNION BANK OF INDIA

Trading/Mfg Account

Items 3-5 relate to all cost and expenses relating to manufacturing or trading
activity. All these costs are direct costs and have relation with quantity if
goods produced. When this figure is deducted from net sales we get ‘Gross
Profit’.

In case of mfg units the total of all direct costs is called as ‘Cost of Sales’ i.e.
‘Cost of goods produced’ (and not the sale price of goods sold).

To this figure we add the ‘net’ Stock in Process to obtain ‘Cost of Production’.

We can work out levels of holdings of WIP on basis of cost of production by

using the formula given below:

Holding of stock in process = (WIP*12)/(Cost of Production).

Further we add ‘net’ of finished goods to obtain ‘Cost of Sales’.

Holding of FG = (FG*12)/(Cost of sales).

We get gross profit or loss from deduct cost of sales from net sales.

GP = Net sales – Cost of Sales.

Operating Profit

We get Operating profit when we deduct indirect expenses like Selling and
general Admin expenses from Gross Profit

Operating Profit = Gross Profit – Selling General and Administrative

Expenses.

Net Profit/Loss

So far all the direct and indirect costs have been considered, there may be
some other expenses like donations, loss on sale of assets, commission
received or paid, investments etc. Which do not arise out of normal
operation. There fore such non operational income and expenses are also
required to be covered.

Similarly tax is one of the heads of expenses, which do not at all in the hands
of management, as it is totally regulated by government.

We get Net Profit or Loss after adding net effect of non operating income and
deducing non operating expenses and deducting provisions of tax.

The net profit is further transferred to P/L Appropriaiton account. Profit is

appropriated as per the decision of management.. the declaration of dividedn
is the main feature which interests the shareholders.

19
UNION BANK OF INDIA

ANALYSIS OF OPERTING STATEMENT

SALES

Sales in general should show an upward trend, which is always good

indicator to judge progress made in sales. However it is subject to following
limitations:

 Growth may be due to inflation and/or increase in price levels. In

reality quantum of sales might not have increased.
 If unit has reached point of optimum capacity utilisation, sale may not
show noticeable growth.

Export sales may be given special consideration. If more than 25% of sales
consists of export sale and unit may be given preferential treatment. The
cash and sales incentives should be treated as part of sales and not ‘other
income’.

‘Projection of sale” targets for coming year is the ‘key’ figure of all the credit
appraisal exercises. The requirement of Credit limits would ultimately depend
on the sales estimated an planned. It is on us to see that sales planed is
realistic. It must keep track with markets, past trends, installed capacity.

Sometimes sales target may be feasible but out of total funds required to
aatain increase level of production, may be sought ot borrowings from banks
and others and the borrower may not be bringing in matching increase in his
own funds as his contribution or margin. Thus if reliance is on more
borrowings from bankers and others, bankers has to take a careful decision.

Cost of Sales and Gross profit

Gross profit is indicator of ‘operational Efficiancy’ of the unit on the floor.

Gross Profit % for last three years may be compared horizontally
improvement is a welcome feature. If there is decline then the reasons
should be tracked.

The fall may be because of:

 Sales price may not have been increased in proportionate to increase

in cost of inputs.
 Costs going up.

Amongst the various heads of expenses the computation of Raw material

(Opening stock + Purchases – Closing Stock) is an important figure because
generally the cost of raw materials is major head of expenses in the industry.
Any increase in % share of raw materials is not a good sign. The increase

20
UNION BANK OF INDIA

may be due to problems in production process. The same may be

ascertained.

The increase in cost of repairs and maintenance may suggest that condition
of Plant and Machinery is not proper.

Depreciation is a non-cash expense. P/L figure can be adjusted with changes

in depreciation. Therefore it should be ensured that depreciation is charged
as per accepted practices. Levels of closing Raw materials, WIP, FG should
be as per acceptable levels.

Operating Profit

Selling General and Administrative expenses are well under the control of
management. While there is a limited scope to reduce the cost of sales, the
expenses under various heads can be minimised or reduced.

Depends on quality of goods produced as good quality will attract leeser cost.

Interest is incidental to sum borrowed. The borrowing is the decision of

management. Strictly interest is not a operational cost but a financial cost.
Hence we work out Operating profit before interest as well as after interest.

Increase in burden of interest may be due to not retaining sufficient profits

into business or fresh capital is not being injected into the business.

Operating profit gives you the indicator of profit from operating activity which
is your core business.

Net Profit/Loss

A business house tries to increase the net profit by way of sales of fixed
assets. To avoid being mislead by this figure we should scrutinize it properly,
so that there is no intention of diversion from main business activity.

Tax is a sensitive area. If tax is on higher side we should understand that firm
should find means and ways to reduce tax burden. There is nothing wrong in
doing so, so far the means adopted are perfectly legal and not detrimental to
the interest of bankers, shareholders, govt. Etc.

It should be noted that due to higher taxes firms prefer to borrow more than
raising their tax capital because interest paid on account of borrowings can
be charged to P/L account.

21
 UNION BANK OF INDIA

Study of P/L appropriation account is also very important. It suggest whether

the management acknowledges its role of conserving working capital,
strengthen reserves or prefer to woo the shareholders by declaring dividends
despite forbidden financial position.

Whatever may be the management policy in appropriation of P/L, we as

bankers would have a definite say, retained profits are sufficient to conserve
working capital , maintain debt to equity ratio and honour repayment
schedules.

Summary

 Operating Statement should not be looked as only indicator of P/L

figures.
 It gives us an idea of Gross fund generating capacity of the unit. It
helps in fixing repayment schedules.
 We can make out whether profit is generated to main business activity
or other activities.
 Comparative heads of various expenses will tell us the efficiency of
the unit.
 We can judge the potential of the profitability of the unit.
 It helps to judge the reasonableness of projected sale targets and
other heads of expenses.
 The exercise of ‘Profit Engineering’ would be based on operating
statement only.

ASSESSMENT OF WORKING CAPITAL REQUIREMENTS

FORM II : OPERATING STATEMENT

Name :
Actuals/Estimates for the yr. ended/ending

Particulars ........19 ........19 ........19 ........19

LAST 2 YEARS CURR. FOLLO

ACTUALS YR. WING
YR.
(As per Audited Estimates PROJ.
Accounts)
IST YEAR IIND

22
 UNION BANK OF INDIA

YEAR

1 2 3 4

1. Gross Sales

i) Domestic Sales

ii) Export Sales

TOTAL

2. Less: Excise Duty

3. Net Sales (1-2)

4. %age rise (+) or fall (-) in net sales as

compared to previous year

5. Cost of Sales

i) Raw materials (incl. Stores and

other items used in the process of mfg.)

a) Imported

b) Indigenous

ii) Other spares

a) Imported

b) Indigenous

iii) Power and Fuel

iv) Direct Labour

(Factory wages and salaries)

v) Other mfg. Expenses

vi) Depreciation

vii) SUB TOTAL (i to vi)

viii) Add: Opening Stocks in process

Sub – total

23
 UNION BANK OF INDIA

ix) Deduct: Closing stocks in process

x) Cost of Production

xi) Add: Opening stock of fin. Goods

Sub – total

xii) Deduct closing stock of fin. Goods

xiii) SUB TOTAL (Total cost of Sales)

6. Selling, general and administrative

Expenses

7. SUB TOTAL ( 5 + 6 )

8. Operating profit before intt. (3-7)

9. Interest

10. Operating profit after intt. (8-9)

11. i) Add other non operating income

a)

b)

Sub – total (income)

ii) Deduct other non-operating

expenses

a)

b)

Sub – total (expenses)

iii) Net of other non-operating

income/exp

(Net of 11(i) and 11(ii)

12. Profit before tax/loss (10+11) (iii)

13. Provision for taxes

14. Net Profit / Loss (12-13 )

15. a) Equity dividend paid/proposed

24
 UNION BANK OF INDIA

b) Dividend Rate

16 Retained profit (14-15)

17. Retained profit/net profit (%age)

CHAPTER 5: BALANCE SHEET ANALYSIS

THE CONCEPT

25
UNION BANK OF INDIA

The entrepreneur, when decides to start a business activity has to answere

two questions:

Whether the idea is “feasible” and whether he can raise the required funds in
such a way that the cost of funds would not affect the “viability” of the project.

The feasibility of a project involves entrepreneur’s competence in the field of

planning, manufacturing, administration, selling etc. whereas judicious use of
funds to strike a balance between safety, liquidity and profitability is purely a
financial function.

The main task of the banker here is to understand the financial function of the
business enterprise.

After assessing the project cost, entrepreneur is clear in his mind that the
sum he wold require to install and subsequently run the unit. The estimation
of the project cost itself envisages the systematic enlisting and costing of
various items that would be required to create facilities for manufacturing or
trading or service as the case may be.

Such item would include land, building, machinery, furniture, telephone,

vehicles, stock of goods etc. He may also be required to deposit some
amount with electricity board, telephone department for availing these
facilities. Some expenses might be incurred in order to possess technical
know how, trial runs, raise capital etc.

A look at all these items will tell us that they differ widely in nature. Some
items are required to be purchased and installed in order to create an
infrastructure for manufacturing or trading activity while some are required to
run the day to day business.

Items such as deposits, investments apparently do not directly relate to main

business. The ‘expenses’ such as pre-operative expenses, amounts paid for
technical know how, capital issue expenses etc. are not actually incurred but
entrepreneur invests them for future benefits.

Further some items spent appears to be ‘sunk’ permenantly such as land,

building, machinery etc. because they are nnot meant for sale. Whereas
items like finished goods, Stock in process can be liquidated.

It would be clear in the mind that the money raised by entrepreneur is ‘used’
in purchasing and or installing some ‘assets’ to establish the business and
run it.If we segregate these items as per accounting practices, we may
arrange them as:

 FIXED ASSETS: Long term investments to create infrastructure for

business activity.

26
UNION BANK OF INDIA

 INVESTMENTS: Amounts invested which indirectly relate to main

business activity or surplus funds invested to earn income.
 CURRENT ASSETS: Amount invested for day to day running of
business.
 MISC EXPENSES: Amount expended which in real terms not an
expenditure but an investment for future benefit.

So far we have briefly described the ways in which the entrepreneur is likely
to use money or create assets for running business.

In similar way let us think, about the logic that the entrepreneur may be
guided, while looking for the sources of funds required for the business.

The funds can be raise dby bringing in own funds or by borrowing form
others. At this juncture, entrepreneur will have to decide- how much of funds
he should invest himself and how much to borrow? This seemingly simple
question requires good financial judgement.

Suppose entrepreneur has ample sources of his own to invest in the

business. Would it be advisable to finance business entirely by his own
resources?

It may not be advisable, because:

1. Entrepreneur will have to share entire burden of tax as the tax charged
on the net profits.
2. When profit margin is good, (higher than the cost of funds) it would be
advisable to borrow rather than invest own funds.
3. It would be good to invest in other business, his own money as a
measure to safeguard against eventualities.

Then would it be advisable to borrow to a large extent? Again, this is not

advisable because:

1. The lender would be reluctant to lend unless owner has sufficient

stake in the business.
2. Borrower will always be under the pressure of repaying the loan. This
measn he would loose freedom to experiment and innovate, and
would appear as if hhe is working to repay the loan and not grow his
business.If profit margin is not favourable i.e. margin between profits
and cost of funds has narrowed for some reason, it would be very
difficult for the borrower to survive.

We gather from the above the ratio of own funds and loan funds would be
very critical for the business.

27
UNION BANK OF INDIA

Borrower will always look at longer duration and lower rate, ass longer
duration gives stability and lower rate of interest improves profitability.

In a nutshell, function of raising of funds for any business is guided by:

 Balance between borrowed funds and own funds.

 Borrowing should be for a longer period as far as possible.
 Cost of funds should be low.

Apart from long term sources, business has also access to short term
sources of funds through day to day functioning of the unit. The payment ot
supplier of goods and services may be made after some time. This amounts
to source of funds till payment is effected. Funds can also be borrowed from
banks and others for a shorter duration of time. When provisions are made
as per the lay or exigencies of the business, such funds also work as source
of funds tull the tie such payment is actually effected.

The banker would like to segregate the sources of funds into three main
segments viz. Own funds, Long term funds and short term funds.

SOURCES/LIABILITIES USES/ASSETS
SHARE CAPITAL FIXED ASSSETS
OWN FUNDS
TO CREATE

RESERVES AND SURPLUS INVESTMENTS

PROFIT PLOUGHED

SECURED LOANS CURRENT ASSETS, LOANS AND

ADVANCES
USED AS SECURITY

UNSECURED LOANS MMISC EXPENDITURE

CURRENT LIABILITIES AND

PROVISION

SHORT TERM

CONTINGENT LIABILITIES

The statement is useful for bankers, government officials etc. to understand

the financial position of the company. This can be worked out in term so for
Solvency, Liquidity and Profitability.

28
UNION BANK OF INDIA

Balance sheet is generally prepared on the last day of the financial year.
Some items like depreciation, provision for doubtful debts are best estimates
and to scientific facts.

Balance sheet will never indicate any future plans, potentials, and
profitability, neither it will take into account inflation i.e. balance sheet
assumes that value of money remains unchanged over the time is not
correct.

Bankers Point of view of Balance Sheet

We as bankers are concerned with the balance sheet when we have already
extended credit facilities to the business unit and want to ascertain safety of
his funds and its repayment. A banker has to also study Balance Sheet of
perspective borrower to know the financial soundness of the unit and
potential growth.

It is a common experience that when a Balance Sheet is given to the officials

of the bank who are relatively new to the credit area, there observations differ
widely. Quite a few are able to grasp the strengths and weaknesses correctly
while many of them point out short comings or points which are of not much
relevant to banker.

Generally Solvency, Liquidity, Leverage and Profitability are the four areas of
interest of banker which he wants to evaluate from financial statements. Each
Balance Sheet is different from other.

Balance Sheet in general:

 When we take up the balance sheet for study, we have to first look at
the date.
 Find the constitution of company, whether Privet, Public or
Partnership. It is compulsory for a company to audit their financial
statements, we may request submission of audited statements if sales
volume id exceeding 40.00 lakhs.
 First we have to find the quantum of Intangible assets. If it is a sizable
amount, it weakens the balance sheet.
 Note the total figure of Asset and liability side. The size of figure would
immediately tell you the total financial outlay encompassed by the unit.
 It is very important to go through chairman’s and director’s report
carefully. Both review the performances and give you the hint of
change in policies and any new adoption of techniques in future.
 Auditors report should be studied in minor details, specially if there are
remarks made by the auditors.

29
 UNION BANK OF INDIA

 If we notice some glaring variations/changes in items as compared to

previous year they should be highlighted for deep study from the
Notes of accounts.
 Find out if there are any sister concerns, if so then obtain the audited
financial of those firms as well, in order to check for divesion of funds.

Reconstruction of balance sheet

The company publishes its balance sheet as per the company law format,
then it is our task to reconstruct the balance sheet and Profit and loss
account as per CMA format.

CMA

ASSESSMENT OF WORKING CAPITAL REQUIREMENTS

FORM - I

Particulars of the existing / proposed limits from

the Banking System (Limits from all Banks and

Financial Institutions as on date of application)

A. WORKING CAPITAL LIMITS (Rs. in

lacs)

Sr Name of Bank/Fin. Natur Existin Extent to Balance Limits now

n Institution e of g which limits outstanding requested
o Facilit Limits were utilised as on
y during last 12 _________
months

30
 UNION BANK OF INDIA

B. LEASE/HIRE PURCHASE/ICDs/ECB etc.

Sr. Name of Sanction Purpos O/s as Term of Securit Overd Remark

No the ed Limit e on Repayme y ue s
. Institution/ nt
Company ______
_

C. TERM LOANS / DPG

(Excl. Working Capital Term Loans )

Sr. Name of Sanctio- Purpo O/s as Termf of Security Overdue Remark

No. the ned se on Repayme s
Institutio Limit nt
n/Compa _______
ny

DEBENTURE/OTHER LONG TERM BORROWINGS

Sr. Nature Amount Due on ______ Security Remarks

No.

FORM III
ANALYSIS OF BALANCE SHEET

31
 UNION BANK OF INDIA

Name : (Rs. in lacs)

LIABILITIES ........19 ........19 ........19 ........19

LAST 2 YEARS CURR. FOLLO

ACTUALS YR. WING
YR.
(As per Audited Estimates PROJ.
Accounts)
IST YEAR IIND
YEAR

1 2 3 4

CURRENT LIABILITIES

1. Short term borrowings from banks

(incl. Bills purchased/discounted and

excess borrowings placed on repayment

basis)

i) From applicant bank

ii) From other Banks (of which BP/BD)

SUB-TOTAL (A)

2. (a) Short term borrowings from others

(b) ICDs, CPs etc. if any

3. Sy. Creditors (Trade)

4. Advance payments from customers/

deposits from dealers

5. Provision for taxation

6. Dividend Payable

7. Other statutory liabilities

(due within one year)

8. Deposits/Instalments of term loans /

DPGs/debentures/ECB/Pref. Deb.

Redeemable (due within one year)

32
 UNION BANK OF INDIA

9. Other current liabilities & provisions

(due within one year)

(Specify major items)

SUB TOTAL (B)

10. TOTAL CURRENT LIABILITIES

(Total of 1-9) (A + B)

TERM LIABILITIES

11. Debentures (not maturing within

1yr.)

12. Preference Shares (redeemable

after 1 yr

13. Term loans (excl. instalments

payable within one year)

14. Deferred Payment Credit (Excluding

instalments due within one year)

15. Term deposits (repayable after 1 yr.)

16. Other term liabilities like ECB

FCNR (B) Loans etc.

