Cash Credit (H), Loan Procedure over National Bank Limited, Khulna Branch

TERM PAPER Loan Proposal, Procedure & CC (H)

A Study on National Bank Limited, Khulna Branch (BA-2103: Theory & Practice of Banking)

Name ID Shuvro Kumar Paul 110326 Imtiaz Masroor 110345

October 2, 2012

Prepared By

Prepared for Rafia Zaman

Lecturer Business Administration Discipline

Management & Business Administration School Khulna University

LOAN PROPOSAL, PROCEDURE & CC (H) A STUDY ON NATIONAL BANK LIMITED, KHULNA BRANCH

Theory & Practice of

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Cash Credit (Hypothecation)

Cash Credit (hypothecation) is a one type of continuous loan given for day to day operation of business. This time of loan is given to that business firms who have inventories to pledge. It’s called a working capital loan. Interest rate will be counted on outstanding balance. It is given to 50 percent of inventories and that is called 50 percent margin.

Attributes of CC (H)

Primary Security : Inventories Secondary Security : Collateral Support Security : 1. Personal Guarantor

2. Charge documents 3. Corporate Guarantor 4. Check

National Bank Limited, licensed by the Government of Bangladesh as a Scheduled commercial bank in the private sector, is one of the leading private commercial bank having a spread network of 139 branches across Bangladesh. In view of the above, the Bank within a period of 25 years of its operation achieved a remarkable success and met up capital adequacy requirement of Bangladesh Bank National Bank Limited is a customer oriented financial institution. It remains dedicated to meet up with the ever growing expectations of the customer because at National Bank, customer is always at the center.

We went to National Bank Limited, Khulna Branch in order to get help analyzing bank lending procedure and credit risk management policy. There, Senior Officer, Mr. Mohammad Ariful Islam helped us getting those information’s. We have analyzed three customers of that branch. Due to maintaining confidentiality they cannot provide us the real name of the business firm.



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Simple Overview of Cash Credit (hypo) of National Bank Limited, Khulna Branch

Paid up capital 2.15 Billion Highest loan limit 35 percent of Paid up capital

Interest Rate 15 % to 18 % per annum

Loan Sectors Sector Contribution Trading Business 60 % Manufacturing Business 20 % Shrimp Industry 10% Others 10% Demanded Securities Security Objects Primary Hypothecation of Inventories Secondary Collateral Support Personal Guarantee Credit Worthiness Determined by different Ratios CIB sending Period 2 Months CRG Score Requires 75 and Above

National Bank Limited has a paid up capital of Tk. 2.15 million.

CC (H) Loan Limit: Khulna Branch of National Bank Ltd. has a highest cash credit (H) loan limit of 35 percent of its paid up capital in which 15 percent are funded and rest is non-funded. Tk. 10 lac is the highest disbursement limit from this branch. Up to Tk. 15 lac will be provided from regional branch and more than this will be provided from head office.

Sectors of Loan: NBL, Khulna Branch gives CC (H) loan to 4 sectors. In trading sector, working capital loan for whole sale business and manufacturing firms are given. Traders and Manufacturers include Rice mills, Flour mills, Chanachur, Dal mills, Food veins, Import food resellers and etc. In Shrimp sector includes Shrimp Exporters and Commission agent. But, loan for Shrimp Exporting Business is currently not available.

Security: NBL secures its loan with customer by demanding securities. Primary security that NBL demands for CC (H) is Hypothecation of inventory. Main collateral that NBL demands is Required Mortgage of Land and Building. Support security includes check, corporate



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guarantee, personal guarantee, guarantee of spouse of board of director and also charge documents.

Working Capital Assessment: Working capital is the assets which is required for a unit to complete the accounting cycle of any manufacturing company or trading business. Assessment of working capital for giving CC (H) loan is must for a bank. National bank limited requires working capital assessment only for manufacturing firms for CC (H) loan. The factors that NBL asses for Working Capital -

Raw materials (importable) Raw Materials (Imported but locally procured) Work-in-process Stock of finished goods Stock of spares etc. Accounts Receivable Other Expenses

Credit Worthiness: NBL, Khulna Branch analyzes financial statement of the customer with different type of ratios and cash flow. Such as Expense control, operating efficiency, Coverage, Leverage, Profitability, Liquidity etc. Expense-control ratio that judges the quality of a business firm’s management is how carefully it monitors and controls its expenses. Operating Efficiency Ratio shows how effectively assets are being utilized to generate sales and cash flow for the firm and how efficiently sales are converted into cash. Liquidity Ratio indicates how fast the customer can raise cash. Leverage ratio indicates the amount of debt a borrower has taken.

