Deployment of funds

Avenues Cash

Mandated – CRR Not Mandated

Investments Mandated – SLR Not mandated

Loans Mandated – Priority sector advances Not mandated

Mandated reserves

Held as % of Net Demand and Time Liabilities (NDTL) Demand deposits + time deposits – ( paid up capital +

reserves & surplus + amount of refinance availed from RBI, provision for income tax held in excess etc)

Cash Reserve Ratio Amount held as cash / bank balance with RBI Provide liquidity comfort to depositor Means to control money supply No interest being paid by RBI ( post March 2007) RBI free to decide levels to be maintained Current requirement ?

Mandated reserves Statutory Liquidity Ratio

Amount of money to be held in ‘eligible securities ( G-sec) , carrying only sovereign risk

Provide liquidity comfort Also reduces overall risk of portfolio Tool for monetary policy , fiscal policy

management RBI can decide on levels to be maintained (post

March 2007) Current levels ? Narrow banking ….

Money to lend

Amount that can be lent = capital + deposits + borrowings + provisions – investment in SLR investments - CRR holdings - fixed assets.

Cash

Cash : though offers comfort of liquidity, is not a ‘productive asset’ Vault cash – currency /coins in bank’s vault

Predictable and manageable Demand deposits with RBI Demand deposits with banks offering CH

services Cash under collection

Emphasis on keeping just the required amount.

CD ratio

Why should banks hold more money in SLR securities than mandated ?

Incremental CD ratio

Can we infer something ?

CD ratio

When CRR and SLR are to be maintained at 6% and 24% of NDTL how is that some banks have high CD ratio ?

SegmentingRetailTypically individuals

WholesaleGroup of individuals

Small enterprisesTypically proprietorship , partnership firms , Pvt Ltd companies in early stage of growth . Size up to approx INR 25 CrSmall Corporate segment Small Pvt Ltd companies , large & mature partnership firms , approx INR 100 Cr

Mid / Emerging Corporate segment Large Pvt Ltd companies, Pub Ltd companies , approx INR 500 Cr Large Corporate segment Large Public and pvt Ltd companies, above INR 500 Cr or forming part of a group of companies , with a group turnover exceeding say INR 1000 – 1500 Cr

Segments

Differences in Constitution of the borrowerRisk in taking exposure Information available to decide Comfort available for an exposure Type of products to offer Income potential

Retail lending - characteristics

+++++ Good avenue for deployment Granular exposure Risk diversified among borrowers Demand driven – hence lower marketing expenses

compared to corporate Cross selling possible Helpful in economic growth Origination is the key – servicing can be automated

----- Template driven Manpower intensive Consumer loans tend to give higher nominal returns Highly sensitive to business cycles Thrives on rate and TAT Inadequate life cycle study

Success factors

Highly rate and TAT dependant Access to cheap funds Strong origination capabilities – read selling skills Strong and dynamic risk control units ( credit ,

market reference units and compliance) Geographical spread is an advantage Technology vital for servicing Important to know when to exit Strong collections and recovery capabilities

Products Installment Loans

Housing loans Auto loans ‘Personal’ loans

Consumer durable loans

Educational loans Other personal loans

Revolving Loans Credit cards Loan against shares

Secured loans Housing loans Auto loans Consumer durable

loans Loan against shares

Unsecured Loans Credit cards Education loans Other personal loans

Housing loans

Extended for Purchase / construction of a house Repair of a house

Relatively lower risk & longest tenor Enjoys regulatory and fiscal support

Regulatory Lower capital charge ( 50% for loans upto Rs 20

lakhs) Inclusion under Priority sector

Fiscal Tax benefits for installment and interest payments

Retail Credit

Judgmental Quantitative – credit scoring models

Payment history Amount owed Length of credit history New credit Type of credit in use

