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Name: Dromor Tackie-Yaoboi

Roll Number: 531110332

Learning Centre: 02544

Course & Semester: MBA

Semester IV

Subject: MB0052

Strategic Management and Business Policy

Assignment No.: 1

Subject Code: MB0052

Date of Submission at the Learning Centre: 27 February, 2013

Q. 1 What do you understand by the term Strategy in the context of Business Management and Policy? And what are the stages in the formulation of a Strategy? Answer: Businesses have to respond to a dynamic and often hostile environment for pursuit of their mission. Strategies provide an integral framework for management and negotiate their way through a complex and turbulent external environment. Strategy seeks to relate the goals of the organisation to the means of achieving them. A companys strategy is the game plan management is using to stake out market position and conduct its operations. A companys strategy consists of the combination of competitive moves and business approaches that managers employ to please customers, compete successfully and achieve organisational objectives. Strategy may be defined as a long range blueprint of an organisation's desired image, direction and destination what it wants to be, what it wants to do and where it wants to go. Strategy is meant to fill in the need of organisations for a sense of dynamic direction, focus and cohesiveness. Strategy is a well defined roadmap of an organization. It defines the overall mission, vision and direction of an organization. The objective of a strategy is to maximize an organizations strengths and to minimize the strengths of the competitors. Strategy, in short, bridges the gap between where we are and where we want to be. Features of Strategy 1. Strategy is Significant because it is not possible to foresee the future. Without a perfect foresight, the firms must be ready to deal with the uncertain events which constitute the business environment. 2. Strategy deals with long term developments rather than routine operations, i.e. it deals with probability of innovations or new products, new methods of productions, or new markets to be developed in future. 3. Strategy is created to take into account the probable behavior of customers and competitors. Strategies dealing with employees will predict the employee behavior.

The overall objective of a strategy is twofold: To create competitive advantage, so that the company can outperform the To guide the company successfully through all changes in the environment competitors in order to have dominance over the market. The Generic Strategies According to Glueck and Jauch there are four generic ways in which strategic alternatives can be considered. These are stability, expansion, retrenchment and combinations. (i) Stability strategies: One of the important goals of a business enterprise is stability to safeguard its existing interests and strengths, to pursue well established and tested objectives, to continue in the chosen business path, to maintain operational efficiency on a sustained basis, to consolidate the commanding position already reached, and to optimise returns on the resources committed in the business. (ii) Expansion Strategy: Expansion strategy is implemented by redefining the business by adding the scope of business substantially increasing the efforts of the current business. Expansion is a promising and popular strategy that tends to be equated with dynamism, vigor, promise and success. It is often characterised by significant reformulation of goals and directions, major initiatives and moves involving investments, exploration and onslaught into new products, new technology and new markets, innovative decisions and action programmes and so on. Expansion include diversifying, acquiring and merging businesses. (iii) Retrenchment Strategy: A business organisation can redefine its business by divesting a major product line or market. Retrenchment or retreat becomes necessary or expedient for coping with particularly hostile and adverse situations in the environment and when any other strategy is likely to be suicidal. In business parlance also, retreat is not always a bad proposition to save the enterprise's vital interests, to minimise the adverse environmental effects, or even to regroup and recoup the resources before a fresh assault and ascent on the growth ladder is launched. (iv) Combination Strategies: Stability, expansion or retrenchment strategies are not mutually exclusive. It is possible to adopt a mix to suit particular situations. An enterprise may seek stability in some areas of activity, expansion in some and retrenchment in the others. Retrenchment of ailing products followed by stability and capped by expansion in some situations may be thought of. For some organisations, a strategy by diversification

and/or acquisition may call for a retrenchment in some obsolete product lines, production facilities and plant locations. B. Strategy Formulation Process Strategy formulation refers to the process of choosing the most appropriate course of action for the realization of organizational goals and objectives and thereby achieving the organizational vision. The process of strategy formulation basically involves six main steps. Though these steps do not follow a rigid chronological order, however they are very rational and can be easily followed in this order. 1. Setting Organizations objectives - The key component of any strategy statement is to set the long-term objectives of the organization. It is known that strategy is generally a medium for realization of organizational objectives. Objectives stress the state of being there whereas Strategy stresses upon the process of reaching there. Strategy includes both the fixation of objectives as well the medium to be used to realize those objectives. Thus, strategy is a wider term which believes in the manner of deployment of resources so as to achieve the objectives.

While fixing the organizational objectives, it is essential that the factors which influence the selection of objectives must be analyzed before the selection of objectives. Once the objectives and the factors influencing strategic decisions have been determined, it is easy to take strategic decisions. 2. Evaluating the Organizational Environment - The next step is to evaluate the general economic and industrial environment in which the organization operates. This includes a review of the organizations competitive position. It is essential to conduct a qualitative and quantitative review of an organizations existing product line. The purpose of such a review is to make sure that the factors important for competitive success in the market can be discovered so that the management can identify their own strengths and weaknesses as well as their competitors strengths and weaknesses. After identifying its strengths and weaknesses, an organization must keep a track of

competitors moves and actions so as to discover probable opportunities of threats to its market or supply sources. 3. Setting Quantitative Targets - In this step, an organization must practically fix the quantitative target values for some of the organizational objectives. The idea behind this is to compare with long term customers, so as to evaluate the contribution that might be made by various product zones or operating departments. 4. Aiming in context with the divisional plans - In this step, the contributions made by each department or division or product category within the organization is identified and accordingly strategic planning is done for each sub-unit. This requires a careful analysis of macroeconomic trends. 5. Performance Analysis - Performance analysis includes discovering and analyzing the gap between the planned or desired performance. A critical evaluation of the organizations past performance, present condition and the desired future conditions must be done by the organization. This critical evaluation identifies the degree of gap that persists between the actual reality and the long-term aspirations of the organization. An attempt is made by the organization to estimate its probable future condition if the current trends persist. 6. Choice of Strategy - This is the ultimate step in Strategy Formulation. The best course of action is actually chosen after considering organizational goals, organizational strengths, potential and limitations as well as the external opportunities.

Q.2. What, in brief, are the types of Strategic Alliances and the purpose of each? Supplement your answer with one real life example of each Answer: Strategic alliances constitute a viable alternative in addition to Strategic Alternatives. Companies can develop alliances with the members of the strategic group and perform more effectively. These alliances may take any of the following forms. Following are the different types of strategic Alliances: 1. Product and/or service alliance: Two or more companies may get together to synergise their operations, seeking alliance for their products and/or services. A manufacturing company may grant license to another company to produce its products. The necessary market and product support, including technical know-how, is provided as part of the alliance. Example :- Coca-cola initially provided such support to Thums Up. Two companies may jointly market their products which are complementary in nature. Example :- 1) Chocolate companies more often tie up with toy companies. 2) TV Channels tie-up with Cricket boards to telecast entire series of cricket matches live. Two companies, who come together in such an alliance, may produce a new product altogether. Example :- Sony Music created a retail corner for itself in the ice-cream parlours of Baskin-Robbins. 2. Promotional alliance: Two or more companies may come together to promote their products and services. A company may agree to carry out a promotion campaign during a given period for the products and/or services of another company. Example :- The Cricket Board may permit Cokes products to be displayed during the cricket matches for a period of one year. 3. Logistic alliance: Here the focus is on developing or extending logistics support. One company extends logistics support for another companys products and services. Example:- The outlets of Pizza Hut, Kolkata entered into a logistic alliance with TDK Logistics Ltd., Hyderabad, to outsource the requirements of these outlets from more than 30 vendors all over India for instance, meat and eggs from Hyderabad etc. 4. Pricing collaborations: Companies may join together for special pricing collaborations. Example :- It is customary to find that hardware and software companies in information technology sector offer each other price discounts. Companies should be very careful in selecting strategic partners. The strategy should

be to select such a partner who has complementary strengths and who can offset the present weaknesses.

Q. 3 What is a Business Plan? What purpose does it serve? (10 marks) Ans: A business plan is a map for where the company is heading. The New World Encyclopedia defines a business plan as "a formal, written statement of a set of business goals, the financial background and nature of the business, and the strategy for reaching those goals." It therefore defines much about the company for outsiders and those who have or plan to have a stake in the company. Purpose 1. Viability. The exercise of writing a plan can help you decide whether or not the business is viable. Its much easier to stop moving forward with an idea when you have invested little time or money. Once the business has started youre more likely to keep pouring your money and your efforts into trying to make it succeed. 2. Direction. When researching your industry, competitors, and current market opportunities you may find that you see the business moving in a different direction than you first anticipated. As an example, Bill was interested in opening up a boutique grocery store. He wrote a full business plan with two of his friends. They were really excited about starting the new venture. However, their timing was a little off. Boutique grocery stores started popping up on every corner of the neighborhoods they considered opening their store. In addition, these stores were backed by large chains. They decided to forgo the idea. A few years later, Bill wrote another business plan for a different business. Within 6 months of completing the plan he opened up his wholesale business and was exceeding revenue projections. 3. Clarity. The outline of a business plan is fairly structured. Youll be challenged to write a Mission Statement, a Vision Statement, establish your staffing plans, determine your break even point and much more. Youll be much more confident about the purpose of the business and how internal and external factors will impact your success. 4. Road map. The business plan is a template to follow for both the start-up phase as well as execution of daily operations. Following the tasks youve established in the business plan will help you get up and

running sooner with fewer mishaps. And it provides a base line for which to compare your results. Without a road map, how are you going to know what steps to take or when you need to make adjustments to the business? The plan can be adapted as any aspect of your business changes, such as product or service offerings, the entry of a new competitor, a recession, a economic boom, etc. 5. Commitment. The most important benefit, other than determining viability, is commitment. Writing the business plan is a level of commitment. If you dont have the time to write the plan, then how do you think you are going to find time to operate your new business? If you are truly committed to your business idea, you will take the time to create a business plan. 6. Reviewing your business idea Business plans are often used for raising finance for the business as they are generally a requirement of lenders or investors. Although even if you do not intend to raise finance you should still prepare a plan to help focus your thoughts, check your calculations, help you monitor results and enable communication of your ideas. 7. Communicating your business idea with a financier The lender, such as a bank, will be looking to see how you propose to handle risks that your company may encounter. They are concerned about the security of the repayment of the money they have loaned to you and so want to ensure that you will be managing the companys risk wisely. As well as checking your credit rating a bank manager may ask you a number of questions which you will need to be able to answer, such as: 1. Why do you need the amount requested? 2. What will you do with it? 3. How do you know its enough? 4. How much less can the company survive on? 5. What other sources of finance do you have or who else are you borrowing from? 6. How are you going to pay it back? 7. What collateral or guarantee do you have? You need to ensure that the first 6 questions are already answered in your business plan as it is much harder to change the managers mind in your interview with them. The bank will look for collateral and cash flow within your plan. Professional Investors accept risk, although they will try to limit their exposure to it. The questions they may be asking themselves while reading your business plan are:

- How much can I make? They are usually looking to make around 30-50% annual compound growth on their investment - How much can I lose? What is the risk of losing their investment? - How can I get my money back or out of the company? - Who else is investing in this company?

Q. 4 What is the chief purpose of a Business Continuity Plan and what are its components for effective implementation. Explain in a sentence or two as to how it is different from a Business Plan (10 marks) Answer: Business continuity planning (BCP) "identifies an organization's exposure to internal and external threats and synthesizes hard and soft assets to provide effective prevention and recovery for the organization, while maintaining competitive advantage and value system integrity. It is also called business continuity and resiliency planning (BCRP). A business continuity plan is a roadmap for continuing operations under adverse conditions such as a storm or a crime. In the US, governmental entities refer to the process as continuity of operations planning (COOP). Personnel Human resources represent one of most critical BCP components, and often, personnel issues are not fully integrated into the enterprise-wide plan. Based on the BIA, the BCP should assign responsibilities to management, specific personnel, teams, and service providers. The planning group should comprise representatives from all departments or organizational units, and the BCP should be prepared by the individuals responsible for carrying out the assigned tasks. In addition, the plan should specifically identify the integral personnel that are needed for successful implementation of the BCP, and succession plans should assign responsibilities to back-up personnel in the event integral employees are not available. Additionally, vendor support needs should be identified. The BCP should address:

How will management prepare employees for a disaster, reduce the overall risks, and shorten the recovery window? How will decision-making succession be determined in the event management personnel are unavailable? How will management continue operations if employees are unable or unwilling to return to work due to personal losses, closed roads, or unavailable transportation? How will management contact employees in the event personnel are required to evacuate to another area during non-business hours? Will the financial institution have the resources necessary to transport personnel to an offsite facility that is located a significant distance from their residence?

Who will be responsible for contacting employees and directing them to their alternate locations? Who will be responsible for leading the various BCP Teams (e.g., Crisis/Emergency, Recovery, Technology, Communications, Facilities, Human Resources, Business Units and Processes, Customer Service)?

Who will be the primary contact with critical vendors, suppliers, and service providers? Who will be responsible for security (information and physical)?

