Final Report on Study of Npa by Pankaj Bohra

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    A PROJECT REPORT

    A STUDY OF NON PERFORMING ASSETS WITH

    SPECIAL REFERENCE TO ICICI BANK

    IN PARTIAL FULFILLMEMT OF THE DEGREE OF MBA

    SUBMITTED BY

    PANKAJ BOHRA

    (EXAM. ROLL NO. 0201483907)

    UNDER GUIDANCE OF

    Mr. MANOJ VERMA

    (Faculty, Project guide)

    MAHARAJA AGRASEN INSTITUTE OF TECHNOLOGY

    AFFILATED TO GURU GOBIND SINGH INDRAPRASTHA UNIVERSITY

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    KASHMERE GATE, DELHI - 110008

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    CERTIFICATE

    This is to certify that the project study titled A STUDY OF NON PERFORMING

    ASSETS WITH SPECIAL REFERENCE TO ICICI BANK, has been successfully

    completed by Pankaj Bohra, EnrollmentNo. 0201483907 .

    This is an original work and the same has not been submitted to any other Institute for the

    award of any other degree.

    Signature of the guide

    Place.

    Date.

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    ACKNOWLEDGEMENT

    With profound veneration, first of all we recline ourselves before ALMIGHTY without

    whose blessings ourselves is cipher.

    It is my pleasure to be indebted to various people, who directly or indirectly contributed in

    the development of this work and who influenced my thinking, behavior, and acts during the

    course of study.

    As a student specializing in finance, I came to know about the ground realities in topics like

    Non Performing Assets with special reference to ICICI BANK. For this I am indebted to Mr.

    Manoj Verma, Faculty, MAIMS who took personal interest in my project and bore the

    associated headaches.It would be unfair if I do not mention the name ofDr.N.K. Kakkar, Director, MAIMS who

    gave me valuable tips to complete this project.

    Lastly, I would like to thank the almighty and my parents for their moral support and my

    colleagues with whom I shared my day-to-day experience and received lots off suggestions

    that improved my work quality.

    Signature -----------------------

    Name: PANKAJ BOHRA

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    ABSTRACT

    A strong banking sector is important for flourishing economy. The failure of the banking

    sector may have an adverse impact on other sectors. Non-performing assets are one of the

    major concerns for banks in India.

    NPAs reflect the performance of banks. A high level of NPAs suggests high probability of a

    large number of credit defaults that affect the profitability and net-worth of banks and also

    erodes the value of the asset. The NPA growth involves the necessity of provisions, which

    reduces the over all profits and shareholders value.

    The issue of Non Performing Assets has been discussed at length for financial system all over

    the world. The problem of NPAs is not only affecting the banks but also the whole economy.

    In fact high level of NPAs in Indian banks is nothing but a reflection of the state of health of

    the industry and trade.

    This report deals with understanding the concept of NPAs, its magnitude and major causes

    for an account becoming non-performing, projection with special reference to ICICI bank.

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    CONTENTS

    CHAPTER NO. TOPICS PAGE NO.

    CERTIFICATE 2

    DECLARATION 3

    ACKNOWLEDGEMENT 4

    ABSTRACT 5

    TABLE OF CONTENT 6

    1. INTRODUCTION 7

    2. BACKGROUND 11

    3. LITERATURE REVIEW 13

    4. RESEARCH METHODOLOGY 38

    5. INDUSTRY PROFILE

    HISTORY OF BANKING 48

    TRANSFORMATION IN BANKING 53

    CHALLENGES IN BANKING 55

    6. COMPANY PROFILE

    INTRODUCTION 58

    HISTORY 63

    IMPACT OF FINANCIAL CRISIS 65

    7. DATA ANALYSIS AND INTERPRETATION 70

    8. SUGGESTIONS AND CONCLUSION 90

    9. REFERENCES 101

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    CHAPTER1.

    INTRODUCTION

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    Introduction

    The crucial role of bank economists in transforming the banking system in India. Economists

    have to be more mainstreamed within the operational structure of commercial banks. Apart

    from the traditional functioning of macro-scanning, the inter linkages between treasuries,

    dealing rooms and trading rooms of banks need to be viewed not only with the day-to-day

    needs of operational necessity, but also with analytical content and policy foresight.

    Banking sector reforms in India has progressed promptly on aspects like interest rate

    deregulation, reduction in statutory reserve requirements, prudential norms for interest rates,

    asset classification, income recognition and provisioning. But it could not match the pace

    with which it was expected to do. The accomplishment of these norms at the execution stageswithout restructuring the banking sector as such is creating havoc.

    During pre-nationalization period and after independence, the banking sector remained in

    private hands Large industries who had their control in the management of the banks were

    utilizing major portion of financial resources of the banking system and as a result low

    priority was accorded to priority sectors. Government of India nationalized the banks to make

    them as an instrument of economic and social change and the mandate given to the banks was

    to expand their networks in rural areas and to give loans to priority sectors such as small scale

    industries, self-employed groups, agriculture and schemes involving women.

    To a certain extent the banking sector has achieved this mandate. Lead Bank Scheme enabled

    the banking system to expand its network in a planned way and make available banking

    series to the large number of population and touch every strata of society by extending credit

    to their productive endeavours. This is evident from the fact that population per office of

    commercial bank has come down from 66,000 in the year 1969 to 11,000 in 2004. Similarly,

    share of advances of public sector banks to priority sector increased form 14.6% in 1969 to

    44% of the net bank credit. The number of deposit accounts of the banking system increased

    from over 3 crores in 1969 to over 30 crores. Borrowed accounts increased from 2.50 lakhs to

    over 2.68 crores.

    Without a sound and effective banking system in India it cannot have a healthy economy. The

    banking system of India should not only be hassle free but it should be able to meet new

    challenges posed by the technology and any other external and internal factors.

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    For the past three decades India's banking system has several outstanding achievements to its

    credit. The most striking is its extensive reach. It is no longer confined to only metropolitans

    or cosmopolitans in India. In fact, Indian banking system has reached even to the remote

    corners of the country. This is one of the main reasons of India's growth process.

    Financial sector reform in India has progressed rapidly on aspects like interest rate

    deregulation, reduction in reserve requirements, barriers to entry, prudential norms and risk-

    based supervision. But progress on the structural-institutional aspects has been much slower

    and is a cause for concern. The sheltering of weak institutions while liberalizing operational

    rules of the game is making implementation of operational changes difficult and ineffective.

