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SPECIAL EMPHASIS ON BANK LOANS
Submitted To – Mr. NL Ahuja
Submitted ByPrajith VM Prakhar Singh Shrija Lohade Tarun Gupta Varun S. Pilla 99 100 111 118 119
We would like to express our heartfelt gratitude and thanks to International Management Institute, for granting us the opportunity to undergo this assignment. When we look back at our work, many faces come to our mind for whom we are grateful to. We desire to put on record our deep sense of gratitude to Mr. Ranuj Kumar, Manager Emerging Corp. Banking Grp. (South Ex. Branch), for sparing time of his busy schedule and coordinating with us, by providing valuable insight and opinion on the topic. Also we express our thanks to Dr. N L Ahuja for guiding us through the concepts and theories required for the completion of this report.
Contents Index Sno. 1 1.1 1.2 1.3 1.4 1.5 1.6 2.0 3.0 3.1 4.0 4.1 5.0 5.1 5.2 6.0 7.1 7.2 8.0 9.0 Particulars Debt instruments Government securities Debentures Bonds P notes Loans Mortgage Indian debt market Recent initiatives in Indian debt market Recent trends in debt market – Rakesh Mohan Valuation of government securities Valuation of bond and debentures Loans Retail loans Cooperate loans Loan processing life cycle Aggregate loan vs. GDP(Rs) GDP growth rate vs. loan growth(PLR in perspective) Interview Conclusion Page no. 44 6 7 8 8 9 10 12 14 16 17 20 20 27 32 36 37 38 41
1.0 DEBT INSTRUMENTS
So what are Debt Instruments?
By definition, it is a paper or electronic obligation that enables the issuing party to raise funds by promising to repay a lender in accordance with terms of a contract.
Debt instruments are a way for markets and participants to easily transfer the ownership of debt obligations from one party to another. Debt obligation transferability increases liquidity and gives creditors a means of trading debt obligations on the market. Without debt instruments acting as a means to facilitate trading, debt is an obligation from one party to another. When a debt instrument is used as a medium to facilitate debt trading, debt obligations can be moved from one party to another quickly and efficiently.
Types of debt instruments include government securities (G-sec), notes, bonds, debentures, certificates, mortgages, leases, or other agreements between a lender and a borrower.
1.1 Government Securities (G-Secs)
Government securities (G-Secs) are sovereign securities which are issued by the Reserve Bank of India on behalf of Government of India, in lieu of the Central Government's market borrowing programme. It is the oldest and the largest component of the Indian debt market in terms of market capitalization, trading volumes and outstanding securities. The G-Secs market plays a vital role in the Indian economy as it provides the benchmark for determining the level of interest rates in the country through the yields 4
on the government securities which are treated as the risk-free rate of return in any economy.
As the government draws its income from society as a whole, government debt can be seen as an indirect debt of the taxpayers. Government debt can be categorized as internal debt, owed to lenders within the country, and external debt, owed to foreign lenders. Governments usually borrow by issuing securities, government bonds and bills. Less credit worthy countries sometimes borrow directly from supranational institutions. Some consider all government liabilities, including future pension payments and payments for goods and services the government has contracted but not yet paid, as government debt. Government Securities are of the following types: 1.1.1 Dated Securities are generally fixed maturity and fixed coupon securities usually carrying semi-annual coupon. These are called dated securities because these are identified by their date of maturity and the coupon, e.g., 11.03% GOI 2012 is a Central Government security maturing in 2012, which carries a coupon of 11.03% payable half yearly 1.1.2 Zero Coupon Bonds are bonds issued at discount to face value and redeemed at par. The key features of these securities are that they are issued at a discount to face value, the tenure of the security is fixed, and the security is redeemed at par (face value) on its maturity date. 1.1.3 Partly Paid Stock is stock where payment of principal amount is made in installments over a given time frame. It meets the needs of investors with regular flow of funds and the need of Government when it does not need funds immediately.
1.1.4 Floating Rate Bonds are bonds with variable interest rate with a fixed percentage over a benchmark rate. There may be a cap and a floor rate attached thereby fixing a maximum and minimum interest rate payable on it. 1.1.5 Bonds with Call/Put Option: First time in the history of Government Securities market RBI issued a bond with call and put option this year. This bond is due for redemption in 2012 and carries a coupon of 6.72%. However the bond has call and put option after five years i.e. in year 2007. In other words it means that holder of bond can sell back (put option) bond to Government in 2007 or Government can buy back (call option) bond from holder in 2007. 1.1.6 Capital indexed Bonds are bonds where interest rate is a fixed percentage over the wholesale price index. These provide investors with an effective hedge against inflation. It is of five year maturity with a coupon rate of 6 per cent over the wholesale price index. The principal redemption is linked to the Wholesale Price Index.
A debenture is an instrument of debt executed by the company acknowledging its obligation to repay the sum at a specified rate and also carrying an interest. It is only one of the methods of raising the loan capital of the company. A debenture is thus like a certificate of loan or a loan bond evidencing the fact that the company is liable to pay a specified amount with interest and although the money raised by the debentures becomes a part of the company's capital structure, it does not become share capital.