Personnel Needs One of the first things that many financial institutions realize during a disaster is that recovery cannot take place without adequate personnel. Recovery efforts are typically more successful when management attempts to solicit and meet the immediate needs of their employees. Ideally, advance plans should be established regarding living arrangements for displaced employees and their families, such as securing blocks of hotel rooms or maintaining rental contracts for small homes, within and outside the local area. If an emergency lodging program is offered by the financial institution, management should be aware of the business needs of each employee to ensure that proper communication channels and alternative telecommunications options are available, particularly if employees are required to work at their hotel or at an alternate location. Management should plan for basic necessities and services for its staff members who have been displaced during a disaster. If possible, management should establish plans to obtain water, food, clothing, child care, medical supplies, and transportation prior to the disruptive event. On-site medical support, mobile command centers, and access to company vehicles and other modes of transportation should also be provided, if available. Management's efforts to maintain good employee relations will likely contribute to the commitment and loyalty of financial institution personnel and their desire to assist with the timely recovery of operations. Emergency Training Since personnel are critical to the recovery of the financial institution, business continuity training should be an integral part of the BCP. During a disaster, a well-trained staff will more likely remain calm during an emergency, realize the potential threats that may affect the financial institution, and

be able to safely implement required procedures without endangering their lives or the lives of others. A comprehensive training program should be developed for all employees, conducted at least annually, and kept up-to-date to ensure that everyone understands their current role in the overall recovery process. In addition, an audit trail should be maintained to document management's training efforts. Cross Training and Succession Planning Cross-training of personnel and succession planning is also an important element of the business continuity planning process. Management should cross train employees throughout the organization and assign back-up personnel for key operational positions. The financial institution should also plan to shift employees to other corporate sites, branches, back-up locations, or service provider facilities outside of the disaster area and prior to the development of transportation problems, if possible. To ensure adequate staffing at the alternate site, financial institutions may decide to locate staff at the back-up facility on a permanent basis or hire employees who live outside the primary business area and closer to the alternate facility. If employees are unable to return to work, management may use formal agreements with temporary agencies and headhunting services to provide temporary staffing solutions. BCP Team Assignments Planning should also consider human resources necessary for decision making and staffing at alternate facilities under various scenarios. Typically, a recovery team is established to perform this function, and their primary responsibility is to recover predefined critical business functions at the alternate back-up site. They will be responsible for retrieving materials from the off-site storage location, such as data files, supplies, equipment, and software. Once these materials have been obtained, the recovery team will install the necessary hardware, software, telecommunications equipment, and data files required for recovery. Key personnel should also be identified to make decisions regarding the renovation or rebuilding of the primary facility after the immediate disaster has ended. These tasks usually require personnel beyond what is necessary for ongoing business continuity efforts. Personnel responsible for returning the primary facility to normal operations are usually designated to a salvage team, which

should be separate from the recovery team. The salvage team must be certain that all pending danger is over, and employees can safely return to the primary facility. Once personal security is ascertained, the salvage team will be responsible for supervising the retrieval and cleaning of equipment, the removal of debris, and the recovery of spoiled media and reports. The salvage team is also given the authority to resume normal operations at the primary facility, which is a significant task since numerous areas must be closely reviewed to ensure that operations will function properly. Once the salvage team approves the resumption of normal operations, the recovery team is assigned the responsibility of returning production to the primary facility. However, before restoration tasks can be performed and employees return to the primary facility, the salvage team should perform an inventory of all property and ensure that the on-site investigation is complete. The BCP should address guidelines for transferring operations from the back-up site to the primary facility with minimum disruption. In addition, records should be maintained detailing associated costs and property valuations for documenting budgetary changes, general ledger records, and insurance claims. Finally, the business continuity planning coordinator or planning committee should be given responsibility for regularly conducting employee awareness training and performing annual tests of the BCP. In addition, the BCP should be updated at least annually, or more frequently, after significant changes to business operations, or if training and testing reveal gaps in the policy guidelines. Communication Communication is a critical aspect of a BCP and should include communication with employees, emergency personnel, regulators, vendors/suppliers (detailed contact information), customers (notification procedures), and the media (designated media spokesperson). Alternate telecommunications capabilities should be implemented to prevent any single point of failure that could disrupt operations. Policy guidelines should also address alternate methods of telecommunications in the event primary providers are unable to supply necessary services, and regular audits should confirm the adequacy of these diverse systems.

Communicating With Employees One of the most important activities of business continuity planning involves communicating with employees. Employees should be promptly notified of a pending disaster, and specific evacuation instructions should be provided and included in the BCP. Management must be able to communicate with personnel located in isolated areas or dispersed across multiple locations, and management should be aware of each employee's evacuation plans to ensure that they can be contacted in a timely manner during a disaster. While manually dialed telephone call trees may be a viable communication tool in some instances, emergency notification systems should be evaluated to determine their cost effectiveness. With either method, management should ensure that contact information is current and easily accessible. Synchronization with human resource departments and company mail systems may prove helpful in maintaining the currency of contact information. Employee notification solutions may also include the following:

An in-bound hotline number for employees to retrieve up-to-date voice messages from any location or a website accessible only by employees that provides important information regarding the operational status of the financial institution and contact numbers for financial institution personnel;

A two-way polling phone system that confirms all employees have been contacted, with confirmed delivery of messages; Remote access provided to employees through the use of laptops, software, and Internet based solutions by utilizing dial-up connections, cable modems, virtual private networks (VPNs), integrated services digital networks (ISDNs), digital subscriber lines (DSLs), or wireless capabilities;

Ultra forward service, which allows incoming calls to be rerouted to a pre-determined alternate location; Custom redirect service, which allows management to determine where incoming calls are answered and redirect calls to various locations or pre-established phone numbers; Provisioning local phone services to one office from two different telecommunications provider locations to provide phone system redundancy; and Adding a back-up Internet Service Provider (ISP) and balancing the traffic between the two ISPs over separate communication paths.

Interfacing With External Groups Financial institutions often forget about the need to include BCP guidelines regarding their interaction with external groups such as local and state municipal employees and city officials. Management should implement BCP guidelines addressing escalation procedures and include contact information for communicating with these various groups. Consideration should be given to the proximity of the financial institution to police, fire, and medical facilities, and the timeliness of their response should be factored into BCP recovery strategies. Given the importance of the on-going operation of the financial system, financial institutions should be able to communicate with their industry counterparts. Current contact information should be maintained and should be easily accessible to facilitate conference calls and meetings between financial sector trade associations, financial authority working groups, emergency response groups, and international exchange organizations. These groups should assess the potential impact of major operational disruptions, coordinate recovery efforts, and promptly respond to failures in critical communication systems. Media Relations A significant part of any BCP and related test plan should involve dealing with the media. When a disruptive event occurs that could affect the financial institution's ability to continue operations, the public must be informed. Before a disaster strikes, management should prepare a response that has been approved by the board and the shareholders. In addition, employees should be instructed to refer any questions to the financial institution's media contact. The chosen spokesperson should be adequately informed, credible, have strong communication skills, and be accessible to the media so that inaccurate information is not broadcast to the public, which could potentially harm the reputation of the financial institution. Only confirmed information should be provided, and the spokesperson should discuss what the financial institution is doing to mitigate any potential threats. In order to ease customer's concerns regarding the security of their deposit funds, it is a good idea to conduct regular media briefings until the emergency has ended. Technology Issues The technology issues that should be addressed in an effective BCP include:

Hardware - mainframe, mid-range, servers, network, end-user; Software - applications, operating systems, utilities; Communications (network and telecommunications); Data files and vital records; Operations processing equipment; and Office equipment.

These technology issues play a critical role in the recovery process; therefore, comprehensive inventories should be maintained to ensure that all applicable components are considered during plan development. Planning should include identifying critical business unit data that may only reside on individual workstations, which may or may not adhere to proper back-up schedules. Additionally, the plan should address vital records, necessary back-up methods, and appropriate back-up schedules for these records. The BCP team or coordinator should also identify and document end-user requirements. For example, employees may be able to work on a stand-alone personal computer (PC) to complete most of their daily tasks, but they may require a network connection to fulfill other critical duties. Consequently, management should consider providing employees with laptops and remote access capabilities using software or a VPN connection. When developing the BCP, institutions should exercise caution when identifying non-critical assets. An institution's telephone banking, Internet banking, or automated teller machine (ATM) systems may not seem mission critical when systems are operating normally. However, these systems may play a critical role in the BCP and be a primary delivery channel to service customers during a disruption. Similarly, an institution's electronic mail system may not appear to be mission critical, but may be the only system available for employee or external communication in the event of a disruption. Data Center Recovery Alternatives Financial institutions should make formal arrangements for alternate processing capability in the event their data processing site becomes inoperable or inaccessible. The type of recovery alternative selected will vary depending on the criticality of the processes being recovered and the recovery time

objectives (RTOs). For example, financial industry participants whose operations are critical to the functioning of the overall financial system and other financial industry participants should establish high recovery objectives, such as same-day business resumption. Conversely, less stringent recovery objectives may be acceptable for other entities. Considerations such as the increased risk of failed transactions, liquidity concerns, solvency, and reputation risks should be factored into the decision making process. The scope of the recovery plan should address alternate measures for core operations, facilities, infrastructure systems, suppliers, utilities, interdependent business partners, and key personnel. Recovery plan alternatives may take several forms and involve the use of another data center or a third-party service provider. A legal contract or agreement should evidence recovery arrangements with a third-party vendor. The following are acceptable alternatives for data center recovery. However, institutions will be expected to describe their reasons for choosing a particular alternative and why it is adequate based on their size and complexity. Difference between A business Plan and Business Continuity Plan A business plan is the guiding document stating a business's goals, operations, key personnel, SWOT (Strengths, Weaknesses, Opportunities, & Threats) and PEST (Political, Economic, Sociocultural and Technology) analysis, startup costs, budget, and expected profitability. Business continuity plans are the guidelines for continuing business operations in the event of a disaster (but is not a disaster recovery plan). For example - a hurricane wipes out a server farm. The disaster recovery plan focuses on the technological aspect of getting the business up and running.

Q. 5 Take any three examples of the components of a Decision Support System and explain how they help decision making (10 marks) Ans. Following are the three examples of the components of a Decision Support System 1. Annual Budget: It is really a business plan. The budget allocates amounts of money to every activity and/or department of the firm. As time passes, the actual expenditures are compared to the budget in a feedback loop. During the year, or at the end of the fiscal year, the firm generates its financial statements: the income statement, the balance sheet, the cash flow statement. When putting together, these four documents are the formal edifice of the firms finances. However, they can not serve as day-to-day guides to the General Manager. 2. Daily Financial Statements: The Manager should have access to continuously updated statements of income, cash flow, and a balance sheet. The most important statement is that of the cash flow. The manager should be able to know, at each and every stage, what his real cash situation is as opposed to the theoretical cash situation which includes accounts payable and account receivable in the form of expenses and income. 3. The Daily Ratios Report: This is the most important part of the decision support system. It enables the Manager to instantly analyse dozens of important aspects of the functioning of his company. It allows him to compare the behaviour of these parameters to historical data and to simulate the future functioning of his company under different scenarios. It also allows him to compare the performance of his company to the performance of his competitors, other firms in his branch and to the overall performance of the industry that he is operating in. The Manager can review these financial and production ratios. Where there is a strong deviation from historical patterns, or where the ratios warn about problems in the future management intervention may be required. Examples of the Ratios to be Included in the Decision System SUE measure deviation of actual profits from expected profits ROE the return on the adjusted equity capital Debt to equity ratios ROA the return on the assets The financial average ROS the profit margin on the sales

ATO asset turnover, how efficiently assets are used Tax burden and interest burden ratios Compounded leverage Sales to fixed assets ratios Inventory turnover ratios Days receivable and days payable Current ratio, quick ratio, interest coverage ratio and other liquidity and coverage ratios Valuation price ratios And many others

A decision system has great impact on the profits of the company. It forces the management to rationalize the depreciation, inventory and inflation policies. It warns the management against impending crises and problems in the company. It specially helps in following areas: a. The management knows exactly how much credit it could take, for how long (for which maturities) and in which interest rate. It has been proven that without proper feedback, managers tend to take too much credit and burden the cash flow of their companies. b. A decision system allows for careful financial planning and tax planning. Profits go up, non cash outlays are controlled, tax liabilities are minimized and cash flows are maintained positive throughout. The decision system is an integral part of financial management in the West. It is completely compatible with western accounting methods and derives all the data that it needs from information extant in the company. So, the establishment of a decision system does not hinder the functioning of the company in any way and does not interfere with the authority and functioning of the financial department, but infact helps the manager to take quick decisions and make profit to the company.

Q.6 Ans.

Name and explain any three ways in which a Companys CSR can be expressed CSR is a concept whereby companies integrate social and environmental concerns in their business operations and in their interaction with their stakeholders on a voluntary basis as they are increasingly aware that responsible behaviour leads to sustainable business success. CSR is also about managing change at company level in a socially responsible manner. This happens when a company seeks to set the trade-offs between the requirements and the needs of the various stakeholders into a balance, which is acceptable to all parties. If companies succeed in managing change in a socially responsible manner, this will have a positive impact at the macro-economic level. Following are the different ways in which company's CSR can be expressed. 1. Employment and Social Affairs Policy

Within a business CSR relates to quality employment, life-long learning, information, consultation and participation of workers, equal opportunities, integration of people with disabilities anticipation of industrial change and restructuring. Social dialogue is seen as a powerful instrument to address employment-related issues. Employment and social policy integrates the principles of CSR, in particular, through the European Employment Strategy, an initiative on socially responsible restructuring, the European Social Inclusion Strategy, initiatives to promote equality and diversity in the workplace, the EU Disability Strategy and the Health and Safety Strategy. In its document "Anticipating and managing change: a dynamic approach to the social aspects of corporate restructuring", the Commission has stressed that properly taking into account and addressing the social impact of restructuring contributes to its acceptance and to enhance its positive potential. The Commission has called upon the social partners to give their opinion in relation to the usefulness of establishing at Community level a number of principles for action, which would support business good practice in restructuring situations. Deeply rooted societal changes such as increasing participation of women in the labour market should be reflected in CSR, adapting structural changes and changing the work environment in order to create more balanced conditions for both genders acknowledging the valuable contribution of women as strategies which will benefit the society as well as the enterprise itself.


Enterprise policy

Only competitive and profitable enterprises are able to make a long-term contribution to sustainable development by generating wealth and jobs without compromising the social and environmental needs of society. In fact, only profitable firms are sustainable and have better chances to adopt/develop responsible practices. The role of enterprise policy is to help create a business environment, which supports the Lisbon objective of becoming the worlds most dynamic knowledge-driven economy, supports entrepreneurship and a sustainable economic growth. Its objective is to ensure a balanced approach to sustainable development, which maximises synergies between its economic, social and environmental dimensions. 3. Consumer Policy

CSR has partly evolved in response to consumer demands and expectations. Consumers, in their purchasing behaviour, increasingly require information and reassurance that their wider interests, such as environmental and social concerns, are being taken into account. Consumers and their representative organisations have an important role to play in the evolution of CSR. If CSR is therefore to continue to serve its purpose, strong lines of communication between enterprises and consumers need to be created.

Reference: Elliot, D.; Swartz, E.; Herbane, B. (1999) Just waiting for the next big bang: business continuity planning in the UK finance sector. Journal of Applied Management Studies, Vol. 8, No, pp. 4360. Here: p. 48. SMU Manual on Strategic Management and Business Policy (Book ID: B1314)

Name: Dromor Tackie-Yaoboi

Roll Number: 531110332

Learning Centre: 02544

Course & Semester: MBA

Semester IV

Subject: International

Business Management

Assignment No.: 1

Subject Code: MB0053

Date of Submission at the Learning Centre: 27 February, 2013

Q.1 Ans.

