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Master of Business Administration Semester 4

MA 0043/MBF 304 Corporate banking

(4 credits)
(Book ID: B1312) ASSIGNMENT Set 1
Q1. Write a detailed note on evolution of corporate Banking. Ans: Corporate banking units supply capital to business ventures on a long term basis. It encompasses the various products and services that a commercial bank provides to its corporate customers. Traditionally, banks focused on retail segments while wholesale/corporate banks were in separate existence. They focused primarily on large and medium sized businesses because the average dollar/rupee value of transactions in these segments was high. However due to competitive pressures the role that such banks play has undergone a vast change. While they continue to be involved in commercial loans, corporate banking entities are no longer just credit providers, but a fee-based service intermediary, for large, medium and small corporates. Further, all commercial banks now have their own corporate banking segments thus creating a onestop shop for all categories of customers. While there is such progress in the concept of universal banking on one hand, there is a huge challenge of competition to be faced on the other; the challenge being large product bouquets being brought about by each bank. This has created fierce competition in this segment, spurring major competitors to grow ever larger and making the position of corporate treasurers even more difficult to satisfy. Further, the cost of these conflicting demands and competitive pressures has created the need to find new sources of revenue. Technology-aided services, customer-centricity, innovative tailor made product brochures and hard core relationship management have become the prime differentiators. In this scenario, corporate bankers have two basic choices either ensure their current position at peak efficiency so as to effectively meet its customers needs, or develop alternative strategies outside their current operations environment. Corporate Banking has evolved through time and some significant changes. Corporate customers are now altering the nature of the relationship, which was previously dictated by banks, selecting business and imposing charges at will. Most corporates are looking at reducing their dependence on banks and assuming greater control over their finances. Treasury activities are being consolidated thereby reducing transaction costs and all financial processes are being integrated. Corporates have begun to set up their finance departments as in-house banks to provide cash pooling services etc. normally supplied by external banks. This allows them to centralize their liquidity effectively. Many set up payment centres or shared service centres to rationalise the payment settlement process, enabling them to profit from cash reserves to an unprecedented extent.

Q2. What are the key features of recovery management? Ans: In continuation to the tasks of credit deployment and monitoring, follow-up and recovery management are the most significant activities. A very important document in this regard is the loan agreement. The loan agreement will have all issues related to the repayment of the loan in a clear manner, apart from the interest rate, collaterals etc. The loan agreement will also comment on the repayment schedule. The repayment schedule will be drawn by considering the cash flows of the borrower which in turn depends on the Debt Service Coverage Ratio (DSCR). DSCR is preferred to be greater than 1.5. In addition to this the repayment usually starts after a moratorium period. Recovery management involves understanding all the terms in the loan agreement, studying the credit risk involved and identifying the problem loans. Since timely identification and prompt remedial steps are required to be taken for problem loans, it becomes imperative to classify all loans into different groups based on their quality. In India, RBI has issued guidelines on income recognition and asset classification which you will be seeing in the upcoming section. Considering the threat problem loans pose to the health of a bank, it becomes vital to monitor loans at various stages . With continuous monitoring, the bank is enabled to assess the financial position of the client company and thereby take timely action before such loans get converted into NPAs, which can possibly turn into loss assets thereafter. All banks have a Recovery Policy that lays down the guidelines to the Bank employees on how to go about recovery management. These are formulated on the lines of guidelines issued by the RBIs prudential norms for income recognition, assets classification and provisioning for credit portfolio of Banks, which we will be looking at in the next section. Objectives of a loan Recovery Policy: a) Minimise the accretion of fresh NPAs: It is more prudent to avoid the slippage so as to save time, labour and cost. b) Reduce the level of NPAs through recovery by adopting various legal and other measures. c) Close follow up of sticky/irregular accounts including sick units, suit filed and decreed accounts and the cases referred to Debt Recovery Tribunals for speedy recovery of the dues. d) Upgrade the existing NPAs by improving the quality of assets by recovering the overdue accounts and by restructuring the accounts wherever possible. e) Prevent deterioration of the quality of assets through regular inspection of securities and compliance to all other terms and conditions of loan sanction.