    Changes required to tackle the NPA problem would have to span the entire gamut of

    judiciary, polity and the bureaucracy to be truly effective.

    In liberalizing economy banking and financial sector get high priority. Indian banking sector

    of having a serious problem due non performing. The financial reforms have helped largely

    to clean NPA was around Rs. 52,000 crores in the year 2004. The earning capacity and

    profitability of the bank are highly affected due to this

    Non Performing Asset means an asset or account of borrower, which has been classified by a

    bank or financial institution as sub-standard, doubtful or loss asset, in accordance with the

    directions or guidelines relating to asset classification issued by The Reserve Bank of India.

    The level of NPA act as an indicator showing the bankers credit risks and efficiency of

    allocation of resource.

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    NEED OF THE STUDY

    The banks not only accept the deposits of the people but also provide them credit

    facilities for their development. Indian banking sector has the nation in developing the

    business and service sectors. But recently the banks are facing the problem of credit risk. It is

    found that many general people and business people borrow from the banks but due to some

    genuine or other reasons are not able to repay back the amount drawn to the banks. The

    amount which is not given back to the banks is known as the non performing assets. Many

    banks are facing the problem of NPAs which hampers the business of the banks. Due to

    NPAs the income of the banks is reduced and the banks have to make the large number of

    the provisions that would curtail the profit of the banks and due to that the financial

    performance of the banks would not show good results.

    The main aim behind making this report is to know how public sector banks are

    operating their business and how NPAs play its role to the operations of the public sector

    banks. The report NPAs are classified according to the sector, industry, and state wise. The

    present study also focuses on the existing system in India to solve the problem of NPAs and

    comparative analysis to understand which bank is playing what role with concerned to NPAs.

    Thus, the study would help the decision makers to understand the financial performance and

    growth of public sector banks as compared to the NPAs.

    This report explores an empirical approach to the analysis of Non-Performing Assets

    (NPAs) with special reference of ICICI bank in India. The level of NPAs is one of the drivers

    of financial stability and growth of the banking sector. This report aims to find the

    fundamental factors which impact NPAs of banks. A model consisting of two types of

    factors, viz., macroeconomic factors and bank-specific parameters, is developed and the

    behavior of NPAs of the three categories of banks is observed. The empirical analysis

    assesses how macroeconomic factors and bank-specific parameters affect NPAs of a

    particular category of banks. The macroeconomic factors of the model included are GDP

    growth rate and excise duty, and the bank-specific parameters are Credit Deposit Ratio

    (CDR), loan exposure to priority sector, Capital Adequacy Ratio (CAR), and liquidity risk.

    The results show that movement in NPAs over the years can be explained well by the factors

    considered in the model for the public and private sector banks. The other important results

    derived from the analysis include the finding that banks' exposure to priority sector lending

    reduces NPAs.

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    CHAPTER 2

    BACKGROUND

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    Background

    Granting of credit for economic activities is the prime duty of banking. Apart from

    raising resources through fresh deposits, borrowings and recycling of funds received back

    from borrowers constitute a major part of funding credit dispensation activity. Lending is

    generally encouraged because it has the effect of funds being transferred from the system to

    productive purposes, which results into economic growth. However lending also carries a risk

    called credit risk, which arises from the failure of borrower. Non-recovery of loans along

    with interest forms a major hurdle in the process of credit cycle. Thus, these loan losses affect

    the banks profitability on a large scale. Though complete elimination of such losses is not

    possible, but banks can always aim to keep the losses at .

    at a low level. Non-performing Asset (NPA) has emerged since over a decade as an alarming

    threat to the banking industry in our country sending distressing signals on the sustainability

    and endurability of the affected banks. The positive results of the chain of measures affected

    under banking reforms by the Government of India and RBI in terms of the two Narasimhan

    Committee Reports in this contemporary period have been neutralized by the ill effects of this

    surging threat. Despite various correctional steps administered to solve and end this problem,

    concrete results are eluding. It is a sweeping and all pervasive virus confronted universally on

    banking and financial institutions.

    main aim of any person is the utilization of money in the best manner since the India

    is country where more than half of the population has problem of running the family in the

    most efficient manner. However Indian people faced large number of problem till the

    development of the full fledged banking sector. The Indian banking sector came into the

    developing nature mostly after the 1991 government policy. The banking sector has really

    helped the Indian people to utilize the single money in the best manner as they want. People

    now have started investing their money in the banks and banks also provide goods returns on

    the deposited amount. The people now have at the most understood that banks provide them

    good security to their deposits and so excess amounts are invested in the banks. Thus, banks

    have helped the people to achieve their socio economic objectives.

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    CHAPTER 3

    LITERATURE

    REVIEW

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    LITERATURE REVIEW

    NON PERFORMING ASSETS (NPA)

    Action for enforcement of security interest can be initiated only if the secured asset is

    classified as Nonperforming asset. Non performing asset means an asset or account of

    borrower, which has been classified by bank or financial institution as sub standard ,

    doubtful or loss asset, in accordance with the direction or guidelines relating to assets

    classification issued by RBI . An amount due under any credit facility is treated as past due

    when it is not been paid within 30 days from the due date. Due to the improvement in the

    payment and settlement system, recovery climate, up gradation of technology in the banking

    system etc, it was decided to dispense with past due concept, with effect from March 31,2001. Accordingly as from that date, a Non performing asset shell be an advance where

    i. Interest and/or instalment of principal remain overdue for a period of more than 180 days in

    respect of a term loan,

    ii. The account remains out of order for a period of more than 180 days, in respect of an

    overdraft/cash credit (OD/CC)

    iii. The bill remains overdue for a period of more than 180 days in case of bill purchased or

    discounted.

    iv. Interest and/or principal remains overdue for two harvest season but for a period not

    exceeding two half years in case of an advance granted for agricultural purpose, and

    v. Any amount to be received remains overdue for a period of more than 180 days in respect

    of other accounts

    With a view to moving towards international best practices and to ensure greater

    transparency, it has been decided to adopt 90 days overdue norms for identification of NPA

    s, from the year ending March 31, 2004, a non performing asset shell be a loan or an advance

    where;

    i. Interest and/or instalment of principal remain overdue for a period of more than 90 days in

    respect of a term loan,

    ii. The account remains out of order for a period of more than 90 days ,in respect of an

    overdraft/cash credit (OD/CC)

    iii. The bill remains overdue for a period of more than 90 days in case of bill purchased or

    discounted.