Write a short note on Globalization. The term "globalization" has acquired considerable emotive force. Some view it as a process that is beneficial a key to future world economic development and also inevitable and irreversible. Others regard it with hostility, even fear, believing that it increases inequality within and between nations, threatens employment and living standards and thwarts social progress. This brief offers an overview of some aspects of globalization and aims to identify ways in which countries can tap the gains of this process, while remaining realistic about its potential and its risks. Globalization offers extensive opportunities for truly worldwide development but it is not progressing evenly. Some countries are becoming integrated into the global economy more quickly than others. Countries that have been able to integrate are seeing faster growth and reduced poverty. Economic "globalization" is a historical process, the result of human innovation and technological progress. It refers to the increasing integration of economies around the world, particularly through trade and financial flows. The term sometimes also refers to the movement of people (labor) and knowledge (technology) across international borders. There are also broader cultural, political and environmental dimensions of globalization that are not covered here. At its most basic, there is nothing mysterious about globalization. The term has come into common usage since the 1980s, reflecting technological advances that have made it easier and quicker to complete international transactions both trade and financial flows. It refers to an extension beyond national borders of the same market forces that have operated for centuries at all levels of human economic activity village markets, urban industries, or financial centers. Globalization is not just a recent phenomenon. Some analysts have argued that the world economy was just as globalized 100 years ago as it is today. But today commerce and financial services are far more developed and deeply integrated than they were at that time. The most striking aspect of this has been the integration of financial markets made possible by modern electronic communication. There are four aspects of globalization: 1. Trade: Developing countries as a whole have increased their share of world trade from 19 percent in 1971 to 29 percent in 1999. For instance, the newly industrialized economies (NIEs) of Asia have done well, while Africa as a whole has fared poorly. The composition of what countries export is also important. The strongest rise by far has been in the export of manufactured goods. The share of primary commodities in

world exports such as food and raw materials that are often produced by the poorest countries, has declined. 2. Capital movements: Globalization sharply increased private capital flows to developing countries during much of the 1990s. It also shows that: the increase followed a particularly "dry" period in the 1980s; net official flows of "aid" or development assistance have fallen significantly since the early 1980s; and the composition of private flows has changed dramatically. Direct foreign investment has become the most important category. Both portfolio investment and bank credit rose but they have been more volatile, falling sharply in the wake of the financial crises of the late 1990s.

3. Movement of people: Workers move from one country to another partly to find better employment opportunities. The numbers involved are still quite small, but in the period 1965-90, the proportion of labor forces round the world that was foreign born increased by about one-half. Most migration occurs between developing countries. But the flow of migrants to advanced economies is likely to provide a means through which global wages converge. There is also the potential for skills to be transferred back to the developing countries and for wages in those countries to rise. 4. Spread of knowledge (and technology): Information exchange is an integral, often overlooked, aspect of globalization. For instance, direct foreign investment brings not only an expansion of the physical capital stock, but also technical innovation. More generally, knowledge about production methods, management techniques, export markets and economic policies is available at very low cost, and it represents a highly valuable resource for the developing countries.

Q.2 Ans.

Describe the positives of trade liberalization. Policies that make an economy open to trade and investment with the rest of the world are needed for sustained economic growth. The evidence on this is clear. No country in recent decades has achieved economic success, in terms of substantial increases in living standards for its people, without being open to the rest of the world. In contrast, trade opening (along with opening to foreign direct investment) has been an important element in the economic success of East Asia. Opening up their economies to the global economy has been essential in enabling many developing countries to develop competitive advantages in the manufacture of certain products. In these countries, defined by the World Bank as the "new globalizers," the number of people in absolute poverty declined by over 120 million (14 percent) between 1993 and 1998. There is considerable evidence that more outward-oriented countries tend consistently to grow faster than ones that are inward-looking. Indeed, one finding is that the benefits of trade liberalization can exceed the costs by more than a factor of 10. Countries that have opened their economies in recent years, including India, Vietnam, and Uganda, have experienced faster growth and more poverty reduction. On average, those developing countries that lowered tariffs sharply in the 1980s grew more quickly in the 1990s than those that did not. Freeing trade frequently benefits the poor especially. Developing countries can ill-afford the large implicit subsidies, often channeled to narrow privileged interests that trade protection provides. Moreover, the increased growth that results from free trade itself tends to increase the incomes of the poor in roughly the same proportion as those of the population as a whole. New jobs are created for unskilled workers, raising them into the middle class. Overall, inequality among countries has been on the decline since 1990, reflecting more rapid economic growth in developing countries, in part the result of trade liberalization. Although there are benefits from improved access to other countries markets, countries benefit most from liberalizing their own markets. The main benefits for industrial countries would come from the liberalization of their agricultural markets. Developing countries would gain about equally from liberalization of manufacturing and agriculture. The group of low-income countries, however, would gain most from agricultural liberalization in industrial countries because of the greater relative importance of agriculture in their economies. Further liberalization by both industrial and developing countries will be needed to

realize trades potential as a driving force for economic growth and development. Greater efforts by industrial countries and the international community more broadly, are called for to remove the trade barriers facing developing countries, particularly the poorest countries. Although quotas under the so-called Multi-fibre Agreement are due to be phased out by 2005, speedier liberalization of textiles and clothing and of agriculture is particularly important. Similarly, the elimination of tariff peaks and escalation in agriculture and manufacturing also needs to be pursued. In turn, developing countries would strengthen their own economies (and their trading partners) if they made a sustained effort to reduce their own trade barriers further. Enhanced market access for the poorest developing countries would provide them with the means to harness trade for development and poverty reduction. Offering the poorest countries duty and quota free access to world markets would greatly benefit these countries at little cost to the rest of the world. The recent market-opening initiatives of the EU and some other countries are important steps in this regard. To be completely effective, such access should be made permanent, extended to all goods, and accompanied by simple, transparent rules of origin. This would give the poorest countries the confidence to persist with difficult domestic reforms and ensure effective use of debt relief and aid flows.


Write a short note on GATT and WTO, highlighting the difference between the two. General Agreement on Tariff and Trade( GATT): The GATT, was established on a provisional basis after the Second World War in the wake of other new multilateral institutions dedicated to international economic cooperation notably the "Britton Woods" institutions now known as the World Bank and the International Monetary Fund. The original 23 GATT countries were among over 50 which agreed a draft Charter for an International Trade Organization (ITO) a new specialized agency of the United Nations. The Charter was intended to provide not only world trade disciplines but also contained rules relating to employment, commodity agreements, restrictive business practices, international investment and services. In an effort to give an early boost to trade liberalization after the Second World War and to begin to correct the large overhang of protectionist measures which remained in place from the early 1930s-tariff negotiations were opened among the 23 founding GATT "contracting parties" in 1946. This first round of negotiations resulted in 45,000 tariff concessions affecting $10 billion or about one-fifth of world trade. It was also agreed that the value of these concessions should be protected by early and largely "provisional" acceptance of some of the trade rules in the draft ITO Charter. The tariff concessions and rules together became known as the General Agreement on Tariffs and Trade and entered into force in January 1948. Although the ITO Charter was finally agreed at a UN Conference on Trade and Employment in Havana in March 1948, ratification in national legislatures proved impossible in some cases. When the United States government announced, in 1950, that it would not seek Congressional ratification of the Havana Charter, the ITO was effectively dead. Despite its provisional nature, the GATT remained the only multilateral instrument governing international trade from 1948 until the establishment of the WTO. Although, in its 47 years, the basic legal text of the GATT remained much as it was in 1948, there were additions in the form of "plural-lateral voluntary membership agreements and continual efforts to reduce tariffs. Much of this was achieved through a series of "trade rounds". The biggest leaps forward in international trade liberalization have come through multilateral trade negotiations, or "trade rounds", under the auspices of GATT the Uruguay Round was the latest and most extensive.


The limited achievement of the Tokyo Round, outside the tariff reduction results, was a sign of difficult times to come. GATTs success in reducing tariffs to such a low level, combined with a series of economic recessions in the 1970s and early 1980s, drove governments to devise other forms of protection for sectors facing increased overseas competition. High rates of unemployment and constant factory closures led governments in Europe and North America to seek bilateral market-sharing arrangements with competitors and to embark on a subsidies race to maintain their holds on agricultural trade. Both these changes undermined the credibility and effectiveness of GATT. WTO World Trade Organization came into existence in 1995 after the desolation of General Agreement on Tariff and Trade (GATT). The WTOs overriding objective is to help trade flow smoothly, freely, fairly and predictably. It does this by: Administering trade agreements Acting as a forum for trade negotiations Settling trade disputes Reviewing national trade policies Assisting developing countries in trade policy issues, through technical assistance and training programs Cooperating with other international organizations

The WTO has nearly 150 members, accounting for over 97% of world trade. Around 30 others are negotiating membership. Decisions are made by the entire membership. This is typically by consensus. A majority vote is also possible but it has never been used in the WTO, and was extremely rare under the WTOs predecessor, GATT. The WTOs agreements have been ratified in all members parliaments. The WTOs top level decision-making body is the Ministerial Conference which meets at least once every two years. Below this is the General Council which meets several times a year in the Geneva headquarters. The General Council also meets as the Trade Policy Review Body and the Dispute Settlement Body. At the next level, the Goods Council, Services Council and Intellectual Property (TRIPS) Council report to the General Council. Numerous specialized committees, working groups and working parties deal with the individual agreements and other areas such as the environment, development,

membership applications and regional trade agreements. The WTO Secretariat, based in Geneva, has around 600 staff and is headed by a director-general. Its annual budget is roughly 160 million Swiss francs. It does not have branch offices outside Geneva. Since decisions are taken by the members themselves, the Secretariat does not have the decision-making role that other international bureaucracies are given with. The WTO is run by its member governments. All major decisions are made by the membership as a whole, either by ministers (who meet at least once every two years) or by their ambassadors or delegates (who meet regularly in Geneva). Decisions are normally taken by consensus. Difference between WTO and GATT:The World Trade Organization is not a simple extension of GATT; on the contrary, it completely replaces its predecessor and has a very different character. Among the principal differences are the following: a. The GATT was a set of rules, a multilateral agreement, with no institutional foundation, only a small associated secretariat which had its origins in the attempt to establish an International Trade Organization in the 1940s. The WTO is a permanent institution with its own secretariat. b. The GATT was applied on a "provisional basis" even if, after more than forty years, governments chose to treat it as a permanent commitment. The WTO commitments are full and permanent. c. The GATT rules applied to trade in merchandise goods. In addition to goods, the WTO covers trade in services and trade-related aspects of intellectual property. d. While GATT was a multilateral instrument, by the 1980s many new agreements had been added of a plural-lateral, and therefore selective, nature. The agreements which constitute the WTO are almost all multilateral and, thus, involve commitments for the entire membership. e. The WTO dispute settlement system is faster, more automatic, and thus much less susceptible to blockages, than the old GATT system. The implementation of WTO dispute findings will also be more easily assured.

Q.4 Ans.

Think of any MNC and analyze its business strategy orientation. Multinational companies (MNC) may pursue business strategies that are home country oriented or host country oriented or world oriented. Perlmutter uses such terms as ethnocentric, polycentric and geocentric. However, "ethnocentric" is misleading because it focuses on race or ethnicity, especially when the home country itself is populated by many different races, whereas "polycentric" loses its meaning when the MNCs operate only in one or two foreign countries. According to Franklin Root (1994), an MNC is a parent company that a. b. c. engages in foreign production through its affiliates located in several countries, exercises direct control over the policies of its affiliates, implements business strategies in production, marketing, finance and staffing that transcend national boundaries. Business strategy of a MNC can be analyzed with the help of Three Stages of Evolution 1. Export stage initial inquiries - firms rely on export agents expansion of export sales further expansion - foreign sales branch or assembly operations (to save transport cost) 2. Foreign Production Stage There is a limit to foreign sales (tariffs, NTBs).Once the firm chooses foreign production as a method of delivering goods to foreign markets, it must decide whether to establish a foreign production subsidiary or license the technology to a foreign firm. Licensing is usually first experience (because it is easy) it does not require any capital expenditure it is not risky payment = a fixed % of sales

e.g.: Kentucky Fried Chicken in the U.K. Problem that may arise while following a particular business strategy: The mother firm may find it difficult in exercise of any managerial control over the licensee (as it is independent).

Secondly, the licensee may transfer industrial secrets to another independent firm, thereby creating a rival. The next stage for supplementing any particular business strategy is Investments involved. It requires the decision of top management because it is a critical step. it is risky (lack of information) (for example-US firms tend to establish subsidiaries in Canada first. Singer Manufacturing Company established its foreign plants in Scotland and Australia in the 1850s) plants are established in several countries licensing is switched from independent producers to its subsidiaries. export continues 3. Multinational Stage: The company becomes a multinational enterprise when it begins to plan, organize and coordinate production, marketing, R&D, financing, and staffing. For each of these operations, the firm must find the best location.

This is how a MNC decides its business strategy orientation.

Q.5 Ans.

What does FDI stand for? Why do MNCs opt for FDI to enter international market? FDI stands for Foreign Direct Investment. New MNCs do not pop up randomly in foreign nations. It is the result of conscious planning by corporate managers. Investment flows from regions of low anticipated profits to those of high returns. When MNC incorporated in one country, invests in another country, it is said that the FDI has flowed into the other country from some foreign origin. The main reasons for MNCs to opt for FDI to enter international market is stated as follows: 1. Growth motive: A company may have reached a plateau satisfying domestic demand, which is not growing. Looking for new markets. 2. Protection in the importing countries : Foreign direct investment is one way to expand. FDI is a means to bypassing protective instruments in the importing country. European Community imposed common external tariff against outsiders. US companies circumvented these barriers by setting up subsidiaries. Japanese corporations located auto assembly plants in the US, to bypass VERs. 3. High Transportation Costs : Transportation costs are like tariffs in that they are barriers which raise consumer prices. When transportation costs are high, multinational firms want to build production plants close to the market in order to save transportation costs. Multinational firms that invested and built production plants in the United States are better off than the exporting firms that utilized New Orleans port to ship and distribute products through New Orleans, provided that they built plants in a safe area. 4. Exchange Rate Fluctuations: Japanese firms invest here to produce heavy construction machines to avoid excessive exchange rate fluctuations. Also, Japanese automobile firms have plants to produce automobile parts. For instance, Toyota imports engines and transmissions from Japanese plants, and produce the rest in the U.S. 5. Market competition: The most certain method of preventing actual or potential competition is to acquire foreign businesses. GM purchased Monarch (GM Canada) and Opel (GM Germany). It did not buy Toyota, Datsun (Nissan) and Volkswagen. They later became competitors. 6. Cost reduction: United Fruit has established banana-producing facilities in Honduras. Cheap foreign labour. Labour costs tend to differ among nations. MNCs can hold

down costs by locating part of all their productive facilities abroad. (Maquildoras)

Q.6 Ans.

Viewing culture as a multi-level construct, describe various levels it consists of. There are two kinds of approach construct of culture. One is a multi-level approach, viewing culture as a multi-level construct that consists of various levels nested within each other from the most macro-level of a global culture, through national cultures, organizational cultures, group cultures, and cultural values that are represented in the self at the individual level. The second is based on Scheins (1992) model viewing culture as a multi layer construct consisting of the most external layer of observed artifacts and behaviours, the deeper level of values, which is testable by social consensus, and the deepest level of basic assumption, which is invisible and taken for granted. The present model proposes that culture as a multi layer construct exists at all levels from the global to the individual and that at each level change first occurs at the most external layer of behaviour, and then, when shared by individuals who belong to the same cultural context, it becomes a shared value that characterizes the aggregated unit (group, organizations, or nations). In the model, the most macro-level is that of a global culture being created by global networks and global institutions that cross national and cultural borders.

Figure-1: The dynamic of top-downbottom-up processes across levels of culture.