17. TOTAL TERM LIABILITIES

(Total of 11 to 16)

18. TOTAL OUTSIDE LIAB(10+17)

NET WORTH

19. Ordinary share capital

Preference share beyond 12 years)

20. General Reserve

21. Revaluation Reserve

22. Other reserves (excluding

provisions)

23. Surplus (+) or deficit (-) in Profit &

33
 UNION BANK OF INDIA

Loss Account

24. NET WORTH (Total of 19 to 23)

[ NET WORTH excl. Rev. Res. ]

25. TERM LIABILITIES

( 18 + 24 )

ASSETS ........19 ........19 ........19 ........19

1 2 3 4

CURRENT ASSETS

26. Cash and Bank Balances

27. Investments (other than long term

investments)

i) Govt. & other trustee securities

ii) Fixed deposits with banks / MMMF

CPs, CDs, etc.

28. i) Receivables (less than 6 months)

other than deferred & exports

(including bills purchased and

discounted by banks)

ii) Export receivables (including

bills

purchased and discounted by

banks)

29. Instalments of deferred receivables

(due within one year)

30. Inventory :

34
 UNION BANK OF INDIA

i) Raw materials (incl. Stores & other

items used in the process of mfg.)

a) Imported

b) Indigenous

ii) Stocks-in-Process

iii) Finished goods

iv) Other consumable spares

a) Imported

b) Indigenous

31. Advances to suppliers of raw

materials & stores/spares

32. Advance payment of taxes

33. Other current assets like

Cash margin on LCs, LGs, etc.

(Specify major items

34. TOTAL CURRENT ASSET (Total 26

to 33)

FIXED ASSETS

35. Gross block (land & building mach.,

work-in-process)

36. Depreciation to date

37. NET BLOCK (35 – 36)

[NET BLOCK (excl. Rev.Res.)]

35
 UNION BANK OF INDIA

OTHER NON CURRENT ASSETS

38. Investments/book debts/advances/

deposits which are not Current Assets

i) a) Investments in subsidiary

companies/affiliates

b) Others

ii) Advances to suppliers of Capital

Goods and contractors

iii) Deferred receivables (maturity

exceeding one year)

iv) Others, ICDs, etc.

v) Deposits with Govt. Depts./

Statutory Bodies etc.

39. Non consumable stores & spares

40. Other non current assets including

dues from directors

41. TOTAL OTHER NON CURRENT

ASSETS (Total 38 to 40)

42. Intangible assets (patents, goodwill,

preliminary expenses, bad/doubtful

debts not provided for etc.)

43. TOTAL ASSETS

(Total of 34, 37, 41 & 42)

44. TANGIBLE NET WORTH (24-42)

[TNW excl. Rev.Res]

45. NET WORKING CAPITAL (17+24)

-(37+41+42) = Totally with (34-10)

36
 UNION BANK OF INDIA

46. Current Ratio (Items 34-10)

47. TOL/TNW (18-44)

[TOL/TNW excl. Rev. Res.]

ADDITIONAL INFORMATION

(A) Arrears of depreciation

(B) Contingent Liabilities :

i) Arrears of cumulative dividends

ii) Gratuity liability not provided for

iii) Disputed excise/customs/tax liab.

iv) Other liabilities not provided for

v) Bills Purchased/Discounted under

LC

a) Inland

b) Export

(C) Assets acquired on lease/hire

purchase

(D) ICDs placed with others

ICDs taken from others

As per Balance Sheet as at

___________

FORM IV
COMPARATIVE STATEMENT OF CURRENT ASSETS AND

CURRENT LIABILITIES

(Rs. in lacs)

As per Balance Sheet as at

______

37
 UNION BANK OF INDIA

NORMS March March__ Marc Peak

__ h___ Requi
(Last _ reme
Year) (Current nt as
Year (Follo on__
estimate) wing ____
year
Proj.)

1 2 3 4 5

A. CURRENT ASSETS

1. Raw Materials (incl. Stores & other

items used in the process of

manufac-

ture)

a) Imported :

Months’ consumption

b) Indigenous :

Months’ consumption

2. Other consumable spares

excluding

those included in 1 above

a) Imported :

Months’ consumption

b) Indigenous :

Months’ consumption

3. Stocks-in-process :

Months’ cost of production

4. Finished Goods

Months’ cost of sales

5. Receivables other than export and

38
 UNION BANK OF INDIA

deferred receivables (including bills

purchased and discounted by

bankers)

Months’ domestic sales

6. Export receivables excluding

deferred

payment sales (including bills

purchased and discounted by

bankers)

Months’ export sales

7. Advances to suppliers of raw

materials

& stores/spares consumables

8. Other current assets including

Cash &

Bank balances and deferred

receivables

due within one year (specify major

items)

(To agree with item 34 in Form III)

LIABILITIES NORMS March March__ March_ Peak

__ ___ Requir
(Last ement
Year) (Current (Followi as
Year ng year on___
estimate Proj.) ___
)

1 2 3 4 5

B. CURRENT LIABILITIES

(Other than bank borrowings for

Working Capital)

39
 UNION BANK OF INDIA

10. Creditors for purchase of raw

materials, stores & consumable

spares

Months’ purchases

11. Advances from customers

12. Statutory liabilities

13. Other current liabilities

(Specify major items)

Short Term borrowings, unsecured

loans, dividend payable, instalments

of TL, DPG, Public Deposits, FCB,

Pref. Share Redeemable and

Debentures ICDs etc. payable in next

12 months

14. TOTAL

(To agree with Sub-Total B-Form

III)

ANNEXURE ‘V’

FORM V

COMPUTATION OF FLEXIBLE BANK FINANCE

Previous Current Year Next Year Peark

Year Require
IST YEAR IIND YEAR ments

1. Total C.A.

2. Other CL

40
 UNION BANK OF INDIA

(Other than bank borrowings)

3. Working Capital Gap (1-2)

4. Net Working Capital

(Actual/Projected)

(Item No. 45 in Form III)

5. Flexible Bank Finance (FBF)(3-

4)

6. NWC to TCA (%)

7. Flexible Bank Finance to TCA

(%)

8. Sy. Creditors to TCA (%)

9. Net Sales

10. Inventories to Net Sales

(days)

11. Inventory to Cost of Sales

12. Receivables to Gross Sales

(days)

13. Sy. Creditors to Purchases

(days)

Important points to be noted down from CMA analysis:

Some important ratios will be found out which are as below:

 Liquidity Ratio: Current Assets/Current liabilities.

As a thumb rule it should be more than 1.33.
 Solvency Ratio: Total assets/Total outstanding liabilities.
It should be more than 1.
 Average Credit extended: (Debtors/sales)*12=_____months.
 Average Credit Availed: (Creditors/Purchases)*12=_____months.
 Profitability ratio will also be availed.
 Workout (Total assets/ Fixed Assets) and (sales/ Fixed Assets), these
two ratios will reflect the role of fixed assets in overall business. If both
the ratios are low then it would be capital oriented business. If the
ratios are high it would be a trading business.

41
UNION BANK OF INDIA

Note the method that is followed for depreciation. Find out whether method
has been changed during the year or under the review. If so seek
clarifications for the said reason.

The fixed assets are generally valued at book value. If the value has been
appreciated due to various reasons the same may not be reflecting in the
balance sheet. We as bankers should have rough idea about the market
price of the assets.

The difference between the market price and net book value is called as
secret reserve. If difference is sizable it strengthens the balance sheet. Find
out whether assets have been revalued. If so, what was the necessity? Note
the market value of assets but ignore the effect of revaluation reserve in
analysis exercise.

Compare the expenses on repairs and maintenance to the net block. It is

high then seek clarification.

Work out the margin maintained on Fixed Assets and Current Assets by
following formula:

(Fixed Assets-Term liabilities)/(fixed Assets-Term liabilities+ Net worth)

(Current Assets-Current liabilities)/(Current Assets-Current Liabilities+ Net

worth)

Above method will help us to work out the owners margin in the financing of
fixed Assets and current assets.

Non Current Assets

We as bankers have to see that certain funds have been used or invested in
unit, which strictly do not relate to main business. Unit extended loans to
directors or sister concerns or purchase of share and securities. Such
investments are not favoured by the banker especially when unit has
stringency of funds and it has approached for credit facilities.

Classifying a particular item of balance sheet as non current asset is bankers

discretion. The intention of such use of funds would be a guiding facote for
the classification. Time period i.e. fixed or current has no relevance.

In any balance sheet therefore Non Current Assets should be as low as

possible. It has to be noted, that unit might have used funds reluctantly to
create non current assets due to certain compulsions of the business.

42
UNION BANK OF INDIA

Similarly surplus funds in off-season are invested to earn income. Unit should
not be blamed for this.

Current Assets

Current assets is area of prime concern for the banker when working capital
finance has been extended. A business with no reserves but plenty cash or
other liquid assets is far able to meet payments than one with a large
reserves but no liquid assets.

It may happen that total current assets may be impressive but quality wise it
may be poor.

Current Assets:

Inventory

Book Debts recoverable in 6 months

Cash and Bank Balance.

Current Liabilities

Current liabilities except bank borrowings is perhaps comperatively cheaper

source for financing current assets. Therefore composition of current
liabilities should be studied carefully.

Intresting situation may arise when unit may be in comfortable liquid situation
so that it may be in situation to pay of sundry debtors, nevertheless unit may
prefer to use cash payment if discount is offerd.

CHAPTER 6 : IMPORTANT POINTS IN CREDIT APPRAISAL

Documents to be obtained

1) Title Deed.

2) Search Report.

3) 7/12 Extract.

4) 6D Report (pherphar) from Talathi Office.

5) City Survey Extract.

6) Valuation Report (Banks Architect Approved Valuer).

43
UNION BANK OF INDIA

7) Industry Report (Industrial Consultant).

8) List of Machinery obtain.

9) Insurance Cover of Property.

10) Photograph of properties and industry with machinery.

Documents required

1) Balance Sheet of 3 years.

2) Sales Tax Return data.

3) Income Tax Return.

4) Shop Establishment Letter.

5) License copy of area working.

6) Details of property: (Partners, Proprietor, Directors , firms etc)

10/Page

7) Technical feasibility report from consultant

8) CA Certificate.

9) Property Search Report from (CA, Advocate, Industrial consultant).

10) Stock Statement and Book Debt Statement

11) List of Creditors and Debtors.

12) Agency (Letter of Agency issued by company).

13) Credit Report and Information of (Firm, Partners etc)

14) Stock Inspection done by Bank.

15) Market Inquiry.

16) Existing Bankers Report (Satisfactory).

Proposal processing

1) Credit Report.

2) Credit Investigation.

3) Banker’s Report.

4) Analysis of Balance Sheet.

44
UNION BANK OF INDIA

5) Analysis of Cash flow and Fund flow Statements.

6) Process Note.

7) Ratings

11/Page

8) Recommendations.

9) Sanction Conveying to the Customer.

10) Obtain documents.

11) Disburse

12) Due Diligence Report.

13) Life style study.

14) Ancestor study.

15) Competitors, Debtors, Creditors Study.

16) Limited Company Resolution (Doctrine of ultra-vires)

17) MOA, AOA, Certificate of Registration, Registrar of Companies---

(Charge of Bank), physical inspection.

Documents for Advances

1) Hypothecation Agreement for goods.

2) Demand Promissory Note.
3) Letter of Continuity.(Cash Credit provided for seasonal advances)
4) Debt Balance Confirmation (D.B.C) to be taken every
6 month of outstanding balance

5) The right hand side of the Demand Promissory Note should     contain
Revenue Stamp and Rubber Stamp with Signature.

Left Hand only signature without rubber stamp as they are signing in
personal capacity. (Partnership Firm)

1) Hypothecation of Book Debts

Secured Overdraft limits of Book Debts Agreement should be duly
stamped.
2) Bank should take Letter of Partnership from Partners as they are
jointly liable and Partnership Agreement of the firm should not be
taken on our Account.

45
UNION BANK OF INDIA

3) Letter of no borrowing to be obtained as financing is not done from

other financing firms.
4) Every month/ Quarter stock inspection report along with valid
Insurance cover.

Credit Appraisal:

Corporate credit and SME department

Types of Advances

1) Short term loans

2) Clean loans

3) Long term loans

4) Working Capital loans

5) Bank Guarantee

6) Letter of Credit

The following steps are usually undertaken while giving an advance

1) Customer approaches to bank.

Bank checks 3 things through various ways i.e.

Customers Creditability, Capacity, Commitment.

2) Customer submits the proposal.

3) Generally the proposal is circulated through lead bank or SBI CAPS report
is used. SBI CAPS prepare the report for the companies and gives detailed
information regarding the Promoters and their project viability.

Banks study this report and provide the loan to the customer on consortium
basis for big projects. As the amount required is huge the loan is given in
syndication so no one bank is exposed towards the risk.

4) Banks require various lists of documents such as r next Audited Balance

Sheet and Profit and Loss Account for past 3 years, Projected Balance sheet
for next 10 years, Cash Flow Statement etc. All these reports give bank and
understanding regarding the company’s Creditors, Debtors, Other bank
exposures etc.

5) Banks ask for personal guarantees of partners if it is a partnership firm.

46
UNION BANK OF INDIA

6) Banks get the report from CIBIL (Credit Information Bureau India Limited)
to obtain the information regarding the company and its previous history.
Bank has special cell for this as CID (Credit Information Department).

7) Bank to obtain the credit rating done by various Rating agencies for the
project.

8) The Risk Management Department of bank too individually carries out its
own credit rating for the project.

9) Bank through its monitoring process monitors the account of the

customers and subsequently makes changes in the credit rating.

10) All the documents are compiled and finally a proposal report is prepared
through banks (IFB) Industrial Finance Branch Department and is send for
approval to the higher authority.

11) Banks prepare a proposal document and while preparing this report bank
keep continuous interaction with the customer and see exactly what other
services it can provide to customer in line to the advances so that bank can
earn more fee and non fee based income and satisfy the customer needs.

12) While constantly extending the facility Banks ask for CMA (Credit
Monitoring Arrangement) Report from the company.

The CMA report provides detailed understanding regarding the company.

CMA consists of Profit and Loss Account, Balance Sheet, Working Capital
Assessment and Permissible Bank Finance, Fund Flow Analysis, Calculation
of Break Even Point, Sensitivity Analysis, Ratio Analysis, Debt Service
Coverage Ratio, Security Coverage Ratio.

The entire analysis is done for 2 years audited reports, future estimates and
further 5 years’ projections.

Credit Administration:
Time norms for disposal of credit proposals and Credit refusal.
Borrower standards:
Financial strength/ Benchmark ratios
Current ratio of 1.17 and above, Debt to Equity Ratio < 2:1, Total outside
Liabilities to Net worth Ratio of < 4:1 and Average DSCR OF 1.2:1.
Process of Due Diligence:
1) Interview / discussion with the applicant.
2) Industry Prospects.

47
UNION BANK OF INDIA

3) Financial Statements.
4) Market Information.
5) Confidential opinion from existing banker.
6) Pre-sanction visit to the applicant’s place.
7) Credit Information Bureau India Ltd. Report.
8) Consortium Arrangements.
9) Multiple Banking Arrangements.
10) Reporting system for excesses over sanctioned limits.
11) Sanction of credit proposal to relatives of staff / Executives and Directors
(to bring down).
12) Disbursement.
13) Credit Process Audit (CPA).
14) Pre-payment penalty for pre closure for Term Loan.
15) Credit Approval Grid.

CHAPTER7: RATIO ANALYSIS

48
UNION BANK OF INDIA

Financial Statements

Income Statement
Balance Sheet Revenue
Assets Liabilities Operating
Non-Operating
Current Current Expenses
Fixed Long Term Operating
Non-Operating
Financial Equity Net Income

Displays where Cash Flow Statement Displays the

has a firm got its Opening Cash Balance result of firm’s
resources from Operating activities during
and where has it Investment the year – How
deployed them Financing much money did
on a given day? Closing Cash Balance we make?

Displays how cash was generated or used during the year by the firm

Ratio-analysis means the process of computing, determining and presenting

the relationship of related items and groups of items of the financial
statements. They provide in a summarized and concise form of fairly good

49
UNION BANK OF INDIA

idea about the financial position of a unit. They are important tools for
financial analysis.

Analysis of Financial Statement;

– Directors’ Report
– Management Analysis and Discussion
– Auditors’ Report and Qualification
– Schedules and Notes forming part of above statements
– Financial Statements of Subsidiary Companies
– Related to Accounting Statements
– Balance Sheet
– Income Statement or Profit and Loss Account
– Statement of Cash Flows
Environment of Financial Statement Analysis

Liquidity

Financial
Statement
Analysis

Before looking at the ratios there are a number of cautionary points

concerning their use that need to be identified:

50
UNION BANK OF INDIA

a. The dates and duration of the financial statements being compared

should be the same. If not, the effects of seasonality may cause
erroneous conclusions to be drawn.

a. The accounts to be compared should have been prepared on the

same bases. Different treatment of stocks or depreciations or asset
valuations will distort the results.

a. In order to judge the overall performance of the firm a group of ratios,

as opposed to just one or two should be used. In order to identify
trends at least three years of ratios are normally required.

The utility of ratio analysis will get further enhanced if following comparison is
possible.

1. Between the borrower and its competitor

2. Between the borrower and the best enterprise in the industry
3. Between the borrower and the average performance in the industry
4. Between the borrower and the global average

• Short-term liquidity. A company’s ability to meet short-term

obligations.
• Capital structure and long-term solvency: A company’s ability to
generate future revenues and meet long-term obligations.
• Return on investment: A company’s ability to provide financial
rewards sufficient to attract and retain suppliers of financing.
• Asset utilization: Asset intensity in generating revenues to reach a
sufficient level of profitability.
• Operating performance: A company’s success at maximizing
revenues and minimizing expenses from long-run operating activities.
• Cash flow: Availability and disposition of cash.
• Comparative Financial Statement Analysis-analyze company’s
performance over number of years or inter firm comparison
• Common Size Analysis-analyze relationship between one item and
other items of financial statements

• Consecutive balance sheet/income statement/cash flow are set side

by side and compared. Amount of change in each item is expressed
as percentage of amount of base year item.
• Tracks periodic changes in the financial performance of a company.
Reveals direction & trend
• Two popular techniques are

51
UNION BANK OF INDIA

• Year to Year change analysis

• Index number trend analysis
• Compare trends in related items on an intertime basis, in relation
to peer firms or industry averages.