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    iv. Interest and/or principal remains overdue for two harvest season but for a period not

    exceeding two half years in case of an advance granted for agricultural purpose, and

    v. Any amount to be received remains overdue for a period of more than 90 days in respect of

    other accounts

    Out of order

    An account should be treated as out of order if the outstanding balance remains continuously

    in excess of sanctioned limit /drawing power. in case where the out standing balance in the

    principal operating account is less than the sanctioned amount /drawing power, but there are

    no credits continuously for six months as on the date of balance sheet or credit are not enough

    to cover the interest debited during the same period ,these account should be treated as out of

    order.

    Overdue

    Any amount due to the bank under any credit facility is overdue if it is not paid on due date

    fixed by the bank.

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    FACTORS FOR RISE IN NPAs

    The banking sector has been facing the serious problems of the rising NPAs. But the problem

    of NPAs is more in public sector banks when compared to private sector banks and foreign

    banks. A strong banking sector is important for a flourishing economy. The failure of the

    banking sector may have an adverse impact on other sectors. The Indian banking system,

    which was operating in a closed economy, now faces the challenges of an open economy. On

    one hand a protected environment ensured that banks never needed to develop sophisticated

    treasury operations and Asset Liability Management skills. On the other hand a combination

    of directed lending and social banking relegated profitability and competitiveness to the

    background. The net result was unsustainable NPAs and consequently a higher effective cost

    of banking services.

    The problem India Faces is not lack of strict prudential norms but

    i. The legal impediments and time consuming nature of asset disposal proposal.

    ii. Postponement of problem in order to show higher earnings.

    iii. Manipulation of debtors using political influence.

    Macro Perspective Behind NPAs

    A lot of practical problems have been found in Indian banks, especially in public sector

    banks. For Example, the government of India had given a massive wavier of Rs. 15,000 Crs.

    under the Prime Minister ship of Mr. V.P. Singh, for rural debt during 1989-90. This was not

    a unique incident in India and left a negative impression on the payer of the loan.

    Poverty elevation programs like IRDP, RREP, SUME, SEPUP, JRY, PMRY etc., failed on

    various grounds in meeting their objectives. The huge amounts of loan granted under these

    schemes were totally unrecoverable by banks due to political manipulation, misuse of funds

    and non-reliability of target audience of these sections. Loans given by banks are their assets

    and as the repayments of several of the loans were poor, the qualities of these assets were

    steadily deteriorating. Credit allocation became 'Lon Melas', loan proposal evaluations were

    slack and as a result repayments were very poor. There are several

    reasons for an account becoming NPA.

    * Internal factors

    * External factors

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    EXTERNAL FACTORS

    Ineffective recovery tribunal

    The Govt. has set of numbers of recovery tribunals, which works for recovery of loans and

    advances. Due to their negligence and ineffectiveness in their work the bank suffers the

    consequence of non-recover, their by reducing their profitability and liquidity.

    Willful Defaults

    There are borrowers who are able to payback loans but are intentionally withdrawing it.

    These groups of people should be identified and proper measures should be taken in order to

    get back the money extended to them as advances and loans.

    Natural calamities

    This is the measure factor, which is creating alarming rise in NPAs of the PSBs. every now

    and then India is hit by major natural calamities thus making the borrowers unable to pay

    back there loans. Thus the bank has to make large amount of provisions in order to

    compensate those loans, hence end up the fiscal with a reduced profit.

    Mainly ours framers depends on rain fall for cropping. Due to irregularities of rain fall the

    framers are not to achieve the production level thus they are not repaying the loans.

    Industrial sickness

    Improper project handling , ineffective management , lack of adequate resources , lack of

    advance technology , day to day changing govt. Policies give birth to industrial sickness.

    Hence the banks that finance those industries ultimately end up with a low recovery of their

    loans reducing their profit and liquidity.

    Lack of demand

    Entrepreneurs in India could not foresee their product demand and starts production which

    ultimately piles up their product thus making them unable to pay back the money they borrow

    to operate these activities. The banks recover the amount by selling of their assets, which

    covers a minimum label. Thus the banks record the non recovered part as NPAs and has to

    make provision for it.

    Change on Govt. policies

    With every new govt. banking sector gets new policies for its operation. Thus it has to cope

    with the changing principles and policies for the regulation of the rising of NPAs.

    The fallout of handloom sector is continuing as most of the weavers Co-operative societies

    have become defunct largely due to withdrawal of state patronage. The rehabilitation plan

    worked out by the Central govt to revive the handloom sector has not yet been implemented.

    So the over dues due to the handloom sectors are becoming NPAs.

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    Apart from these factors there may be others external factors which can cause of NPAs,

    these factors are:

    1. Sluggish legal system - Long legal tangles Changes that had taken place in labour laws

    Lack of sincere effort.

    2. Scarcity of raw material, power and other resources.

    3. Industrial recession.

    4. Shortage of raw material, raw material\input price escalation, power shortage, industrial

    recession, excess capacity, natural calamities like floods, accidents.

    5. Failures, non payment\ over dues in other countries, recession in other countries,

    externalization problems, adverse exchange rates etc.

    6. Government policies like excise duty changes, Import duty changes etc.,

    INTERNAL FACTORS

    Defective Lending process

    There are three cardinal principles of bank lending that have been followed by the

    commercial banks since long.

    i. Principles of safety

    ii. Principle of liquidity

    iii. Principles of profitability

    i. Principles of safety

    By safety it means that the borrower is in a position to repay the loan both principal and

    interest. The repayment of loan depends upon the borrowers:

    a. Capacity to pay

    b. Willingness to pay

    Capacity to pay depends upon: 1. Tangible assets 2. Success in business

    Willingness to pay depends on: 1. Character 2. Honest 3. Reputation of borrower

    The banker should, there fore take utmost care in ensuring that the enterprise or business for

    which a loan is sought is a sound one and the borrower is capable of carrying it out

    successfully .he should be a person of integrity and good character.

    Inappropriate technology

    Due to inappropriate technology and management information system, market driven

    decisions on real time basis can not be taken. Proper MIS and financial accounting system is

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    not implemented in the banks, which leads to poor credit collection, thus NPA. All the

    branches of the bank should be computerized.