The attributes of a debenture are: A movable property. Issued by the company in the form of a certificate of indebtedness.
It generally specifies the date of redemption, repayment of principal and interest on specified dates. May or may not create a charge on the assets of the company.
A bond is a debt security, in which the authorized issuer owes the holders a debt and is obliged to repay the principal and interest (the coupon) at a later date, termed maturity. A bond is simply a loan in the form of a security with different terminology: The issuer is equivalent to the borrower, the bond holder to the lender, and the coupon to the interest. Bonds enable the issuer to finance long-term investments with external funds. Note that certificates of deposit (CDs) or commercial paper are considered to be money market instruments and not bonds. Bonds and stocks are both securities, but the major difference between the two is that stock-holders are the owners of the company (i.e., they have an equity stake), whereas bond-holders are lenders to the issuing company. Another difference is that bonds usually have a defined term, or maturity, after which the bond is redeemed, whereas stocks may be outstanding indefinitely. An exception is a consol bond, is a perpetuity bond (i.e., bond with no maturity). There are various kinds of bonds available in the market today –
Fixed rate bonds Floating rate notes (FRNs) High yield bonds Zero coupon bonds Inflation linked bonds Asset-backed securities Subordinated bonds Perpetual bonds 7
Bearer bond Registered bond Municipal bond Book-entry bond Lottery bond War bond
1.4 Promissory Notes A promissory note is a contract where one party (the maker or issuer) makes an unconditional promise in writing to pay a sum of money to the other (the payee), either at a fixed or determinable future time or on demand of the payee, under specific terms. They differ from IOUs in that they contain a specific promise to pay, rather than simply acknowledging that a debt exists. The terms of a note typically include the principal amount, the interest rate if any, and the maturity date. Sometimes there will be provisions concerning the payee's rights in the event of a default, which may include foreclosure of the maker's assets. Demand promissory notes are notes that do not carry a specific maturity date, but are due on demand of the lender. Usually the lender will only give the borrower a few days notice before the payment is due. For loans between individuals, writing and signing a promissory note is often considered a good idea for tax and recordkeeping reasons.
A loan is a type of debt. Like all debt instruments, a loan entails the redistribution of financial assets over time, between the lender and the borrower. The borrower initially does receive an amount of money from the lender, which they pay back, usually but not always in regular installments, to the lender. This service is
generally provided at a cost, referred to as interest on the debt. A loan is of the annuity type if the amount paid periodically (for paying off and interest together) is fixed. Loans are mainly of two types – Secured Loans and Unsecured Loans A secured loan is a loan in which the borrower pledges some asset (e.g. a car or property) as collateral for the loan. Unsecured loans are monetary loans that are not secured against the borrowers assets. These may be available from financial institutions under many different guises or marketing packages
A mortgage is the transfer of an interest in property (or in law the equivalent - a charge) to a lender as a security for a debt - usually a loan of money. While a mortgage in itself is not a debt, it is lender's security for a debt. It is a transfer of an interest in land (or the equivalent), from the owner to the mortgage lender, on the condition that this interest will be returned to the owner of the real estate when the terms of the mortgage have been satisfied or performed. In other words, the mortgage is a security for the loan that the lender makes to the borrower.
2. 0 Indian debt market
The Indian debt market may be categorized into two – 1. Government securities (G-Sec) consisting of central and state government securities, 2. Corporate bonds/debentures. This is again classified as market for PSU Bonds and Private Sector Bonds.
The corporate bond market, in the sense of private corporate sector rising debt through public issuance in capital market, is only an insignificant part of the Indian Debt Market.
EVOLUTION OF THE INDIAN DEBT MARKET
As already said before, debt markets are used to raise resources. During 1950’s fixed deposits (FDs) in banks were considered safest form of investment that gave guaranteed returns and were risk free at the same time. But FDs have inherent disadvantages such as the amount always being fixed; and if interest rates dropped, investors tend to lose. By 1970’s another option in the form of underdeveloped equity markets also emerged. Cut to 1992- Liberalization and restructuring swept through the financial market in India. Due to reduced interference from state, equity and debt markets started gaining ground in retail investor’s minds.
The factors that affected growth of the debt market are:-
1. It lacked focus on retail investors 2. It lacked the infrastructure for price discovery and price information dissemination.
STRUCTURE OF INDIAN DEBT MARKET
3.0 RECENT INITIATIVES IN THE DEBT MARKET
‘Source: http://www.sebi.gov.in’ Any constituent of the corporate debt market can issue bonds/debentures through public issues and private placements. To be able to make a public issue, the issuer has to meet the statutory requirements as prescribed below
The company has to forward the details of utilization of the funds raised through the debentures duly certified by the statutory auditors of the company, to the debenture trustees at the end of each half-year.
The company has to disclose the complete names and addresses of the debenture trustees in the annual report.