Credit scoring

Payment history Payment information on many types of

accounts Public record and collection items

Judgement / suits / collections made etc Details on late and missed payments

Delay buckets , how recent , how frequent How many accounts show no late

payments

Credit scoring

Amounts owed Amount owed on all accounts Amount owed on different types of

accounts Number of accounts that have balances Total credit line used on revolving lines Installments pending compared to original

lines

Credit scoring

Length of credit history How long the credit accounts have been

established New credit How old is the relationship ? How many inquiries have been made to credit

reporting agencies ? Length of time since lenders made inquiries ?Type of credit

Wholesale banking Based on type

Fund / Non Fund Based on purpose

Project finance / working capital Domestic / export credit

Based on tenor Short term / long term

Based on comfort Secured / unsecured

Fund based facilities Revolving facilities

Cash credit Overdraft

Repayable facilities Short term

Bills / invoice finance Short term loans / working capital demand loans

Long term Project term loans Working capital term loans

Working capital cycle

Raw materials

Cash

Work in process

Receivables

Finished Goods

WC facility - fund

Raw materials

Cash

Work in process

Receivables

Finished Goods

Finance for the entire working cycle – against stock and book debts . If revolving facility : Cash credit (OCC /KCC) If repayable : WCDL

WC facility - fund

Raw materials

Cash

Work in process

Receivables

Finished Goods

Supplier raises an invoice / bill – which can be discounted. Customer pays the bank – Purchase bill finance

WC facility - fund

Raw materials

Cash

Work in process

Receivables

Finished Goods

Customer raises an invoice / bill on buyer , which buyer accepts to pay after a usance – which can be discounted. Customer pays the bank. Sales invoice / bill discounting

WC facility - fund

Raw materials

Cash

Work in process

Receivables

Finished Goods

Revolving facility against receivables - Overdraft

WC Cycle - export

Raw materials

Buyer places an order

Work in process

Export done – shipping docs and bill prepared

Finished Goods

Buyer remits the amount

WC facility - export

Raw materials

Buyer places an order

Work in process

Export done – shipping docs and bill prepared

Finished Goods

Finance against the order for purchase of RM and manufacture – Packing credit / Pre-shipment credit

Bills raised are discounted. Post Shipment credit / Foreign bill discounting. Proceeds used to close PCL

Buyer remits the amount

Term debt

Short term ( for cash flow mismatches)

Long termFor incurring capital expenditure For funding margin for working capital

(WCTL)For ‘general corporate purposes’ –

acquisition etc.,

LC transaction

Buyer applicant

Buyer’s bank Issuing bank

Sellerbeneficiary

Advising bank

1. Places order

3. LC issued

Pays the bank

2.Request to issue LC

Confirming bank

Negotiating bank

Reimbursing bank

5.Sends Materials

4.Advises LC

6.Sends Dox

9.beneficiary is paid

8. Bank is paid

7.Dox forwarded

Parties to the transaction

Applicant Issuing bank Advising bank Confirming bank can be the same

Negotiating bank Reimbursing bank Beneficiary Governed by ICC’s UCPDC 600

Types of LCs Revocable (?) and Irrevocable LC Confirmed LC Sight and Usance LC Revolving LC Transferable LC Back to back LC Red Clause LC – advising bank gives PSL Green Clause LC – in addition provides for cost

of storage (in the name of the issuing bank) SBLC

Buyer’s credit

Way to provide extended credit to the buyer for purchases made ( RM , capital equipment)

Rides on an LC transaction ( sight / usance)

Buyer’s bank sends LOU to a bank providing the BC

Seller is paid off. BC providing bank is paid off on maturity /

is rolled over ( if permitted )

Other fund instruments

Long term Plain debt

NCDsConvertible into equity

FCCBs Preference shares

Short term Commercial paper

Bank guarantees

Financial guarantee Bid bond BG Advance payment BG Retention money BG Deferred payment guarantee BG favoring customs , ST etc

Performance guarantee Export Promotion Credit Guarantee

W/c assessment

How much to fund ? Assessment methods

Operating cycle method Traditional methodProjected turnover method MPBF method(s)Cash flow method

Operating cycle method

Time lapse between cash outlay and cash realization

Components Acquisition and holding of RM Process time for conversion Holding time for FG Average collection time