National Bank Limited, Khulna Branch sends CIB (Credit Information Bureau) report in every 2 months. It is to be noted that NBL only gives loan to the customer who has a CIB status of Unclassified (UC) or Standard (STD). Additionally, the customer has to get a score of 75 or above in Credit Risk Grading (CRG) sheet.

Now What Includes in CRG?

Credit Risk Grading is a sheet which measures the risk exposure of the bank for lending money. CRG grading scale is

Number Grading Short Score 1 Superior SUP Fully cash secured, secured by government

guarantee/international bank guarantee 2 Good GD 85+ 3 Acceptable ACCPT 75-84 4 Marginal/Watch list MG/WL 65-74 5 Special Mention SM 55-64



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6 Substandard SS 45-54 7 Doubtful DF 35-44 8 Bad/Loss BL <35

NBL evaluates Risk exposure with different criteria. CRG is divided into different criteria with different weightage.

Criteria Ingredients Weight A. Financial Risk 1. Leverage: (15%)

2. Liquidity: (15%) 3. Profitability: (15%) 4. Coverage: (5%)

50%

B. Business/ Industry Risk 1. Size of Business 2. Age of Business 3. Business Outlook 4. Industry Growth 5. Market Competition 6. Entry/Exit Barriers

18%

C. Management Risk 1. Experience 2. Second Line/ Succession 3. Team Work

12%

D. Security Risk 1. Security Coverage (Primary) 2.Collateral Coverage Property Location) 3. Support (Guarantee)

10%

E. Relationship Risk 1. Account Conduct 2. Utilization of Limit (actual/ Projection) 3. Compliance of Covenants / Conditions 4. Personal Deposits

10%

Total 100%



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Money Lending Procedure of National Bank Limited, Khulna Branch

Several steps of lending procedure-

First, a customer must have a Current account to apply for the loan. If he or she has an account, then he/ she will fill up a loan application form with required documents. Credit officer then evaluate the documents and go for a primary selection. Evaluation includes Business location visit, sales volume check, stock review, bank statement etc. If the credit officer finds it acceptable then he/ she goes for Formal Loan Proposal. But, the customer must have mandatory documents. Main mandatory requirements for the loan proposal includes

I. Customer Information II. Owners Information

III. Financials IV. Marketing Prospects V. Forecasts for next year

VI. Relationship with Bank VII. Updated CIB report

VIII. CIB status with UC/ STD IX. Successors Information X. Must have a ready Successor

XI. Financial Account Statement XII. CRG score of 75 or above

XIII. Stock Report XIV. Credit Worthiness XV. Collateral Securities

XVI. Support Securities XVII. Valid Business License

XVIII. Valid TIN number XIX. Good Customer Background XX. Good Credit Rating

XXI. Income Source XXII. Co-Signer and many more

With all requirements filled with a Prescribed Loan Proposal format, credit officer sends the proposal to Regional Branch for further scrutiny. Then an office note is made and sent to Credit risk Management Division. There the proposal will be evaluated by Head of Management, Law and Recovery Department and Head of CRMD.



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Branch

Regional Office

Head Office

CRMD

CAD

Disbursement

Figure: An overview of CRMD of NBL

If approved by all of these departments then it is send to proper authority with recommendation. Then documentation is placed to credit administrative department (CAD). If satisfied, CAD will approve the loan and made a disbursement letter to respective branch with requirements of mandatory documents. If all documents are submitted and approved, then the customer can disburse the loan.

Figure: Flow & checking of Loan Proposal

That’s all about a loan application and disbursement procedure of National Bank Limited.