The company has to provide a compliance certificate to the debenture holders (on yearly basis) in respect of compliance with the terms and conditions of issue of debentures as contained in the offer document, duly certified by the debenture trustees.
The company has to furnish a confirmation certificate that the security created by the company in favour of the debenture holders is properly maintained and is adequate enough to meet the payment obligations towards the debenture holders in the event of default.
Credit rating of not less than investment grade is obtained from not less than two credit rating agencies registered with SEBI and disclosed in the offer document.
The company is not in the list of willful defaulters of RBI.
The company is not in default of payment of interest or repayment of principal in respect of debentures issued to the public, if any, for a period of more than 6 months.
An issuer company cannot make an allotment of non-convertible debt instrument pursuant to a public issue if the proposed allotted are less than fifty (50) in numbers. In such a case the company shall forthwith refund the entire subscription amount received. If there is a delay beyond 8 days after the company becomes liable to pay the amount, the company shall pay interest @15% p.a to the investors.
Where credit ratings are obtained from more than two credit rating agencies, all the credit rating/s, including the unaccepted credit ratings, have to be disclosed.
All the credit ratings obtained during the three (3) years preceding the pubic or rights issue of debt instrument (including convertible instruments) for any listed security of the issuer company shall be disclosed in the offer document.
3.1 Recent Trends in the Indian Debt Market and Current Initiatives
Source:- Mr. Rakesh Mohan speech
The Indian debt market and the government securities market in particular, is at a turning point in India with significant changes taking place in the domestic economic environment along with various proposed legislative changes. The reasons which indicate that there is an opportune time to reflect on further debt market development.
First, significant change is the prohibition of RBI’s subscription to Government securities in the primary market effective April 1, 2006, as mandated by the Fiscal Responsibility and Budget Management (FRBM) Act. This will complete the transition to a fully market based issuance of Government securities, a process that was initiated in the early 1990s with the introduction of auctions.
Second, as a consequence of the recommendations of the Twelfth Finance Commission, the role of the Central Government as a financial intermediary for State Governments is effectively ending, although there will be some transitional arrangements. Thus State Governments' borrowing will be more and more market determined. This is perhaps the beginning of the emergence of a vibrant sub-national debt market – although it still has a long way to go.
Third, the economy was growing at 8.1 per cent with modest inflation and if similar conditions prevail, we can expect growth and inflation in coming years to also be on a similar path. If this growth is to be maintained and accelerated in the medium and long run, financial intermediation will have to improve and the debt market, in this context will become even more important.
Fourth, the sustenance of such growth will be possible only if investments in both infrastructure and industry accelerate. Again, this will require debt financing with medium to long term maturity to supplement traditional bank financing.
Fifth, as Government finances have been improving for both, the Central and State Governments in consonance with the Central and State FRBM Acts, the negative savings rate of public sector that had arisen over the last 5 years has turned positive. We can, therefore, look forward to Gross Domestic Savings touching 30 per cent or more of GDP on a sustained basis. Moreover, as the combined fiscal deficit falls, a greater proportion of private financial savings will be available for channelizing into the private sector. This entails higher risks but also opens up the possibility of higher returns. There will then be greater demand for debt securities.
Sixth, in recognition of these developments, an amendment to the Banking Regulation Act has also been introduced in the Parliament, which would enable the removal of 25 per cent minimum SLR as and when feasible. Further, as and when the Government Securities Bill (that will replace the Public Debt Act) is passed, newer instruments like STRIPS will also be possible. the introduction of
Seventh, although gross domestic savings increased to 29 per cent in 2004-05 driven significantly by improvements in public and corporate savings, the current account deficit widened reflecting heightened investment activity in the country and hence greater absorption of capital flows. The robust growth in industrial activity has resulted in strong credit growth which in turn has created more competition for available resources. This development has reemphasized the fact that bond financing has to supplement traditional bank financing to take care of the growing credit needs of the economy and that resource allocation has to be more efficient.
4.0 VALUATION OF GOVERNMENT SECURITIES
4.0.1 Central Government Securities, which qualify for SLR
The prices as well as the yield curve for the Central Government Securities is published by FIMMDA. The curve is termed as the Base Yield Curve for the purpose of valuation. The Base Yield Curve starts from six-month tenor. The yield for six-month tenor would also be applicable for maturities less than six months.
4.0.2 Central Government Securities, which do not qualify for SLR
The Central Government Securities, which do not qualify for SLR shall be valued after adding 50 basis points (bps) to the Base Yield Curve of Central Government Securities. State Government Securities The curve on which state government securities are valued is arrived at after adding 25 basis points (bps) to the Base Yield Curve of Central Government Securities.
4.0.3 Treasury Bills
For Banks: These securities will be valued at carrying cost. For Primary Dealers and Banks PDs: These securities will be valued on mark to market basis.
4.0.4 Other SLR bonds / securities
Other eligible SLR bonds will be valued similar to the state government securities.