Q3. What are Supply bills? What is the procedure to be followed by a bank in making advances against such bills? Ans: Bills drawn on government or semi-government departments or bodies or Public sector undertakings, for the supply of goods and other materials or for the performance of certain contracts as per the accepted tenders are referred to as Supply Bills.

A party or contractor whose tender is accepted by the concerned authority of the government may draw the bill on supply of goods or performance of contract, which may be partial or whole as permitted under the terms of the tender. Once the goods supplied are found to be in conformance with the tender/contract, or the contract work, in part or whole, is found to be completed in accordance with the terms of the contract, an acceptance/inspection note is issued by the authorised representative of the concerned entity. Payment of bills by such government or PSU entities is made only when the bill are accompanied by such inspection/acceptance note. Payments are not generally forthcoming promptly from such agencies on account of procedural delays involved in checking and passing of the bills. Therefore, suppliers approach banks for advance against such bills as security for uninterrupted conduct of their business. Procedure to be followed Supplier sends the goods and then produces documents like railway receipt or bill of lading as evidence of dispatch of goods. Goods are inspected by an appropriate authority and an acceptance/inspection note is issued. In case of work contracts, an engineers certificate with regard to the work done is issued to the supplier. Supplier/contractor prepares bill for payment. The inspection/acceptance note or the engineers certificate has to accompany the bill. The bill along with such documents as above is submitted to the concerned entity through a banker. Supplier/contractor requests the banker for an advance against such bills. In case of railways receipts, the receipt if directly sent to the department concerned, but the number and other particulars of the receipt are entered in the supply bill. The assignment of the supply bill is made on the bill itself. The bill is endorsed for payment to the bank and is receipted on a revenue stamp.

It is to be noted that supply bills are not bills of exchange and do not enjoy the status of being a negotiable instrument. They are in the nature of debts which can be assigned in favour of the banker for payment, after affixing a revenue stamp for having received the amount. The banker should also obtain a letter from the supplier or contractor requesting the appropriate department to make the payment directly to the banker.

Q4. How is the cash flow statement different from the funds flow statement? Ans: Cash flow statement is different from the Funds flow statement in the following ways: Cash flow statement which takes care of the changes in the cash position between two balance sheets irrespective of the fact whether the inflow relates to the transactions of previous years or the current period or whether of revenue nature or capital nature. Funds flow statement takes into account funds flowing in or out of business and cash is only one of those items of funds. Cash flow statement is a tool for analysis of shorter periods. Item other than cash take a longer time to convert into ready cash and get used the way the business concern what it. The cash flow can let know the position of meeting a liability which is going to fall due within

a shorter period. For relatively longer period analysis, the funds flow statement is preferable. Changes in cash flow affect the working capital or funds flow changes as it is one of the components of the total funds. However, the changes in funds, do not necessarily affect the cash position.

For the statement of cash flows to be useful to managers and others, it is important that companies employ a common definition of cash. It is also important that a statement be constructed using consistent guidelines for identifying activities that are sources of cash and uses of cash. The proper definition of cash and the guidelines to use in identifying sources are discussed in coming paragraphs. The Funds Flow Statement can be prepared in various formats depending on the approach and concept of the user. For analysis of liquidity purposes, the format could be a statement of change in the working capital position, or a statement of changes in the financial position. The statement can also be prepared in a T format. While the Cash Flow Statement can be prepared on a suitable format for the user. While one of the formats commonly used is similar to the Funds flow statement, the other is as prescribed by Clause 32 of Listing Agreements with the stock Exchange.