Receivables grow substantially faster than sales
Inventory grows substantially faster than sales,
cost of sales, or accounts payable
Gross plant and equipment declines sharply
relative to total assets
Accumulated depreciation declines as gross plant
and equipment rises
Growth in accounts payable substantially
exceeds revenue growth
Cost of goods sold grows rapidly relative to sales
Cost of goods sold fluctuates widely from quarter
to quarter relative to sales
Operating expenses decline sharply relative to
sales
Major portion of pretax income comes from one
time gains
CFFO materially lags behind net income
Cash inflows come primarily from asset sales,
borrowing, or equity offerings
Long-term commitments/contingencies
Unrecorded liabilities, such as stock options
Perhaps aggressive revenue recognition – recording revenue
too soon or granting extended credit terms to customers
Inventory may be obsolete, requiring a write-off; company
may have failed to charge the cost of sales on some
sales
Failing to invest in new plant and equipment
Failing to take sufficient depreciation charge – inflating
operating income
Failed to pay off current debts for inventory and supplies – will
require larger cash outflow in future period
Pricing pressure results in lower gross margins
Unstable gross margin could indicate accounting irregularities
Perhaps improperly capitalizing certain operating expenses
Core business may be weakening
Quality of earnings may be suspect or expenditures for
working capital may have been too high
Signs of weakness, especially if cash comes exclusively from
asset sales, borrowing, or equity offerings
Potentially large drain on cash reserves
Future cash obligations may be greater than expected and
operating income may be inflated

• Items of Income statement and Balance sheet are shown in relation to

a common base
• Each item of asset is expressed as a per cent of total asset, each item
of liability as a per cent of total liability and items in income statement
are expressed as a per cent of net sales.
• Standardizes the size of firms.
• Tracks proportional change
• Reveals composition of assets & liabilities, proportion of expenses &
income in relation to sales
• Compare change in proportion in related items on an intertime
basis, or in relation to peer firms

1. Current Ratio : It is the relationship between the current assets and

current liabilities of a concern.
Current Ratio = Current Assets/Current Liabilities

52
UNION BANK OF INDIA

If the Current Assets and Current Liabilities of a concern are

Rs.4,00,000 and Rs.2,00,000 respectively, then the Current Ratio will be :
Rs.4,00,000/Rs.2,00,000 = 2 : 1

The ideal Current Ratio preferred by Banks is 1.33: 1

2. Net Working Capital: This is worked out as surplus of Long Term

Sources over Long Tern Uses, alternatively it is the difference of
Current Assets and Current Liabilities.
NWC = Current Assets – Current Liabilities

Current Assets: Raw Material, Stores, Spares, Work-in Progress.

Finished Goods, Debtors, Bills Receivables, Cash.

Current Liabilities : Sundry Creditors, Installments of Term Loan,

DPG etc. payable within one year and other liabilities payable within one
year.

This ratio must be at least 1.33: 1 to ensure minimum margin of 25%

of current assets as margin from long term sources.

 Current Ratio measures short term liquidity of the concern and its
ability to meet its short term obligations within a time span of a year.
 It shows the liquidity position of the enterprise and its ability to meet
current obligations in time.
 Higher ratio may be good from the point of view of creditors. In the
long run very high current ratio may affect profitability ( e.g. high
inventory carrying cost)
 Shows the liquidity at a particular point of time. The position can
change immediately after that date. So trend of the current ratio over
the years to be analyzed.
 Current Ratio is to be studied with the changes of NWC. It is also
necessary to look at this ratio along with the Debt-Equity ratio.

3. ACID TEST or QUICK RATIO: It is the ratio between Quick Current

Assets and Current Liabilities. The should be at least equal to 1.

Quick Current Assets: Cash/Bank Balances + Receivables up to 6

months + Quickly realizable securities such as Govt. Securities or quickly
marketable/quoted shares and Bank Fixed Deposits

53
UNION BANK OF INDIA

Acid Test or Quick Ratio= Quick Current Assets/Current

Liabilities

Example :

Cash 50,000

Debtors 1,00,000

Inventories 1,50,000 Current Liabilities 1,00,000

Total Current Assets 3,00,000

Current Ratio = > 3,00,000/1,00,000 = 3:1

Quick Ratio => 1,50,000/1,00,000 = 1.5 : 1

4. DEBT EQUITY RATIO: It is the relationship between borrower’s fund

(Debt) and Owner’s Capital (Equity).

Long Term outside Liabilities / Tangible Net Worth

Liabilities of Long Term Nature

Total of Capital and Reserves & Surplus less Intangible Assets

For instance, if the Firm is having the following :

Capital = Rs. 200 Lacs

Free Reserves & Surplus = Rs. 300 Lacs

Long Term Loans/Liabilities = Rs. 800 Lacs

Debt Equity Ratio will be => 800/500 i.e. 1.6 : 1

5. PROPRIETARY RATIO: This ratio indicates the extent to which

Tangible Assets are financed by Owner’s Fund.

Proprietary Ratio = (Tangible Net Worth/Total Tangible Assets) x

100

54
UNION BANK OF INDIA

The ratio will be 100% when there is no Borrowing for purchasing

of Assets.

6. GROSS PROFIT RATIO: By comparing Gross Profit percentage to

Net Sales we can arrive at the Gross Profit Ratio which indicates the
manufacturing efficiency as well as the pricing policy of the concern.

Gross Profit Ratio = (Gross Profit / Net Sales ) x 100

Alternatively, since Gross Profit is equal to Sales minus Cost of

Goods Sold, it can also be interpreted as below :

Gross Profit Ratio = [ (Sales – Cost of goods sold)/ Net Sales] x 100

A higher Gross Profit Ratio indicates efficiency in production of

the unit.

7. OPERATING PROFIT RATIO:

It is expressed as => (Operating Profit / Net Sales ) x 100

Higher the ratio indicates operational efficiency

8. NET PROFIT RATIO :

It is expressed as => ( Net Profit / Net Sales ) x 100

It measures overall profitability.

9. STOCK/INVENTORY TURNOVER RATIO:

(Average Inventory/Sales) x 365 for days

55
UNION BANK OF INDIA

(Average Inventory/Sales) x 52 for weeks

(Average Inventory/Sales) x 12 for months

Average Inventory or Stocks = (Opening Stock + Closing Stock)/2

. This ratio indicates the number of times the inventory is rotated

during the relevant accounting period

10. DEBTORS TURNOVER RATIO: This is also called Debtors

Velocity or Average Collection Period or Period of Credit given.

(Average Debtors/Sales ) x 365 for days

(52 for weeks & 12 for months)

11. ASSET TRUNOVER RATIO: Net Sales/Tangible Assets

12. FIXED ASSET TURNOVER RATIO: Net Sales /Fixed

Assets

13. CURRENT ASSET T/O RATIO: Net Sales/ Current Assets

14. CREDITORS TURNOVER RATIO: This is also called

Creditors Velocity Ratio, which determines the creditor payment period.

(Average Creditors/Purchases)x 365 for days

(52 for weeks & 12 for months)

15. RETRUN ON ASSETS: Net Profit after Taxes/Total Assets

16. RETRUN ON CAPITAL EMPLOYED :

ROCE= (Net Profit before Interest & Tax/ Average Cap Employed) x 100

Average Capital Employed is the average of the equity share

capital and long term funds provided by the owners and the creditors of the
firm at the beginning and end of the accounting period.

17. RETRUN ON EQUITY CAPITAL (ROE) : NPAT/ Tangible Net

Worth.

56
UNION BANK OF INDIA

18. EARNING PER SHARE : EPS indicates the quantum of net profit of
the year that would be ranking for dividend for each share of the
company being held by the equity share holders.
EPS=NPAT and Preference Dividend/ No. of Equity Shares

19. PRICE EARNING RATIO: PE Ratio indicates the number of times

the Earning Per Share is covered by its market price.

P/E=Market Price Per Equity Share/Earning Per Share

20. DEBT SERVICE COVERAGE RATIO : This ratio is one of the

most important one which indicates the ability of an enterprise to meet its
liabilities by way of payment of installments of Term Loans and Interest
thereon from out of the cash accruals and forms the basis for fixation of the
repayment schedule in respect of the Term Loans raised for a project. (The
Ideal DSCR Ratio is considered to be 2 )

PAT + Depr. + Annual Interest on Long Term Loans &

Liabilities

DSCR= ---------------------------------------------------------------------------------

Annual interest on Long Term Loans & Liabilities + Annual

Installments payable on Long Term Loans & Liabilities

( Where PAT is Profit after Tax and Depr. is Depreciation)

CHAPTER 8 : LOAN CATEGORIES AND PROCESS

1) Working Capital Loan (Fund Based)

a) Overdraft

57
UNION BANK OF INDIA

1) Bank Overdraft is a limit on borrowing on a Bank’s Current Account

Balance.

2) It is a short term facility given to the account holder depending upon the
limits decided.

3) The borrower has also to make the payment in limited period only.

Types of Overdraft

1) Clean Loan :

Given on: Current Account.

Margin: --------------

Security: Demand Depository Note.

Repayable: 8 to 15 days.

Demand Promissory Note:

Is a contract where one party (the maker or the issuer) makes an

unconditional promise in writing to pay a sum of money to the other (payee),
either at a fixed or a determinable future time or on demand of the payee,
under specific terms.

2) Secured Overdraft

The Overdraft is secured against various securities available. For e.g.

i) Against Book Debts, Shares.

ii) Against Government Securities.

iii) Own Fixed Deposit Receipt (FDR).

iv) National Saving Certificate (NSC).

v) Kissan Vikas Patra (KVP).

vi) RBI Bonds.

vii) Immovable Properties (such as Plots, Buildings, Plants etc)

They are Review and Renewed within One Year.

Margin: 25% to 50%

The interest portion to be recovered every month

b) Cash Credit

58
UNION BANK OF INDIA

5) Cash Credit provided against goods (paid goods), stock, Raw

material, Work in Progress, Finished Goods.

6) Margin: 25% to 40% (Depending on Liquidity of Goods.)

7) Interest Charged Monthly.

8) Monthly Inspection of Goods.

9) Secured against Book Debts.

6) Monthly: Statement of Goods of Shops and Warehouse

7) Invoices to be checked.

8) List of Book Debts not above 90 days.

9) Mortgage in case of immovable.

c) Term Loan:

1) Repayable in Installments. (Monthly/Quarterly/Annually)

2) Interest to be served monthly.
3) Term Loan Agreement.
4) Demand Promissory Note.
5) Debt Balance Confirmation (every 6 months)
6) List of Machinery (Assets) and full Insurance of all the Assets with all
the clauses.
7) Invoices of Insurances to be obtained and checked.
8) Inter Transfer of funds to be avoided (Diversion of funds) e.g.
Subsidiary firm.
9) Cash Withdrawal from Cash Credit Account to be avoided. (Except
Salary)

10) Have check on the Kite Flying i.e. Fund movements only paper
money involvement (in cheque clearing).

2) Working Capital Loan (Non Fund Based)

a) Letter of Credit (LC)

b) Bank Guarantee (BG)

Letter of Credit

59
UNION BANK OF INDIA

     It is an indirect form of Financing for working capital needs as bank

assumes only      the risk, the credit being provided by the supplier himself.
The purchaser of goods on credit obtains a Letter of Credit from a bank.
The bank      undertakes the responsibility to make payment to
the supplier in case the buyer
fails      to meet the obligations.

     Bank Guarantee:
Could be a finance guarantee or a performance guarantee. Under
finance guarantee, the bank guarantees the beneficiary (the person
named in the guarantee      to receive the guaranteed sum under stated
circumstances), certain amount on      behalf of its customer who has
commercial relationship with the beneficiary. Under      performance
guarantee, the bank guarantees performance of a contract or
goods/services supplied under a contract by its customer. However, even
in the      latter case, if its customer fails to deliver, it settles the claim of
the beneficiary in      money terms only; the bank does not fulfill the
contract obligation of its customer.

Example of Finance guarantee

Two parties enter into a contract. One is the supplier and the other is the
buyer. The terms of supply include 25% of advance to be given by the
buyer. The buyer wants assurance of supply as per the contract with the
seller. Hence he insists on a bank guarantee by the seller’s bank. The
seller’s bank gives the same against some security given by the seller. In
case the seller does not fulfill the contract, the beneficiary of the
guarantee lodges a claim  with the guarantee-issuing bank. The bank
then pays the buyer the assured sum.

Example of Performance guarantee

Similarly, in the case of an export contract, the foreign buyer, who is the
importer, may insist upon the seller’s bank issuing a performance
guarantee to ensure that the seller sticks to the delivery schedule. The
buyer will establish a letter of credit in favour of the seller through his
bank only upon the buyer’s bank receiving the required performance
guarantee from the seller’s bank.

      Lodging a claim under a guarantee with the guarantee-issuing bank by

the       beneficiary is known as "invocation" of a guarantee. Cancellation of a
guarantee is       known as "revocation" of a guarantee.

3) Working Capital Finance (Tandon Committee Recommendations)

60
UNION BANK OF INDIA

Tandon Committee A study group set up by the Reserve Bank Of India

(RBI) in 1974, to examine the then prevailing system of WORKINGCAPITAL
financing by banks and to make suitable recommendations on the same.

The contribution of the committee, headed by Prakash Tandon, that stands

out relates to:

1) The framing of norms for INVENTORY and receivables for 15 major

industries.

2) Determining the amount of permissible bank finance.

The committee suggested norms, i.e., ceilings for inventory and receivables,
which could be considered for bank finance. The 15 industries included
cotton and synthetic textiles, paper, cement, pharmaceuticals and
engineering. Thus, for instance, the norms proposed for the pharmaceutical
industry were :

Raw materials : 2.75 months consumption

Stocks in process : ½ months cost of production
Finished goods : 2 months cost of sales
Receivables : 1.25 months sales

For determining the maximum permissible bank finance (MPBF), the

methods suggested were :
Method I : 0.75 (CA – CL)
Method II : 0.75 CA – CL
Method III : 0.75 (CA – CCA) – CL

Where,

CA: Current Assets.

CL: Current Liabilities.

CCA: Core Current Assets. (Permanent Current Assets)

Banks prefer Method II for assessing working capital needs of business.

In October 1993, the RBI infused operational autonomy by permitting banks

to determine appropriate levels of inventory and receivables, based on
production, processing cycle, etc. These lending norms were made
applicable to all borrowers enjoying an aggregate (FUND-BASED) working
capital limit of Rs.1 crore and above from the banking system and the
requirement of the CURRENT RATIO at 1.33.

61
UNION BANK OF INDIA

4) Mortgage

A mortgage is the transfer of an interest in property (or the equivalent in law-

a charge) to a lender as a security for a debt – usually a loan of money.

Mortgages are of two types

a) Simple Mortgage.

b) Equitable Mortgage.

Equitable Mortgage

1) By Deposit of Title Deed.

2) Memorandum to be drawn,

a) When you receive the Title Deed you are the Owner of the Property (in
Good Faith).

b) 30 years property search report should be obtained from panel of

Advocate of the Bank stating title of the property is Clean and
Marketable.

3) Appropriate stamp duty for both simple and equitable mortgage should
be paid (check).

Documents to be obtained

10)Title Deed.

11)Search Report.

12) 7/12 Extract.

13)6D Report (pherphar) from Talathi Office.

14)City Survey Extract.

15)Valuation Report (Banks Architect Approved Valuer).

16)Industry Report (Industrial Consultant).

17)List of Machinery obtain.

18)Insurance Cover of Property.

10) Photograph of properties and industry with machinery.

Documents required

10)Balance Sheet of 3 years.

62
UNION BANK OF INDIA

11)Sales Tax Return data.

12)Income Tax Return.

13)Shop Establishment Letter.

14)License copy of area working.

15)Details of property: (Partners, Proprietor, Directors , firms etc)

16)Technical feasibility report from consultant

17)CA Certificate.

18)Property Search Report from (CA, Advocate, Industrial consultant).

10) Stock Statement and Book Debt Statement

11) List of Creditors and Debtors.

12) Agency (Letter of Agency issued by company).

13) Credit Report and Information of (Firm, Partners etc)

14) Stock Inspection done by Bank.

15) Market Inquiry.

16) Existing Bankers Report (Satisfactory).

5) Proposal processing

10)Credit Report.

11)Credit Investigation.

12)Banker’s Report.

13)Analysis of Balance Sheet.

14)Analysis of Cash flow and Fund flow Statements.

15)Process Note.

16)Ratings.

17)Recommendations.

18)Sanction Conveying to the Customer.

10) Obtain documents.

63
UNION BANK OF INDIA

11) Disburse

12) Due Diligence Report.

13) Life style study.

14) Ancestor study.

15) Competitors, Debtors, Creditors Study.

16) Limited Company Resolution (Doctrine of ultra-vires)

17) MOA, AOA, Certificate of Registration, Registrar of

Companies--- (Charge of Bank), physical inspection.

Documents for Advances

5) Hypothecation Agreement for goods.

6) Demand Promissory Note.
7) Letter of Continuity.(Cash Credit provided for seasonal advances)
8) Debt Balance Confirmation (D.B.C) to be taken every
6 month of outstanding balance.
5) The right hand side of the Demand Promissory Note should contain
Revenue          Stamp and Rubber Stamp with Signature.
Left Hand only signature without rubber stamp as they are signing in
personal capacity. (Partnership Firm)
10)Hypothecation of Book Debts
Secured Overdraft limits of Book Debts Agreement should be duly
stamped.
11) Bank should take Letter of Partnership from Partners as they are
jointly liable and Partnership Agreement of the firm should not be
taken on our Account.
12)Letter of no borrowing to be obtained as financing is not done from
other financing firms.
13)Every month/ Quarter stock inspection report along with valid
Insurance cover.