Deputy MD

Head of Management

MArketing Division

Product Division

Head of CRM-I Head of CRM-II

Head of CRM-III

Head of CRM-IV

Head of CRM-V

Head of CRM-VI



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We have analyzed different aspects which relates to CC (H) over 3 customers.

XYZ Traders

Proprietor of XYZ traders is F Khan. They are operating in Barabazar, Khulna. They are dealing with food items only and are a whole seller. They imports supplies from Dhaka & Chittagong and resell their product in Bagerhat and Mongla.

When sanctioning a loan CIB of the firm was Unclassified (UC) and still they are maintaining that position up to June 2012.

Loan limit for XYZ traders is Tk. 40 Lac. Their outstanding loan up to 27 September, 2012 is 37.18 lac.

The loan sanction date was 27 December, 2010. Good condition of business and witness of the collateral is found on Physical verification.

For the loan XYZ Traders pledged 1 collateral security.

Ready Successor is Son of Proprietor of XYZ Traders.

The summary of facility is Living 1 and requested 1.

Summary of Credit Risk Grading (CRG) of XYZ

Criteria Score Out of Financial Risk 45 50 Business/ Industry Risk 13 18 Management Risk 12 12 Security Risk 5 10 Relationship Risk 10 10 Total 85 100

XYZ Traders got a good CRG score of 85 and is under good category. But a financial overview shows the condition quickly.

Financial Transaction overview of XYZ Traders

Particulars Value Credit Summation 1308.41 Debit Summation 1355.59 Recycle Times 32.71 Adjustment Times 13 Net Worth of the Owner 2270.55 Net Worth of the Business 327.00



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Here, 13 times the customer written off all borrowings. So, the loan performance is good.

Financial Performance Analysis-

Financial Ratio provides specific information about financial performance of a firm. All balances were calculated excluding (000). Ratios are given below-

Expense Control Ratio

Ratio 2009 2010 2011 Depreciation Expense/ Net Sales (X) 0.00023 0.00020 0.00018 Interest Expense/ Net sales (X) 0.00565 0.00602 0.00577 COGS/ Net sales (X) 0.91372 0.91285 0.89294 Selling, Administrative & Other Expenses/ Net sales (X) 0.01129 0.01103 0.01073 Analysis: From the year 2009 to 2011, expenses are decreasing. Most of the ratios are decreasing year by year and XYZ Traders are getting Expense Control Efficiency.

Operating Efficiency Ratio

Ratio 2009 2010 2011 Inventory Turnover Ratio (X) 6.31 7.71 6.79 Average Collection Period (Days) 13.17 25.66 18.02 Turnover of Fixed Assets (X) 364.52 458.89 562.96 Turnover of Total Assets (X) 5.29 5.11 5.33 Analysis: In that case, assets turnover ratio is increasing in most of the cases. But inventory turnover ratio has decreased last year. The loan officer must ask why this happened and how they will overcome.

Marketability Measures

Ratio 2009 2010 2011 GPM (%) 8.63 8.71 10.70 NPM (%) 6.89 6.96 9.01 Analysis: It is really great as both measures GPM and NPM in an increasing trend and last year it has increased drastically. Coverage Ratio

Ratio 2009 2010 2011 Interest Coverage (%) 13.44 12.60 16.65 Debt Service Coverage (%) 13.48 12.64 16.68



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Analysis: From 2009 to 2011, ratio is increasing so that income for interest payments is increasing. From that view loan performance is good. Liquidity Indicator Ratio

Ratio 2009 2010 2011 Current Ratio (X) 2.97 2.92 7.70 Quick Ratio (X) 0.66 1.13 2.26 Net Liquid Assets -935 442 1708 Net Working Capital 5,397 6,423 9,108 Analysis: From 2009 to 2011, all ratios are increasing. Working capital has increased by much in the last year. So, it is showing positive instruction for loan performance. Profitability Indicator Ratio

Ratio 2009 2010 2011 Before Tax Net income/ Total assets (%) 36.63 35.72 48.16 Before Tax Net income/ Net Worth (%) 54.85 54.00 55.25 Before Tax Net income/ Net Sales (%) 6.92 6.99 9.04 After Tax Net income/ Total assets (%) 36.48 35.59 48.02 After Tax Net income/ Net Worth (%) 54.63 53.82 55.12 After Tax Net income/ Net Sales (%) 6.89 6.97 9.01 Return on Assets (%) 36.48 35.59 57.63 Return on Equity (%) 54.63 53.82 66.14 Analysis: Each and every ratio is increasing year by year. It is revealed that Return of assets is increased in the last year. More return is coming from assets than in previous years. It is an indication of growth of company and as profitability is increasing, bank must sanction loan.