    Improper swot analysis

    The improper strength, weakness, opportunity and threat analysis is another reason for rise in

    NPAs. While providing unsecured advances the banks depend more on the honesty, integrity,

    and financial soundness and credit worthiness of the borrower.

    1. Banks should consider the borrowers own capital investment.

    2. It should collect credit information of the borrowers from

    a. From bankers

    b. Enquiry from market/segment of trade, industry, business.

    c. From external credit rating agencies. Analyse the balance sheet

    True picture of business will be revealed on analysis of profit/loss a/c and balance sheet.

    3. Purpose of the loan

    When bankers give loan, he should analyse the purpose of the loan. To ensure safety and

    liquidity, banks should grant loan for productive purpose only. Bank should analyse the

    profitability, viability, long term acceptability of the project while financing.

    Poor credit appraisal system

    Poor credit appraisal is another factor for the rise in NPAs. Due to poor credit appraisal the

    bank gives advances to those who are not able to repay it back. They should use good credit

    appraisal to decrease the NPAs.

    Managerial deficiencies

    The banker should always select the borrower very carefully and should take tangible assets

    as security to safe guard its interests. When accepting securities banks should consider the

    1. Marketability

    2. Acceptability

    3. Safety

    4. Transferability.

    The banker should follow the principle of diversification of risk based on the famous maxim

    do not keep all the eggs in one basket; it means that the banker should not grant advances

    to a few big farms only or to concentrate them in few industries or in a few cities. If a new

    big customer meets misfortune or certain traders or industries affected adversely, the overall

    position of the bank will not be affected.

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    Like OSCB suffered loss due to the OTM Cuttack, and Orissa hand loom industries. The

    biggest defaulters of OSCB are the OTM (117.77lakhs), and the handloom sector Orissa

    hand loom WCS ltd(2439.60lakhs).

    Absence of regular industrial visit

    The irregularities in spot visit also increases the NPAs. Absence of regularly visit of bank

    officials to the customer point decreases the collection of interest and principals on the loan.

    The NPAs due to wilful defaulters can be collected by regular visits.

    Re loaning process

    Non remittance of recoveries to higher financing agencies and re loaning of the same have

    already affected the smooth operation of the credit cycle. Due to re loaning to the defaulters

    and CCBs and PACs, the NPAs of OSCB is increasing day by day.

    Apart from these the other internal factors are:

    1. Funds borrowed for a particular purpose but not use for the said purpose.

    2. Project not completed in time.

    3. Poor recovery of receivables.

    4. Excess capacities created on non-economic costs.

    5. In-ability of the corporate to raise capital through the issue of equity or other debt

    instrument from capital markets.

    6. Business failures.

    7. Diversion of funds for expansion\modernization\setting up new projects\ helping or

    promoting sister concerns.

    8. Willful defaults, siphoning of funds, fraud, disputes, management disputes, mis-

    appropriation etc.,

    9. Deficiencies on the part of the banks viz. in credit appraisal, monitoring and follow-ups,

    delay in settlement of payments\ subsidiaries by government bodies etc.,

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    PROBLEMS DUE TO NPA

    1. Owners do not receive a market return on there capital .in the worst case, if the banks fails,

    owners loose their assets. In modern times this may affect a broad pool of shareholders.

    2. Depositors do not receive a market return on saving. In the worst case if the bank fails,

    depositors loose their assets or uninsured balance.

    3. Banks redistribute losses to other borrowers by charging higher interest rates, lower

    deposit rates and higher lending rates repress saving and financial market, which hamper

    economic growth.

    4. Non performing loans epitomise bad investment. They misallocate credit from good

    projects, which do not receive funding, to failed projects. Bad investment ends up in

    misallocation of capital, and by extension, labour and natural resources.

    5. Non performing asset may spill over the banking system and contract the money stock,

    which may lead to economic contraction. This spill over effect can channelize through

    liquidity or bank insolvency: a) when many borrowers fail to pay interest, banks may

    experience liquidity shortage. This can jam payment across the country, b) illiquidity

    constraints bank in paying depositors .c) undercapitalised banks exceeds the banks capital

    base.

    What caused such high NPAs in the system until 1995?

    Some key reasons for huge NPAs until mid-1990s are as follows:

    Absence of competition: The entire banking sector was state-owned; there was complete

    absence of any kind of competition from the private sector.

    Lack of focus and control: The government-controlled operations of banks resulted in

    favoritisms in terms of lending, besides lack of focus on quality of lending. Managements of

    banks lacked any control on operations of their banks, while directors largely were influenced

    by the will of power-circles.

    Collateral-based lending and a dormant legal recourse system: Collateral was

    considered king. Under the name of collateral, large sums of loans were disbursed, and in the

    absence of an active legal recovery system, loan repayment and quality considerations took a

    back seat.

    Corruption and bureaucracy: Political interference and lack of supervision increased

    corruption and redtapism in the banking system. This resulted in complete dilution of credit

    quality and control procedures.

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    Inadequacy of capital and tools relating to asset quality monitoring: Banks suffered

    from shortage of capital funds to pursue any meaningful investments in quality control, loan

    monitoring, etc. This inadequacy of funds, together with the absence of independent

    management, led to low focus on asset quality tracking and taking corrective actions.

    The situation changed after 1993, when the Reserve Bank of India (RBI) with the

    government's support, came up with several decisions on managing Indian banks that had a

    salutary impact, and the future never looked so much in control henceforth.

    There was a significant decline in the non-performing assets (NPAs) of SCBs in 2003-04,

    despite adoption of 90 day delinquency norm from March 31, 2004. The gross NPAs of SCBs

    declined from 4.0 per cent of total assets in 2002-03 to 3.3 per cent in 2003-04. The

    corresponding decline in net NPAs was from 1.9 per cent to 1.2 per cent. Both gross NPAs

    and net NPAs declined in absolute terms. While the gross NPAs declined from Rs. 68,717

    crore in 2002-03 to Rs. 64,787 crore in 2003-04, net NPAs declined from Rs. 32,670 crore to

    Rs. 24,617 crore in the same period. There was also a significant decline in the proportion of

    net NPAs to net advances from 4.4 per cent in 2002-03 to 2.9 per cent in 2003-04. The

    significant decline in the net NPAs by 24.7 per cent in 2003-04 as compared to 8.1 per cent in

    2002- 03 was mainly on account of higher provisions (up to 40.0 per cent) for NPAs made by

    SCBs.