Hypothecation:

The bank provide credit to the borrowers against the Security of

movable property, usually inventory of Goods.

Pledge:

Is the different form of hypothecation under which the goods which are
offered for security/collateral are transferred to the physical possession of
lender.

64
UNION BANK OF INDIA

Lien:

Is a publicly disclosed legal claim on collateral.

6) Credit Appraisal:

Corporate credit and SME department

Types of Advances

1) Short term loans

2) Clean loans

3) Long term loans

4) Working Capital loans

5) Bank Guarantee

6) Letter of Credit

The following steps are usually undertaken while giving an advance

1) Customer approaches to bank.

Bank checks 3 things through various ways i.e.

Customers Creditability, Capacity, Commitment.

2) Customer submits the proposal.

3) Generally the proposal is circulated through lead bank or SBI CAPS report
is used. SBI CAPS prepare the report for the companies and gives detailed
information regarding the Promoters and their project viability.

Banks study this report and provide the loan to the customer on consortium
basis for big projects. As the amount required is huge the loan is given in
syndication so no one bank is exposed towards the risk.

4) Banks require various lists of documents such as r next Audited Balance

Sheet and Profit and Loss Account for past 3 years, Projected Balance sheet
for next 10 years, Cash Flow Statement etc. All these reports give bank and
understanding regarding the company’s Creditors, Debtors, Other bank
exposures etc.

5) Banks ask for personal guarantees of partners if it is a partnership firm.

65
UNION BANK OF INDIA

6) Banks get the report from CIBIL (Credit Information Bureau India Limited)
to obtain the information regarding the company and its previous history.
Bank has special cell for this as CID (Credit Information Department).

7) Bank to obtain the credit rating done by various Rating agencies for the
project.

8) The Risk Management Department of bank too individually carries out its
own credit rating for the project.

9) Bank through its monitoring process monitors the account of the

customers and subsequently makes changes in the credit rating.

10) All the documents are compiled and finally a proposal report is prepared
through banks (IFB) Industrial Finance Branch Department and is send for
approval to the higher authority.

11) Banks prepare a proposal document and while preparing this report bank
keep continuous interaction with the customer and see exactly what other
services it can provide to customer in line to the advances so that bank can
earn more fee and non fee based income and satisfy the customer needs.

12) While constantly extending the facility Banks ask for CMA (Credit
Monitoring Arrangement) Report from the company.

7) The CMA report provides detailed understanding regarding the company.

CMA consists of Profit and Loss Account, Balance Sheet, Working Capital
Assessment and Permissible Bank Finance, Fund Flow Analysis, Calculation
of Break Even Point, Sensitivity Analysis, Ratio Analysis, Debt Service
Coverage Ratio, Security Coverage Ratio.

The entire analysis is done for 2 years audited reports, future estimates and
further 5 years’ projections.

Importance of Profit and Loss Account.

To study

1) RM Content in sales

2) PBDIT/Sales

3) Operating Profits/Sales

4) PBT/Sales

5) PAT/Sales

6) Cash Accruals/ Sales

66
UNION BANK OF INDIA

7) Interest on Cash Credit

8) Interest on Term Loan

9) Other Interest

Importance of Balance Sheet:

1) Tangible Net Worth (TNW)

TNW = Total Assets - Liabilities - Intangible Assets
2) Current Ratio
3) Debt Equity Ratio
4) Total outside Liabilities (TOL)/ Equity
5) Current Assets / Tangible Assets
6) ROCE (Return on Capital Employed)
ROCE = PBIT/ Total Assets – Current Liabilities
7) Inventory + Receivables as days of Net Sales
8) Arrears of Depreciation
9) Contingent Liabilities
10) Arrears of Cumulative Dividends
11) Gratuity Liability not provided for
12) Dispute Custom/ Excise/ Tax Liabilities
13) Other Liabilities not provided for

Check points:

1) Difference in Assets and Liabilities.

2) Increase in Capital and Reserves beyond Retained Earnings.
3) Difference in Intangibles written off in Balance Sheet and shown in P&L
Account.
4) Reduction in Term Loan is less than Term Loan Installments plus overdue.

Working Capital Assessment:

1) Stock of Imported RM -Days Consumption

2) Stock of Indigenous RM - Days Consumption

3) Imported Consumables - (Days Consumption)

4) Indigenous Consumables - (Days Consumption)

5) Stock in process- (Days of Cost of Production)

6) Finished Goods - (Days Cost of Sales)

7) Total Inventory/Sales (days)

8) Sundry Cr. % of Current Assets

9) Other Current Liabilities % of Current Assets

67
UNION BANK OF INDIA

10) Bank Finance % of Current Assets

11) NWC % to Current Assets

Permissible Bank Finance:

1) Total Current assets

2) Other Current Liabilities

3) Working Capital gap

4) Net Working capital

5) Bank Finance

Fund Flow Analysis

Calculation of Break Even Point

Sensitivity Analysis: e.g.

1) If Sales go down by 5%.

2) If Raw Material cost go up by 5%.

3) If Variable Cost goes up by 5%.

Ratio Analysis:

1) Growth in Sales

2) Gross profit Ratio

3) PBDIT/sales

4) Operating Profits/Sales

5) PBT/Sales

6) PAT/Sales

7) Cash Accruals/ Sales

8) Sales/Equity

9) Sales / TTA

10) Interest Coverage (Interest/PBDIT)

11) PBDIT / Interest (Times)

12) Deferred Debt/ Equity

68
UNION BANK OF INDIA

13) TOL/Equity

14) Current Ratio (CA / CL)

15) Current Ratio excluding TL Installments

16) CA / TTA (%)

17) Inventory + Receivables as days of Net Sales

18) Bank Borrowings/Current Assets

19) RM content in sales

20) ROCE

21) Debt Service Coverage Ratio (DSCR)

DSCR = PAT + Installment on Term Loan + Deprication + Deferred

Tax/Interest on Term Loan + Installment on Term Loan

COMPUTATION OF LC LIMIT

CONSUMPTION OF RM & MANPOWER 1332

Add Opening Stock 192

Less Closing Stock 249

Total Purchases 1390

69
UNION BANK OF INDIA

1) Annual Purchase of Material, Stock(Inland 85%) 1181.64

2) Monthly Requirement of Material Stock 98.47

3) Material Stock priced under LC 59.08

4) Usance period 3.05

5) LC require 3*4 206.79

6) Inland lc limits assessed (A) 135.00

1) Annual Purchase of Material, Stock(Import 15%) 208.52

2) Monthly Requirement of Material Stock 17.38

3) Material Stock priced under LC 17.38

4) Usance period 6.00

5) LC require 3*4 104.26

6) Inland lc limits assessed (B) 65.00

TOTAL LC REQ (A+B) 200.00

Computation of bank Guarantee

B/G O/S AS ON 31 A 976.00

MARCH 2009

ADD BG FOR

1.)1/3RD OF ORDER 1057.07

BOOK 1.4.08(3171.22/3)
940.77
RD
2.)1/3 OF OREDER

70
UNION BANK OF INDIA

BOOK ON 1997.84 B
1.4.09(2822.31/3)

REQUIRED BG 499.46 499.46

(APG+RETENTION
MONEY+ADV
PAYMENT) @ 25 % OF
1997.84

BG REQ FOR FRESH C

WORK

EST T/O FOR 09-10 & 606.3

10-11

BG TO BE ISSUED 30315
ASSURING A SUUCESS
RATIO PF 20% T/O OF
RS. 606.3 ( 5 * 606.3)

1)EMD @ 1% OF 30315 303

2)ADV PAY GUAR 1213

RETENTION MONEY TO
BE PROVIDED ( 20%
606.3)

1+2 1516(C) 1516

BG EXPECTED TO D 682
CANCEL

REQD A+B+C-D 2309

ROUND 2300

CHAPTER 9: Supervision and Monitoring Policy:

1) Creation of separate Credit Monitoring Department at Central

Office level independent of Verticals.
The function of monitoring is attached at corporate level to the
respective General Managers overseeing the Verticals. The function
of sanction and monitoring have different approaches and may have
conflict of interest at times. Administrative etiquette demands
separation of monitoring function from the sanction level and even RBI
guidelines support the same. A cross verification with the peer banks
also indicates that monitoring in most of the banks functions as a
department independent of sanction. Hence, it was decided to have

71
UNION BANK OF INDIA

an independent Credit Monitoring Department for bank as a whole

covering all verticals.

2) Internal Loan Review Department:

This Department must undertake the following functions.
i. Review of sanctions at C.O. level.
ii. Scrutiny of periodical MIS viz. F-1, M-27 of FGMs, M-6
reports, QPRs, MSODs and M-2/M-3 statements for accounts to be
monitored at C.O. level.
iii. Follow-up for adjustment of devolved L/Cs and invoked
L/Gs.
iv. Overseeing the working of Credit Process Audit.

3) Reduction in cut-off limits for monitoring:

The cut-off limits at different levels are as follows.
Upto Rs.5.00 lac - Branch Level

> Rs.5.00 lac & upto Rs.1.00 cr. - Regional Office

> Rs.1.00 cr. & upto Rs.3.00 cr. - FGMO

> Rs.3.00 cr. - C.O.

While the branches (other than branches under the direct control of the
Large Corporate Department, C.O.) would continue to submit Monthly
Credit Monitoring Reports (MCMRs) for accounts above Rs.50.00 lac to
the respective monitoring authorities, they would send to their Regional
Office a statement containing details of EAS/SMA accounts in the form
of Annexure – C in respect of all accounts above Rs. 5 lacs and upto
Rs.50.00 lac as per the above cut-off limits.

Apart from the above, the Branches shall also submit Annexure-C to the
respective Regional Offices, in respect of EAS/SMA accounts up to Rs 5
lacs monitored at their level.
EAS-Early Alert System.
SMA-Special Mention Account

Branches under the control of Large Corporate, Central Office

should:

a. Send MMR above Rs.3.00 crores to Central Office directly.

b. Monitor all accounts above Rs.50.00 lacs and upto Rs.3.00
crore at the branch level based on the Monitoring Reports prepared.
c. Prepare a statement of EAS/SMA accounts in respect of all
accounts upto Rs.50.00 lac and place the same before the Branch
Head for scrutiny and monitoring.

72
UNION BANK OF INDIA

d. Scrutinize the monitoring reports / EAS/SMA statements in

respect of accounts overseen at the branch level upto Rs.3.00 crore
and send Annexure ‘C’ in respect of all accounts upto Rs.3.00 crore
(in respect of EAS/SMA accounts) to C.O. These branches shall also
prepare Annexure ‘D’ and send it to C.O. The monitoring report placed
at the branch level shall be scrutinized by the Branch Head.

4) Preventive Measures:
Maintaining the health of the account in good order is the primary
objective and this can be ensured if preventive measures are taken
well in advance.

i. Timely restructuring of the account.

ii. Recovery of critical amount to avoid slippages.
iii. Ledger scrutiny of the accounts.
iv. Accounts operated with other banks.
v. Rectification of audit irregularities.
vi. Credit Process Audit.
vii. Post – sanction review system.
viii. Exit option.
ix. Economic intelligence.
x. Timely Review of account

5) Important Guidelines:

i. In case of slippages to NPA category, while fixing the accountability,

it should be studied whether the account was routed through
EAS/SMA channel and what corrective action was taken to set right
the irregularities.
ii. At the time of review/ renewal, a mention has to made in
the proposal as to how many times the account was reported in
EAS/SMA and for what reasons. The sanctioning authority has to
take into consideration this important aspect while exercising his
authority for review / renewal / enhancement.
iii. Monitoring authority to visit branches on regular basis
depending on the need.

6) Video Conferencing:
Following up of EAS/SMA accounts with the Branches / RO / FGMO
shall be mainly through video conferencing.
The following procedure shall be adopted:
i. Central Office shall forward the list of accounts with irregularities to
FGMO / RO / Branches and inform the date of web-conference.
ii. It shall also inform the name of ROs & Branches that will
participate in the web-conference.
iii. During the web-conference, the issue of irregularities on
each account informed in advance shall be discussed with the
concerned BM/RM/FGM.

73
UNION BANK OF INDIA

iv. Firm and correct reply and the rectification measures

taken or to be taken shall be given by the branch.
v. FGM / RM should ensure strict compliance to the
instructions given in the web-conference and the conference
proceedings shall be recorded.
vi. The irregularities pointed out should be rectified as far as
possible before attending the web-conference.
vii. In case the irregularities cannot be rectified immediately, a
time bound programme and a firm commitment for compliance is to
be given.
viii. In the next web conference, the issues discussed and
pending rectification during the previous conference shall be
discussed first to ensure compliance.
ix. Regional Office / FGMO shall send confirmation to Central
Office that the issues discussed in the web conference have been
acted upon and the directives given in the web conference have been
complied with.

7) Collection of Data and Reporting System.

i. Branches shall send monitoring reports for accounts with
limits above Rs.50.00 lac to the monitoring authority. In respect of
accounts above Rs.5.00 lac and upto Rs.50.00 lac, they shall send a
statement on EAS/SMA accounts only to Regional Office. In other
words, there is no need for preparing monitoring reports for
accounts upto Rs.50.00 lac.
ii. Direct downloading by the branches or by the Monitoring
Authority at RO/FGMO/CO level in respect of EAS/SMA accounts as
well as monitoring reports is in advanced stage. Only qualitative
inputs are to be entered in the relevant columns by the branch
officials. With this, the collection of data on EAS/SMA will be
quickened and the turnaround time for compilation of data will be
reduced.
iii. Branches to send details of EAS/SMA accounts upto
Rs.5.00 lac to RO monthly (till such time RO is able to download
directly).
iv. RO will compile EAS/SMA list for accounts monitored by
it branch-wise and will also add the details received from branches
and arrive at the position of EAS/SMA accounts for the region as a
whole (Branch-wise).
v. The list will be sent to FGMO in the form of Annexure ‘C’
& Annexure ‘D’.
vi. FGMO will arrive at EAS/SMA status of accounts
monitored by it and prepare account-wise details.
vii. FGMO should also add the details received from the
ROs and arrive at the EAS/SMA status region-wise for all accounts
upto Rs.3.00 crore and send the relevant data in Annexure ‘C’& ‘D’
to C.O.
viii. C.O. shall arrive at EAS/SMA status of the accounts
monitored by it branch–wise / RO wise / FGMO wise.

74
UNION BANK OF INDIA

ix. It shall also add the details received from FGMO upto
Rs.3.00 crore and arrive at EAS/SMA position R.O. wise.
x. The total EAS/SMA (Stress accounts) position shall be
placed before AQMC for discussion and suitable instructions.
xi. Final report on EAS/SMA accounts for the bank as a
whole shall be placed before ED / CMD at monthly intervals showing
movements / quantum and details of EAS/SMA accounts region-
wise.
xii. RO shall send list of accounts of above Rs.1.00 crore
and upto Rs.3.00 crore monitored by them hitherto to FGMO to
enable 33/page
them to know the list of accounts to be monitored by them
henceforth. Likewise, FGMO shall send list of accounts of above
Rs.3.00 crore and upto Rs.5.00 crore monitored by them hitherto to
C.O.
xiii. Monitoring reports / Annexure ‘C’ &’D’ shall be sent
preferably through e-mail only as per the time schedule fixed in this
regard (Monitoring Reports / Annexure ‘C’ &’D’ shall be submitted
through e-mail before 5th of the succeeding month by the branches.
Annexure ‘C’ &’D’ shall be submitted by ROs to FGMOs before 7th
and Annexure ‘C’ &’D’ shall be submitted by FGMOs to C.O. before
12th of the succeeding month).

xiv. Lending Automation Solution (LAS) is being introduced

in our Bank and shall be made fully operational within a short time.
This will facilitate downloading of statements on EAS/SMA accounts
by the branches / offices as well as Monitoring Reports by the
monitoring authority at different level. The branches should adhere
strictly to the instruction that shall be given by DIT, C.O. in this
regard for successful implementation of the same.

8) The primary aim of Monitoring exercise is to ensure the safety of the

amount lent and to ensure that the account is conducted in the
manner normally expected and the account continues as a performing
asset. The entire monitoring efforts revolve around the fact that the
accounts monitored do not slip to NPA category. If the efforts of the
bank in maintaining the accounts under Standard category do not
yield results after observing all preventive measures, immediate action
is to be initiated for recovery of the bank’s dues as mentioned in the
policy.

The very purpose of tightening monitoring function is to identify

Stressed Assets and initiate prompt corrective action well in time so that
risk is mitigated and quality of assets is maintained.

Utmost attention to different segments of monitoring, ability to capture

adverse signals in the accounts at the right time, constant interaction
with the parties, understanding the finer aspects and technicalities of the

75
UNION BANK OF INDIA

industry / business trends in the area, urge to ensure quality of the

assets at all times, adherence to the “Doctrine of strict compliance” to
the sanction terms and conditions and a commitment towards effective
monitoring alone can yield the desired results. The above measures,
effective utilization of monitoring tools, constant involvement of
Branches, ROs, FGMOs and Credit Monitoring Department, Central
Office will collectively contribute not only in arresting further slippages
but up-gradation of Stressed Assets to Standard Assets category.

Monitoring Tools at the Branch level

1) Stock Statements

2) Book Debts Statements

3) Monthly Cash Budget

4) Q-4/M-6 Inspection Reports.

5) Stock Inspection Reports of outside agencies

6) Factory Visit Reports.

7) Technical Officer’s Reports.