Given the dominance of Western MNCs, the values that dominate the global context are often based on a free market economy, democracy, acceptance and tolerance of diversity, respect of freedom of choice, individual rights, and openness to change. Below the global level are nested organizations and networks at the national level with their local cultures varying from one nation or network to another. Further down are

local organizations, and although all of them share some common values of their national culture, they vary in their local organizational cultures, which are also shaped by the type of industry that they represent, the type of ownership, the values of the founders, etc. Within each organization are sub-units and groups that share the common national and organizational culture, but that differ from each other in their unit culture on the basis of the differences in their functions (e.g., R&D vs manufacturing), their leaders values, and the professional and educational level of their members. At the bottom of this structure are individuals who through the process of socialization acquire the cultural values transmitted to them from higher levels of culture. Individuals who belong to the same group share the same values that differentiate them from other groups and create a group level culture through a bottom-up process of aggregation of shared values. For example, employees of an R&D unit are selected into the unit because of their creative cognitive style and professional expertise. Their leader also typically facilitates the display of these personal characteristics because they are crucial for developing innovative products. Thus, all members of this unit share similar core values, which differentiate them from other organizational units. Groups that share similar values create the organizational culture through a process of aggregation, and local organizations that share similar values create the national culture that is different from other national cultures. Both top-down and bottom-up processes reflect the dynamic nature of culture, and explain how culture at different levels is being shaped and reshaped by changes that occur at other levels, either above it through top-down processes or below it through bottom-up processes. Similarly, changes at each level affect lower levels through a topdown process, and upper levels through a bottom-up process of aggregation. Global organizations and networks are being formed by having local-level organizations join the global arena. That means that there is a continuous reciprocal process of shaping and reshaping organizations at both levels. For example, multinational companies that operate in the global market develop common rules and cultural values that enable them to create a synergy between the various regions, and different parts of the multinational company. These global rules and values filter down to the local organizations that constitute the global company, and, over time, they shape the local organizations. Reciprocally, having local organizations join a global company may introduce changes into the global company because of its need to function effectively across different cultural boarders.

Reference: SMU Manual on International Business Management (Book ID: B1315)

Name: Dromor Tackie-Yaoboi

Roll Number: 531110332

Learning Centre: 02544

Course & Semester: MBA

Semester IV

Subject: International

Financial Management

Assignment No.: 1

Subject Code: Mf0015

Date of Submission at the Learning Centre: 27 February, 2013

1. What is meant by BOP? How are capital account convertibility and current account convertibility different? What is the current scenario in India? Ans: The balance of payments (or BOP) of a country is a record of international transactions between residents of one country and the rest of the world over a specified period, usually a year. Thus, Indias balance of payments accounts record transactions between Indian residents and the rest of the world. International transactions include exchanges of goods, services or assets. The term residents means businesses, individuals and government agencies and includes citizens temporarily living abroad but excludes local subsidiaries of foreign corporations. The balance of payments is a sources-and-uses-of-funds statement. Transactions such as exports of goods and services that earn foreign exchange are recorded as credit, plus, or cash inflows (sources). Transactions such as imports of goods and services that expend foreign exchange are recorded as debit, minus, or cash outflows (uses). The Balance of Payments for a country is the sum of the Current Account, the Capital Account and the change in Official Reserves. The current account is that balance of payments account in which all short-term flows of payments are listed. It is the sum of net sales from trade in goods and services, net investment income (interest and dividend), and net unilateral transfers (private transfer payments and government transfers) from abroad. Investment income for a country is the payment made to its residents who are holders of foreign financial assets (includes interest on bonds and loans, dividends and other claims on profits) and payments made to its citizens who are temporary workers abroad. Unilateral transfers are official government grants-in-aid to foreign governments, charitable giving (e.g., famine relief) and migrant workers transfers to families in their home countries. Net investment income and net transfers are small relative to imports and exports. Therefore a current account surplus indicates positive net exports or a trade surplus and a current account deficit indicates negative net exports or a trade deficit. The capital (or financial) account is that balance of payments account in which all cross-border transactions involving financial assets are listed. All purchases or sales of assets, including direct investment (FDI) securities (portfolio investment) and bank claims and liabilities are listed in the

capital account. When Indian citizens buy foreign securities or when foreigners buy Indian securities, they are listed here as outflows and inflows, respectively. When domestic residents purchase more financial assets in foreign economies than what foreigners purchase of domestic assets, there is a net capital outflow. If foreigners purchase more Indian financial assets than domestic residents spend on foreign financial assets, then there will be a net capital inflow. A capital account surplus indicates net capital inflows or negative net foreign investment. A capital account deficit indicates net capital outflows or positive net foreign investment. Current scenario in India The official reserves account (ORA) records the total reserves held by the official monetary authorities (central banks) within the country. These reserves are normally composed of the major currencies used in international trade and financial transactions. The reserves consist of hard currencies (such as US dollar, British Pound, Euro, Yen), official gold reserve and IMF Special Drawing Rights (SDR). The reserves are held by central banks to cushion against instability in international markets. The level of reserves changes because of the central banks intervention in the foreign exchange markets. Countries that try to control the price of their currency (set the exchange rate) have large net changes in their Official Reserve Accounts. In general, a net decrease in the Official Reserve Account indicates that a country is buying its currency in exchange for foreign exchange reserves, to try to keep the value of the domestic currency high with respect to foreign currencies. Countries with net increases in the Official Reserve Account are usually attempting to keep the price of the domestic currency cheap relative to foreign currencies, by selling their currencies and buying the foreign exchange reserves. When a central bank sells its reserves (foreign currencies) for the domestic currency in the foreign exchange market, it is a credit item in the balance of payment accounts as it makes available foreign currencies. Similarly, when a central bank buys reserves (foreign currency), it is a debit item in the balance of payment accounts. The Balance of Payments identity states that: Current Account + Capital Account = Change in Official Reserve Account. If a country runs a current account deficit and it does not run down its official reserve to cover this deficit (there is no change in official reserve), then the current account deficit must be balanced by a capital account surplus. Typically, in countries with

floating exchange rate system, the change in official reserves in a given year is small relative to the Current Account and the Capital Account. Therefore, it can be approximated by zero. Thus, such a country can only consume more than it produces (or imports are greater than exports; a current account deficit) only if it has a capital account surplus (foreign residents are willing to invest in the country). Even in a fixed exchange rate system, the size of the official reserve account is small compared to the transactions in the current and capital account. Thus the residents of a country cannot have a current account deficit (imports exceeding exports) unless the foreigners are willing to invest in that country (capital account surplus).

Q.2 What is arbitrage? Explain with the help of suitable example a two-way and a three way arbitrage.

Answer: Arbitrage is the activity of exploiting imbalances between two or more markets. Foreign money exchangers operate their entire businesses on this principle. They find tourists who need the convenience of a quick cash exchange. Tourists exchange cash for less than the market rate and then the money exchanger converts those foreign funds into the local currency at a higher rate. The difference between the two rates is the spread or profit. There are plenty of other instances where one can engage in the practice arbitrage. In some cases, one market does not know about or have access to the other market. Alternatively, arbitrageurs can take advantage of varying liquidities between markets. The term 'arbitrage' is usually reserved for money and other investments as opposed to imbalances in the price of goods. The presence of arbitrageurs typically causes the prices indifferent markets to converge: the prices in the more expensive market will tend to decline and the opposite will ensue for the cheaper market. The efficiency of the market refers to the speed at which the disparate prices converge. Engaging in arbitrage can be lucrative, but it does not come without risk. Perhaps the biggest risk is the potential for rapid fluctuations in market prices. For example, the spread between two markets can fluctuate during the time required for the transactions themselves. In cases where prices fluctuate rapidly, would-be arbitrageurs can actually lose money. There are basically two types of arbitrage . One is two-way arbitrage and the other is three-way arbitrage. The more popular of the two is the two-way forex arbitrage. In the international market the currency is expressed in the form AAA/BBB. AAA denotes the price of one unit of the currency which the trader wishes to trade and it refers the base currency. While BBB is international three-letter code 0f the counter currency. For instance, when the value of EUR/USD is 1.4015, it means 1 euro = 1.4015 dollar. If the speculator is shrewd and has a deeper understanding of the forex market, then he can make use of this opportunity to make big profits. Forex arbitrage transactions are quite easy once you understand the method by which the business is conducted. For instance, the exchange rates of EUR/USD = 0.652, EUR/GBP = 1.312 and USD/GBP =2.012. You can buy around 326100 Euros with $500,000. Using the Euros you buy approximately 248420 Pounds which is sold for approximately $500,043 and thereby earning a small profit of $43.To make a large profit on triangular arbitrage you should be ready to invest a large amount and

deal with trustworthy brokers. Arbitrage is one of the strategies of forex trading. To make a substantial income out of this strategy you need to make an enormous amount of investment. Though theoretically it is considered to be risk free, in reality it is not the case. You should enter into this transaction only if you have deeper understanding of forex market. Hence, it would be wise not to devote much time in looking out for arbitrage opportunities. However, forex arbitrage is a rare opportunity and if it comes your way, then grab it without any hesitation. Three Way (Triangular) Arbitrage The three way arbitrate inefficiency now arises when we consider a case in which the EUR/JPY exchange rate is NOT equivalent to the EUR/USD/USD/JPY case so there must be something going on in the market that is causing a temporary inconsistency. If this inconsistency becomes large enough one can enter trades on the cross and the other pairs in opposite directions so that the discrepancy is corrected. Let us consider the following example : EUR/JPY=107.86EUR/USD=1.2713USD/JPY = 84.75 The exchange rate inferred from the above would be 1.2713*84.75 which would be 107.74 and the actual rate is 107.86. What we can do now is short the EUR/JPY and go long EUR/USD and USD/JPY until the correlation is reestablished. Sounds easy, right ? The fact is that there are many important problems that make the exploitation of this three way arbitrage almost impossible.

Q.3 You are given the following information: Spot EUR/USD : 0.7940/0.8007 Spot USD/GBP: 1.8215/1.8240 Three months swap: 25/35 Calculate three month EUR/USD rate. Solution: Spot Rate EUR/USD: 0.7940/0.8007 Forward Outright (if Premium) 3 months swap: 25/35=0.0025/0.0035 3 months EUR/USD rate= (0.7940+0.0025)/(0.8007+0.0035)=0.7965/0.8042 Forward Outright (if Discounted) 3 months swap: -25/-35=-0.0025/-0.0035 3 months EUR/USD rate= (0.7940-0.0025)/(0.8007-0.0035)=0.7915/0.7972

Q.4 Explain various methods of Capital budgeting of MNCs. Ans:- Methods of Capital Budgeting Discounted Cash Flow Analysis (DCF) DCF technique involves the use of the time-value of money principle to project evaluation. The two most widely used criteria of the DCF technique are the Net Present Value (NPV) and the Internal Rate of Return (IRR). Both the techniques discount the projects cash flow at an appropriate discount rate. The results are then used to evaluate the projects based on the acceptance/rejection criteria developed by management. NPV is the most popular method and is defined as the present value of future cash flows discounted at an appropriate rate minus the initial net cash outlay for the projects. The discount rate used here is known as the cost of capital. The decision criteria is to accept projects with a positive NPV and reject projects which have a negative NPV. The NPV can be defined as follows: NPV = Where, I0 = initial cash investment CFt = expected after-tax cash flows in year t. k = the weighted average cost of capital n = the life span of the project. The NPV of a project is the present value of all cash inflows, including those at the end of the projects life, minus the present value of all cash outflows. The decision criteria is to accept a project if NPV o and to reject if NPV < o. IRR is calculated by solving for r in the following equation.

where r is the internal rate of return of the project. The IRR method finds the discount rate which equates the present value of the cash flows generated by the project with the initial investment or the rate which would equate the present value of all cash flows to zero.

Adjusted Present Value Approach (APV) A DCF technique that can be adapted to the unique aspect of evaluating foreign projects is the Adjusted Present Value approach. The APV format allows different components of the projects cash flow to be discounted separately. This allows the required flexibility, to be accommodated in the analysis of the foreign project. The APV approach uses different discount rates for different segments of the total cash flows depending upon the degree of certainty attached with each cash flow. In addition, the APV format helps the analyst to test the basic viability of the foreign project before accounting for all the complexities. If the project is acceptable in this scenario, no further evaluation based on accounting for other cash flows is done. If not, then an additional evaluation is done taking into account the other complexities. As mentioned earlier, foreign projects face a number of complexities not encountered in domestic capital budgeting, for example, the issue of remittance, foreign exchange regulation, lost exports, restriction on transfer of cash flows, blocked funds, etc. The APV model is a value additivity approach to capital budgeting, i.e., each cash flow as a source of value is considered individually. Also, in the APV approach each cash flow is discounted at a rate of discount consistent with the risk inherent in that cash flow. In equation form the APV approach can be written as: APV =

Where the term Io = Present value of investment outlay = Present value of operating cash flows = Present value of interest tax shields = Present value of interest subsidies The various symbols denote Tt = Tax savings in year t due to the financial mix adopted St = Before-tax value of interest subsidies (on the home currency) in year t due to project specific financing

id = Before-tax cost of dollar debt (home currency) The last two terms in the APV equation are discounted at the before-tax cost of dollar debt to reflect the relative certain value of the cash flows due to tax savings and interest savings.

Q.5 a. What are depository receipts? Ans:Depository Receipt (DR) is a negotiable certificate that usually represents a companys publicly traded equity or debt. When companies make a public offering in a market other than their home market, they must launch a depository receipt program. Depository receipts represent shares of company held in a depository in the issuing companys country. They are quoted in the host country currency and treated in the same way as host country shares for clearance, settlement, transfer and ownership purposes. These features make it easier for international investors to evaluate the shares than if they were traded in the issuers home market. There are two types of depository receipts GDRs and ADRs. Both ADRs and GDRs have to meet the listing requirements of the exchange on which they are traded.

Q.5 b. Boeing commercial Airplane Co. manufactures all its planes in United States and prices them in dollars, even the 50% of its sales destined for overseas markets. Assess Boeings currency risk. How can it cope with this risk? Ans:Boeing faces foreign exchange risk for two reasons: (1) It sells half its planes overseas and the demand for these planes depends on the foreign exchange value of the dollar, and (2) Boeing faces stiff competition from Airbus Industrie, a European consortium of companies that builds the Airbus. As the dollar appreciates, Boeing is likely to lose both foreign and domestic sales to Airbus unless it cuts its dollar prices. One way to hedge this operating risk is for Boeing to finance a portion of its assets in foreign currencies in proportion to its sales in those countries. However, this tactic ignores the fact that Boeing is competing with Airbus. Absent a more detailed analysis, another suggestion is for Boeing to finance at least half of its assets with ECU bonds as a hedge against depreciation of the currencies of its European competitors. ECU bonds would also provide a hedge against appreciation of the dollar against the yen and other Asian currencies since European and Asian currencies tend to move up and down together against the dollar (albeit imperfectly).