Q5. How is CVP analysis relevant to a lending banker? Ans: CVP is the technique to study the relationship between cost, volume and profit. These elements are inter-related and are dependent on one another. While profit depend on sales, the selling price is largely determined among other, by the cost , which in turn depend on volume of production. This concept help a business unit to examine the profitability of the operation as it reveals the effect on profit of change in the volume. CVP helps to determine: The volume of sales to avoid losses, The volume of sales to achieve a desired profit level, Effect of change in prices, costs and volume on profits, Products or product mix that is profitable or whether the business should manufacture or buy etc.

PV Ratio expresses the relationship of contribution to the sales and is expressed as shown below: PV Ratio = Contribution / Sales (or) PV Ratio = (Sales Variable cost)/ Sales (or) PV Ratio = (Fixed Cost + Profit)/ Sales (or) PV Ratio = Change in profit or contribution / Change in sales

As a general rule, higher the PV Ratio, the more profitable it would be and vice versa. Hence management will aim at increasing their PV Ratio, as it can be increased by increasing the contribution, which is turn can be effected either by increasing the selling price or reducing the variable or marginal cost or changing the sale mix and selling more profitable products having higher PV Ratio. What the changes in ratios mean: If a firm realises book debts in cash No change in current assets, quick ratio, current ratio or net working capital. If a firm realises old assets or non-current assets in cash or sell fixed assets in cash current assets, quick ratio, current ratio or net working capital will improve. If a firm issues bonus shares There is no change in any ratios. If a firm issues rights shares current ratio, quick ratio, net working capital, debt equity ratio, net worth will improve. If a firm revalue its fixed assets and creates revaluation reserve net worth and tangible networth increase. Debt equity ratio declines/improves. There is no effect on current assets or quick assets or current ratio and quick ratio.

Q6. Why is it important to stamp a document? Explain. Ans: The Stamp Act extends to whole of India except Jammu and Kashmir. In all, there are 65 documents requiring stamping. All documents chargeable with duty and executed by any person in India should be properly and duly stamped as per provisions of India Stamp Act 1899. In respect of 10 instruments namely Demand Promissory note, bill of exchange payable otherwise than on demand, cheque, bill of lading, letter of credit, share transfer form, debenture, proxy, insurance policies and money receipts, the duty will remain same throughout India. This is as per Union List issued by the Central Government. The State Government is authorised to amend the Act or enact a new Act and prescribe the rate of stamp duty for instruments other than those mentioned in the Union List. Non-judicial stamps are used in bank documents, which are of three types, namely adhesive, special adhesive, embossed or impressed stamps. Adhesive stamps (such as revenue stamp, share transfer stamp, notary stamp etc.) are affixed on money receipts, demand promissory note, balance confirmation letter etc. Time of stamping: The documents must bear the current stamp and must be stamped before or the time of execution. Value of stamp duty: Where clarity with regard to proper value of stamp duty payable is not there, Collector of the stamp duty will decide on the required value. Effect of non-stamping or under stamping: Promissory note, usance bill of exchange and acknowledgement of debt, are documents which if unstamped or inadequately stamped cannot be validated even after payment and for all practical purposes, nullified.

Cancellation of stamps: The adhesive stamps affixed on a document or instrument should be cancelled by the executants by writing on or across the stamp his name or initials or in any other effectual manner, so that the stamp cannot be used again. Effect of non-cancellation: Any instrument bearing adhesive stamps which have not been effectively cancelled shall be deemed to be unstamped. Double signature of the borrower, once across the stamp and other without stamp, should be obtained on the pronote or any other document requiring adhesive stamps. Bills of exchange where banks are a party to the documents: Stamp duty has been waived on usance bills which are payable not more than 3 months after date or sight and are endorsed in favour of a commercial/co-operative bank and arise out of bonafide transaction. Penalty: It may be minimum Rs.5 and maximum up to ten times of such duty or deficient portion. Further, any person executing a document which is not duly stamped is committing an offence which is punishable with fine which may extend to Rs.500.