4.1 VALUATION OF BONDS AND DEBENTURES, OTHER THAN GOVERNMENT SECURITIES
1. FIMMDA will publish the Annualized Base Yield Curve and a matrix of credit spreads across maturities and credit ratings. 2. Yield and credit spreads for intermediate tenors for each curve may be arrived by linear interpolation. 3. The spreads must be added to the base yield corresponding to the residual maturity and not the original maturity. 4. Bonds with a remaining maturity of less than six months are valued on the 6-month base yield curve plus the relative credit spread. 5. FIMMDA may from time to time stipulate different spreads for any specific category if warranted.
4.1.2 BONDS AND DEBENTURES, WHICH ARE RATED BY A RATING AGENCY
1. The rated bond is to be valued by adding the credit spreads to the Base Yield Curve (corresponding to the coupon frequency). 2. Where the issuer under consideration has two or more different ratings, from different rating agencies, the lowest of the ratings shall be applicable. 3. A rating is considered as valid only if it is not more than 12 months old.
4.1.3 Bonds and debentures, which are NOT rated by a rating agency or have become ‘unrated’ during their tenor, but a corresponding rated bond of the issuer exists.
1. The unrated bonds will be valued by marking up the credit spread by a minimum of 20 % over the equivalent rated bond of similar tenure. 17
2. For the above purpose, “corresponding” would mean, if the unrated bond has a maturity of ‘t’ years, the rated bond should have a maturity not less than t - 0.5 years. For example, if the unrated bond has a residual maturity of 3 years, then the rated bond to be treated as corresponding should have a maturity of at least 2.5 years.
BONDS AND DEBENTURES, WHICH ARE NOT RATED BY A RATING AGENCY, AND NO CORRESPONDING RATED BOND OF THE ISSUER EXISTS Anyone of the two methods, mentioned below, may be adopted. Method I 1. A quick rating can be obtained from the authorized credit rating agencies. 2. The credit spread to be added to the annualized yield curve for this notional rating will then be marked up by 25%.
Method II 1. The spread over the sovereign risk free yield curve, at the time of issue, marked up by 25% will be the applicable credit spread. 2. The credit spreads thus arrived at OR the current credit spreads of AAA bond of similar residual tenor, whichever is higher, should be taken and applied over the above base yield curve for valuation. 3. SGL Data available from 1st January 1996 at the RBI’s website (www.rbi.org.in) should be used for arriving at the credit spreads at the time of issue. 4. In case of issues prior to January 1, 1996 the bonds will be valued at cost.
Bonds and debentures, which have become ‘unrated’ during its tenor, and NO corresponding rated bond of the issuer exists. In such a case highest amongst the following three spreads should be taken as the credit spreads: 1. Compute the spread over the sovereign yield curve, at the time of issue, marked up by 25%.
2. Compute the spread for the last known rating of the bond from the current spread matrix. 3. The current spread for AAA bond of similar tenor.
The value, thus arrived should be applied over the base yield curve for valuation.
4.1.4 Bonds with Call and Put Options
Where bonds have simultaneous call and put options (on the same day) and there is several such call & put options in the life of the bond, the nearest date should be taken for Price/YTM calculation. a. Only Callable Bonds: Bonds, which are only callable by the issuer, will be valued at yield-to- worst basis. b. Only Puttable Bonds: Bonds puttable by the investor should be valued at yield- tobest basis.
4.1.5 Valuation of Perpetual Bonds (issued by Banks)
They should be valued at yield to worst basis where the final maturity of the bonds will be taken to be the longest point on the Base Yield Curve. The applicable spread would be that which is available for the longest tenor for the corresponding rating.
An arrangement in which a lender gives money or property to a borrower and the borrower agrees to return the property or repay the money, usually along with interest, at some future point(s) in time. Usually, there is a predetermined time for repaying a loan, and generally the lender has to bear the risk that the borrower may not repay a loan
Types of Loans
Loans can be classified as retail and corporate according to their usage.
5.1 Retail Loans
Retail Banking refers to dealing of commercial banks with individual investors.
Retail loans growth further slowed at the end of August 2008 as home loans, the major contributor, saw a substantial decline. The growth slowed to 17.4 per cent at the end of August 2008 from 21.4 per cent a year earlier. Increase in home loans fell to 13.9 per cent from 17 per cent a year earlier, but credit card overdues, though a small portion within retail loans saw a significant rise of 86.3 per cent against 49.5 per cent a year earlier. (http://in.news.yahoo.com/32/20081024/1059/tbs-retail-loan-growth-rate-allsreflect.html )
Recently, credit rating agency Crisil has warned of a rise in delinquencies in the retail portfolio of banks, with rising interest rates. Higher rates could also lead to a slowdown in lending. “Senior bankers are bracing for higher delinquencies in the personal and 20
consumer loan portfolio of banks. The asset quality of retail loans extended by commercial banks in the country is set to deteriorate. The report said that bad loans or non-performing assets (NPAs) in retail loans will rise to 4% of the total loans over the next two years, from 2.7% as of March 2007.” (http://gbsfinance.blogspot.com/2008/09/retail-loans-major-concern-for-banking.html)
There are two basic types of retail loans- secured loans and unsecured loans. Personal loans and overdraft are unsecured loans whereas housing loans, vehicle loans, direct and reverse mortgage are examples of secured loans.