Q.6. Distinguish between Eurobond and foreign bonds? What are the unique characteristics of Eurobond markets? Ans: The Eurobond market is made up of investors, banks, borrowers, and trading agents that buy, sell, and transfer Eurobonds. Eurobonds are a special kind of bond issued by European governments and companies, but often denominated in non-European currencies such as dollars and yen. They are also issued by international bodies such as the World Bank. The creation of the unified European currency, the euro, has stimulated strong interest in euro-denominated bonds as well; however, some observers warn that new European Union tax harmonization policies may lessen the bonds' appeal. Eurobonds are unique and complex instruments of relatively recent origin. They debuted in 1963, but didn't gain international significance until the early 1980s. Since then, they have become a large and active component of international finance. Similar to foreign bonds, but with important differences, Eurobonds became popular with issuers and investors because they could offer certain tax shelters and anonymity to their buyers. They could also offer borrowers favorable interest rates and international exchange rates. A Eurobond is also underwritten by an international syndicate of banks and other securities firms, and is sold exclusively in countries other than the country in whose currency the issue is denominated. For example, a bond issued by a U.S. corporation, denominated in U.S. dollars, but sold to investors in Europe and Japan (not to investors in the United States), would be a Eurobond. Eurobonds are issued by multinational corporations, large domestic corporations, sovereign governments, governmental enterprises, and international institutions. They are offered simultaneously in a number of different national capital markets, but not in the capital market of the country, nor to residents of the country, in whose currency the bond is denominated. Almost all Eurobonds are in bearer form with call provisions and sinking funds. A foreign bond is underwritten by a syndicate composed of members from a single country, sold principally within that country, and denominated in the currency of that country. The issuer, however, is from another country. A bond issued by a Swedish corporation, denominated in dollars, and sold in the U.S. to U.S. investors by U.S. investment bankers, would be a foreign bond. Foreign bonds have nicknames: foreign bonds sold in the U.S. are "Yankee bonds"; those sold in Japan are "Samurai bonds"; and foreign bonds sold in the United Kingdom are "Bulldogs."

Foreign currency bonds are issued by foreign governments and foreign corporations, denominated in their own currency. As with domestic bonds, such bonds are priced inversely to movements in the interest rate of the country in whose currency the issue is denominated. For example, the values of German bonds fall if German interest rates rise. In addition, values of bonds denominated in foreign currencies will fall (or rise) if the dollar appreciates (or depreciates) relative to the denominated currency. Indeed, investing in foreign currency bonds is really a play on the dollar. If the dollar and foreign interest rates fall, investors in foreign currency bonds could make a nice return. It should be pointed out, however, that if both the dollar and foreign interest rates rise, the investors will be hit with a double whammy.

Characteristics of Eurobond markets Currency denomination: The generic, plain vanilla Eurobond pays an annual fixed interest and has a long-term maturity. There are a number of different currencies in which Eurobonds are sold. The major currency denominations are the U.S. dollar, yen, and euro. (70 to 75 percent of Eurobonds are denominated in the U.S. dollar.) The central bank of a country can protect its currency from being used. Japan, for example, prohibited the yen from being used for Eurobond issues of its corporations until 1984. Non-registered: Eurobonds are usually issued in countries in which there is little regulation. As a result, many Eurobonds are unregistered, issued as bearer bonds. (Bearer form means that the bond is unregistered, there is no record to identify the owners, and these bonds are usually kept on deposit at depository institution). While this feature provides confidentiality, it has created some problems in countries such as the U.S., where regulations require that security owners be registered on the books of issuer. Credit risk: Compared to domestic corporate bonds, Eurobonds have fewer protective covenants, making them an attractive financing instrument to corporations, but riskier to bond investors. Eurobonds differ in term of their default risk and are rated in terms of quality ratings.

Maturities: The maturities on Eurobonds vary. Many have intermediate terms (2 to 10 years), referred to as Euro notes, and long terms (10-30 years), and called Eurobonds. There are also short-term Euro paper and Euro Medium-term notes. Other features: Like many securities issued today, Eurobonds often are sold with many innovative features. For example: Dual-currency Eurobonds pay coupon interest in one currency and principal in another. Option currency Eurobond offers investors a choice of currency. For instance, a sterling/Canadian dollar bond gives the holder the right to receive interest and principal in either currency. A number of Eurobonds have special conversion features. One type of convertible Eurobond is a dual-currency bond that allows the holder to convert the bond into stock or another bond that is denominated in another currency. A number of Eurobonds have special warrants attached to them. Some of the warrants sold with Eurobonds include those giving the holder the right to buy stock, additional bonds, currency, or gold.


Name: Dromor Tackie-Yaoboi

Roll Number: 531110332

Learning Centre: 02544

Course & Semester: MBA

Semester IV

Subject: Treasury


Assignment No.: 1

Subject Code: Mf0016

Date of Submission at the Learning Centre: 27 February, 2013

Q.1 Explain how organization structure of commercial bank treasury facilitates in handling various treasury operations. Ans:- The treasury organisation deals with analysing, planning, and implementing treasury functions. It deals with issues of profit centre, cost centre etc. The organisations managing interfaces with treasury functions include intra-group communications, taxation, recharging, measurement and cultural aspects. Structure of treasury organisation Figure 1.2 depicts the structure of treasury organisation which is divided into five groups.

Figure 1.2: Treasury Organisations Fiscal This group includes budget policy planning division, industrial and environmental division, common wealth state relationships, and social policy division. Macroeconomic This group deals with economic sector of the organisation. It includes domestic and international economic divisions, macroeconomic policy and modeling division. Revenue This group is concerned with the taxes in an organisation. It includes business tax division, indirect tax, international and treaties division, personal and income division, tax analysis and tax design division.

Markets This group mainly deals with selling of products in the competitive market. It includes competition and consumer policy, corporations and financial services policy, foreign investments and trade policy division.

Corporate services This group deals with overall management of the treasury organisation. It includes financial and facilities division, human resource division, business solutions and information management division.

Treasury management in banks In recent days, most of the Indian banks have classified their business into two primary business segments like treasury operations (investments) and banking operations (excluding treasury). The treasury operations in banks are divided into: Rupee treasury The rupee treasury carries out various rupee based treasury functions like asset liability management, investments and trading. It helps in managing the banks position in terms of statutory requirements like cash reserve ratio, statutory liquidity ratio according to the norms of the Reserve Bank of India (RBI). The various products in rupee treasury are: 1. Money market instruments Call, term, and notice money, commercial papers, treasury bonds, repo, reverse repo and interbank participation etc. 2. Bonds Government securities, debentures etc 3. Equities Foreign exchange treasury The banks provide trading of currencies across the globe. It deals with buying and selling currencies. Derivatives The banks make foundation for Over the Counter (OTC). It helps in developing new products, trading in order to lay off risks and form apparatus for much of the industrys self-regulation. The role of policies in strategic management was described in this section. The next section deals with inter-dependency between policy and strategy.

Q.2 Bring out in a table format the features of certificate of deposits and commercial papers. Ans:Features of commercial papers CPs is an unsecured promissory note. CPs can be issued for a maturity period of 15 days to less than one year. CPs is issued in the denomination of Rs.5 lakh. The minimum size of the issue is Rs. 25 lakh. The ceiling amount of CPs should not exceed the working capital of the issuing company. The investors in CPs market are banks, individuals, business organisations and the corporate units registered in India and incorporated units. The interest rate of CPs depends on the prevailing interest rate on CPs market, forex market and call money market. The attractive rate of interest In any of these markets, affects the demand of CPs. The eligibility criteria for the companies to issue CPs are as follows: The tangible worth of the issuing company should not be less than Rs . 4.5 Crores. The NRIs can subscribe to CDs on repatriation basis CDs have to bear stamp duty at the prevailing rate in the markets Features of CDs in Indian market Schedule banks are eligible to issue CDs Maturity period varies from three months to one year Banks are not permitted to buy back their CDs before the maturity CDs are subjected to CRR and Statutory Liquidity Ratio (SLR) requirements They are freely transferable by endorsement and delivery. They have no lock-in period.

The company should have a minimum credit rating of P2 and A2 obtained from Credit Rating Information Service of India (CRISIL) and Investment Information and Credit Rating Agency of India Limited. (ICRA) respectively The current ratio of the issuing company should be 1.33:1. The issuing company has to be listed on stock exchange.

Q.3 Critically evaluate participatory notes. Detail the regulatory aspects on it. Ans:- The participants in forex market are the RBI at the apex, authorised dealers (ADs) licensed by forex market, exporters, importers, companies and individuals. The major participants of foreign exchange market are: Corporates They mainly include business houses, international investors, and multinational corporations. They operate in market by buying or selling currencies within the framework of exchange control regulations. It deals with banks and their clients to form retail segment of forex market. Commercial banks They play an important role in forex market. They operate in market by trading currencies for their clients. Large volume of transactions consists of banks dealing directly among themselves and smaller transactions usually consists of intermediary foreign exchange brokers. Central bank It plays a vital role in the countrys economy by controlling money supply. Central banks get involved in forex market to regain price stability of exchange rate, protect certain levels of price in exchange rate, and support economic goals like inflation and growth. Exchange brokers They ensure the most favourable quotations between the banks at a low cost in terms of time and money. Banks provide opportunities to brokers in order to increase or decrease the rate of buying or selling foreign currencies. Exchange brokers have a tendency to specialise in unusual currencies but also manage major currencies. In India, many banks deal through recognised exchange brokers or may deal directly among themselves. The other participants include RBI and its authorised dealers, exporters, importers, companies and individuals.

Q.4 What is capital account convertibility? What are the implications on implementing CAC? Ans:- Capital Account Convertibility (CAC) refers to relaxing controls on capital account transactions. It means freedom of currency conversion in terms of inflow and outflows with respect to capital account transaction. Most of the countries have liberalised their capital account by having an open account, but they do retain some regulations for influencing inward and outward capital flow. Due to global integration, both in trade and finance, CAC enhances growth and welfare of country. The perception of CAC has undergone some changes following the events of emerging market economies (EMEs) in Asia and Latin America, which went through currency and banking crises in 1990s. A few counties backtracked and re-imposed capital controls as part of crisis resolution. Crisis such as economic, social, human cost and even extensive presence of capital controls creates distortions, making CAC either ineffective or unsustainable. The cost and benefits from capital account liberalisation is still being debated among academics and policy makers. These developments have led to considerable caution being exercised by EMEs in opening up capital account. The Committee on Capital Account Convertibility (Chairman: Shri. S.S. Tarapore) which submitted its report in 1997 highlighted the benefits of a more open capital account but at the same time cautioned that CAC could pose tremendous pressures on the financial system. India has cautiously opened its capital account and the state of capital control in India is considered as the most liberalised it had been since late 1950s. The different ways of implementing CAC are as follows: Open the capital account for residents and non-residents. Initially open the inflow account and later liberalise the outflow account. Approach to simultaneously liberalise control of inflow and outflow account.

Q.5 Detail domestic and international cash management system Ans;- The strategy of a company which has its businesses in many nations and efficiently manages its cash and liquidity is called multinational cash management programme. The main goal of multinational cash management is the utilisation of local banking and cash management services. Multinational companies are those that operate in two or more countries. Decision making within the corporation is centralised in the home country or decentralised across the countries where the organisation does its business. The reasons for which the firms expand into other countries are as follows: Seeking new markets and raw materials Seeking new technology and product efficiency. Preventing the regulatory obstacles. Retaining customers and protecting its processes Expanding its business.

Several factors which distinguish multinational cash management from domestic cash management are as follows: Different currency denominations Political risk and other risk. Economic and legal complications. Role of governments Language and cultural differences. Difference in tax rates, import duties.

The principle objective of multinational cash management programme is to maximise a companys financial resources by taking benefits from all liability provisions, payable periods. The multinational cash management programme effectively achieve its goals by using excess cash flow from some units across the globe to extend cash needs in other units which is called in-house banking and by relocating funds for tax and foreign exchange management through repricing and invoicing. During multinational cash management system payments by customers to companys branches are basically handled through a local bank. The payments between the branches and the parent company

are managed through the branches, correspondents or associates of the parent company. Through the use of electronic reporting systems a parent company observes cash balances in its foreign local banks. Multinational cash management programme specifically evaluate its techniques by timing of billing, use of lockboxes or intercept points, negotiated value range. The multinational cash management system involves exchange rate risk which occurs when the cash flow of one currency during transformation to another currency the cash value gets declined. It occurs due to the change in exchange rates. The exchange rates are determined by a structure which is called the international monetary system. For example, Wincor Nixdorf played an innovative role in enhancing cash handling between various countries. Wincors focus was on the entire process chain which started from head office to stores, crediting to the retail companys account, head office to branches and so on. Wincor Nixdorfs served several countries with its innovative hardware and software elements, IT services to side operations and consulting services to develop custom optimised solutions.

Q.6 Distinguish between CRR and SLR Ans:- Cash Reserve Ratio Cash Reserve Ratio (CRR) is a countrys central bank regulation that sets the minimum reserves for banks to hold for their customer deposits and notes. These reserves are considered to meet the withdrawal demands of the customers. The reserves are in the form of authorised currency stored in a bank treasury (vault cash) or with the central bank. CRR is also called liquidity ratio as it controls money supply in the economy. CRR is occasionally used as a tool in monetary policies that influence the countrys economy. CRR in India is the amount of funds that a bank has to keep with the RBI which is the central bank of the country. If RBI decides to increase CRR, then the banks available cash drops. RBI practices this method, that is, increases CRR rate to drain out excessive money from banks. The CRR in the economy as declared by RBI in September 2010 is 6 percent. An organisation that holds reserves in excess amount is said to hold excess reserves. The following are the effects of CRR on economy: CRR influences an economys money supply by effecting the potential of banks CRR influences inflation in an organization CRR stimulates higher economic activity by influencing the liquidity

Statutory Liquidity Ratio Statutory Liquidity Ratio (SLR) is the percentage of total deposits that banks have to invest in government bonds and other approved securities. It means the percentage of demand and time maturities that banks need to have in forms of cash, gold and securities like Government Securities (G-Secs). As gold and government securities are highly liquid and safe assets they are included along with cash. In India, RBI determines the percentage of SLR. There are some statutory requirements for placing the money in the government bonds. After following the requirements, the RBI arranges the level of SLR. The maximum limit of SLR is 40 percent and minimum limit of SLR is 25 percent. The RBI increases the SLR to control inflation, extract liquidity in the market and protects customers money. Increase in SLR also limits the banks leverage position to drive more money into the economy.