Financial Leverage Ratio

Ratio 2009 2010 2011 Leverage Ratio 0.33224 0.33873 0.12869 Debt to sales ratio 0.06275 0.06629 0.02416 Total Liabilities/ Net Worth (X) 0.50 0.51 0.15 Analysis: Leverage is decreasing year by year that means liabilities are decreasing. So, risk is lowering year by year.



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Cash Flow

Cash Flow has increased than last year for ABC traders Last year it was Tk. 3,842 and now it is Tk. 5,087. So, we can conclude that the loan performance is good as cash flow has increased.

Recommendation

After close scrutinizing their financial ratios, it is very clear that their financial performance is quite well as well as their loan performance.

ABC Traders

Proprietor of ABC traders is Matin Rahman. It is operating in Barabazar, Khulna. It is dealing with food and gains and is a whole seller. It imports supplies from India and resell their product in local area.


Loan limit for ABC traders is Tk. 60 Lac. Their outstanding loan up to 27 September, 2012 is 59.76 Lac.


For the loan ABC Traders pledged 3 collateral securities.

Ready Successor is Brother of Proprietor of ABC Traders.


Summary of Credit Risk Grading of ABC




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ABC Traders got a good CRG score of 75 and is under acceptable category. But a financial overview shows the condition quickly.

Financial Transaction overview of ABC Traders

Particulars Value Credit Summation 2583.65 Debit Summation 2643.41 Recycle Times 43.06 Adjustment Times 7 Net Worth of the Owner 225.00 Net Worth of the Business 125.00 Here, 7 times the customer contribute all borrowings. So, the loan performance is good.


Financial Ratio provides specific information about financial performance of a firm. All balances were calculated excluding (000). Ratios are given below

Expense Control Ratio Ratio 2009 2010 2011

Depreciation Expense/ Net Sales 0.00027 0.00018 0.00027 Interest Expense/ Net sales 0.01662 0.01650 0.02614 COGS/ Net sales 0.90267 0.90267 0.88265 Selling, Administrative & Other Expenses/ Net sales 0.02136 0.02101 0.03004 Analysis: From the year 2009 to 2011, expenses are decreasing. Most of the ratios are decreasing year by year and ABC Traders are getting Expense Control Efficiency. Operating Efficiency Ratio

Ratio 2009 2010 2011 Inventory Turnover Ratio (X) 0.33213 3.22013 1.89896 Average Collection Period (Days) 4.30 3.15 28.95 Turnover of Fixed Assets (X) 331.07 545.08 333.01 Turnover of Total Assets (X) 3.22 3.18 1.79 Analysis: In that case, assets turnover ratio is decreasing in most of the cases. The loan officer must ask why this happened and how they will overcome.



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Ratio 2009 2010 2011 GPM (%) 9.73 9.73 11.73 NPM (%) 5.94 5.96 6.09 Analysis: It is really great as both measures GPM and NPM in an increasing trend and last year it has increased drastically. It is an indicator of good loan performance. Coverage Ratio

Ratio 2009 2010 2011 Interest Coverage (%) 4.58 4.61 3.33 Debt Service Coverage (%) 4.59 4.62 3.34 Analysis: From 2009 to 2010, ratio is increasing so that income for interest payments is increasing. But, in 2011 it has decreased. Loan officer must inquiry to know the reason of this fall.