5.1.1 Educational loans Educational loans include loans and advances granted to only individuals for educational purposes up to Rs. 10 lakhs for studies in India and for Rs. 20 lakh for studies abroad, and do not include those granted to institutions.
Banks currently charge 15%_18% interest for educational loans. Education loans witnessed a slowdown in India with a growth of 38.4 per cent at the end of August 2008 at Rs 6,603 crore against a growth of 45.9 per cent at Rs 5,411 crore at the end of August 2007. (http://in.news.yahoo.com/32/20081024/1059/tbs-retail-loan-growth-
In May 2008 the HRD ministry in consent with the government proposed a budget of 40 billion to provide interest free loans for education upto higher studies. “Under this scheme the government would pay the interest amount on the loan sanctioned to any student, till six months after the course.” (http://www.knowledgecommission.gov.in/downloads/news/news202.pdf )
5.1.2 Home loans Contrary to expectations most retail banks in India have reported a growth in the housing loan segment of around 15- 25%.
Reverse Mortgage loans for senior citizens
Under this scheme, senior citizens can monetize their house property at a concessional rate of interest at 10% p.a. the maximum loan is upto Rs. 1 crore and the loan period can be between 15 to 20 years.
5.1.3 Personal loans
Personal loans are simply those retail loans which are provided for the purpose of fulfillment of personal needs and expenses of individuals (prospective loan borrowers).
The personal loans in India primarily are provided fewer than five major categories. Though the loan amount and the rate of interest vary from bank to bank, but the purposes of providing these loans are same. Apart from the personal purposes, if someone possesses the desire to establish his own business then also the Indian banks always welcome by providing the business start-up loans.
The 5 types are as follows:
5.1.4 Consumer Durable Loans These kinds of loans are being provided for purchasing consumer durable products like television, music system, washing machines and so on. These are one of the unique kinds of loans that are provided by the Indian banks to attract more and more people towards them. Under this category of personal loan, you will get an amount ranging from Rs.10, 000 to Rs.1, 00,000. But there are several banks which provide a minimum 22
amount of Rs.5, 000 and the maximum amount of Rs.2, 00,000 under this loan. Banks provide this loan for maximum of a time period of 5 years.
5.1.5 Festival Loans This kind of personal loan is provided to help people to fulfill their personal and family's desire during the festival time. Usually, leading banks of India provide this loan on the festive season at cheaper or discounted rate. This is the best type of loan for those people who want to avail a small amount of loan. Under this category of loan, banks do provide an minimum amount of Rs.5.000 and you can get an maximum amount of Rs.50, 000 under this type of loan. But the festival loan is restricted up to 12 months. Repayment is to be done by equated monthly installments (EMI). The rate of interest on this loan varies from bank to bank.
5.1.6 Marriage Loans
Nowadays, this type of personal loan is equally getting popular among the people of urban and rural sectors. The loan amount depends on various factors including age of the applicant, security pledged by the applicant (if secured loan), repayment capacity of the applicant etc. Under the marriage loan, the rate of interest is governed by the prevailing market rate at the time when the loan is disbursed.
5.1.7 Pension Loans
There are several banks in India which take care of the old aged people as well. That's why the people who have retired from their jobs will also be able to avail personal loans. This type of loan is called a Pension loan. Under this kind of loan, the banks provide the maximum amount which is up to 7 to 10 times of the amount which was received as the last pension.
5.1.8 Personal Computer Loans
In this age of Information technology revolution, having an owned computer almost becomes a necessity. There are several Indian banks which offer loans that fulfill that desires of people. Under this category of loan, up to Rs.1, 00,000 of amount can be borrowed. Banks also provide separate loan for purchasing of software and that can be provided up to an amount of Rs.20, 000. The rate of interest is being charged according to prime lending rate and there are some banks who charge extra 2% on the loan amount. India&id=1553860 ) (http://ezinearticles.com/?Different-Types-of-Personal-Loans-in-
5.1.9 Vehicle loans
Car and commercial vehicle asset segments comprise one-third of the total retail loans. Crisil estimates that gross NPAs in these segments have increased to 2.3% and 4%, respectively, as of March 2007, from 0.9% and 3.2%, respectively, in 2005. In 2008-09, these numbers are seen at 3% for car loans and 5.5% for commercial vehicles. The slowdown in recovery efforts, following the controversy over recovery methods of some players, resulted in a sharp spike in delinquencies during September-October 2007.
5.1.10 NRI loans
NRIs are eligible for loans for purchase of property in India. Different banks use different criteria for lending to NRIs, but all banks mandate that the NRI has an account with the lending bank and also tend to earmark deposits held in addition to the mortgage on the property.