If any Indian bank fails to maintain the required level of SLR, then it is penalized by RBI. The nonpayer bank pays an interest as penalty which is above the actual bank rate. The main objectives for maintaining SLR are the following: By changing the SLR level, the RBI increases or decreases banks credit expansion Ensures the comfort of commercial banks Forces the commercial banks to invest in government securities like government bonds

Reference: SMU manual on Treasury Management. (Book ID: B1311)

Name: Dromor Tackie-Yaoboi

Roll Number: 531110332

Learning Centre: 02544

Course & Semester: MBA Semester IV

Subject: Merchant Banking and Financial Services Assignment No.: 1

Subject Code: Mf0017

Date of Submission at the Learning Centre: 27 February, 2013

Q.1 What do you understand by insider trading. What are the SEBI rules and regulations to prevent insider trading. Ans:"Insider trading" is a term subject to many definitions and connotations and it encompasses both legal and prohibited activity. Insider trading takes place legally every day, when corporate insiders officers, directors or employees buy or sell stock in their own companies within the confines of company policy and the regulations governing this trading. It is the trading that takes place when those privileged with confidential information about important events use the special advantage of that knowledge to reap profits or avoid losses on the stock market, to the detriment of the source of the information and to the typical investors who buy or sell their stock without the advantage of "inside" information. Insider trading refers to transactions in a companys securities, such as stocks or options, by corporate insiders or their associates based on information originating within the firm that would, once publicly disclosed, affect the prices of such securities. Corporate insiders are individuals whose employment with the firm (as executives, directors, or sometimes rank-and-file employees) or whose privileged access to the firms internal affairs (as large shareholders, consultants, accountants, lawyers, etc.) gives them valuable information. Famous examples of insider trading include transacting on the advance knowledge of a companys discovery of a rich mineral ore (Securities and Exchange Commission v. Texas Gulf Sulphur Co.), on a forthcoming cut in dividends by the board of directors (Cady, Roberts & Co.), and on an unanticipated increase in corporate expenses (Diamond v. Oreamuno). Although insider trading typically yields significant PROFITS, these transactions are still risky. Much trading by insiders, though, is due to their need for cash or to balance their portfolios. The above definition of insider trading excludes transactions in a companys securities made on nonpublic outside information, such as the knowledge of forthcoming marketwide or industry developments or of competitors strategies and products. Such trading on information originating outside the company is generally not covered by insider trading regulation. Almost eight years ago, India's capital markets watchdog the Securities and Exchange Board of India organised an international seminar on capital market regulations. Among others issues, it had invited senior officials of the Securities and Exchange Commission to tell us how it tackled the menace of insider trading.

SEBI rules and regulations to prevent insider trading. SEBI had amended the Insider Trading Regulations 1992 vide a Notification dated November 19, 2008 which I had discussed it here and here. SEBI has now released a set of "Clarifications" on 24th July 2009 on certain issues arising out of the amendments made. I had opined on some of these issues in my earlier posts referred to above and hence me update on what are the clarifications so given. Curiously, the "clarifications" have no formal standing or reference. It is neither a circular, nor a notification, nor even a press release. It is neither signed nor dated. But it seeks to "clarify" and giving meaning to the Regulations that have legal standing and where such "meaning" is quite contrary - as we will see - to the plain reading of the text. Having said that, the "clarifications" mostly relaxes the requirements and hence, being gift horses, one should not examine them in the mouth too closely! Let us see the clarifications given. Recollect that specified persons were banned from carrying out opposite transactions "(banned transactions") for six months of original buy/sale ("original transactions"). The question was whether acquisition of shares under ESOPs scheme and sale of such shares would be considered as transactions that trigger off such ban and whether these themselves are banned. It is clarified that exercise of ESOPs will neither be deemed to be "original transaction" nor "banned transaction". Thus, by acquiring shares under ESOPs, you don't trigger a ban and if you are banned for six months, you can still exercise ESOPs. The reasoning given is that the ban is only on transactions in secondary market.(Incidentally, I had felt that "However, taking all things into account, perhaps the intention is not to cover shares acquired under ESOPs Schemes. "). But sale of shares acquired through ESOPs is covered but it will only be deemed to be a "original transaction" and not a "banned transaction". In other words, even if you are under a ban, you can still sell shares acquired under ESOPs but once you sell such shares, you have triggered a ban of six months. On this aspect, I do not understand the basis of clarifying that the sale of shares acquired

under ESOPs scheme will not be an "original transaction" - the logic of covering secondary market transactions should apply here also. Then, it is clarified that every later transaction triggers a fresh six month ban. A purchase on 1st February results in ban till 1st August. However, if there is a fresh purchase on 15th March, there is a ban now till 15th September. Effectively, this means that the ban period is from 2nd Febuary till 15th September. What about transactions before this amendment - will the amendment create ban in respect of them too - this is an academic issue now at least as the six month period is now complete. It is clarified though that the transactions before the amendment are not to be considered. On a similar note, unwinding of positions in derivatives held on the date of this amendment is possible. A crucial clarification is that the ban on "sale" of shares for personal emergencies is permisible by waiver by the Compliance Officer. This is not evident from a plain reading of the provision and I had opined that "This bar on such transactions is total. There are no circumstances whether of urgent need or otherwise under which the bar can be lifted. There is also no provision under which even SEBI could grant exemption.". But SEBI thinks it is so evident and hence let us accept this gift without creating legal niceties! Note that this clarification applies only to sales and there can be no purchases within these six month ban period - obviously there cannot be any personal emergency to purchase shares!

Q.2 What is the provision of green shoe option and how is it used by companies to stabilize prices. Ans:- Green Shoe Option (GSO) is an option where a company can retain a part of the oversubscribed capital by issuing additional shares. Oversubscription is a situation when a new stock issue has more buyers than shares to meet their orders. This excess demand over supply increases the share price. There is another situation called under subscription. In under subscription, a new stock issue has fewer buyers than the shares available. An issuing company appoints a stabilizing agent, which is usually an underwriter or a lead manager, to purchase shares from the open market using the funds collected from the over-subscription of shares. The stabilizing agent stabilizes the price for a period of 30 days from the date of listing as authorised by the SEBI. Green shoe option agreement allows the underwriters to sell 15 percent more shares to the investors than planned by the issuer in an underwriting. Some issuers do not include green shoe options in their underwriting contracts under certain circumstances where the issuer funds a particular project with a fixed amount of price and does not require more funds than quoted earlier. The green shoe option is also known as over-allotment option. The over-allotment refers to allocation of shares in excess of the size of the public issue made by the stabilizing agent out of shares borrowed from the promoters in pursuance of a GSO exercised by the issuing company. The green shoe option is popular because it is the only SEC-permitted means for an underwriter to stabilize the price of a new issue post-pricing. Issuers will sometimes not permit a green shoe on a transaction when they have a specific objective for the offering and do not want the possibility of raising more money than planned. The term comes from the first company, Green Shoe Manufacturing now called Stride Rite Corporation, to permit underwriters to use this practice in its offering. The mechanism by which the green shoe option works to provide stability and liquidity to a public offering is described in the following example: A company intends to sell 1 million shares of its stock in a public offering through an investment banking firm (or group of firms which are known as the syndicate) whom the company has chosen to be the offering's underwriter(s). When the stock offering is the first time the stock is available for public trading, it is called an IPO (initial public offering). When there is already an established market and the company is simply selling more of their non-publicly traded stock, it is called a follow-on offering.

The underwriters function as the broker of these shares and find buyers among their clients. A price for the shares is determined by agreement between the company and the buyers. One responsibility of the lead underwriter in a successful offering is to help ensure that once the shares begin to publicly trade, they do not trade below the offering price. When a public offering trades below its offering price, the offering is said to have "broke issue" or "broke syndicate bid". This creates the perception of an unstable or undesirable offering, which can lead to further selling and hesitant buying of the shares. To manage this possible situation, the underwriter initially oversells ("shorts") to their clients the offering by an additional 15% of the offering size. In this example the underwriter would sell 1.15 million shares of stock to its clients. When the offering is priced and those 1.15 million shares are "effective" (become eligible for public trading), the underwriter is able to support and stabilize the offering price bid (which is also known as the "syndicate bid") by buying back the extra 15% of shares (150,000 shares in this example) in the market at or below the offer price. They can do this without the market risk of being "long" this extra 15% of shares in their own account, as they are simply "covering" (closing out) their 15% oversell short. If the offering is successful and in strong demand such that the price of the stock immediately goes up and stays above the offering price, then the underwriter has oversold the offering by 15% and is now technically short those shares. If they were to go into the open market to buy back that 15% of shares, the underwriter would be buying back those shares at a higher price than it sold them at, and would incur a loss on the transaction. This is where the over-allotment (green shoe) option comes into play: the company grants the underwriters the option to take from the company up to 15% more shares than the original offering size at the offering price. If the underwriters were able to buy back all of its oversold shares at the offering price in support of the deal, they would not need to exercise any of the green shoe. But if they were only able to buy back some of the shares before the stock went higher, then they would exercise a partial green shoe for the rest of the shares. If they were not able to buy back any of the oversold 15% of shares at the offering price ("syndicate bid") because the stock immediately went and stayed up, then they would be able to completely cover their 15% short position by exercising the full green shoe.

Q.3 Discuss the proportionate allotment procedure followed by the lead banker to allot shares. Ans:- The post-issue Lead Merchant Banker shall ensure that moneys received pursuant to the issue and kept in a separate bank (i.e. Bankers to an Issue), as per the provisions of section 73(3) of the Companies Act 1956, is released by the said bank only after the listing permission under the said Section has been obtained from all the stock exchanges where the securities were proposed to be listed as per the offer document. Post-issue Advertisements -(Clause 7.5) Post-issue Lead Merchant Banker shall ensure that in all issues, advertisement giving details relating to over-subscription, basis of allotment, number, value and percentage of applications received along with stockinvest, number, value and percentage of successful allottees who have applied through stockinvest, date of completion of despatch of refund orders, date of despatch of certificates and date of filing of listing application is released within 10 days from the date of completion of the various activities at least in an English National Daily with wide circulation, one Hindi National Paper and a Regional language daily circulated at the place where registered office of the issuer company is situated. Post-issue Lead Merchant Banker shall ensure that issuer company / advisors / brokers or any other agencies connected with the issue do not publish any advertisement stating that issue has been oversubscribed or indicating investors' response to the issue, during the period when the public issue is still open for subscription by the public. Advertisement stating that "the subscription to the issue has been closed" may be issued after the actual closure of the issue. Basis of Allotment -(Clause 7.6) In a public issue of securities, the Executive Director/Managing Director of the Designated Stock Exchange along with the post issue Lead Merchant Banker and the Registrars to the Issue shall be responsible to ensure that the basis of allotment is finalised in a fair and proper manner in accordance with the following guidelines:. Provided, in the book building portion of a book built public issue notwithstanding the above clause, Clause 11.3.5 of Chapter XI of these Guidelines shall be applicable. Proportionate Allotment Procedure The allotment shall be subject to allotment in marketable lots, on a proportionate basis as explained

below: a. Applicants shall be categorised according to the number of shares applied for. b. The total number of shares to be allotted to each category as a whole shall be arrived at on a proportionate basis i.e. the total number of shares applied for in that category (number of applicants in the category x number of shares applied for) multiplied by the inverse of the over-subscription ratio as illustrated below: Total number of applicants in category of 100s - 1,500 Total number of shares applied for - 1,50,000 Number of times over-subscribed - 3 Proportionate allotment to category - 1,50,000 x 1/3 = 50,000 c. Number of the shares to be allotted to the successful allottees shall be arrived at on a proportionate basis i.e. total number of shares applied for by each applicant in that category multiplied by the inverse of the over-subscription ratio. Schedule XVIII of basis of allotment procedure may be referred to. Number of shares applied for by 100 each applicant Number of times oversubscribed 3 Proportionate allotment to each successful applicant - 100 x 1/3 = 33 (to be rounded off to 100) d. All the applications where the proportionate allotment works out to less than 100 shares per applicant, the allotment shall be made as follows: i. ii. Each successful applicant shall be allotted a minimum of 100 securities; and The successful applicants out of the total applicants for that category shall be determined by drawal of lots in such a manner that the total number of shares allotted in that category is equal to the number of shares worked out as per (ii) above. e. If the proportionate allotment to an applicant works out to a number that is more than 100 but is not a multiple of 100 (which is the marketable lot), the number in excess of the

multiple of 100 shall be rounded off to the higher multiple of 100 if that number is 50 or higher. f. If that number is lower than 50, it shall be rounded off to the lower multiple of 100. As an illustration, if the proportionate allotment works out to 250, the applicant would be allotted 300 shares. g. If however the proportionate allotment works out to 240, the applicant shall be allotted 200 shares. All applicants in such categories shall be allotted shares arrived at after such rounding off. h. If the shares allocated on a proportionate basis to any category is more than the shares allotted to the applicants in that category, the balance available shares for allotment shall be first adjusted against any other category, where the allocated shares are not sufficient for proportionate allotment to the successful applicants in that category. i. j. The balance shares if any, remaining after such adjustment shall be added to the category comprising applicants applying for minimum number of shares. As the process of rounding off to the nearer multiple of 100 may result in the actual allocation being higher than the shares offered, it may be necessary to allow a 10% margin i.e. the final allotment may be higher by 10 % of the net offer to public.

Q.4 What are the advantages of leasing to a company. Ans:- Leasing has many advantages for the lessee as well as for the lessor. Lease financing offers the following benefits to the lessee: One hundred percent finance without immediate down payment for huge investments, except for his margin money investment. Facilitates the availability and use of equipments without the necessary blocking of capital funds. Acts as a less costly financing alternative as compared to other source of finance. Offers restriction free financing without any unduly restrictive covenants. Enhances the working capital position. Provides finance without diluting the ownership or control of the lessor. Offers tax benefits which depend on the structure of the lease. Enables lessee to pay rentals from the funds generated from operations as lease structure can be made flexible to suit the cash flow. When compared to term loan and institutional financing, lease finance can be arranged fast and documentation is simple and without much formalities. The lessor being the owner of the asset bears the risk of obsolescence and the lessee is free on this score. This gives the option to the lessee to replace the equipment with latest technology The following are the benefits offered by lease financing to the lessor: The lessors ownership is fully secured as he is the owner and can always take possession in case of default by the lessee. Tax benefits are provided on the depreciation value and there is a scope for him to avail more depreciation benefits by tax planning. High profit is expected as the rate of return increases Return on equity is elevated by leveraging results in low equity base which enhance the earnings per share.

High growth potential is maintained even during periods of depression.

Q.5 Discuss Accounting standard 19 for lease based on operating lease. Ans:- Accounting Standard (AS)-19, Leases, is issued by the Council of the Institute of Chartered Accountants of India. This standard comes into force with respect of all assets leased during accounting periods commencing on or after 1.4.2001 and is mandatory in nature from that date. Accordingly, the Guidance Note on Accounting for Leases issued by the Institute in 1995, is not applicable in respect of such assets. Earlier application of this Standard is, however, encouraged. Scope The right accounting policies and disclosures in relation to finance leases and operating leases should be applied in accounting for all leases other than the following: Lease agreements to explore or to use natural resources, such as oil, gas , timber, metals and other mineral rights; and Licensing agreements for items such as motion picture films, video recordings, plays, manuscripts, patents and copyrights; and Lease agreements to use property such as lands.