8) Concurrent Audit Reports.

9) QPRs.

10)MSOD.

11)Audited / Provisional Financial Statements.

12)Adverse / Search enquiries from other Banks regarding the Account,

Promoters or Guarantors

13)Account Operations scrutiny - (poor Turnover, vis-à-vis sales realization,

overdues, frequent returns of Cheques / Bills, issuing cheques
unconnected to main business, constant excess drawing etc.)

14)Sales Tax Return / Challan, Excise Duty Challans to co-relate with

Turnover / Production Report / Account Operation / Balance Sheet /
Quarterly Progress Report etc.

15)Annual accounts filed with Registrar of Companies – verification through

search at office of Registrar of Companies by empanelled Company
Secretaries / Chartered Accountants or by our own officers, wherever
need is felt, to ascertain / compare with the balance sheet particulars as
filed with Registrar of Companies.

76
UNION BANK OF INDIA

CHAPTER 10: NPA

An Asset, including a leased asset, becomes non-performing when it ceases

to generate income for the Bank. A Non-performing Asset (NPA) is a Loan
or an advance where:
1) Interest and/or installment of principal remain overdue for the period of
more than 90 days in respect of a term loan.

77
UNION BANK OF INDIA

2) The account remains ‘out of order ‘in respect of an Overdraft/Cash Credit

(OD/CC).
The account to be treated out of order if:
a) If the outstanding balance remains continuously in excess of the
sanctioned limit/ drawing power.
b) In cases where the outstanding balance in the principal operating account
is less than the sanctioned limit/drawing power, but there are no credits
continuously for 90 days as on the date of balance sheet or credits are not
enough to cover the interest debited during the same period.
3) The bill remains overdue for a period of more than 90 days in the case of
bills purchased and discounted.
4) The installment of principal or interest thereon, remains overdue for
37/Page
the two crop seasons of short duration crop.
5) Installment of principal or interest thereon remains overdue for one crop
season in case of long duration crop.
6) If the interest charged (including monthly interest) during any quarter is
not serviced fully within 90 days from the end of the quarter.
7) Any amount to be received remains overdue for a period of more than 90
days in respect of other accounts.
8) An account where the regular/adhoc credit limits have not been
reviewed/renewed within 180 days from date/date of adhoc sanction.
9) The drawings allowed against Stock/Book Debts statements older than
180 days. (The drawings in the account based on drawing power calculated
from the stock statements older than 3 months are deemed as the irregular
drawings and if such irregular drawings are permitted in the account for a
continuous period of 90 days even though the unit may be working or the
borrower’s financial position is satisfactory.)

Asset Classification:
Banks are required to classify Non-performing assets further into the
following 3 categories based on the period for which the assets has
remained non performing and the realisability of the dues.
a) Sub-standard Assets:

78
UNION BANK OF INDIA

A Sub-standard Asset would be one which has remained NPA for a period
less than or equal to 12 months.
b) Doubtful Assets:
An Asset would be classified as doubtful, if it has remained in the sub-
standard category for a period of 12 months.
38/Page
c) Loss Assets:
A Loss Asset is one where loss has been identified by the bank or internal or
external auditors or the RBI inspection but the amount has not been written
off wholly. In other words, such an asset is considered uncollectible and of
such little value that its continuance as a bankable asset is not warranted
although there may be some salvage or recovery value.

Income Recognition:
1) Bank may recognize income on accrual basis in respect of assets which
are classified as Standard Assets.
2) Banks should not recognize income on accrual basis where assets are
classified as sub-standard assets. Banks may recognize income in such
accounts only on realization on cash basis.
Consequently, banks, which have wrongly recognized income in the past,
should reverse the interest if it was recognized as income during the current
year or make provision for an equivalent amount if it was recognized as
income in the previous years.
Order of appropriation of recovery in NPA accounts:
Recoveries in NPA accounts should be appropriated in the following order.
1) Borrower’s instructions regarding recovery whether to be adjusted against
principal or towards interest due.
2) Out of pocket expenses e.g. godown charges, Insurance premia etc.
debited during the year.
3) Unrecovered interest, other charges (e.g. processing charges, fees,
commission etc.)
4) Interest held in Dummy Ledger
5) Principal outstanding.

Upgradation on account of recoveries:

79
UNION BANK OF INDIA

The status of all NPA accounts is required to be reviewed at the time of

every periodical classification of advances, to give the effect for the
recoveries, if any. The recoveries effected since the time of previous
classification of an NPA account may necessitate of sub-standard/ doubtful
account to standard category provided entire overdues are adjusted or
overdues are reduced to a period of less than 90 days.
However, it should be noted, the recoveries in an NPA account cannot result
in its upgradtion within the NPA category itself e.g. In case of doubtful
advance the recoveries cannot result in upgradation to sub-standard
category.
Provisioning:
Standard Assets:
a) Direct advance to agricultural and SME sectors: 0.25%
b) Agri Debt wavier receivable from Government: 0.00%
c) All other advances not included in a & b: 0.40%
Sub-Standard Assets:
1) A general provision of 10% on total outstanding without making any
allowance for ECGC guarantee cover and securities available.
2) the unsecured exposures, which are identified as substandard, would
attract additional provision of 10% ie total of 20% on the outstanding balance
.The unsecured exposure is an exposure where the realizable 40/Page
value of the security is assessed by the bank/approved valuers/RBI
inspecting officers, is not more than 10% of the outstanding exposure.
Exposure shall include all the funded and non-funded exposures. Security
will mean tangible security properly discharged to the bank and will not
include intangible securities like Guarantees (including State Government
Guarantees), comfort letters etc.
Doubtful Assets:
1) Unsecured portion 100% of the extent to which the advance is not
covered by the realizable value of security to which the bank has valid
recourse and the realizable value is estimated on a realistic basis.
2) Secured portion
Upto one year : 20%
One to three years: 30%
More than three years: 100%

Loss Assets:

80
UNION BANK OF INDIA

Provision @ 100% of the outstanding is required to be made.

Recovery Policy:
Preamble:
The Increase quantum of slippages and high NPAs are matter of great
concern for any bank, the stringent norms of asset classification, income
recognition and capital adequacy have made the banks increasingly
sensitive to credit risks. Intense competition in market has shrunk net
interest margin. It has become imperative on the banks to manage NPAs
effectively to sustain profitability. It is in this context, the management of
NPAs has assumed great importance.
Objective:
1) To reduce the banks NPA level in absolute terms by accelerating
recoveries.
2) To encourage compromise settlements and accelerate recoveries, since
legal measures for recovery are long drawn processes involving cost.
3) To closely review and follow up on a continuous basis all Standard Assets
to avoid slippages. Rescheduling/ Restructuring/ Rehabilitation of accounts
as per RBI guidelines will be resorted to wherever warranted, on merits.
Guiding factors for settlement/relief proposals:
1) Realizable value & marketability of securities charged to the bank if the
advance / loan are secured.
2) Aggregate means of borrowers / guarantors.
3) Age of the NPA.
4) Legal position of the bank.
Bank has adopted a point score methodology for calculation of settlement
amount.
Points Scored: Methodology for calculation of
Settlement amount
1) 17 & above Outstanding in running ledger +
Interest @ 9% (simple)
2) 12 to 16 Outstanding in running ledger +
Interest @ 7% (simple)
3) 8 to 11 Outstanding in running ledger.
4) 4 to 7 50% to 75% of Outstanding in

81
UNION BANK OF INDIA

Running ledger
5) 2 to 3 25% to 50% of Outstanding in
Running ledger
6) 0 to 1 As much as possible
Payment of settlement amount:
As far as possible, settlement amount should be recovered in a lumpsum.
Where the borrowers desire to pay the settlement amounts in installments, a
maximum
time period of 12 months from the date of approval, be allowed. Payment of
settlement amount in installments will attract interest at BPLR (simple).
Wherever installment payments are sought, there should be a minimum of
25% down payment of settlement amount.
1) The party can settle the payment through OTS ( One time settlement)
2) The settlement/ write-off proposals shall originate from the branch
containing the recommendations of the Branch Manager and Accountant.
3) In all NPA accounts, comments on Staff Accountability have to be
mentioned in the proposal of OTS/ write-off.
4) Settlement of NPA should be in line with Bank’s Recovery Policy/ RBI
guidelines.
5) There shall be committee approach for vetting and recommending
compromise / relief proposals to ensure fair and proper assessment of
proposals.
6) If the market value of the immoveable property of Land and Building as
valued by the valuer at the time of settlement is less than the market value
of immoveable properties at the time of sanction of limits or the value
obtained at any time after sanction up to 1 year before the date of settlement
proposal, then revaluation shall be done by second panel valuer. All
valuations in the case of settlement proposals shall be taken by the Regional
Officer / FMGO directly.
7) The means of the Borrower/ Guarantor should be properly computed. The
means should also include assets not charged to the Bank.
8) While approving the proposal, the sanctioning authority should examine
whether assessment of marketability of security is properly done.
9) The valuation of security should be taken from approved valuer and
valuation should not be more than 6 months old. Valuation should be based
on market reports and should not be based on government valuations for the
purpose of registration or municipal taxes.

82
UNION BANK OF INDIA

10) Property should be inspected by an officer (scale III and above) of the
Bank not handling the account and he should endorse that the valuation
corresponds with the prevailing rates in the area.
11) Residential property or ancestral property or such moveable property
like jewelry etc; should not be released , since borrower / guarantor would
have emotional attachment to the same and in order to save them from
being lost, he may come forward for One Time Settlement. By releasing
such properties, Banks should not lose opportunity foe settlement of the
entire dues.
12) The services of outside agencies for purpose of Asset Investigation,
Enforcement of security and Recovery could be utilized.
a) Recovery through Lok Adalat:
Lok Adalat is a legally constituted authority for resolution of disputes through
conciliation. It functions under the aegis of Central, State and District Legal
Services Authority headed by Judges from Supreme Court, High Court and
District Court respectively. They have powers to settle both pending suit filed
cases as well as pre litigation cases. They grant awards, which are treated
as decree and can be straight away executed in a court of law. Government
of India has permitted Banks to effect settlement through Lok Adalat for
dues up to Rs. 20 lacs.
b) Recovery through SARFAESIA:
SARFAESIA (Securitisation and Reconstruction of Financial Assets
and Enforcement of Security Interest Act 2002)
1)” asset reconstruction” means acquisition by any securitisation company or
reconstruction company of any right or interest of any bank or financial
institution in any financial assistance for the purpose of realisation of such
financial assistance.
2)”bank” means---
(i) A banking company; or
(ii) A corresponding new bank; or
(iii) The State Bank of India; or
(iv) A subsidiary bank; or
(v) Such other bank which the Central Government may, by notification.
3) "Borrower" means any person who has been granted financial assistance
by any bank or financial institution or who has given any guarantee or
created any mortgage or pledge as security for the financial assistance
granted by any bank or financial institution and includes a person who
becomes borrower of a securitisation company or reconstruction company
consequent upon acquisition by it of any rights or interest of any bank or
financial institution in relation to such financial assistance.

83
UNION BANK OF INDIA

4) "Default" means non-payment of any principal debt or interest thereon or

any other amount payable by a borrower to any secured creditor consequent
upon which the account of such borrower is classified as non-performing
asset in the books of account of the secured creditor.
5) “Financial Asset” means debt or receivables and includes---
(i) A claim to any debt or receivables or part thereof, whether secured or
unsecured; or
(ii) any debt or receivables secured by, mortgage of, or charge on,
immovable property; or
(iii) a mortgage, charge, hypothecation or pledge of movable property; or
(iv) any right or interest in the security, whether full or part underlying such
debt or receivables; or
(v) any beneficial interest in property, whether movable or immovable, or in
such debt, receivables, whether such interest is existing, future, accruing,
conditional or contingent; or
(vi) any financial assistance;
6) “Hypothecation" means a charge in or upon any movable property,
existing or future, created by a borrower in favour of a secured creditor
without delivery of possession of the movable property to such creditor, as a
security for financial assistance and includes floating charge and
crystallization of such charge into fixed charge on movable property.

Registration of securitisation companies or reconstruction companies:

(1) No securitisation company or reconstruction company shall commence
or carry on the business of securitisation or asset reconstruction without--
(a) obtaining a certificate of registration granted under this section; and
(b) having the owned fund of not less than two crore rupees or such other
amount not exceeding fifteen percent of total financial assets acquired or to
be acquired by the securitisation company or reconstruction company, as
the Reserve Bank may, by notification, specify:
PROVIDED that the Reserve Bank may, by notification, specify different
amounts of owned fund for different class or classes of securitisation
companies or reconstruction companies:
PROVIDED FURTHER that a securitisation company or reconstruction
company, existing on the commencement of this Act, shall make an
application for registration to the Reserve Bank before the expiry of six
months from such commencement and notwithstanding anything contained
in this sub-section may continue to carry on the business of securitisation or

84
UNION BANK OF INDIA

asset reconstruction until a certificate of registration is granted to it or, as the

case may be rejection of application for registration is communicated to it.
2) Every securitisation company or reconstruction company shall make an
application for registration to the Reserve Bank in such form and manner as
it may specify.
3) The Reserve Bank may, for the purpose of considering the application for
registration of a securitisation company or reconstruction company to
commence or carry on the business of securitisation or asset reconstruction,
as the case may be, require to be satisfied, by an inspection of records or
books of such securitisation company or reconstruction company, or
otherwise, that the following conditions are fulfilled, namely:--
(a) That the Securitisation Company or reconstruction company has not
incurred losses in any of the three preceding financial years;
(b) that such securitisation company or reconstruction company has made
adequate arrangements for realisation of the financial assets acquired for
the purpose of securitisation or asset reconstruction and shall be able to
pay periodical returns and redeem on respective due dates on the
investments made in the company by the qualified institutional buyers or
other persons;
(c) that the directors of securitisation company or reconstruction company
have adequate professional experience in matters related to finance,
securitisation and reconstruction;
(d) that the board of directors of such securitisation company or
reconstruction company does not consist of more than half of its total
number of directors who are either nominees of any sponsor or associated
in any manner with the sponsor or any of its subsidiaries;
(e) that any of its directors has not been convicted of any offence involving
moral turpitude;
(f) that a sponsor, is not a holding company of the securitisation company or
reconstruction company, as the case may be, or, does not otherwise hold
any controlling interest in such securitisation company
or reconstruction company;
(g) that securitisation company or reconstruction company has complied with
or is in a position to comply with prudential norms specified by the Reserve
Bank.
(h) that securitisation company or reconstruction company has complied with
one or more conditions specified in the guidelines issued by the Reserve
Bank for the said purpose.
4) The Reserve Bank may, after being satisfied that the conditions specified
in sub- section (3) are fulfilled, grant a certificate of registration to the
securitization company or the reconstruction company to commence or carry

85
UNION BANK OF INDIA

on business of securitization or asset reconstruction, subject to such

conditions which it may consider, fit to impose.
5) The Reserve Bank may reject the application made under sub-section (2)
if it is satisfied that the conditions specified in sub-section (3) are not fulfilled:
PROVIDED that before rejecting the application, the applicant shall be given
a reasonable opportunity of being heard.
6) Every securitization company or reconstruction company shall obtain prior
approval of the Reserve Bank for any substantial change in its management
or change of location of its registered office or change in its name:
provided that the decision of the Reserve Bank, whether the change in
management of a securitization company or a reconstruction company is a
substantial change in its management or not, shall be final.
Acquisition of rights or interest in financial assets:
(1) Notwithstanding anything contained in any agreement or any other law
for the time being in force, any securitization company or reconstruction
company may acquire financial assets of any bank or financial institution—
(a) by issuing a debenture or bond or any other security in the nature of the
debenture, for consideration agreed upon between such company and the
bank or financial institution, incorporating therein such terms and
conditions as may be agreed upon between them; or
(b) by entering into an agreement with such bank or financial
institution for the transfer of such financial assets to such company on
such terms and conditions as may be agreed upon between them.
(2) If the bank or financial institution is a lender in relation to any
financial assets acquired under sub-section (1) by the securitization
company or the reconstruction company, such securitization company or
reconstruction company shall, on such acquisition, be deemed to be the
lender and all the rights of such bank or financial institution shall vest in
such company in relation to such financial assets.
(3) Unless otherwise expressly provided by this Act, all contracts, deeds,
bonds, agreements, powers-of attorney, grants of legal representation,
permissions, approvals, consents or no-objections under any law or
otherwise and other instruments of whatever nature which relate to the said
financial asset and which are subsisting or having effect immediately before
the acquisition of financial asset under sub-section (1) and to which the
concerned bank or financial institution is a party or which are in favour of
such bank or financial institution shall, after the acquisition of the
financial assets, be of as full force and effect against or in favour of
the securitization company or reconstruction company, as the case may
be, and may be enforced or acted upon as fully and effectually as if, in the
place of the said bank or financial institution, securitization company or
reconstruction company, as the case may be, had been a party
thereto or as if they had been issued in favour of the securitization
company or reconstruction company, as the case may be.