    The decline in NPAs in 2003-04 was witnessed across all bank groups. The decline in net

    NPAs as a proportion of total assets was quite significant in the case of new private sector

    banks, followed by PSBs. The ratio of net NPAs to net advances of SCBs declined from 4.4

    per cent in 2002-03 to 2.9 per cent in 2003-04. Among the bank groups, old private sector

    banks had the highest ratio of net NPAs to net advances at 3.8 per cent followed by PSBs (3.0

    per cent) new private sector banks (2.4 per cent) and foreign banks (1.5 per cent)

    An analysis of NPAs by sectors reveals that in 2003-04, advances to non-priority sectors

    accounted for bulk of the outstanding NPAs in the case of PSBs (51.24 per cent of total) and

    for private sector banks (75.30 per cent of total). While the share of NPAs in agriculture

    sector and SSIs of PSBs declined in 2003-04, the share of other priority sectors increased.

    The share of loans to other priority sectors in priority sector lending also increased. Measures

    taken to reduce NPAs include reschedulement, restructuring at the bank level, corporate debt

    restructuring, and recovery through Lok Adalats, Civil Courts, and debt recovery tribunals

    and compromise settlements. The recovery management received a major fillip with the

    enactment of the Securitisation and Reconstruction of Financial Assets and Enforcement of

    Security Interest (SARFAESI) Act, 2002 enabling banks to realise their dues without

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    intervention of courts and tribunals. The Supreme Court in its judgment dated April 8, 2004,

    while upholding the constitutional validity of the Act, struck down section 17 (2) of the Act

    as unconstitutional and contrary to Article 14 of the Constitution of India. The Government

    amended the relevant provisions of the Act to address the concerns expressed by the Supreme

    Court regarding a fair deal to borrowers through an ordinance dated November 11, 2004. It is

    expected that the momentum in the recovery of NPAs will be resumed with the amendments

    to the Act.

    The revised guidelines for compromise settlement of chronic NPAs of PSBs were issued in

    January 2003 and were extended from time to time till July 31, 2004. The cases filed by

    SCBs in Lok Adalats for recovery of NPAs stood at 5.20 lakh involving an amount of Rs.

    2,674 crore (prov.). The recoveries effected in 1.69 lakh cases amounted to Rs. 352 crore

    (prov.) as on September 30, 2004. The number of cases filed in debt recovery tribunals stood

    at 64, 941 as on June 30, 2004, involving an amount of Rs. 91,901 crore. Out of these, 29,

    525 cases involving an amount of Rs. 27,869 crore have been adjudicated. The amount

    recovered was to Rs. 8,593 crore. Under the scheme of corporate debt restructuring

    introduced in 2001, the number of cases and value of assets restructured stood at 121 and Rs.

    69,575 crore, respectively, as on December 31, 2004. Iron and steel, refinery, fertilisers and

    telecommunication sectors were the major beneficiaries of the scheme. These sectors

    accounted for more than two-third of the values of assets restructured.

    Capital adequacy ratio

    The concept of minimum capital to risk weighted assets ratio (CRAR) has been developed to

    ensure that banks can absorb a reasonable level of losses. Application of minimum CRAR

    protects the interest of depositors and promotes stability and efficiency of the financial

    system. At the end of March 31, 2004, CRAR of PSBs stood at

    13.2 per cent, an improvement of 0.6 percentage point from the previous year. There was also

    an improvement in the CRAR of old private sector banks from 12.8 per cent in 2002-03 to

    13.7 per cent in 2003-04. The CRAR of new private sector banks and foreign banks

    registered a decline in 2003-04. For the SCBs as a whole the CRAR improved from 12.7 per

    cent in 2002-03 to 12.9 per cent in 2003-04. All the bank groups had CRAR above the

    minimum 9 per cent stipulated by the RBI. During the current year, there was further

    improvement in the CRAR of SCBs. The ratio in the first half of 2004-05 improved to 13.4

    per cent as compared to 12.9 per cent at the end of 2003-04. Among the bank groups, a

    substantial improvement was witnessed in the case of new private sector banks from 10.2 per

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    cent as at the end of 2003-04 to 13.5 percent in the first half of 2004-05. While PSBs and old

    private banks maintained the CRAR at almost the same level as in the previous year, the

    CRAR of foreign banks declined to

    14.0 per cent in the first half of 2004-05 as compared to 15.0 per cent as at the end of 2003-

    04.

    The above picture is self-explanatory. Over the period of time, Indian commercial banks have

    shown tremendous improvement in terms of quality of credit. NPAs, both at gross and net

    levels, as a percentage of advances, have fallen consistently. The gross NPA/Advances ratiohas fallen from 16% in FY97 to less than 2.5% in FY08. Banks displayed great control over

    credit quality, as even in times of falling IIP and GDP growth, they continued to show fewer

    NPAs. This is a very impressive indicator that highlights the fact that Indian banking has

    shown substantial improvement in terms of asset quality management even in adverse macro-

    economic conditions. FY99, FY01 and FY02 saw considerable fall in industrial production

    from the then existing levels. However, this did not lead to any increase in bank NPAs. On

    the contrary, banks improved NPA ratios considerably through the exercise of strong asset

    quality monitoring programmes. The current environment is again indicating a decline in

    GDP, and IIP growth rates as slowdown hits demand and consumption across all major

    sectors. However, we strongly believe that managements of top Indian banks have put 'NPA

    Management and Control' as one of their top priorities, and that even though there would be a

    jump in NPAs as a proportion of total assets, the banking sector has the ability to withstand

    this jump and still emerge as a strong performer in these extremely difficult times.

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    Banks use the database to ensure credit does not fall in the hands of a borrower, with a

    bad credit record.

    Asset Reconstruction Company: ARCs were permitted to operate from 2002; these

    institutions helped the removal of bank's focus on bad assets by acquiring their bad loans,thereby strengthening their balance sheets.

    Corporate Debt Restructuring, SICA: The CDR mechanism, sick industries

    revival enactments enabled addressing issues of troubled borrowers through effective

    hand-holding and bank support. This prevented further slippage of asset quality.

    Exposure limits (sector-wise and borrower-wise): The RBI put in place strict

    exposure limits for banks with respect to sensitive sectors like real estate and capital

    markets. In addition, limits on amounts a bank can lend to a specific borrower, or a

    borrower group helped in non-concentration of funds as loans in a few hands, thereby

    diversifying the risk of default.