WCR = Operating expenses / no of cycles p.a

Traditional methodKey dataExpected monthly salesCost of production - pm Cost of RM - pmSurplus from previous year X

Item Time WCR Margin Amount Permissible limitper month in INR %

Raw materialWork in processFinished goods ReceivablesExpenses Total A

Less Advance recdCredit for purchase BWorking capital requirement (A-B) CSource

Surplus from previous year XLimits from bank ATotal DSurplus / deficit C - D

Projected turnover method

Recommended by the ‘Nayak Committee’ Generally used for limits upto Rs 5 Cr

Anticipated turnover Aworking capital requirementat 25% of A BLess - liquid surplus or 5% of Awhichever is less C

Maximum permissible bank finance B - C

MPBF methods

Based on the recommendations of Tandon and Chore committees

Three methods were suggested

1st Method

MPBF = ( Current Assets - Other current liabilities) * 0.75

2 nd Method

MPBF = ( Current Assets * 0.75 ) - other current liabilities

3rd Method

MPBF = ( Current Assets - Core current assets) * 0.75 - other current liabilities

Assessments

Fund : cash flow method LC assessment BG assessment

What if a single bank cant fund ?

Consortium banking arrangements Lead bank and member banks Common assessment, documentation (inter se

agreement, joint deed ), security and agreed share of business.

Multiple banking arrangements No Leader Increases flexibility for customer Also requires dealing with several banks

What if a single bank cant fund ? Loan syndication Arranger / Lead manager

Co-arranger Prepares the Information memorandum Responsible for administering the loan Underwriting Facility manager Prepares, negotiates and gets the loan agreement

executed. + borrower gets to deal with single bank , easy to

raise , useful if a large quantum of money is to be raised

+ lead manager gets to retain relationship , earn a good fee , advantageous for the participating banks as well

Security

Essential features Credible deterrent against default Fall back in case assumptions go wrong Should be as liquid and as easily marketable as

possible Security creation formalities vary with

Type of security Moveable Immoveable

Constitution of borrower

Mortgage

Transfer of an interest in a specific immovable property for the purpose of securing Existing debt Future debt Performance of an engagement , which may give

rise to a pecuniary liability Mortgager Mortgagee Mortgage money Mortgage deed

Types of mortgage Simple mortgage

Bank not in possession of the property , but registration is mandatory.

Bank needs to approach court to sell and recovery money

Proceeds from property remain with mortgagor Mortgage by conditional sale

‘ostensible sale’ to the bank If debt is not serviced, bank can cause foreclosure –

borrower loses right to redeem property Not preferred

Types of mortgage

Usufructuary mortgage Bank is in legal possession of property +

income proceeds If borrower fails to redeem ( within 30 yrs),

bank becomes owner English mortgage

There is an absolute transfer of property – if the due is paid , property is transferred back to borrower

In case of shortfall, bank can look to other assets

Types of mortgage

Equitable mortgage Most preferred form – less costly and easy Mortgage by deposit of title deeds – with an

intent to create mortgage Precautions to be taken Registration of EM ( in TN and few other states)

Anomalous mortgage ?

Pledge and hypothecation Pledge

‘bailment of goods as security for payment of debts or performance of a promise’

Possession is with the bank ( pledgee) Used for movable fixed assets of high value

Hypothecation Charge on movable assets Possession given on demand Precautions

Audit and inspection needed Should be fully paid stock Should be adequately insured – bank as first loss

payee

Charge Used specifically for ‘charges’ under Companies

Act, 1956 Fixed charge

Over designated fixed assets of the company Floating charge

Floats over present and future assets of the company

Assets can be sold Crystallizes into a fixed charge in case of default

First charge , second charge , subservient charge Pari – passu charge

Registered with ROC within 30 days of signing loan dox

Assignment

‘Actionable claims’ can be assigned by borrower to a bank Book debts (usually specific ) Money from govt / other agencies / companies Life insurance policies etc

Takes precedence over other creditors (if they do not have prior / superior charge)