5.1.11 NRO Account
For the Non- resident ordinary account (which has to be in rupees only) loans against term deposits of up to 90% of the values of the deposit are allowed, with an interest rate of interest on deposit + 2%. These loans cannot be used for relending or fro agricultural activities or for investment in real estate business.
5.1.12 NRI Account
For the Non- Resident external account, loans upto 85% of the term deposits and with a maximum of Rs. 20 lakhs are permitted. The interest rate is deposit +2% or deposit + 3 %( if payment is from NRO account).
5.1.13 FCNR Account
Under the Foreign Currency Non- Resident account, a person can avail of loans upto 85% of the tem deposits, with a maximum amount of Rs. 20 lakh.
5.1.14 RFC Account
For Resident Foreign Currency account, loans of upto 75% of the term deposits, with a maximum amount of Rs. 20 lakhs are allowed.
5.1.15 Loans in Rupees to non-residents
An NRI may borrow a rupee loan · Against the security of shares or other securities held in his or her name.
· Against the security of immovable property (other than agricultural or plantation property or farm house), held by him or her in accordance with Foreign Exchange Management Act (FEMA) Regulations, Provided that · The loan shall be utilized for meeting the borrower’s personal requirements or for his own business purposes. · The loan shall not be utilized, either singly or in association with other person, for any of the activities in which investment by persons resident outside India is prohibited, namely: (a) The business of chit fund. (b) Nidhi Company (c) Agricultural or plantation activities or in real estate business or construction of farm houses (d) Trading in Transferable Development Rights (TDRs). Explanation - For the purpose of item (c) of proviso, real estate business shall not include development of townships, construction of residential/commercial premises, roads or bridges. · Reserve Bank of India’s (RBI) directives on advances against
shares/securities/immovable property shall be duly complied with. · The loan amount shall not be credited to the NRE (Non resident equated Rupee) or FCNR (Foreign Currency Non Resident) account of the borrower. · The loan amount shall not be remitted outside India. · Repayment of loan shall be made from out of remittances from outside India through normal banking channels or by debit to the NRO (Non Resident Ordinary) /NRE (Non Resident External Rupee) /FCNR (Foreign Currency Non Resident) accounts of the borrower or out of the sale proceeds of the shares or securities or immovable property, against which such loan was granted. http://www.moneycontrol.com/mccode/news/article/news_article.php?autono=22822 3 26
5.2 Corporate Loans
5.2.1 Term Loans A loan from a bank for a specific amount that has a specified repayment schedule and a floating interest rate is called a term loan. Term loans almost always mature between one and 10 years. For example many banks have term-loan programs that can offer small businesses the cash they need to operate from month to month. Often a small business will use the cash from a term loan to purchase fixed assets such as equipment used in its production process. (http://www.investopedia.com/terms/l/loan.asp )
5.2.2 Overdraft An overdraft is a facility granted to you whereby you can overdraw your current account up to an agreed limit. Overdraft is an efficient form of borrowing as you pay interest only for the time you use the money. It gives you flexibility. You can at any time deposit money into the account to reduce the outstanding balance or can draw out money whenever you need it as long as you do not exceed the limit. Interest is calculated daily on the fluctuating outstanding balance and is normally charged at the end of each month.
Recently the Reserve Bank of India (RBI) announced that it will discontinue the age-old overdraft facility that it has been giving to several mutual funds. The move will make the going more difficult for mutual funds, reduce their flexibility in investment and even affect the returns on liquid fund schemes, which are a hot favorite with corporate treasurers. (http://news.indiamart.com/news-analysis/mfs-lose-overdraft-f-13615.html)
In November 2008, The Reserve Bank of India retained the facility to provide ways and means advances of Rs 20,000 crore to Central government till December 31 for the second half of current fiscal to enable it meet the gap between expenditure and receipts. The government's limit of this facility was Rs 6,000 crore but this "temporary enhancement" will help government meet unanticipated mismatches between government payments and receipts arising from the cancellation of two auctions last month and bunching of expenditure following supplementary demand for grants, Finance Ministry said in a statement. (http://news.webindia123.com/news/Articles/India/20081112/1102682.html)
Non- Fund based:
1. Letter of Credit
An LOC is a letter from a bank guaranteeing that a buyer's payment to a seller will be received on time and for the correct amount. In the event that the buyer is unable to make payment on the purchase, the bank will be required to cover the full or remaining amount of the purchase.
Letters of credit are often used in international transactions to ensure that payment will be received. Due to the nature of international dealings including factors such as distance, differing laws in each country and difficulty in knowing each party personally, the use of letters of credit has become a very important aspect of international trade. The bank also acts on behalf of the buyer (holder of letter of credit) by ensuring that the supplier will not be paid until the bank receives a confirmation that the goods have been shipped. (http://www.investopedia.com/terms/l/letterofcredit.asp )
2. Bank Guarantees It is a guarantee from a lending institution ensuring that the liabilities of a debtor will be met. In other words, if the debtor fails to settle a debt, the bank will cover it. A bank guarantee enables the customer (debtor) to acquire goods, buy equipment, or draw down loans, and thereby expand business activity.