    Risk management tools: The RBI ensured that banks have effective risk

    measurement, management and control systems in place, so as to avoid credit shocks.

    Asset liability management (ALM), value at risk (VAR), control on off-balance sheet

    exposures, credit risk weightages, etc. are few concepts that enabled banks to effectively

    control NPAs.

    In this context of a highly improved, dynamic and competitive domestic banking

    environment, we expect that Indian banks will exercise adequate caution in terms of the

    quality of their loan-books. In addition, some of the steps (underlined) can be effectively

    used again by RBI and the government, if the condition of NPAs worsens.

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    Basel Report Framework and India

    Various risks in bank

    Liquidity Risk

    Market Liquidity Risk arises when a bank is unable to conclude a large transaction in a

    particular instrument near the current market price. Funding Liquidity Risk is defined as the

    inability to obtain funds to meet cash flow obligations. For banks, funding liquidity risk is

    more crucial.

    Interest Rate Risk

    Interest Rate Risk (IRR) is the exposure of a Banks financial condition to adverse

    movements in interest rates. Banks have an appetite for this risk and use it to earn returns.

    IRR manifests itself in four different ways: re-pricing, yield curve, basis and embeddedoptions.

    Pricing Risk

    Pricing Risk is the risk to the banks financial condition resulting from adverse movements in

    the level or volatility of the market prices of interest rate instruments, equities, commodities

    and currencies. Pricing Risk is usually measured as the potential gain/loss in a

    position/portfolio that is associated with a price movement of a given probability over a

    specified time horizon. This measure is typically known as value-at-risk (VAR).

    Foreign Currency Risk

    Foreign Currency Risk is pricing risk associated with foreign currency.

    Market Risk

    The term Market Risk applies to (i) that part of IRR which affects the price of interest rate

    instruments, (ii) Pricing Risk for all other assets/portfolio that are held in the trading book of

    the bank and (iii) Foreign Currency Risk.

    Strategic Risk

    Strategic Risk is the risk arising from adverse business decisions, improper implementation

    of decisions, or lack of responsiveness to industry changes. This risk is a function of the

    compatibility of an organizations strategic goals, the business strategies developed to

    achieve those goals, the resources deployed against these goals, and the quality of

    implementation.

    Reputation Risk

    Reputation risk is the risk arising from negative public opinion. This risk may expose the

    institution to litigation, financial loss, or a decline in customer base.

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    Transaction Risk

    Transaction risk is the risk arising from fraud, both internal & external, failed business

    processes and the inability to maintain business continuity and manage information.

    Compliance Risk

    Compliance risk is the risk of legal or regulatory sanctions, financial loss or reputation loss

    that a bank may suffer as a result of its failure to comply with any or all of the applicable

    laws, regulations, codes of conduct and standards of good practice. It is also called integrity

    risk since a banks reputation is closely linked to its adherence to principles of integrity and

    fair dealing.

    Operational Risk

    The term Operational Risk includes both compliance risk and transaction risk but excludes

    strategic risk and reputation risk.

    Credit Risk

    Credit Risk is most simply defined as the potential of a bank borrower or counter-party to fail

    to meet its obligations in accordance with agreed terms. For most banks, loans are the largest

    and most obvious source of credit risk.

    Banking Regulation and Supervision

    The Need for Regulation

    Banking is one of the most heavily regulated businesses since it is a very highly leveraged

    (high debt-equity ratio or low capital-assets ratio) industry. In fact, it is an irony that banks,

    which constantly judge their borrowers on debt-equity ratio, have themselves a debt-equity

    ratio far too adverse than their borrowers! In simple words, they earn by taking risk on their

    creditors money rather than shareholders money. And since it is not their money

    (shareholders stake) on the block, their appetite for risk needs to be controlled.

    Goals and Tools for Bank Regulation and Supervision

    The main goal of all regulators is the stability of the banking system. However, regulators

    cannot be concerned solely with the safety of the banking system, for if that was the only

    purpose, it would impose a narrow banking system, in which checkable deposits are fully

    backed by absolutely safe assets in the extreme, currency. Coexistent with this primary

    concern is the need to ensure that the financial system operates efficiently. As we have seen,

    banks need to take risks to be in business despite a probability of failure. In fact, Alan

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    Greenspan puts it very succinctly, `providing institutions with the flexibility that may lead to

    failure is as important as permitting them the opportunity to succeed.

    The twin supervisory or regulatory goals of stability and efficiency of the financial system

    often seem to pull in opposite directions and there is much debate raging on the nature and

    extent of the trade-off between the two. Though very interesting, it is outside the scope of this

    report to elaborate upon. Instead, let us take a look at the list of some tools that regulators

    employ:

    Restrictions on bank activities and banking-commerce links: To avoid conflicts of interest

    that may arise when banks engage in diverse activities such as securities underwriting,

    insurance underwriting, and real estate investment.

    Restrictions on domestic and foreign bank entry: The assumption here is that effective

    screening of bank entry can promote stability.

    Capital Adequacy: Capital serves as a buffer against losses and hence also against failure.

    Capital adequacy is deemed to control risk appetite of the bank by aligning the incentives of

    bank owners with depositors and other creditors.

    Deposit Insurance: Deposit insurance schemes are to prevent widespread bank runs and to

    protect small depositors but can create moral hazard (which means in simple terms the

    propensity of both firms and individuals to take more risks when insured).

    Information disclosure & private sector monitoring: Includes certified audits and/or ratings

    from international rating agencies. Involves directing banks to produce accurate,

    comprehensive and consolidated information on the full range of their activities and risk

    management procedures.

    Government Ownership: The assumption here is that governments have adequate

    information and incentives to promote socially desirable investments and in extreme cases

    can transfer the depositors loss to tax payers! Government ownership can, at times, promote

    financing of politically attractive projects and not the economically efficient ones.

    Mandated liquidity reserves: To control credit expansion and to ensure that banks have a

    reasonable amount of liquid assets to meet their liabilities.

    Loan classification, provisioning standards & diversification guidelines: These are controls

    to manage credit risk.

    `Unfortunately, however, there is no evidence that any universal set of best practices is

    appropriate for promoting well-functioning banks; that successful practices in the United

    States, for example, will succeed in countries with different institutional settings; or that

    detailed regulations and supervisory practices should be combined to produce an extensive

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    checklist of best practices in which more checks are better than fewer. There is no broad

    cross-country evidence on which of the many different regulations and supervisory practices

    employed around the world work best, if at all, to promote bank development and stability.