Liquidity Indicator Ratio

Ratio 2009 2010 2011 Current Ratio (X) 2.80 2.12 2.12 Quick Ratio (X) 0.33 0.22 0.34 Net Liquid Assets -11302 -26329 -25713 Net Working Capital 30,152 37,846 43,940 Analysis: The ratio is increasing and decreasing in different situations. Working Capital is increasing, that is good. But the other ratios are decreasing. Loan officer must review the problem. Profitability Indicator Ratio

Ratio 2009 2010 2011 Before Tax Net income/ Total assets 0.19146 0.18955 0.10921 Before Tax Net income/ Net Worth 0.29631 0.35679 0.20552 Before Tax Net income/ Net Sales 0.05943 0.05964 0.06088 After Tax Net income/ Total assets 0.19146 0.18955 0.10921 After Tax Net income/ Net Worth 0.29631 0.35679 0.20552 After Tax Net income/ Net Sales 0.05943 0.05964 0.06088 Return on Assets (%) 19.15 18.96 10.92 Return on Equity (%) 29.63 35.68 20.55



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Analysis: Most of the ratios are decreasing form 2009 to 2011. So, it indicates that the profitability is decreasing year by year. It is a very hard condition for the ABC traders. Loan officer will have to solve the problem. Financial Leverage Ratio

Ratio 2009 2010 2011 Leverage Ratio 0.35384 0.46873 0.46862 Debt to sales ratio 0.10984 0.14747 0.26124 Total Liabilities/ Net Worth (X) 0.55 0.88 0.88 Analysis: Leverage is increasing year by year that means liabilities are increasing. So, risk is growing high year by year. The loan officer must reveal the situation and problem. Cash Flow

Cash Flow has decreased than last year for ABC traders Last year it was Tk. 17,472 and now it is Tk. 13,081. So, we can conclude that the loan performance is not good as cash flow has decreased.

Recommendation After close scrutinizing their financial ratios, it is very clear that their financial performance In overall analysis of Financial Statements, it is found that ABC traders is eligible for loan giving and has a good financial performance.is moderate as well as their loan performance. ABC Traders must improve their condition.



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Harun Flour Mills Ltd.

It is operating in Khalishpur, Khulna. It is a manufacturer of flour. It has a good sales reputation in local region. It has a good reputation. It is a flour mill.


Loan limit for Harun Flour Mills Ltd. is Tk. 250.00 Lac. Their outstanding loan up to 27 September, 2012 is 186.68 Lac.


For the loan Harun Flour Mills Ltd pledged 3 collateral securities.

Ready Successor is Son of Proprietor of Harun Flour Mills Ltd.


Summary of Credit Risk Grading of Harun Flour Mills Ltd.


Harun Flour Mills Ltd. got a good CRG score of 78 and is under acceptable category. But a financial overview shows the condition quickly.

Financial Transaction overview of Harun Flour Mills Ltd.

Particulars Value Credit Summation 443.01 Debit Summation 629.69 Recycle Times 1.77 Adjustment Times 0 Net Worth of the Owner 1327.90 Net Worth of the Business 523.00



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Financial Ratio provides specific information about financial performance of a firm. All balances were calculated excluding (000). Ratios are given below

Expense Control Ratio

Ratio 2009 2010 2011 Depreciation Expense/ Net Sales 0.00096 0.00093 0.00089 Interest Expense/ Net sales 0.01786 0.01291 0.02308 COGS/ Net sales 0.89812 0.89174 0.89174 Selling, Administrative & Other Expenses/ Net sales 0.00071 0.00070 0.00067 Analysis: From the year 2009 to 2011, expenses are decreasing. Most of the ratios are decreasing year by year and Harun Flour Mills Ltd. is getting Expense Control Efficiency. Operating Efficiency Ratio

Ratio 2009 2010 2011 Inventory Turnover Ratio (X) 3.13 3.28 2.92 Average Collection Period (Days) 7.64 18.16 17.74 Turnover of Fixed Assets (X) 13.37 15.87 19.36 Turnover of Total Assets (X) 2.58 2.57 2.44 Analysis: In that case, assets turnover ratio is increased in most of the cases compared to 2009 in 2011. So, loan performance is good.