86
UNION BANK OF INDIA

(4) If, on the date of acquisition of financial asset under sub-section (1), any
suit, appeal or other proceeding of whatever nature relating to the said
financial asset is pending by or against the bank or financial institution, save
as provided in the third provisos to sub-section (1) of section 15 of the Sick
Industrial Companies (Special Provisions) Act, 1985 (1 of 1986) the same
shall not abate, or be discontinued or be, in any way, prejudicially affected
by reason of the acquisition of financial asset by the securitization
company or reconstruction company, as the case may be, but the suit,
appeal or other proceeding may be continued, prosecuted and
enforced by or against the securitization company or reconstruction
company, as the case may be.
Transfer of pending applications to any one of Debts Recovery
Tribunals in certain cases:
(1) If any financial asset, of a borrower acquired by a securitization
company or reconstruction company, comprise of secured debts of
more than one bank or financial institution for recovery of which such
banks or financial institutions has filed applications before two or more
Debts Recovery Tribunals, the securitization company or reconstruction
company may file an application to the Appellate Tribunal having jurisdiction
over any of such Tribunals in which such applications are pending for
transfer of all pending applications to any one of the Debts Recovery
Tribunals as it deems fit.
(2) On receipt of such application for transfer of all pending
applications under sub- section (1), the Appellate Tribunal may, after
giving the parties to the application an opportunity of being heard, pass
an order for transfer of the pending applications to any one of the Debts
Recovery Tribunals.
(3) Notwithstanding anything contained in the Recovery of Debts Due
to Banks and Financial Institutions Act, 1993, any order passed by the
Appellate Tribunal under sub-section (2) shall be binding on all the Debts
Recovery Tribunals referred to in sub-section (1) as if such order had been
passed by the Appellate Tribunal having Jurisdiction on each such Debts
Recovery Tribunal.
(4) Any recovery certificate, issued by the Debts Recovery Tribunal to
which all the pending applications are transferred under sub-section (2),
shall be executed in accordance with the provisions contained in sub-
section (23) of section (19) and other provisions of the Recovery of
Debts Due to Banks and Financial Institutions Act, 1993 shall, accordingly,
apply to such execution.
Measures for assets reconstruction:
Without prejudice to the provisions contained in any other law for the
time being in force, a securitization company or reconstruction
company may, for the purposes of asset reconstruction, having regard
to the guidelines framed by the Reserve Bank in this behalf, provide
for any one or more of the following measures, namely:--

87
UNION BANK OF INDIA

(a) the proper management of the business of the borrower, by

change in, or takeover of, the management of the business of the borrower
(b) The sale or lease of a part or whole of the business of the borrower;
(c) Rescheduling of payment of debts payable by the borrower;
(d) Enforcement of security interest in accordance with the provisions of this
Act;
(e) Settlement of dues payable by the borrower;
(f) taking possession of secured assets in accordance with the
provisions of this Act.

CHAPTER 11: Branch Banking

Under Branch Banking we saw various products of Union Bank of India

1) Union Mortgage:

88
UNION BANK OF INDIA

The purpose is to grant Loans for meeting personal needs like marriages,
higher education, business travel, medical emergencies or any unforeseen
expenses and even as liquidity finance. Even secured overdraft facility may
be allowed in the individual’s current account.

2) Union Comfort:

The purpose is to meet personal expenses/purchases of Consumer

durables. Group borrowers (not less than 10 members) of the companies
where repayment can be made by a single cheque by employer may be
considered for relaxation in interest rate.

3) Union Reverse Mortgage Scheme:

The purpose is to provide a source of additional income for Senior Citizens

of India who own self-acquired and self-occupied house property in India.

4) Union Miles:

The purpose is for the granting advances for purchase of new 2 wheelers/
four wheelers for personal or professional use. Finance can be given for
purchase of old cars of less than 3 years old.

Union bank has special tie-up arrangement with M/S. Maruti Suzuki India
Ltd and Bajaj Auto.

5) Union Share:

The advance is given against Pledge of shares of those companies 53/Page

approved by the Bank.

6) Union Cash Individuals:

The purpose is to take care of the financial requirements of the small

borrower.

7) Union Education Loan Scheme:

The scheme provides financial assistance on reasonable terms to students

who desired to study in India or study abroad.

8) Union Home:

The purpose is to grant advance for purchase of house/ flat or construction of

house (Flat not older than 15 years in case of resale).

89
UNION BANK OF INDIA

Various other services provided by Union bank under Branch Banking are:

1) International Debit Card

2) Credit Card

3) NEFT Online

4) Union Bank RTGS service

5) Internet Banking

6) SMS Banking

7) Gift Card

8) Power Pay Card

9) Mobile Banking UMOBILE.

CHAPTER 12: CREDIT RISK MANAGEMENT

Risk Wheel: Generic Process

90
UNION BANK OF INDIA

• Long-term Growth Strategy of individual banks need to necessarily

incorporate expectations of its Shareholders and other Stakeholders
• Hence, to remain market driven, banks has to clearly specify the
– Linkage between its Business Plan Formulation &
Achievements with
• Shareholders’ Expectations in terms of EVA &
Hurdle Rate
• Regulator’s Expectations as reflected in terms of
RAROC
• Economic Profit Vis-à-vis Profit after Tax
– Above Business Plan has to translate into the Business Plans
of its Regions and finally the Business plans of individual
Branches within each region of the Bank
• The Common Thread which should drive the organization are
RAROC & EVA

Focus: Credit Risk

91
UNION BANK OF INDIA

• In quantitative terms, credit risk is the most important risk in banking

books. This has recently been evidently shown again in the example
of the US sub-prime crisis.
• The crisis occurred despite various improvements in credit risk
management, for example the progress in the field of credit risk
analysis applied by banks on the portfolio level – spurred by Basel II.
• Rapid expansion of credit increases the possibility of relaxation of
income criteria/lending standards.
• Recent US mortgage crisis, which has virtually crippled the health of
the financial system, sends a clear signal that due-diligence in lending
should continue to be the corner stone of sound banking practices.

What is Credit Risk?

• Credit Risk involves inability or unwillingness of a customer or

counterparty to meet commitments in relation to lending, trading,
hedging settlement and other financial transactions. Credit Risk is the
potential loss that a Bank may be subjected to because of inability of a
counter party/borrower to meet its obligations. It is defined by the
losses in case of default of a borrower or in the event of a deterioration
of the borrower’s credit quality.

Traditionally Credit Risk is having two components viz. –

• Solvency aspect of Credit Risk – the risk that the borrower is

unable to repay in full the sum outstanding.
• Liquidity aspect of Credit Risk – the risk that arises due to delay
in repayment by the borrower leading to cash flow problems for
the lender.

However, solvency and liquidity aspects are closely related.

Credit Risk may take various forms such as :

In case of direct lending, that the funds will not be paid at all or will not be
paid on due date.

- In case of Guarantees and Letters of Credit, that funds will not be
forthcoming from the customer upon crystallization of the liability under the
contract.

- In the case of cross boarder exposure, that the availability and free transfer
of currency is restricted.

92
UNION BANK OF INDIA

What is Credit Risk Management

Credit Risk Management covers the systems and processes to

- Identify & measure Credit Risk.

- Monitor Risk
- Mitigate Risk
- Evaluate the impact on Bank’s Balance Sheet, Profit & Loss A/c

DISTINCTION BETWEEN CREDIT MANAGEMENT AND CREDIT RISK

MANAGEMENT

Credit Management Credit Risk Management

It is predominantly concerned with It is predominantly concerned with

the probability of repayment. probability of default.

Credit appraisal and analysis do not Depending on the risk

usually provide an exit feature at the manifestations of an exposure, an
time of sanction. exit route remains an usual option
through the sale of
assets/securitization.

It is more backward-looking in its It is forward-looking in its

assessment, in terms of studying assessment, looking, for instance,
the antecedents / performance of at a likely scenario of an adverse
the borrower / counterparty. outcome in the business.

Credit Risk Management and NPA Management:

Credit Risk Management is not NPA management. NPAs are a legacy of

past in the present, Credit Risk Management is action in present for the
future. In a NPA account the credit risk is already materialized. Credit Risk
Management enables the Bank to take timely action to stem deterioration in
credit portfolio quality much before actual default.

Credit risk of a Bank’s portfolio

Internal factors

i) Deficiencies in Loan Policies

ii) Absence of appropriate exposure limits
iii) Improper Delegated Authority
iv) Deficiencies in Appraisal System
v) Excessive dependence on collaterals and third party guarantees

93
 UNION BANK OF INDIA

vi) Inadequate risk pricing (mispricing of risk and adverse selection)

External factors

i) State of Economy
ii) Wide swings in
a) Commodity prices

b) Interest rates

c) Exchange rates

iii) Government Policies

iv) Extra ordinary event

Credit Risk has two distinct facets

B o rro w e r le v e l C re d it R is k

B u s in e s s R is k B o rro w e r R is k

S y s te m a tic R is k U n s y s te n a tic R is k A b ility to g e n e ra te p ro je c te d C a s h F lo w s W illin g in e s s to re p a y th e la o n s

U n iq u e s to a p a rtic u la r b u s in e s s u n it

C r e d it r is k

T r a n s a c t io n R is k P o r t fo lio R is k
S t a n d a lo n e R is k

D o w n G r a d e R is k D e fa u lt R is k C o n c e n t r a t io n R is k I n t r in s ic R is k
( i) N o n P a y m e n t
( ii) D e la y e d P a y m e n t

94
UNION BANK OF INDIA

P o r t fo lio L e v e l C r e d it R is k

C o r r e l a t io n

P o s it iv e C o r r e l a t io n N e g a t iv e C o r r e l a t io n

F o r t u n e s o f t h e f ir m s a r e c o r e l a t e d F u r t u n e s o f t h e f ir m s a r e n o t c o r e l a t e d
Say - Say -
(a ) R e a l E s ta te , S te e l, C e m e n t R e a l E s ta te - F o o d

RBI’s Guidelines – Instruments of Credit Risk Management

• Credit Approving Authority

• Prudential limits
• Risk Rating
• Risk pricing – RAROC
• Portfolio Management – Portfolio by choice and not by chance
• Loan Review Mechanism
Scoring Vs Rating

Scoring is simple technique used in respect of Retail loans / Small loans

- Rating is an opinion on an inherent credit quality of a company and/or

instrument and to predict default probability.

-Banks have developed robust, comprehensive Rating Models for

different types and range of exposures covering
- Large corporate, mid segment, SMEs
- Bank’s & Financial Institutions
- NBFCs
- Banks have also developed rating model for assessing Credit Risk in
Non-SLR Investments.
- Banks have introduced simple scoring model for Retail Credit –
Housing, Consumer durables etc.
Rating Model covers the following aspects for evaluating Credit Risk

Borrower Rating: Covering Financial, Industrial and Management Aspects.

Facility Rating : Covering compliance part, operations in the accounts

and

Repayment experience.

Risk Motivators : Covering value and quality of collaterals

Business Aspects: Covering Relationship & Income value.

95
UNION BANK OF INDIA

I. Borrower Rating

A. Financial Risk –

• Debt Equity Ratio • Current Ratio

• Return on Capital Employed • Net Sales & Net Profit vis
a vis projections

• Interest Service Coverage • Debt Service Coverage

Ratio Ratio
• Growth in Net Sales • Growth in Net Profit
• Net Cash from operations to • Net Cash from operations
sales to Long Term Debts.

B. Management Risk –

• Hands on experience of the • Management Initiatives

management
• Honouring financial • Concentration of
commitments Management
• Labour Management in the • Affiliate concerns
past performance
• Market reputation of the • Ability of the promoters /
promoters management to bail out the
company in case of crisis
• Succession planning in key • Balance Sheet Practices
business areas
• Statutory Compliance • Corporate Governance
Initiatives

C. Market – Industry Risk –

• Market potential / Demand • Diversification among

situation different consumer
segments / geographical
spread
• Competitive Situation • Inputs/Raw materials
availability
• Locational issues • Technology
• Product characteristics scope • Manufacturing efficiency /
for diversification capacity utilisation

• Cyclicality / Seasonality  

II. Rating of the Facility

96
UNION BANK OF INDIA

• Compliance of Sanction terms • Submission of Stock

Statements / QPR

• Submission of Audited • Repayment schedule for

Balance Sheet & Profit & Term Loans only
Loss A/c & Financial Data in
CMA Forms
• Operations in the account • Commitments under
DPGL/Term Loan and
payment of interest on
cash credit / overdraft, etc.

• Margin given on Term Loan  

III. Risk Mitigators

• Availability of Collateral • Availability of Guarantee

Security and quality of
collaterals

IV. Business Aspects

• Length of Relationship • Income Value to the Bank

Robust Credit Risk Rating Framework is expected to help to specify .

(i)Investment & Non Investment grades i.e. acceptable level of risk rating for
taking
an exposure.
(ii) Quantum of exposure
(iii)Frequency of surveillance i.e Review-renewal (accounts with lowest rating
and
Highest risk to be subject to review-renewal at shorter intervals say once
in a
six months)
(iv) Credit approval authority (Accounts with lowest rating & highest risk to
be
sanctioned at higher level)
(v) Pricing of the loan
(vi)Provisioning
Relationship between Pricing, Provisioning and Rating
(1) Transition Probability - Credit Migration, say from CR1 to CR4.
(2) Economic Loss – No default and no actual loss but deterioration in credit
quality
(3) Default probability – Likelihood that the borrower will default
(4) Exposure at risk – outstanding/credit limits
(5) Loss given default = 1 minus Recovery rate

97
UNION BANK OF INDIA

Expected Loss = PD*Exposure at Default * Loss Given Default

Pricing with risk premium is supposed to take care of expected loss and
consequential provisioning.
INVESTMENT GRADE NON INVESTMENT GRADE

CREDIT CREDIT
QUALITY QUALITY

Lowest risk CR 1 >90

Minimal risk CR 2 86-90 Risk Prone CR 7 51-60

Moderate CR 3 81-85 High Risk CR 8

risk

Satisfactory CR 4 76-80 CR 9
risk
Acceptable CR 5 71-75      
Risk-

Controlling Credit Risk: Loss CR 11

What can be measured can be managed. After measuring Credit

Risk, next logical step is to control/manage the credit risk.

We can broadly group Credit Risk Management activities into two

heads viz. Management at Loan Origination Stage and Post Origination
Stage.
Credit Risk Management at Loan Origination Stage:
It starts with all those activities that are aimed at in selecting a
dependable borrower and business whose probability of default is minimal.
Risk Management at loan origination stage covers the following activities.

(a) Guidelines on Corporate Priorities (Thrust area)

(b) Credit Approval Process
(c) Exposure limits
(d) Credit Rating System
(e) Risk based Pricing
(f) Appropriate terms & conditions.

98
UNION BANK OF INDIA

Risk Control
Elimination of risk is not possible in lending activities. Our approach will be to
take calculated risk and control the impact of risk in unfavourable situation.
The control mechanism will have two dimensions.
1. By imposing necessary additional monitoring terms and adhering to
continuous follow up and supervision measures.

2. Adopting suitable risk mitigating measures such as:

 Insurance cover of assets against loss, damage, calamity etc.

 Institutional guarantee cover against default risk from Credit
Guarantee Fund Scheme for Small Industries – 2000/ECGC.

 Avoidance by staying away from High Risk borrowers.

 Reducing exposure i.e. adherence to lower limit.
 Fixing higher level of margin.
 Obtaining guarantee and counter guarantee
 Availing exchange derivatives as & when available.
 Securitization

Risk Management at Post Originating stage

- Once a loan asset is added to the existing credit portfolio, preservation

of its value becomes critical. It is true that at originating stage, every
care has been exercised to pick a relatively risk free business. But we
know that risk is not static. It keeps on changing with time. A loan
asset that is considered as ‘risk-free’ at the time of acquisition is
having all the potential to migrate from a ‘safe-zone’ a high risk zone.
It is an essential to constantly monitor a loan to arrest its migration to
a default zone.
- For this, both top management and branch level staff has to work in
tandem. Macro-issue will be addressed by T.M. while micro issue of
monitoring and controlling individual/Group accounts is to be attended
at Branch level.

- Monitoring is required to arrest loan losses and to maintain NIM at the

targeted level. Methods used are :

1. Credit Monitoring systems

2. Loan Review System
3. Exit Policy
4. Loan Reconstruction/Rehabilitation Policy
5. Policy on Compromise – settlements of bad debts
6. Portfolio Management
7. Strong MIS

99
UNION BANK OF INDIA

PORTFOLIO RISK MANAGEMENT

A formalized system will be put in place:
a) To identify credit weakness well in advance and not at the time of the
Balance Sheet date.
b) Upward/ Downward migration of borrowers from one rating scale to
another.
c) Following measures to be introduced to maintain portfolio quality.
i) Stipulation of quantitative ceiling on exposure to specific rating
categories.
ii) Evaluate rating wise distribution of borrowers in various industry,
business segment.
iii) Exposure to one industry/ sector be evaluated on the basis of
overall rating distribution of borrowers’ in the sector/group. Pros
and Cons of specialisation and concentration by industry group
may be weighed.
iv) Spot review of portfolio be carried out when external environment
undergoes rapid changes / volatility to study their impact on
portfolio.
v) Low rated borrowers reflecting financial weakness be subjected to
renewal control twice/thrice a year.
d) Appoint a portfolio manager to monitor concentrations & exposure to
counter parties.
e) Relationship Managers may be appointed for high value accounts to
monitor, capture and control overall exposure to single borrower, who should
work in co-ordination with Treasury and Forex Departments. Transactions
with affiliated Companies / Group be aggregated on real time basis
f) Statistical models be used for portfolio loan review.

To sum up, Credit Risk Management varies with Loan Type

Retail Credit Mid Market Large corporate
Credit Credit
Risk Management Rule Based Rule Based Discretion
Approach Lending Lending &
Discretion
Tools Scoring Model Simplified Rating Rating Model
Model
Preventive Default Relationship Preventive
Monitoring triggered Management & Monitoring Tool
Preventive Portfolio Credit
Monitoring Monitoring
Systems
Organisation Centralised Separate risk Separate risk
Structure Policy & management management from
Distributed from relationship relationship
Delivery management management

100
UNION BANK OF INDIA

Capabilities Streamlined Relationship Risk assessment

processes management skills
Technology Customer Business domain
support knowledge knowledge.

101
UNION BANK OF INDIA

102
UNION BANK OF INDIA

CHAPTER 13 : Introduction to Foreign Exchange

In India any transaction, which is denominated in a currency other than

rupees, is referred as foreign exchange transaction.

In India international trade gives rise to forex transaction.