    The Basel I Accord

    Basel Committee on Banking Supervision (BCBS)

    On 26th June 1974, a number of banks had released Deutschmarks to Bank Herstatt in

    Frankfurt in exchange for dollar payments that were to be delivered in New York. Due to

    differences in time zones, there was a lag in dollar payments to counter-party banks during

    which Bank Herstatt was liquidated by German regulators, i.e. before the dollar payments

    could be affected.

    The Herstatt accident prompted the G-10 countries (the G-10 is today 13 countries: Belgium,

    Canada, France, Germany, Italy, Japan, Luxembourg, Netherlands, Spain, Sweden,

    Switzerland, United Kingdom and United States) to form, towards the end of 1974, the Basel

    Committee on Banking Supervision (BCBS), under the auspices of the Bank for International

    Settlements (BIS), comprising of Central Bank Governors from the participating countries.

    BCBS has been instrumental in standardizing bank regulations across jurisdictions with

    special emphasis on defining the roles of regulators in cross-jurisdictional situations. The

    committee meets four times a year. It has around 30 technical working groups and task forces

    that meet regularly.

    1988 Basel Accord

    In 1988, the Basel Committee published a set of minimal capital requirements for banks,

    known as the 1988 Basel Accord. These were enforced by law in the G-10 countries in 1992,

    with Japanese banks permitted an extended transition period.

    The 1988 Basel Accord focused primarily on credit risk. Bank assets were classified into five

    risk buckets i.e. grouped under five categories according to credit risk carrying risk weights

    of zero, ten, twenty, fifty and one hundred per cent. Assets were to be classified into one of

    these risk buckets based on the parameters of counter-party (sovereign, banks, public sector

    enterprises or others), collateral (e.g. mortgages of residential property) and maturity.

    Generally, government debt was categorised at zero per cent, bank debt at twenty per cent,

    and other debt at one hundred per cent. 100%. OBS exposures such as performance

    guarantees and letters of credit were brought into the calculation of risk weighted assets using

    the mechanism of variable credit conversion factor. Banks were required to hold capital equal

    to 8% of the risk weighted value of assets. Since 1988, this framework has been progressively

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    introduced not only in member countries but also in almost all other countries having active

    international banks. The 1988 accord can be summarized in the following equation:

    Total Capital = 0.08 x Risk Weighted Assets (RWA)

    The accord provided a detailed definition of capital. Tier 1 or core capital, which includes

    equity and disclosed reserves, and Tier 2 or supplementary capital, which could include

    undisclosed reserves, asset revaluation reserves, general provisions & loanloss reserves,

    hybrid (debt/equity) capital instruments and subordinated debt.

    Value at Risk (VAR)

    VAR is a method of assessing risk that uses standard statistical techniques and provides users

    with a summary measure of market risk. For instance, a bank might say that the daily VAR of

    its trading portfolio is rupees 20 million at the 99 per cent confidence level. In simple words,

    there is only one chance in 100, under normal market conditions, for a loss greater than

    rupees 20 million to occur. This single number summarizes the bank's exposure to market

    risk as well as the probability (one per cent, in this case) of it being exceeded. Shareholders

    and managers can then decide whether they feel comfortable at this level of risk. If not, the

    process that led to the computation of VAR can be used to decide where to trim risk.

    Now the definition; `VAR summarizes the predicted maximum loss (or worst loss) over a

    target horizon within a given confidence interval. Target horizon means the period till which

    the portfolio is held. Ideally, the holding period should correspond to the longest period

    needed for an orderly (as opposed to a `fire sale) portfolio liquidation.

    Without going into the related math, it should be mentioned here that there exist three

    methods of computing VAR, viz. Delta-Normal, Historical Simulation and Monte Carlo

    Simulation, the last one being the most computation intensive and predictably the most

    sophisticated one.

    In a lighter vein, a definition of VAR that was found at the gloriamundi.org web site said, `A

    number invented by purveyors of panaceas for pecuniary peril intended to mislead senior

    management and regulators into false confidence that market risk is adequately understood

    and controlled.

    1996 Amendment to include Market Risk

    In 1996, BCBS published an amendment to the 1988 Basel Accord to provide an explicit

    capital cushion for the price risks to which banks are exposed, particularly those arising from

    their trading activities. This amendment was brought into effect in 1998.

    Salient Features

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    Allows banks to use proprietary in-house models for measuring market risks.

    Banks using proprietary models must compute VAR daily, using a 99th percentile, one-

    tailed confidence interval with a time horizon of ten trading days using a historical

    observation period of at least one year.

    The capital charge for a bank that uses a proprietary model will be the higher of the

    previous day's VAR and three times the average of the daily VAR of the preceding sixty

    business days.

    Use of `back-testing (ex-post comparisons between model results and actual performance)

    to arrive at the `plus factor that is added to the multiplication factor of three.

    Allows banks to issue short-term subordinated debt subject to a lock-in clause (Tier 3

    capital) to meet a part of their market risks.

    Alternate standardized approach using the `building block approach where general market

    risk and specific security risk are calculated separately and added up.

    Banks to segregate trading book and mark to market all portfolio/position in the trading

    book.

    Applicable to both trading activities of banks and non-banking securities firms.

    Evolution of Basel Committee Initiatives

    The Basel I Accord and the 1996 Amendment thereto have evolved into Basel II, as depicted

    in the figure above.

    The New Accord (Basel II)

    Close on the heels of the 1996 amendment to the Basel I accord, in June 1999 BCBS issued a

    proposal for a New Capital Adequacy Framework to replace the 1988 Accord.

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    The proposed capital framework consists of three pillars: minimum capital requirements,

    which seek to refine the standardised rules set forth in the 1988 Accord; supervisory review

    of an institution's internal assessment process and capital adequacy; and effective use of

    disclosure to strengthen market discipline as a complement to supervisory efforts. The accord

    has been finalized recently on 11 th May 2004 and the final draft is expected by the end of June

    2004. For banks adopting advanced approaches for measuring credit and operational risk the

    deadline has been shifted to 2008, whereas for those opting for basic approaches it is retained

    at 2006.