Leased Bank Guarantee: This is a bank guarantee that is leased to a third party for a specific fee. The issuing bank will conduct due diligence on the creditworthiness of the customer looking to secure a bank guarantee, then lease a guarantee to that customer for a set amount of money and over a set period of time, typically less than two years. The issuing bank will send the guarantee to the borrower's main bank, and the issuing bank then becomes a backer for debts incurred by the borrower, up to the guaranteed amount.
Leased bank guarantees tend to be very expensive; fees can run as high as 15% of the guarantee amount every year. The fee is usually made up of an initial setup fee and an annual fee, both of which will be a percentage of the dollar amount to be "guaranteed", or covered by the issuing bank in the event that the company can't promptly pay its debts. This option for financial backing is typically only used by smaller enterprises that are desperate to expand operations or fund a specific project; they will have typically exhausted other opportunities to raise financing or obtain a letter of credit from their own bank.
3. Structured Loans
Under this, the loan can be structured in such a manner that it will provide a higher loan amount as compared with what a normal salaried customer would otherwise be entitled to. 29
4. Bridge loans A short-term loan that is used until a person or company secures permanent financing or removes an existing obligation. This type of financing allows the user to meet current obligations by providing immediate cash flow. The loans are short-term (up to one year) with relatively high interest rates and are backed by some form of collateral such as real estate or inventory. This is also known as "interim financing", "gap financing" or a "swing loan". As the term implies, these loans "bridge the gap" between times when financing is needed. They are used by both corporations and individuals and can be customized for many different situations. For example, let's say that a company is doing a round of equity financing that is expecting to close in six months. A bridge loan could be used to secure working capital until the round of funding goes through. In the case of an individual, bridge loans are common in the real estate market. As there can often be a time lag between the sale of one property and the purchase of another, a bridge loan allows a homeowner more flexibility. (http://www.investopedia.com/terms/b/bridgeloan.asp )
ECB is commercial loans availed from non-resident lenders with a minimum average maturity period of 3 year but however from an unrecognized lenders ECB cannot be availed.ECB can be accessed under two routes, Automatic Route and Approval Route. By way of ECB funds are raised from international market in foreign currency which is very huge and also the cost of interest is low as compared to what is in Indian market. (http://www.jurisonline.in/files/ECB_PUBLICATION.doc ) External Commercial Borrowings (ECBs) include bank loans, suppliers' and buyers' credits, fixed and floating rate bonds (without convertibility) and borrowings from private sector windows of multilateral Financial Institutions such as International
Finance Corporation. Euro-issues include Euro-convertible bonds and GDRs. (http://www.banknetindia.com/banking/ecb.htm ).
Foreign currency Loans: As on 18th November 2008, the Reserve Bank of India (RBI) has permitted housing finance companies (HFCs) to raise up to $10 million through short-term foreign currency loans, like non-bank finance companies (NBFCs).
6.0 Loan Processing Life Cycle
•The Origination Process
– Application Sourcing from Various Channels – Application Screening – Data Entry
•The Evaluation Process
– Application appraisal and mandatory checks – Financial health of the borrower – Eligibility Criteria – Sanction Limit 32
•The Disbursement Process
– Sanction Terms & Conditions – Interest Rate & Tenor – Collateral – Post Dated Cheques / ECS
•The Monitoring Process
– Post Loan Process – Recovery Mechanism – Invocation of Collaterals
– Submission of loan proposal substantiating the need for the loan and substantiates the ability to repay the loan
– Appraisal check for credibility of the applicant, whether source of repayment is good enough to sanction the loan, defaulted in previous occasion, risky customer etc
• Credit Decision (Sanction)
– The bank takes the credit decision based on the credentials of the applicant and the purpose of the loan. 33
• Disbursement – The disbursement can be made as a single payment or in tranches.
•Monitoring (repayment, continuous assessment)
– Monitored to ensure that there are no materials adversities and those recoveries are promptly coming in till normal closure of the loan account and end use is justified.
– If the customer does not make payment on due dates, follow-up needs to be madelegal and non-legal.
Non Performing Asset
– If principal/installments and interest are not received for more than x months, the loan is termed as non performing asset. As the asset (loan) does not earn any money, it is termed as ‘non performing’.
– If the loan could not be recovered in the normal process, a bank would file a suit in the court of law to recover the money. It can be either a civil suit or a criminal suit based on the circumstances
7.1 Aggregate Loan Vs GDP
Here we can show a direct corerelation between the amount of loans and GDP at factor prices but the proportion in which they increase may not be equivalent.