MR. X $1000 CHEQUE ON BDAY

SAMIP’S UNCLE IN USA SAMIP
INDIA

CREDIT TO SAMIP
DEP WITH UBI
CREDIT TO UBI

BANK OF AMERICA CREDITS UBI A/C AND DEBTS MR. X ACCOUNT

SENDS TO BANK OF AMERICA

Simple forex transaction:

What happens is that when Samip deposits a foreign currency cheque with
Union bank of India, bank sends it to Bank of America with whom bank has a
Nostro account; Bank Of America checks the balance with Mr. X and then
debits his account and credits $1000 in account of UBI, UBI then converts
the foreign exchange and credits Samip account in home currency.

103
UNION BANK OF INDIA

India’s Forex Position

Receipts in Forex Payments in Forex

Current Account Transaction Current Account Transaction

Visible Exports Visible Imports

 Cotton  Oil and Petrol

 Jems and Jewellery  Defense Equipments
 Marine Food  Raw Materials
 Agro based Products  Machinery
Invisible Exports Invisible Imports

 Travel  Travel
 Services  Services
 Royalties  Royalties
 Outward Remittances  Outward Remittances

Capital A/C Transactions Capital A/C Transactions

 Loans  Loans
 Investments  Investments

Balance of trade of a country is a difference between forex from visible

exports and payments in forex towards visible imports during a particular
period. Share of India in International Trade is 0.91 %. Leaders are Japan,
China, US, Germany.

When India exports, importers over there demand high Quality, less Time,
low Price, whereas it is vice versa for exporters of our country except in
quality.

This entire data is called as Balance of Payment.

Today out foreign reserves account for around $250 billion

Foreign currency reserves are assets for GOI which are denominated in
currency other than rupee.

104
UNION BANK OF INDIA

BOT and BOP are statistical data compiled by RBI to know its position in
foreign trade and foreign exchange which in turn enables the govt. to take
appropriate policy decision.

Convertibility of rupee

A currency is said to be convertible if it can be converted into any other

without any restriction at a rate determined by market forces. As far as Indian
rupee is concerned the present position is as under:

 On Current Account transaction the rupee is merely freely convertible

then earlier.
 On Capital account transactions rupee is convertible to the extent of
$2, 00,000per person per annum.
Requirements by Banks: Infrastructure, Manpower.

There are 160 AD’s in India.

There are some dealers or traders who approached RBI for this dealership.
They are called as full fledged money changers.

On 1.6.2000 FEMA was introduced and FERA was repelled

105
UNION BANK OF INDIA

In 1973 FERA was To increase $ And to Control

introduced assets in India and monitor all
forex transaction

RBI allowed Authorized

Banks to Dealers
become
AD’s.

FERA was a Offence was Was repelled FEMA was

draconian act criminal and in 2001 introduced
jail was result

Administered by RBI, for managing forex reserves judicious

Administered by GOI

Offence is Civil and result financial penalty

Offence was Criminal

106
UNION BANK OF INDIA

TRADE CONTROL REGULATION EXCHANGE CONTROL REGULATION

MOMENT OF GOODS MOMENT OF FUNDS

CTRL BY
MINISTRY OF COMMERCE
MINISTRY OF FINANCE

DGFT
POWERS TO RBI

FOREIGN TRADE PUB. EXCHG CONTROL MANUAL

PUBLICATION

NEG. LIST OF IMPORTS

BANNED CANALISED
RESTRICTED

EG. ARMS YOU SHOULD HAVE IMPORTED ONLY THROUGH

IMPORT LISCENCE AGENCIES EG. MMTC ,ONGC

107
UNION BANK OF INDIA

Foreign Exchange Transaction involves:

1. Transfer of funds
2. Conversion of salaries

Banks in India maintain foreign currency A/C with banks abroad. For example
Union Bank of India holds an account with Bank of America in US $. From
UBI’s point of view this account is called as NOSTRO ACCOUNT (our
account with you) where as from Bank Of America’s point of view it is called
VOSTRO ACCOUNT ( your account with us). Simultaneously banks in India
in their own books maintain dummy ledger in the name of foreign bank for the
purpose of double entry book keeping and reconciliation.

Funds transfer from one country to another takes place by passing book
keeping entries Dr. and Cr. Through accounts maintained by banks in India.

Instruments used in Funds Transfer

1. Cash
2. Cheques
3. RTGS/NEFT.
4. SWIFT for documentary transfer.

In India banks deal in foreign currency to make profit. They buy and sell
various foreign currencies and hence must determine buying and selling rate
for each foreign currency.

In any forex transaction in India whether it is of buying type or selling type will
be decided from banks point of view and not from point of view of customer.

Transaction in which bank receives foreign currency is call as buying rate

and transaction in which bank gives foreign currency is called as selling rate.

108
UNION BANK OF INDIA

Example: Sell rate/buy rate i.e. Rs./$ 48.60/49.00.

Receives H/C Receives F/C

SELLING TRANSACTION UBI BUYING TRANSACTION

Gives F/C Gives H/C

Selling Rate Buying rate

Exporters/ Importers in India are required to undertake transactions

denominated in foreign currencies with their counter parties abroad. As a
result they are exposed to a risk due to fluctuation of exchange rates which is
beyond their control.

Different types of risk are:

1. Exchange rate risk

2. Interest rate risk.
3. Inflation
4. Threat of war
5. Political risk

Banks dealing in foreign currency arrive at buying rate and selling rate on the
basis of rate prevailing in the ongoing markets. While arriving at foreign
exchange rates they add the profit margin on the rates.

109
UNION BANK OF INDIA

TERMINOLOGY USED BY BANKS FOR DIFFERENT TYPES OF RATED

UNION BANK

SELLING TXN BUYING TXN

BILL BUY RATE EPORTS

BILL SELL RATE IMPORTS

TT SELL I/W REMITTANCE

TT SELL O/W
REMITTANCE

ISSUE TC SELL ENCASH

T/C SELL TRAVERL TRAVELER
CHQ CHQ

C/N SELL ISSUE CN SELL ENCASH

CURRENCY CURERNCY

Currency rates keep on fluctuating, a currency which is stronger in near

future is said to be at premium. A currency which is likely to be cheaper is
said to be at discount.

Spot Rate + Premium = Forward rate

Spot Rate + Discount= Forward rate

Premium and discount are called as forward margin. While arriving at forward
rate the bank takes into consideration following factors:

110
UNION BANK OF INDIA

1. past record
2. Present situations (spot rate).
3. future projections
4. Interest rates.
5. Maturity of transactions.

Why forward contract?

A forward contract is used to minimize the risk due to fluctuations in

exchange rates.

Hence forward contracts are entered in to by exporters and importers with

banks so that they can safeguard themselves in fluctuation of exchange
rates.

This is nothing but one type of hedging strategy used by exporters and
importers.

ORDER FOR 100 SCOTTERS FOR $100,000.

BAJAJ
SELLER FORD BUYER USA
INDIA on 6/1/09

47
UBI FOR EXCHANGE Rs. 48/$ for 6/4/09, then on 6/4/09

48

49

RBI in early 90’s introduced Exchange earners Foreign Currency account

EEFC where in companies in India can maintain accounts in foreign currency
, provided they earn foreign currency in a certain percentage.

111
UNION BANK OF INDIA

General Category: 50%

Special category (Software/Traders): 70%

Balance in this account can be utilized for payment towards imports and
traveling expense. It can be converted to rupees anytime in future.

It provides a NATUREAL HEDGE to the company.

Hedging Strategies:

1. No actions.
2. Book forward contract.
3. Select currency for transaction.
4. Maintain EEFC account.

Export plays an important role because:

1. It earns foreign exchange for an country.

2. Generates employment.

Trade finance

Funds/money
Activity

Exchange of goods between Transfer of funds from one country to

exporter & importer other

112
 UNION BANK OF INDIA

In a trade transaction:

23/03/08 SHIIPING CO. IN INDIA 15/04/09

SHIPING CO. USA
4.) GOODS

3.) BILL OF LADING 2.) GOODS 12.) GOODS

B/L
11.) B/L AND DOCS

1.) CONTRACT FOR A00 SCOOTERS FOR $100,000

29/12/08 FORD IMPORTER

BAJAJ EXPORTER USA
INDIA

8.) MAKES PAYMENT 7.)MAKE PAYMENT AND TAKE DOC

5.) DOCS TO BANK
10.) PAYMENT

CITIBANK
UNION BANK USA 6/4/08 10/4/08
1/4/08(6)
15/04/08(9)
9.) PAYMENT

6.) DOCS TO IMPORTES BANK FOR PAYMENT

113
UNION BANK OF INDIA

Contents of contract:

1. Name and address of counter parties.

2. Description of goods. There are two types “Commercial” and
“Scientific”.
3. Unit price of commodity
4. Quantity
5. Inco term ( FOB/ C&F/ CIF)
6. Partial shipment permitted or prohibited.
7. Deliver schedule.
8. Place of shipment,
9. List of documents to be submitted.
10. Terms of payment i.e. USANCE or Site.
11. Method of payment e.g. L/C, Barter etc.
12. Bank charges.
13. Jurisdiction council.

Export Finance

29/12/08

BAJAJ EXPORTER FORD IMPORTER

Contract to supply 100 scoters for $100000

Finance for post shipment by purchasing bills

Finance for mfg the scooters and shipping them

114
UNION BANK OF INDIA

Eligibility criteria for exporters:

1. Exporter should possess IEC code number Import Export Code

allotted by DGFT.
2. He should have a valid order or contract.
3. Goods should be allowed to be exported as per foreign trade policy.
4. Credibility of exporters.

TERMINOLOGY OF EXPORT FINANCE

FOREGIN CURRENCY
INDIAN RUPEE

PRE SHIPEMNT POST SHIPMENT

PCFC PSCFC
PRE SHIPMENT POSTSHIPMENT
CREDIT IN FC CREDIT IN FC

PACKING BILL
CREDIT PURCHASE

FOR: TO:
MFG FINANCE RECIVABLES AND BOOK DEBTS
RM
PACKING
SHIPPING

115
UNION BANK OF INDIA

Export Process:

1) The contract between Importer and Exporter.

2) Importer opens L/C with Importers Bank.

3) Importer Bank sends through SWIFT the L/C to the Bank (UBI).

4) Union Bank of India will forward the document either to Exporter Bank or

Exporter directly, thus acting as Advising Bank since it is a Correspondent

of the Foreign Bank.

5) The L/C is authenticated and sent to the exporter with covering letter
indicating Our Bank charges.

6) Exporter gets L/C and approaches to Bank for Packing Credit.

Packing Credit Department:

(i) Based on contract and L/C, Packing Credit can be given.

(ii) Credit Department will scrutinize the client for Credit Rating and
sanction The Pre-shipment limit.

(iii) Exporter makes the payment and sends the cheques to PC.

(iv) Packing Credit Department will verify the cheque and check that
whether

It is within limits and there is no diversion of funds. Also need to check

and Verify the sign/amount and date. Thereafter the payment is being made.

7) Exporter manufactures the goods and sends it through shipments.

Thereafter exporter collects the shipping document Invoice - Certificate of
Origin Bills of Lading – Drafts Insurance Policy and other documents as per
L/C Terms

8) The Exports documents are submitted back to Union Bank of India.

116
UNION BANK OF INDIA

Export Collection: For Exporter the facility is provided for taking payments on
due date.

(i) Verification to ensure all documents as per L/C.

(ii) Entry of details in the system.

(iii) Covering letter is attached which includes

a) All the documents list.

b) Payment or Remittance details

c) Nostro account no.

Three sets are being made 1st is send to the Importers Bank. 2nd the Exporter
and 3rd is Banks Copy.Importer Bank on receipt of documents verifies the
same and gives it

To Importer and collects the payment from importer.

Export Negotiation:

If the Exporter wants an advance against the bills, then Negotiation is

done. i.e. Bills are purchased by the Bank.

(i) The documents received are verified and scrutinized with a help of
Process sheet. Here the documents are checked and the limit is
seen, then Pre-shipment Finance is converted to Post-shipment
Liability.

(ii) Advance to the extent of 70 to 80% is given to the Exporter against

the Documents.

(iii) The documents are then sent to the Importers Bank.

(iv) If the documents are non discrepant, then Importer Bank remits
the amount to the Exporters Bank’s Nostro account.

(v) Importers Bank sends documents to Importer on which payment is

made by Importer to Bank.

117
UNION BANK OF INDIA

(vi) Importer collects the goods on producing the documents.

(vii) Once the payment is received in Nostro account with exporter

consent bank will either buy or sell $ in order to remit the funds in
Rupees. The exporter has $ Bank buys $ at bid rate and sells $ in the
market. The amount received is adjusted against the advance given
and balance if any is transferred to the exporter on his request.

Import L/C.

The Import Letter of Credit establishes a guarantee from the buyer's bank to
the seller's bank. It guarantees payment, provided the seller complies with
the terms and conditions within the Letter of Credit.

Opening of L/C requires compliance of

(a) Trade control requirements.

(b) Exchange control requirements.

(c) FEDIA and UCPDC Provisions.

(d) Banks internal procedures.

Procedure:

1) Sanction of limits.

2) Documentation formalities

Obtain main security documents (guarantee/ pledge/ hypo etc)

3) Obtaining of L/C Application.

a) Application cum agreement

b) Sales contract

c) Exchange control copy of Import License

4) Scrutiny of Letter of Credit Application.

5) Opening of L/C.

118
UNION BANK OF INDIA

6) Nomination of Bank

7) Name and Address of Advising Bank.

8) Name and Address of Applicant and Beneficiary.

9) Amount of Credit.

10) Date of Expiry/ Place of Expiry.

11) Last Date of Shipment.

12) Document presentation period.

13) Port of Shipment and Dispatch.

14) Partial Shipment.

15) Trans shipment

Export L/C.

L/C Established in favor of Indian Resident by person Resident outside India

for purchase of Goods and Services are referred to as Export L/C. 59/Page

Export L/C is issued for following purposes.

1) For physical Export of goods and services from India to a foreign country.

2) For execution of projects outside India by Indian Exporter by supply of

goods and services from India or partly from India and partly from outside
India.

3) Towards deemed exports where there is no physical movement of goods

from outside India but supplies are made to a project financed in FOREX by
various agencies or project being executed in India with aid of External
Agencies.

4) For sale of goods by Indian Exporters with total procurement and supply
from outside India (Merchant Trade by Indian Intermediary)

119
UNION BANK OF INDIA

Documents

a) Commercial Invoice

1) Sign not required in case of Automated Copy.

2) 1 Original and remaining 5 copies are accepted.

3) Invoice is dated and made in opener’s name.

4) Description of merchandise corresponds with that given in L/C and GR.

5) Contract or Indent Reference no is stated.

6) Ensure unit price, quantity, quality.

7) Calculation are correct with reference to quantity, price.

8) If Freight is paid, it must be included in Invoice payable at destination, it

must be allowed as a deduction.

9) Insurance premium must be included.

10) Copy of Custom Certified Invoice; ensure description of Goods, unit

price, quantity and value.

11) Shipping marks are same as in other documents.

12) Country of Origin is stated.

13) Terms of contract are mentioned for eg. CIF/ FOB

14) Corrections are duly authenticated.

b) Bills of Entry (BOE):

1) Bills of Entry drawn by beneficiary is duly signed and drawn as per

stipulation of L/C.

2) Bills of Entry is not post dated.

3) Ensure currency, amount and tenor of Bills of Entry as per L/C.

4) Ensure all alterations are authenticated.

120
UNION BANK OF INDIA

c) Bills of Lading:

-Evidence of Contract of Affreightment of goods shipped.

-Also a document of title to goods.

-more than one original and delivery can be taken on any single original.

1) Full set of bills of lading with copies as per L/C.

2) Date of shipment in bills of lading is not latter then that mentioned in L/C.

3) Goods are shipped on board of named vessel only.

4) Name of Carrier and authenticated by Captain/ Master of Ship.

5) Port of Loading and discharged is mentioned.

6) Quantity, Weight in bills of lading is as per Invoice.

7) Bills of lading indicates freight paid or freight payable, if CIF or C&F then

Freight paid, if FOB freight payable.

8) Shipping marks in Bills of lading as per L/C.

9) If L/C ask for a certificate that ship will not touch certain ports, then such

Certificate should be attached.

10) Certificate of age of vessel is terms of L/C.

11) Bills of lading is clean and not clause i.e. no indication of defect of

Merchandise.

12) Bills of Lading is not Stale.

13) If Transhipment are prohibited then entire voyage will be covered in the

same Bills of Lading.

121
UNION BANK OF INDIA

Following Bills of Lading are not accepted unless written in L/C.

1) Bills of Lading issued by a forward agent.

2) Charter Party Bills of Lading.

3) Country Craft or Sailing Vessel Bills of Lading.

4) Bills of Lading Evidencing Shipment on Deck

d) Insurance Document:

1) Insurance policy is dated, stamped and signed.

2) Ensure the amount insured is as per L/C or consignment value +10%.

3) Ensure date of Insurance policy is not later than date of Bills of Lading.

4) Policy relates only to goods in Bills of Lading and covers the entire transit.

5) Issured in same currency as that of L/C.

6) Ensure there is no qualifying clause to adversely affect the Banks interest.

7) A Bill Of Lading is shipped on deck, ensure policy covers deck shipment

risks.

8) Port of shipment and destination are identical to those in Bills of Lading.

9) Transshipment Risk is covered.

e) Other Documents

1) Certificate of Origin, Legalization if required.

2) Consular Invoice with the seal of Local Consulate.

3) Weight List, Packing List, Inspection Certificate, Certificate of analysis as

per Invoice and L/C.

4) All Documents asked for in L/C must be scrutinized.