Related definitions The following terms are used in this statement: Lease A lease is an agreement calling for the lessee (user) to pay the lessor (owner) for use of an asset for an agreed period of time. A rental agreement is a lease in which the asset is a substantial property. Finance lease A lease which transfers all the risks and rewards incident to ownership of an asset. Operating lease A lease for which the lessee acquires the property for only a small portion of its useful life. Non-cancellable lease A non-cancellable lease is a lease that can be abandoned only: Inception of lease The inception of lease is the former date of the lease agreement and the commitment date by the parties to the principal provisions of the lease. Lease term The lease term is the non cancellable period for which the lessee has agreed to take on lease asset together with future periods.

Minimum lease payments It is the regular rental payments excluding executory costs to be paid by the lessee to the lessor in a capital lease. The lessee informs that an asset and liability at the discounted value of the future minimum lease payments.

Fair value The expected value of all assets and liabilities of a owned company used to combine the financial statements of both companies. Economic life The outstanding period of time for which real estate improvements are expected to generate more income than operating expenses cost. Useful life Useful life of a leased asset is either the period over which leased asset is expected to be useful by the lessee or the number of production units expected to be gained from the use of the asset by the lessee.

Residual value The value of a leased asset is the estimated fair value of the asset at the end of the lease term. Guaranteed residual value It is guaranteed by the lessee or by a party on behalf of the lessee to pay the maximum amount of the guarantee; and in the case of the lessor, the part of the residual value which is guaranteed by the lessee or on behalf of the lessee, or an independent third party who is financially able of discharging the obligations under the guarantee.

Unguaranteed residual valued of a lease asset It is the value of a leased asset that is the total amount by which the residual value of the asset exceeds its guaranteed residual value. Gross investment in the lease It is the sum of the minimum lease payments within a finance lease from the lessors view and any unguaranteed residual value accumulating to the lessor.

Unearned finance income Any income that comes from investments and other sources unrelated to employment services. Net investment in the lease Net investment in the lease is the gross investment in the lease less unearned finance income. Implicit interest An interest rate that is not explicitly stated, but the implicit rate can be determined by use of present value factors. Contingent rent It is the portion of the lease payments that is not permanent in amount but is based on a factor other than just the passage of time. For example, percentage of sales.

Classification of leases The lease can be classified as either a finance lease or an operating lease based on different accounting treatments as required for the different types of lease. This classification is based on the extent to which risks and rewards of ownership of leased asset are transferred to the lessee or remain with the lessor. Risks include loss from idle capacity, technological obsolescence, and variations in return. Rewards include the rights to sell the asset and gain from its capital value. Leases are classified as a finance lease if it transfers considerably all the risks and rewards of ownership to the lessee; else if it does not then it is an operating lease. While classifying a lease, it is important to recognize the essence of the agreement and not just its legal form. The commercial reality is always important. Conditions in the lease may specify that an entity has only a limited disclosure to the risks and benefits of the leased asset. The following are some of the situations where an individual or in combination, would usually direct to a lease being a finance lease: Transfer of ownership to the lessee by the end of the lease term. The lessee has the choice to purchase the asset at a cost that is expected to be lower than its fair value and such that the option is likely to be exercised. The lease term is for a key part of the financial life of the asset, even if title to the asset is not transferred. The current value of the least lease payments is equal to substantially all of the fair value of the asset. The leased resources are of a specialized nature such that only the lessee can use them without significant modification. Losses or gains from changes in the fair value of the residual value of the asset add to the lessee. The lessee has the option to continue the lease for a secondary term at significantly below market rent. The following are some of the situations where an individual or in combination, would usually direct to a lease being an operating lease:

If the lessor experiences the risk associated with a movement in the market value of the asset or the use of the asset. If there is an option to cancel, and the lessee is likely to exercise such an option. Leases of land, if title is not transferred. If the title to the land is not likely to pass to the lessee, then the rewards and risks of ownership has not substantially passed.

The lowest lease payments need to be allocated between the land and the building component in proportion to their relative fair values of the lease holding interests at the beginning of the lease. If the allocation is not be made reliably, then both leases are treated as finance leases or as operating leases. Leases in the financial statements of lessees Let us now discuss about leases in the financial statement of lessees. Operating lease In an operating lease, the lease payments are recognised as an expenditure on a straight-line basis over the lease term, unless another organised basis is more representative of the pattern of the users benefit. The incentives in operating leases will be in the form of up-front payments and rent-free periods. These need to be properly noticed over the lease term from its commencement. Finance lease At the initiation of the lease term, lessees identify finance leases as assets and liabilities in their balance sheets on sum equal to the value of the leased asset or, if lower, on the current value of the minimum lease payments. The discount rate in calculating the current value of the minimum lease payments is the interest rate contained in the lease, if this is possible to determine. Else, the lessees incremental borrowing rate can be used. Any initial direct costs of the lessee are included to the amount identified as an asset. After the initial recognition, the lease payments are assigned between the repayment of the outstanding liability and the finance charge in order to reflect a constant periodic rate of interest on the liability. The asset needs to be depreciated over its expected useful life under IAS 16, using rates for similar assets. If there is no reasonable certainty that ownership will transfer to the lessee, then the shorter of the lease term and the useful life must be used. Leases in the financial statements of lessors This section analyses leases in the financial statement of lessors.

Operating lease Lessors present assets under operating leases in their balance sheets based on the nature of the asset. The depreciation policy for depreciable leased assets will be consistent with the lessors normal depreciation policy for related assets, and depreciation is calculated in accordance with International Accounting Standard (IAS 16 and IAS 38). Lease income from operating leases is identified in income on a straight-line basis over the lease term, unless another organised basis is more representative of the pattern in which user benefit derived from the leased asset is reduced. Finance lease Lessors recognise assets held under a finance lease in their balance sheets and present them as a receivable on an amount equal to the net investment in the lease. The identification of finance income is based on a pattern showing a periodic rate of return on the lessors net investment in the finance lease. The dealer lessors recognise selling profit or loss in the period, based on the policy followed by the entity for outright sales. If low rates of interest are quoted, selling profit will be restricted which would apply if a market rate of interest were charged. Costs incurred by manufacturer or dealer lessors associated with negotiating and arranging a lease will be recognised as an expense when the selling profit is identified.

Q.6 Given the various types of mutual funds, take any two schemes and discuss the performance of the schemes. Ans:- Different types of mutual fund schemes Schemes according to Maturity Period: A mutual fund scheme can be classified into open-ended scheme or close-ended scheme depending on its maturity period. Open-ended Fund/ Scheme An open-ended fund or scheme is one that is available for subscription and repurchase on a continuous basis. These schemes do not have a fixed maturity period. Investors can conveniently buy and sell units at Net Asset Value (NAV) related prices which are declared on a daily basis. The key feature of open-end schemes is liquidity. Close-ended Fund/ Scheme A close-ended fund or scheme has a stipulated maturity period e.g. 5-7 years. The fund is open for subscription only during a specified period at the time of launch of the scheme. Investors can invest in the scheme at the time of the initial public issue and thereafter they can buy or sell the units of the scheme on the stock exchanges where the units are listed. In order to provide an exit route to the investors, some close-ended funds give an option of selling back the units to the mutual fund through periodic repurchase at NAV related prices. SEBI Regulations stipulate that at least one of the two exit routes is provided to the investor i.e. either repurchase facility or through listing on stock exchanges. These mutual funds schemes disclose NAV generally on weekly basis. Schemes according to Investment Objective: A scheme can also be classified as growth scheme, income scheme, or balanced scheme considering its investment objective. Such schemes may be open-ended or close-ended schemes as described earlier. Such schemes may be classified mainly as follows: Growth / Equity Oriented Scheme The aim of growth funds is to provide capital appreciation over the medium to long- term. Such schemes normally invest a major part of their corpus in equities. Such funds have comparatively high risks. These schemes provide different options to the investors like dividend option, capital appreciation, etc. and the investors may choose an option depending on their preferences. The investors must indicate the option in the application form. The mutual funds also allow the investors to change the options at a later date. Growth schemes are good for investors having a long-term

outlook seeking appreciation over a period of time. Income / Debt Oriented Scheme The aim of income funds is to provide regular and steady income to investors. Such schemes generally invest in fixed income securities such as bonds, corporate debentures, Government securities and money market instruments. Such funds are less risky compared to equity schemes. These funds are not affected because of fluctuations in equity markets. However, opportunities of capital appreciation are also limited in such funds. The NAVs of such funds are affected because of change in interest rates in the country. If the interest rates fall, NAVs of such funds are likely to increase in the short run and vice versa. However, long term investors may not bother about these fluctuations. Balanced Fund The aim of balanced funds is to provide both growth and regular income as such schemes invest both in equities and fixed income securities in the proportion indicated in their offer documents. These are appropriate for investors looking for moderate growth. They generally invest 40-60% in equity and debt instruments. These funds are also affected because of fluctuations in share prices in the stock markets. However, NAVs of such funds are likely to be less volatile compared to pure equity funds. Money Market or Liquid Fund These funds are also income funds and their aim is to provide easy liquidity, preservation of capital and moderate income. These schemes invest exclusively in safer short-term instruments such as treasury bills, certificates of deposit, commercial paper and inter-bank call money, government securities, etc. Returns on these schemes fluctuate much less compared to other funds. These funds are appropriate for corporate and individual investors as a means to park their surplus funds for short periods. Gilt Fund These funds invest exclusively in government securities. Government securities have no default risk. NAVs of these schemes also fluctuate due to change in interest rates and other economic factors as is the case with income or debt oriented schemes. Index Funds Index Funds replicate the portfolio of a particular index such as the BSE Sensitive index, S&P NSE 50 index (Nifty), etc These schemes invest in the securities in the same weightage comprising of an index. NAVs of such schemes would rise or fall in accordance with the rise or fall in the index,

though not exactly by the same percentage due to some factors known as "tracking error" in technical terms. Necessary disclosures in this regard are made in the offer document of the mutual fund scheme. There are also exchange traded index funds launched by the mutual funds which are traded on the stock exchanges. How to know the performance of a mutual fund scheme? The performance of a scheme is reflected in its net asset value (NAV) which is disclosed on daily basis in case of open-ended schemes and on weekly basis in case of close-ended schemes. The NAVs of mutual funds are required to be published in newspapers. The NAVs are also available on the web sites of mutual funds. All mutual funds are also required to put their NAVs on the web site of Association of Mutual Funds in India (AMFI) and thus the investors can access NAVs of all mutual funds at one place The mutual funds are also required to publish their performance in the form of half-yearly results which also include their returns/yields over a period of time i.e. last six months, 1 year, 3 years, 5 years and since inception of schemes. Investors can also look into other details like percentage of expenses of total assets as these have an affect on the yield and other useful information in the same half-yearly format. The mutual funds are also required to send annual report or abridged annual report to the unitholders at the end of the year. Various studies on mutual fund schemes including yields of different schemes are being published by the financial newspapers on a weekly basis. Apart from these, many research agencies also publish research reports on performance of mutual funds including the ranking of various schemes in terms of their performance. Investors should study these reports and keep themselves informed about the performance of various schemes of different mutual funds. Investors can compare the performance of their schemes with those of other mutual funds under the same category. They can also compare the performance of equity oriented schemes with the benchmarks like BSE Sensitive Index, S&P CNX Nifty, etc. On the basis of performance of the mutual funds, the investors should decide when to enter or exit from a mutual fund scheme.

Reference: Brudney, Victor. Insiders, Outsiders, and Informational Advantages Under the Federal Securities Laws. Harvard Law Review 93 (1979): 322376. Carlton, Dennis W., and Daniel R. Fischel. The Regulation of Insider Trading. Stanford Law Review 35 (1983): 857895. Haft, Robert J. The Effect of Insider Trading Rules on the Internal Efficiency of the Large Corporation. Michigan Law Review 80 (1982): 10511071. Hu, Jie, and Thomas H. Noe. The Insider Trading Debate. Federal Reserve Bank of Atlanta Economic Review 82 (4th Quarter 1997): 3445. Klock, Mark. Mainstream Economics and the Case for Prohibiting Insider Trading. Georgia State University Law Review 10 (1994): 297335. SMU Manual on Merchant Banking and Financial Services. Book ID: 1318

Name: Dromor Tackie-Yaoboi

Roll Number: 531110332

Learning Centre: 02544

Course & Semester: MBA Semester IV

Subject: Insurance and Risk Management Assignment No.: 1

Subject Code: Mf0018

Date of Submission at the Learning Centre: 27 February, 2013

Q.1 Explain chance of loss and degree of risk with examples Ans:- Chance of loss Loss is the injury or damage borne by the insured in consequence of the happening of one or more of the accidents or misfortunes against which the insurer, in consideration of the premium, has undertaken to assure the insured. Chance of loss is defined as the probability that an event that causes a loss will occur. The chance of loss is a result of two factors, namely peril and hazard. Hazards are further classified into the following four types: Physical hazard This is a danger likely to happen due to the physical characteristics of an object, which increases the chance of loss. For example defective wiring in a building which enhances the chance of fire. Moral hazard It is an increase in the probability of loss due to dishonesty or character defects of an insured person. For example, Burning of unsold goods that are insured in order to increase the amount of claim is a moral hazard. Morale hazard It is an attitude of carelessness or indifference to losses, because the losses were insured. For example, careless acts like leaving a door unlocked which makes it easy for a burglar to enter, or leaving car keys in an unlocked car increase the chance of loss. Legal hazard It is the severity of loss which is increased because of the regulatory framework or the legal system. For example actions by government departments restricting the ability of insurers to withdraw due to poor underwriting results or a new environment law that alters the risk liability of an organisation. Degree of risk Degree of risk refers to the intensity of objective risk, which is the amount of uncertainty in a given situation. It can be assessed by finding the difference between expected loss and actual loss. The formula used is Degree of risk = Degree of risk is measured by the probability of adverse deviation. If the probability of the occurrence of an event is high, then greater is the likelihood of deviation from the outcome that is hoped for and greater the risk, as long as the probability of loss is less than one. In the case of exposures in large numbers, estimates are made based on the likelihood of the number of losses that

will occur. With regard to aggregate exposures the degree of risk is not the probability of a single occurrence but it is the probability of an outcome which is different from that expected or predicted. Therefore insurance companies make predictions about the losses that are expected to occur and formulate a premium based on that.

Q.2 Explain in detail Malhotra Committee recommendations Ans:- Recommendations of Malhotra committee The major reforms in Indian industry started when the Malhotra committee was formed in 1993 headed by R. N. Malhotra (former Finance Secretary and RBI Governor). This was formed to analyse the Indian insurance industry and propose the future course of the industry. It modified the financial sector to design a system appropriate for the changing economical structures in India. The committee recognised the importance of insurance in financial systems and designed suitable insurance programs. The report submitted by the committee in 1994 is given below:

Government risk in the insurance Companies to be decreased to 50%. GIC must be taken under the government so that the GIC subsidiaries can work independently. Better freedom of operation for insurance companies.