Ratio 2009 2010 2011 GPM (%) 10.19 10.83 10.83 NPM (%) 6.72 7.90 6.95 Analysis: From 2009 to 2011 both measures, GPM and NPM is in an increasing trend. It is an indicator of good loan performance as marketability is increasing. Coverage Ratio

Ratio 2009 2010 2011 Interest Coverage (%) 4.77 7.13 4.01 Debt Service Coverage (%) 5.31 7.85 4.40



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Analysis: From 2009 to 2011, ratio is increasing so that income for interest payments is increasing. But, in 2011 it has decreased. Loan officer must inquiry to know the reason of this fall. Liquidity Indicator Ratio

Ratio 2009 2010 2011 Current Ratio 2.24 1.82 2.03 Quick Ratio 0.17 0.30 0.29 Net Liquid Assets -14241 -16101 -16546 Net Working Capital 21,532 18,899 24,406 Analysis: The ratio is increasing and decreasing in different situations. Working Capital is increasing, that is good. But the other ratios are decreasing. Loan officer must review the problem. Here we can see, assets had decreased initially but in the last year it is has increased at a higher rate from current ratio. Quickly liquid able assets are increasing year by year. Profitability Indicator Ratio

Ratio 2009 2010 2011 Before Tax Net income/ Total assets 0.17392 0.20334 0.16928 Before Tax Net income/ Net Worth 0.27170 0.37715 0.29717 Before Tax Net income/ Net Sales 0.06728 0.07907 0.06950 After Tax Net income/ Total assets 0.17376 0.20319 0.16928 After Tax Net income/ Net Worth 0.27144 0.37685 0.29717 After Tax Net income/ Net Sales 0.06724 0.07901 0.06950 Return on Assets (%) 17.38 20.32 16.93 Return on Equity (%) 27.14 37.69 29.72 Analysis: Most of the ratios are decreasing form 2010 to 2011. But, some are in increase as compared to 2009. So, it indicates that the profitability is increasing year by year in an average. It can be called a good condition. Customer must clarify about the problems to the Loan officer. Financial Leverage Ratio

Ratio 2009 2010 2011 Leverage Ratio (%) 0.35986 0.46083 0.43037 Debt to sales ratio 0.13922 0.17920 0.17671 Total Liabilities/ Net Worth (X) 0.56 0.85 0.76 Analysis: Leverage is increasing year by year that means liabilities are increasing. So, risk is growing high year by year. The loan officer must reveal the situation and problem.



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Cash Flow

Cash Flow is increased than last year for Harun flour mills ltd. Last year it was Tk. 13050 and now it is Tk. 13598. So, we can conclude that the loan performance is good as cash flow is good.

Assessment of working capital requirement of Harun Flour Mills Ltd.

Item Tied-up period Amount i- Raw materials (importable)

ii- Raw Materials (Imported but locally procured)

45 16,047,639.09

iii- Work-in-process 3 1,069,842.61 iv- Stock of finished goods

15 5,349,213.03

v- Stock of spares etc. 30 12,835.48 vi- Accounts Receivable 15 17,438,046.99 vii- Other Expenses 30 292,772.20 0BTOTAL 40,210,349.40 Recommendation After close scrutinizing their financial ratios, it is very clear that their financial performance is good as well as their loan performance. Harun Flour Mills Ltd. must improve their condition. In overall analysis of Financial Statements, it is found that Harun Flour Mills Ltd. is eligible for loan giving and has a good financial performance.

Simple Comparison

In every aspect of three business firms XYZ Traders has the most quality loan performance. But Harun Flour mills Ltd. also has good performance and a huge possibility of future growth. ABC Traders is preserving a bad loan performance and bad financial performance. ABC Traders has to take measures to overcome the situation.

Conclusion

Cash Credit (Hypothecation) is one of the continuous loan products of any bank. National Bank Limited, Khulna Branch has many customers of CC (H). We have studied over three. NBL, Khulna Branch maintains rules and regulations strictly and prohibits bad loan practices. The branch mainly attached with trading business firms. Every loan has to go through a long process to have the disbursement as the law permits to check and recheck.



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Reference:

Md. Ariful Islam, Senior Officer, National Bank Limited, Khulna Branch

National Bank Limited, Khulna Branch

Peter S. Rose, Commercial Bank Management, 5th Edition

www.nblbd.com

http://www.nblbd.com/

Cash Credit (H), Loan Procedure over National Bank Limited, Khulna Branch

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