7.2 GDP Growth Rate VS Loan Growth Rate ( PLR in prespective)
8.0 Insights of an Analyst – Debt Instruments in banking We interviewed Mr. Ranuj Kumar, Manager Emerging Corp. Banking Grp. (South Ex. Branch). Here we present some excerpts from the interview –
Q .What kind of corporate loans do you offer to your customers? Ans. Basically there are two types of activities performed by a company:Fund based activities. It includes basically providing loans to the customer. Working capital loans: - These loans are basically provided to meet the working capital requirement of cooperates. Term loans: - term loans means loans to meet the funding requirement of the companies. They can be further subdivided into Short term (less than a year) Medium term (1 to 3 years) Long term (3 to 7 years) Cash management services In cash management services bank manages the cash flow of the company and try to maintain the cash balance at least at minimum level. They also manage the collection and payments on the behalf of the company. Buyer credit This service is mainly utilized by importers. Non fund based They basically include non monetary activities like Letter of credits this is issued by banks to the importer in order to enable him to import goods on credit Bank guarantee The bank provides a guarantee on the behave of its clients restating their credit worthiness.
Q.Type of corporate loans? Ans- in our organization loans are basically categorized on the basis of time period Very short term like working capital loans Short term less than one year Medium term – 1- 3 yrs Long term - more than 3yrs Q. How does organization decide on what kind loans they take? Ans – it basically depend so the need of the client and the nature of the borrowing, if the borrowing is done for a new project then the borrower goes for a long term loan, with low installments at the beginning of the year and gradually increases thereafter. If
there is an immediate requirement of fund then they might go in for an overdraft or short term loans. Q.How do you calculate credit worthiness of a client? Ans – we have our internal rating department which basically rates the company on its credit worthiness on a regular basis. When a request for loan comes up we do a financial analysis and credit analysis of the company, also we do an overall industry analysis. All these processes help in drawing the overall picture. The industry analysis is a tricky but essential part because the firm needs to interact with its environment and it cannot be untouched from any special events or occurring happening around it. Also in case of a new applicant we try and get information from our older clients to a get complete round up of the applicant. These sources can be very helpful because they interact on a regular basis with each other. Q.How do you calculate interest on loans? Ans – usually the interest rate calculation is done on a weekly basis. The various parameters that are taken into account are the basic lenders of the bank i.e. the normal depositor, the RBI, interbank call market (e.g. MIBOR ). After this we calculate our margin which may also vary from time to time. Adding this margin to the average borrowing rate gives the interest rate on the loan. Q.Do you employee any special kind of algorithm in order to calculate the interest rate and payment periods. If yes please specify. Ans - We have customized software to calculate the interest rate. The interest rate usually depends on the credit worthiness of client, cost of borrowing, prime lending rates etc. Q.What kind of loans requires collaterals? If yes then when and the amount of collaterals. Ans - Usually there is collateral on every loan we provide to our client, but the amount of collateral in proportion to loan varies considerably. If the client has a strong financial position, then the amount of collateral varies from 50% to 70%. In some cases the amount even exceeds 200% of the loan amount. Q.Does the bank interfere in how the client utilizes the loan amount? Ans- the bank usually does not interfere directly but the borrower requires to present bills and other documents of purchase etc. when drawing the amount. This is a just a precautionary measure so that we are able to make sure that the loan amount is not used for uncalled for reasons. As the borrower provides us a specific reason to get a loan we must make sure that the money serves that very same purpose. Q.What role does RBI play in cooperate loans? Ans – the RBI sets norms and other conditions regarding the amount of loans and determines the risk averseness of the banks. Also the RBI influences the interest rates 39
hence plays a definitive role in the bank’s policy. For example a new vessel 2.0 has come up and with this the amount set aside has been lowered which will further help in providing a greater flexibility in providing loans. Q.Are the terms and conditions negotiable? Ans - Yes the terms and condition are negotiable. Time period of the loan, interest rate, and the moratorium period are the most negotiated topics. Q.How the present credit crises affected the bank lending policy? Also have you seen any major difference in the creditor’s attitude in wake of the current crises? Ans – most of the banks shave stopped lending due to the present liquidity crunch and many companies shutting their shops, now our bank has become very cautious and has reduced lending to clients. Only top notch clients are given loans. Existing customers who are showing signs of slowdown are being forced to repay to the amount at the earliest possible.
Conclusion: Through the efforts of this project, we understood in depth the various instruments used by individuals as well as by organizations for raising and using debt. Earlier we were under the impression that we have limited instruments and limited scope to the debt markets but after this study, we are aware of the various opportunities in the debt instrument market.
Bibliography Web – http://news.indiamart.com/news-analysis/mfs-lose-overdraft-f-13615.html) http://www.sebi.gov.in/ (http://in.news.yahoo.com/32/20081024/1059/tbs-retail-loan-growth-rate-allsreflect.html ) http://www.moneycontrol.com/mccode/news/article/news_article.php?autono=22822 3 http://www.banknetindia.com/banking/ecb.htm ). http://www.investopedia.com/terms/b/bridgeloan.asp ) http://www.jurisonline.in/files/ECB_PUBLICATION.doc ) (http://ezinearticles.com/?Different-Types-of-Personal-Loans-in-India&id=1553860 )
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