122
UNION BANK OF INDIA

Conclusion:

What is merely important is financing of export projects, also it is very

important to see the balance between pre shipment and post shipment
balance, once goods are shipped bills have to be purchased by post
shipment finance and limit of pre shipment is adjusted. It is nothing but a
working capital arrangement for the exporter to meet his needs on time. The
above report consists of a thorough procedure followed by the Bank while
granting Advances to the customers against the Deposits.

It gives a quick snapshot of various administrative policies followed by the

bank while granting the advances and how effectively Bank monitors the
customer’s account for timely repayment in account.

This report also highlights Forex Department facilities and how these
services are important for the Customers, Bank and the Economy.

123
UNION BANK OF INDIA

CHAPTER 14: ASSET LIABILITY MANAGEMENT IN BANKING

COMPONENTS OF ASSETS & LIABILITIES IN BANK’S BALANCE SHEET

AND THEIR MANAGEMENT:

ALM is the process involving decision making about the composition of

assets and liabilities including off balance sheet items of the bank / FI and
conducting the risk assessment.

Bank’s Liabilities

-The sources of funds for the lending and investment activities constitute
liabilities side of balance sheet.

Capital

Reserves and Surplus

Deposits

Borrowings

Other Liabilities and Provisions

Contingent Liabilities.

Bank’s Assets are the funds mobilized by bank through various sources.

-Cash and Bank balances with Reserve Bank

Of India.

-Balances with banks and money at call and

Short notice.

-Investments

-Advances

-Fixed Assets

-Other Assets.

124
UNION BANK OF INDIA

Business of banking involves the identifying, measuring, accepting and

managing the risk, the heart of bank financial management is risk
management. One of the most important risk-management functions in bank
is Asset Liability Management.

Traditionally, administered interest rates were used to price the assets and
liabilities of banks. However, in the deregulated environment, competition has
narrowed the spreads of banks

Asset Liability Management is concerned with strategic balance sheet

management involving risks caused by changes in interest rates, exchange
rate, credit risk and the liquidity position of bank. With profit becoming a key-
factor,it has now become imperative for banks to move towards integrated
balance sheet management where components of balance sheet and its
different maturity mix will be looked at profit angle of the bank.

ALM is about management of Net Interest Margin (NIM) to ensure that its
level and riskiness are compatible with risk/return objectives of the bank .It is
more than just managing individual assets and liabilities. It is an integrated
approach to bank financial management requiring simultaneous decision
about types and amount of financial assets and liabilities it holds or its mix
and volume. In addition ALM requires an understanding of the market area in
which the bank operates.

If 50% of the liabilities are maturing within 1 year but only 10% of the assets
are maturing within the same period. Though the financial institution has
enough assets, it may become temporarily insolvent due to a severe liquidity
crisis.

Thus, ALM is required to match assets & liabilities and minimize liquidity as
well as market risk.

Reasons for growing significance of ALM

-Volatility

-Product Innovation

125
UNION BANK OF INDIA

-Regulatory Framework

-Management Recognition

An effective Asset Liability Management

Technique aims to manage the volumemix, maturity, rate sensitivity,

quality and liquidity of assets and liabilities as a whole so as to attain a

predetermined acceptable risk/reward ratio.

Purpose and objectives of asset liability management is to Review the

interest rate structure and compare the same to the interest/product pricing of
both assets and liabilities.

Examine the loan and investment portfolios in the light of the foreign
exchange risk and liquidity risk that might arise.

Examine the credit risk and contingency risk that may originate either due to
rate fluctuations or otherwise and assess the quality of assets.

Review, the actual performance against the projections made and analyse
the reasons for any effect on spreads.

Aim is to stabilize the short-term profits, long-term earnings and long-term

substance of the bank. The parameters that are selected for the purpose of
stabilizing asset liability management of banks are:

-Net Interest Income (NII)

-Net Interest Margin (NIM)

-Economic Equity Ratio

Net Interest Income= Interest Income-Interest Expenses.

Net Interest Margin= Net Interest Income/Average Total Assets

126
UNION BANK OF INDIA

Economic Equity Ratio-

The ratio of the shareholders funds to the total assets measures the shifts in
the ratio of owned funds to total funds. The fact assesses the sustenance
capacity of the bank.

LIQUIDITY MANAGEMENT

Banks need liquidity to meet deposit withdrawal and to fund loan demands.

The variability of loan demands and variability of deposits determine bank’s

liquidity needs. It represents the ability to accommodate decreases in liability
and to fund increases in assets.

It demonstrates the market place that the bank is safe and therefore capable
of repaying its borrowings.

It enables bank to meet its prior loan commitments, whether formal or

informal.

It enables bank to avoid the unprofitable sale of assets.

It lowers the size of the default risk premium the bank must pay for funds.

Types of liquidity risk:

-Funding Risk

-Time Risk

-Call Risk.

127
UNION BANK OF INDIA

Funding risk:

Need to replace net outflows due to unanticipated withdrawal/non-renewal

Deposits.
-Fraud causing substantial loss

-Systemic Risk

-Loss of confidence

-Liabilities in foreign currencies

Time Risk:

Need to compensate for non-receipt of expected inflow of funds,arises due

to,

-Severe deterioration in the asset quality

-Standard assets turning into non-performing assets

-Temporary problems in recovery

-Time involved in managing liquidity.

Call Risk:

Crystallization of contingent liabilities and inability to undertake profitable

business opportunities when desirable, arises due to,

-Conversion of non-fund based limit into fund based.

-Swaps and options.

Measuring and Managing Liquidity Risk

Developing a structure for managing liquidity risk. Setting tolerance level and
limit for liquidity.To manage the mismatch levels so as to avert wide liquidity
gaps-The residual maturity profile of assets and liabilities will be such that
mismatch level for time bucket of 1-14 days and 15-28 days remain around
20% of cash outflows in each time bucket.

128
UNION BANK OF INDIA

To manage liquidity and remain solvent by maintaining short-term

cumulative gap up to one year(short term liabilities-short term assets at 15%
of total outflow of funds.

Measuring and Managing Liquidity Risk

Stock Approach

Flow Approach

Stock Approach is based on the level of assets and liabilities as well as off
balance sheet exposures on a particular date. The following ratios are
calculated to assess the liquidity position of the bank:

Ratio of core deposits to total assets

Net loans to total deposits ratio

Ratio of time deposits to total deposits

Ratio of volatile liabilities to total assets

Ratio of short term liabilities to liquid assets

Ratio of liquid assets to total assets

Ratio of short term liabilities to total assets

Ratio of prime assets to total assets

Ratio of market liabilities to total assets.

Flow Approach

-Measuring and managing net funding

Requirements.

-Managing Market Access

-Contingency Planning

Measuring and managing net funding

129
UNION BANK OF INDIA

Requirements:

Flow method is the basic approach followed by Indian Banks.It is called as

gap method of measuring and managing liquidity.It requires the preparation
of structural liquidity gap report.In this method net funding requirement is
calculated on the basis of residual maturiries of assets & liabilities.These
residual maturities represent net cash flows ie.difference between cash
outflow & cash inflow in future time buckets.

These calculations are based on the past behaviour pattern of assets and
liabilities as well as off balance sheet exposures.Cumulative gap is calculated
at various time buckets. In case gap is negative bank has to manage the
shortfall.

The analysis of net funding requirements involves the construction of a

maturity ladder and the calculation of a cumulative net excess or deficit of
funds at selected maturity dates.

INTEREST RATE RISK MANAGEMENT

Interest rate risk is the volatility in net interest income(NII) or in variations in

net interest margin(NIM).

Gap:The gap is the difference between the amount of assets and liabilities on
which the interest rates are reset during a given period.

Basis risk:The risk that the interest rate of different assets and liabilities may
change in different magnitudes is called basis risk.

Embedded option:Prepayment of loans and bonds and/or premature

withdrawal of deposits before their stated maturity dates

Yield curve:It is a line on a graph plotting the yield of all maturities of a

particular instrument.

130
UNION BANK OF INDIA

Management of Exchange Rate Risk

Foreign exchange risk-Risk arising out of adverse exchange rate

movementsduring a period in which it has open position in an individual
foreign currency.

Transaction exposure:Change in the foreign exchange rate between the

time the transaction is executed and the time it is settled.Forwards-
Agreement to buy or sell forex for a predetermined amount,at a
predetermined rate on a predetermined date.

Open position:The extent to which outstanding contracts to purchase a

currency exceed liabilities plus outstanding contractsto sell the currency &
vice versa.

Overnight position-A limit on the maximum open position left overnight,in all
major currencies.

Day-light position-A limit on maximum open position in all major currencies

at any point of time during day.Such limits are generally larger than overnight
positions

Options:It is a contract for future delivery of a currency in exchange for

another,where the holder of the option has the right,without obligation to buy
or sell the currency at an agreed price,the strike price or exercise price,on a
specified future date.

Call option;The right to buy under an option

Put option:The right to sell under an option.

Futures are forward contracts with standardized size,standardised maturity

date governed by a set of guidelines stipulated by exchange concerned for
settlements and payments.

WHY ALM?

 Globalisation of financial markets.

 Deregulation of Interest Rates.

131
UNION BANK OF INDIA

 Multi-currency Balance Sheet.

 Prevalance of Basis Risk and Embedded Option Risk.
 Integration of Markets – Money Market, Forex Market, Government
Securities Market.
 Narrowing NII / NIM.

ASSET-LIABILITY MANAGEMENT COMMITTEE (ALCO)

ALCO headed by E.D.

- GM (T) – (Nodal Officer).

- GMs : Central Accounts, P&D, Credit ,Risk Management

- GM(IT) AGM (Economist) are the invitees for ALCO

meetings.

ALM SYSTEM

Liquidity Gap report – fortnightly

 1-14 d & 15 – 28 d – tolerance limit

 Fix cumulative gap limits
 IRS statements – monthly
 Fix prudential limits
 To compile currency wise liquidity and IRS reports
MATURITY PROFILE-LIQUIDITY

Outflows

 Capital, Reserves & Surplus

 Deposits
 Borrowings and bonds
 Other liabilities
InflowsCash

 Balance with RBI

132
UNION BANK OF INDIA

 Balance with other banks

 Investments
 Advances

IMPACT ON NII

Gap Interest rate Change Impact on NII

Positive Increases Positive

Positive Decreases Negative

Negative Increases Negative

Negative Decreases Positive

ADDRESSING TO MISMATCHES

Mismatches can be positive or negative

Positive Mismatch: M.A.>M.L. and vice-versa for Negative Mismatch

In case of +ve mismatch, excess liquidity can be deployed in money market

instruments, creating new assets & investment swaps etc.

For –ve mismatch, it can be financed from market borrowings

(call/Term),Bills rediscounting, repos & deployment of foreign currency
converted into rupee.

DYNAMIC LIQUIDITY

 Prepared every fortnight for ALCO

 Projection is given for the next three months
 Tools for assessing the day to day liquidity needs of the bank

133
UNION BANK OF INDIA

STATEMENT OF INTEREST RATE SENSITIVITY

Generated by grouping RSA, RSL & OFF-Balance sheet items in to various

(8)time buckets.

Positive gap : Beneficial in case of rising interest rate

Negative gap: Beneficial in case of declining interest rate

RBI GUIDELINES

GROUP LIKELY INFLOWS AND OUTFLOWS INTO DIFFERENT TIME

BUCKETS AND PRESCRIBING MAX MISMATCH IN NEAR TERM
BUCKETS

1 DAY 5%

2-7 DAYS 10%

8-14 DAYS 15%

5-28 DAYS 20%

PERCENTAGES ARE MAX. FOR RESPECTIVE TIME BUCKET

134
UNION BANK OF INDIA

CONCLUSION

 Banking is a very risky business.

 In India banking per-se is more focused towards customers, spread

geographically and with large presence of banks in banking sector.

 Banking is a relationship oriented business.

 The entire report that is prepared gives a snapshot of banking as a

whole wherein almost every aspect has been covered pertaining to
main business of banks in India viz. lending.

135
UNION BANK OF INDIA

Annexure

1)Rating Model for Small Borrowers

With credit limits above Rs. 2 Lacs to Rs.10 Lacs

(Fund Based and Non Fund Based)

Name of Branch Region ________

Name of Borrower

Credit Facilities
Nature of limit Amount of limit
_________________________ _____________
_________________________ _____________
_________________________ _____________
_________________________ _____________
_________________________ _____________

Rating Assigned
Date of Rating

Rating assigned based on audited/provisional financials as of

136
 UNION BANK OF INDIA

Applicable for sanctions above Rs. 2 lakhs to Rs.10 lakhs

INVESTMENT GRADE NON INVESTMENT GRADE

CREDIT RATING AGGREGATE CREDIT RATING AGGREG
QUALITY NUMERI SCORE QUALITY NUMERIC ATE
C SCORE
Lowest risk CR 1 >90 Risk Prone CR 7 56-60
Minimal risk CR 2 81-90 High Risk CR 8 55 &
below
Moderate risk CR 3 76-80 Sub-Standard CR 9 Default –
NPA
Satisfactory risk CR 4 71-75 Doubtful CR 10 -
Acceptable risk CR 5 66-70 Loss CR 11 -
Watch List CR 6 61-65
(Fund Based and Non Fund Based)

Parameters Rating
A. Evaluation of financial risk score

1.Growth in Annual Sales Turn Over / > 25% 10

Sales or Gross Receipts during the year
> 15 to 25% 8

> 5 to 15% 6

Upto 5% 3

Negative Growth 0

B. Management Risk
2.Borrower's Experience in the Business Very high >5 years 10

High >2 years < 5 years 7

Moderate < 2 years 4

Absent 0

137
 UNION BANK OF INDIA

3. Reputation of the Promoters/ 8

Partners(where market report is adverse Excellent image
such proposals should not be entertained.

4
No adverse factors / Reports
4. Track record in meeting the Honoured on time 7
commitments. ( Meeting obligations
Honoured, but delayed within 5
towards Government dues ( like Sales
acceptable period of one
Tax ), creditors Banks, etc.
month

Honoured, but delayed beyond 3

acceptable period one month
but within 90 days

Not honoured 0

Sub-total 25

C.Evaluation of market/industry risk

5. Demand Situation & competition Favourable 9

While evaluating demand situation and Neutral 5

competition, please consider following
factors: Unfavourable 0

- Nature of - Goods are

Product/Service perishable / Not
Perishable

138
 UNION BANK OF INDIA

- Range of - Area of operation

Products

- Order in hand - No. of buyers

- Trend in Sales - Concentration of

Growth buyers

6. Raw material availability: Yes 6

While evaluating Raw Material 0

availability, please consider the following No
factors:-

 Availability of Raw Material

(Whether easily available, timely
available or generally available)
 Price (Whether steady price or
variation in price can be passed on
to the users)
Sub- total 15

1. RATING OF THE BORROWER

SUMMARY

Rating of the Borrower

10
Evaluation of Financial Risk
25
Management Risk
Evaluatio of Market/Industry Risk 15

Total 50

CONDUCT OF ACCOUNT
A.

139
 UNION BANK OF INDIA

7. Compliance of Sanction terms All Sanction Terms complied with 5

including
documentation/mortgage/ROC/seco
nd charge

 All Sanction Terms not 0

complied

8. Submission of Stock Timely Submission 6

Statements/QPR
Submitted within 30 days from due 4
date

Belated Submission beyond 30 days 0

 Turnover Commensurate with

9. Turnover in the A/c sales 75% or more. 8
Consider only Credit Turnover in  Turnover > 70% to < 75%
the Running A/c facility relating to 6
business. (sales proceeds)  Turnover > 60% to < 70%
4
 Turnover > 40% to < 60%
2
 Turnover < 40%
0

10. Submission of Sales Tax Return /  Submitted within 1 month from 5

Annual Turn Over Data the closure of the financial
year
 Submitted within period of >1 3
month upto 3 months from the
closure of the financial year

11 Operations in the account Top Class 8

No occasion of excess and return of

cheques

Satisfactory 6

Rare occasions of excess and returns

of cheques

140
 UNION BANK OF INDIA

Average 3

Occasional excesses and return of

cheques

Below Average 0

Frequent excess and return of

cheques

12 Operations in the account TOP CLASS 8

NO occasion of Excess or Return of

Cheque

SATISFACTORY 5

Rare occasion of excess and return

of cheques

AVERAGE 2

Occasional Excesses and Return of

Cheques

BELOW AVERAGE 0

Frequent Excesses and Return of

Cheques

SUB-TOTAL 40

SECURITY COVERAGE

141
 UNION BANK OF INDIA

 100% or more of the total

13. Availability of Collateral Exposure 3
Security and quality of collaterals.  Between 50% to <100% of the
exposure. 2
 Less than 50% of the exposure
Note : 1
Marks to be allotted only if the  No Collateral Security 0
formalities of documentation /
creations of securities are
completed in all respects.
14. Availability of Guarantee Guarantee available – 2

Proprietor, Partner or Third Party Means if equal to the exposure.

Guarantee
Guarantee not available 0

5
Sub- total

IV. BUSINESS ASPECTS

15. Length of satisfactory Above 5 years 3

relationship
1 - 5 years 2
with Union Bank
< 1 years including New A/c 0

Under ‘length of relationship’, it is

now clarified that marks can be
allotted if the any group/ associate
concern dealing with the bank is
floating a new venture, the
relationship value of the group/
associate concern can be taken in
to account

16. Income value to the Bank > 10% 2

> 8% < 10% 1

Interest , commission,
exchange, etc. from the account as < 8% 0
% to total fund based limits

Sub- total 5
142
 UNION BANK OF INDIA

SUMMARY

Marks

Rating of the Borrower 50

I
II 40
Conduct of Account
III Security Coverage 5

IV Business Aspects 5

Total 100

Note: The total score under the model is 100. Where one or more
parameters are not applicable, the score obtained under the
applicable parameters should be converted into % terms and
appropriate grade / rating is assigned.

Confirmed / Approved

_____________________ _________________________

Br.Manager/Chief Manager Asst. Gen. Manager

143