Private companies who have initial capital of Rs 1 billion must be permitted to work in the insurance industry. Companies should not use a single entity to deal with life and general Insurance. Foreign companies may be permitted to work in the Indian insurance industry only as partners of some domestic company. Postal life insurance must be permitted to work in the rural market. Every state must have only one state level life insurance company.

Regulatory body
The Insurance Act must be changed. An Insurance Regulatory body must be formed. Insurance controller, which was a part of finance ministry, should be allowed to work independently.

The mandatory investments given to government securities from the LIC Life Fund must be reduced from 75% to 50%. GIC and its subsidiaries should not be allowed to hold more than 5% in any company.

Customer service
LIC must pay interest if it delays any payments beyond 30 days. All insurance companies should be encouraged to create unit linked pension plans. The insurance industry should be computerised and the technologies must be updated. The insurance companies should promote and fulfil customer services. They should also extend the insurance coverage areas to various sectors. The committee allowed only a limited competition in this sector as any failure on the part of new players could ruin the confidence of the public to associate with this industry. Every insurance company with an initial capital of Rs.100 crores can act as an independent company with economic motives. Since then there is a competition between the private and public sectors of insurance, the Insurance Regulatory and Development Authority Act, 1999 (IRDA Act) was formed to control, support and ensure a structured growth of the insurance industry. The private sector insurance companies were allowed to work along with the public sector, but had to follow the conditions given below: The company must be registered under the Companies Act, 1956. The total capital share by a foreign company held by itself or by through sub sectors of the company should not exceed 26% of the capital paid to the Indian insurance industry. The company should only provide life, general insurance or reinsurance. The company should have an initial paid capital of at least Rs.100 crores to provide life insurance. The company should have an initial paid capital of at least Rs.200 crores to provide reinsurance. Later in 2008, further reforms were made by introducing the plan for Insurance (Laws) Amendment

Bill - 2008 and The LIC (Amendment) Bill - 2009. These amendments influenced the Indian insurance industry in a huge way. The Insurance (Laws) Amendment Bill - 2008 amended three other acts namely, Insurance Act 1938, General Insurance Business (Nationalisation) Act 1972 (GIBNA) and Insurance Regulatory and Development Authority Act 1999.

Q.3 What is the procedure to determine the value of various investments? Ans:Procedure to determine the value of investments According to this sub clause of the Regulations, a detailed procedure has been prescribed for determining value of various investments like real estate, debt securities and equity securities. Real estate Investment property The investment property can be valued at a historical cost after deducting the accumulated depreciation and impairment loss. Residual value is considered zero and no reevaluation is allowed. The change in the carrying amount of the investment property shall be taken to Revaluation Reserve. The insurers can asses at every balance sheet date to check whether an impairment of the investment property has occurred. All impairment losses are recognised as expense in the Revenue/Profit and Loss account. Debt securities Debt securities that include the government securities and the redeemable preference share must be considered as held to maturity securities and can be measured at an historical cost that is subjected to amortisation. Equity securities and derivative instruments that are traded in active markets Limited equity securities and derivative instruments that are traded in active markets must be measured at a fair value according to the balance sheet date. The lowest of the last estimated closing price of the stock exchanges where securities are listed can be considered for estimating the fair value. The insurer can assess the balance sheet date to check whether an impairment of the listed equity security instruments has occurred.

An active market means the market where the securities that are traded are homogenous, it has normal willing buyers and sellers and the prices are available publicly. Unrealised gains or losses that arise due to the change in the fair value of listed equity shares and derivative instruments can be considered under the heading Fair Value Change Account and reported in Profit or Loss account. The profit or loss on sale of such investments can include the accumulated changes of the fair value that was previously recognised under the heading Fair Value Change Account with respect to a particular security and recycled to Profit and Loss Account on actual sale of that listed security. The balance in Fair Value Change Account or any part thereof cannot be distributed as dividends. In addition to this, while declaring dividends, any debit balance in the Fair Value Change Account can be reduced from the profits or free reserves. Loans Loans can be calculated at a historical cost that is subjected to impairment provisions. Catastrophe reserve Catastrophe reserve can be created according to the norms, if any prescribed by the authority. Fund investment out of catastrophe reserve can be made according to the instruction given by the authority. Further it is clarified that this reserve is created to meet the losses that may arise because of some unexpected set of event and not any definite known reason. The following need to be disclosed as notes to the Balance Sheet: Contingent liabilities: - Partly paid-up investments. - Outstanding underwriting commitments. - Claims not judged as debts. - Guarantees provided by or on behalf of the company.

- Statutory demands. - Reinsurance commitments. - Others (to be specified). Encumbrances to company assets (inside and outside India) Obligations made for loans, investments and fixed assets. Ageing of claims. Premiums, less reinsurance. Recognition of premium income extent based on different risk patterns. Contract values with respect to investments. Procurements where deliveries are delayed and pending. Sales where payments are not settled. Operational expenditures of the insurance business. Historical costs of valued investments on a fair value basis. Calculation of remuneration of managers. Amortisation basis of debt securities. Unrealised gains or losses due to fair value changes of equity shares and derivative instruments. The credit balance in Fair Value Change account is not available for distribution when realisation is pending. Fair value of investment property and its basis. Claims settled and outstanding claims for a period of more than six months on the balance sheet date.

The following accounting policies form an integral part of financial statements: All important accounting policies with respect to accounting standards issued by ICAI, important policies mentioned in Part I of Accounting Principles. Other accounting principles of an insurer are stated according to Accounting Standard AS 1 by ICAI. Any departure from the accounting policies as abovementioned need to be separately revealed with reasons. The following information also needs to be disclosed: Investments made according to statutory requirements need to be disclosed separately together with its amount, security and special rights inside and outside India. Segregation of performing and non performing investments for income purpose as per the directions issued by authorities. Percentage of business sector-wise. Summarised financial statements of last five years prescribed by authorities. Accounting ratios provided by authorities. Allocation of interests, dividends and rents among revenues, profits and losses.

Q.4 Discuss the guidelines for settlement of claims by Insurance company Ans:General guidelines for claims settlement There are some guidelines that must be followed while settling the claims. These guidelines are general in nature, and are not compiled to be the same always. Therefore, the claim settling authority uses discretion and records reasons. Appointment of surveyor The Insurance Act states that surveyor should survey claims above Rs. 20,000. The surveyors appointment should be based on the following points: The surveyor should have a valid license. The surveyor selected should consider the type of loss and nature of the claims. Depending on the situation, if technical expertise is required, a consultant having technical expertise assists the surveyor. One surveyor can be used for various jobs, if the surveyors competence is good for both.

Appointment of investigator Depending on circumstances, it is necessary to appoint an investigator for verifying the claim version of loss. The appointing letter of the investigator o mentions all the reference terms to perform.

Guidelines for Settlement of Claims by IRDA 1. Proposal for insurance The proposals for insurance are: In all cases to claim insurance, a proposal for grant of cover should be submitted with proof (a written document). But a written proposal form is not required for marine insurance markets. Depending on the circumstances of the claim, forms and documents in the grant of cover can be made available in the languages recognised by the constitution of India. The prospect is to fill the

form of proposal, under the guidance of the provisions of section 45 of the Insurance Act. If a proposal form is not used, the insurer has to record the information obtained, orally or in writing, and confirmation is to be done by the insurer within 15 days. If any information is not recorded, the burden of the missing information lies on the insurer, in case he claims that the insured is suppressing information or is providing misleading information. The insurer is to educate the proposer, concerning the facilities available, like appointing nominee or any facility based on the terms of act or conditions of policy. The insurer has to process the proposal quickly and efficiently. All the decisions and confirmations should not exceed 15 days from the receipt of proposal by the insurer. 2. Matters to be stated in life insurance policy A life insurance policy should clearly state the following: The name of plan in the policy, its terms and conditions. Whether participating in profits or not. The profits such as cash bonus deferred bonus, simple or compound bonus, if participating. The terms and conditions of the contract, benefits payable and contingencies on which the benefits are payable. The dates of commencement of the policy, benefits availing date and maturity date. The time gap to pay premiums, the amount of premium, the grace period to pay premium. The implications of not paying premium and the provisions of a surrender value. Policy requirements for converting the policy into paid-up policy, surrender value, nonforfeiture and to revive lapsed policy. The provision for loan keeping the policy as the security and the rate of interest on the loan amount is to be mentioned at the time of taking the loan.

The address of the insurer to communicate with regard to the policy. All the documents to avail claim under a policy. When acting under regulations to forward policy to the insured, the insurer has to inform that the letter forwarded has a time span of 15 days from the date of receipt, to review the terms and conditions of the policy. If, in case, the insured do not agree, they can return the policy stating the reasons for objection. The insured is entitled to refund the premium which is subjected to a deduction with respect to a proportionate risk premium. With respect to the policy coverage, if the premium charge depends on age, the insurer should verify the age before issuing the policy document. If the premium charge does not depend on age, the insurer is to obtain the proof of age as soon as possible. 3. Claims procedure of life insurance policy The claims procedures with respect to life insurance policy are: 1. A life insurance policy should state all the documents to be submitted by a claimant, to support a claim. 2. A life insurance company on receiving a claim, has to process the claim. Any additional document, if needed, is to be raised within a period of 15 days of the receipt claim. 3. A claim under a life policy has to be paid or disputed, by giving relevant reasons, and clarifying within 30 days from the date of receipt. All investigations, that is, initiations and completions of investigations, must be done not later than 6 months. 4. If a claim is ready for payment, but the payment is not made because of reasons related to proper identification of the payee, the insurer has to hold the amount for the benefit of the payee, and earn interest at the rate applicable to a savings bank account. 5. If there is a delay in payment from the part of the insurer, in processing a claim, then the insurance company has to pay the claim amount at a rate two percent above the bank rate, according to the rate at the beginning of the financial year, in which the claim is reviewed.

Q.5 What is facultative reinsurance and treaty reinsurance? Ans:The two different types of reinsurances are: Facultative reinsurance. Treaty reinsurance.

Facultative reinsurance It is a type of reinsurance that is optional; it is a case-by-case method that is used when the ceding company receives an application for insurance that exceeds its retention limit. It is based on the individual agreements that help to cover specific losses. When any primary insurer wants reinsurance for a specific coverage, it enters the market, and bargains with different reinsurance companies for the amount of coverage and premium, looking out for a better value. According to most of the contracts, the reinsurer pays a ceding commission to the insurer to pay for purchase expenses. Before issuing the insurance policy the insurer looks for reinsurance and speaks to many reinsurers. The insurance company does not have any commitments to cede insurance and also the reinsurer has no commitments to accept the insurance. However if the insurance company find a reinsurer who is willing to take the insurance policy then they can enter into a contract. Facultative reinsurance is used when a huge amount of insurance is preferred and while considering a specific risk involved in an individual contract. Facultative reinsurance is the reinsurance of a part of a single policy or the entire policy after negotiating the terms and conditions. It reduces the risk exposure of the ceding company against a particular policy. Facultative reinsurance is not mandatory. One advantage of facultative reinsurance is it is flexible as a reinsurance contract is arranged to fit any kind of cases. It helps the insurance companies in writing large amount of insurance policies. Reinsurance moves the huge losses of the insurers to the reinsurer and thus helps the insurer. One main disadvantage of facultative reinsurance is that it is not reliable. The ceding insurer will not know in advance whether a reinsurer will agree to pay any part of the insurance. The other disadvantage of this kind of reinsurance is the delay in issuing the policy as it cannot be issued until the reinsurance is got for that policy. Treaty reinsurance Treaty reinsurance is one in which the primary insurer agrees to cede the insurance policy to the

reinsurer and the reinsurer has to accept it. It includes a standing agreement with a specific reinsurer. The amount of insurance that the primary insurer sells and those policies where both the parties provide the service is specified in the contract. All the business that comes under the contract is automatically reinsured according to the conditions of the treaty. Treaty reinsurance needs the reinsurer to assume the entire responsibility of the ceding company or a part of it for some particular sections of the business with respect to the terms of the policy. The contract is a compulsory contract because according to the treaty the ceding company has to cede the business and the reinsurer is compelled to assume the business. It is a type of reinsurance that is preferred while considering the groups of homogenous risks. The treaty reinsurance provides many advantages to the primary insurance company. It is automatic, more reliable, and there is no delay in issuing the policy. It is also more cost effective as there is no need to shop around for reinsurers before writing the policy. The treaty reinsurance is not advantageous to the reinsurer. Usually the reinsure does not know about the individual applicant of the policy and has to depend on the underwriting judgment that the primary insurer gives. It may be so that the primary insurer can show bad business like more losses and get reinsured for it as the reinsurer does not know the real fact. The primary insurer may pay insufficient premium to the reinsurer. Therefore the reinsurer undergoes a loss if the risk selection of the primary insurer is not good and they charge insufficient rates. There are different types of treaty reinsurance arrangements which may differ according to the liability of the reinsurer. They are: Quotashare treaty. Surplusshare treaty. Excessofloss treaty. Reinsurance pool.

Q.6 What is the role of information technology in promoting insurance products Ans:The rapid developments in information technology are posing serious challenges for insurance organisations. The use of information technology in insurance industry has an impact on the efficiency of the organisation as it reduces the operational costs. After many private players entered the insurance industry, the competition in the insurance sector has become immense. Information technology has helped in enhancing the insurance business. Insurance industry uses information technology for internal administration, accounting, financial management, reports, and so on. Indian insurance organisations are rapidly growing as technology-driven organisations, by replacing billions of files with folders of information. Insurers are heading towards the technological enhancements, in order to focus on the key areas of insurance business. The role of IT in different fields of insurance like: Actuarial investigation - Insurers depend on the rates of actuarial models to decide the quantity of risks which create loss. Insurance organisations are using new technologies, to analyse the claims and policyholders data for providing connection between risk characteristics and claims. Developments in technology allow actuaries to examine risks more precisely. Policy management - Most of the insurance policies are printed and conveyed to policy owners through mail every year. The method of creating documents is accomplished by technicians and typists. In most of the cases, this task is generally completed by using new technology. Customer data is accessed by computer systems, and maintained in huge folders, in order to renew each policy. To assemble the policies, complex software packages are used, and to print the policies high speed printers are utilised. Underwriting Underwriters can use knowledge based expert systems to make underwriting decisions. By using automated systems, underwriters can compare an individuals risk profile with their data and customise policies according to the individuals risk profile. Front end operations: CRM (Customer Relationship Management) packages are used to integrate the different functional processes of the insurance company and provide

information to the personnel dealing with the front end operations. CRM facilitates easy retrieval of customer data. LIC is using CRM packages to handle its front end operations.

Reference: SMU Manual on Insurance and Risk Management (Book ID: B1319)