    The Need for Basel II

    The 1988 Basel I Accord has very limited risk sensitivity and lacks risk differentiation

    (broad brush structure) for measuring credit risk. For example, all corporations carry the

    same risk weight of 100 per cent. It also gave rise to a significant gap between the regulatory

    measurement of the risk of a given transaction and its actual economic risk. The most

    troubling side effect of the gap between regulatory and actual economic risk has been the

    distortion of financial decision-making, including large amounts ofregulatory arbitrage, or

    investments made on the basis of regulatory constraints rather than genuine economic

    opportunities. The strict rule based approach of the 1988 accord has also been criticised for

    its `one size fits all prescription. In addition, it lacked proper recognition of credit risk

    mitigants such as credit derivatives, securitisation, and collaterals.

    The recent cases of frauds, acts of terrorism, hacking, have brought into focus the operational

    risk that the banks and financial institutions are exposed to.

    The proposed new accord (Basel II) is claimed by BCBS to be `an improved capital adequacyframework intended to foster a strong emphasis on risk management and to encourage

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    ongoing improvements in banks risk assessment capabilities. It also seeks to provide a

    `level playing field for international competition and attempts to ensure that its

    implementation maintains the aggregate regulatory capital requirements as obtaining under

    the current accord. The new framework deliberately includes incentives for using more

    advanced and sophisticated approaches for risk measurement and attempts to align the

    regulatory capital with internal risk measurements of banks subject to supervisory review and

    market disclosure.

    PILLAR I:

    Minimum Capital Requirements

    There is a need to look at proposed changes in the measurement of credit risk and operational

    risk.

    Credit Risk

    Three alternate approaches for measurement of credit risk have been proposed. These are:

    Standardised Internal Ratings Based (IRB) Foundation

    Internal Ratings Based (IRB) Advanced

    The standardised approach is similar to the current accord in that banks are required to slot

    their credit exposures into supervisory categories based on observable characteristics of the

    exposures (e.g. whether the exposure is a corporate loan or a residential mortgage loan). The

    standardised approach establishes fixed risk weights corresponding to each supervisory

    category and makes use ofexternal credit assessments to enhance risk sensitivity compared

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    to the current accord. The risk weights for sovereign, inter-bank, and corporate exposures are

    differentiated based on external credit assessments. An important innovation of the

    standardised approach is the requirement that loans considered `past due be risk weighted at

    150 per cent unless, a threshold amount of specific provisions has already been set aside by

    the bank against that loan.

    Credit risk mitigants (collaterals, guarantees, and credit derivatives) can be used by banks

    under this approach for capital reduction based on the market risk of the collateral instrument

    or the threshold external credit rating of recognised guarantors.

    Reduced risk weights for retail exposures, small and medium size enterprises (SME) category

    and residential mortgages have been proposed. The approach draws a number of distinctions

    between exposures and transactions in an effort to improve the risk sensitivity of the resultingcapital ratios.

    The IRB approach uses banks internal assessments of key risk drivers as primary inputs to

    the capital calculation. The risk weights and resultant capital charges are determined through

    the combination of quantitative inputs provided by banks and formulae specified by the

    Committee. The IRB calculation of risk weighted assets for exposures to sovereigns, banks,

    or corporate entities relies on the following four parameters:

    Probability of default (PD), which measures the likelihood that the borrower will

    default over a given time horizon.

    Loss given default (LGD), which measures the proportion of the exposure that will

    be lost if a default occurs.

    Exposure at default (EAD), which for loan commitment measures the amount of the

    facility that is likely to be drawn in the event of a default.

    Maturity (M), which measures the remaining economic maturity of the exposure.

    Operational Risk

    Within the Basel II framework, operational risk is defined as the risk of losses resulting from

    inadequate or failed internal processes, people and systems, or external events.

    Operational risk identification and measurement is still in an evolutionary stage as

    compared to the maturity that market and credit risk measurements have achieved.

    As in credit risk, three alternate approaches are prescribed:

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    Basic Indicator

    Standardised

    Advanced Measurement (AMA)

    PILLAR 2:

    Supervisory Review Process

    Pillar 2 introduces two critical risk management concepts: the use of economic capital, and

    the enhancement ofcorporate governance, encapsulated in the following four principles:

    Principle 1: Banks should have a process for assessing their overall capital adequacy in

    relation to their risk profile and a strategy for maintaining their capital levels.

    The key elements of this rigorous process are:

    Board and senior management attention;

    Sound capital assessment;

    Comprehensive assessment of risks;

    Monitoring and reporting; and

    Internal control review.

    Principle 2: Supervisors should review and evaluate banks internal capital adequacy

    assessments and strategies, as well as their ability to monitor and ensure their compliance

    with regulatory capital ratios. Supervisors should take appropriate supervisory action if

    they are not satisfied with the result of this process.

    This could be achieved through:

    On-site examinations or inspections;

    Off-site review;

    Discussions with bank management;

    Review of work done by external auditors; and

    Periodic reporting.

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    Principle 3: Supervisors should expect banks to operate above the minimum regulatory

    capital ratios and should have the ability to require banks to hold capital in excess of the

    minimum.

    Principle 4: Supervisors should seek to intervene at an early stage to prevent capital from

    falling below the minimum levels required to support the risk characteristics of a

    particular bank and should require rapid remedial action if capital is not maintained or

    restored.

    Prescriptions under Pillar 2 seek to address the residual risks not adequately covered under

    Pillar 1, such as concentration risk, interest rate risk in banking book, business risk and

    strategic risk. `Stress testing is recommended to capture event risk. Pillar 2 also seeks to

    ensure that internal risk management process in the banks is robust enough. The combination

    of Pillar 1 and Pillar 2 attempt to align regulatory capital with economic capital.

    PILLAR 3:

    Market Discipline

    The focus of Pillar 3 on market discipline is designed to complement the minimum capitalrequirements (Pillar 1) and the supervisory review process (Pillar 2). With this, the Basel

    Committee seeks to enable market participants to assess key information about a banks risk

    profile and level of capitalizationthereby encouraging market discipline through increased

    disclosure. Public disclosure assumes greater importance in helping banks and supervisors to

    manage risk and improve stability under the new provisions which place reliance on internal

    methodologies providing banks with greater discretion in determining their capital needs.

    There has been some confusion on the extent, medium, confidentiality and materiality of suchdisclosures. It has been agreed that such disclosures will depend on the legal authority and

    accounting standards existing in each country. Efforts are in progress to harmonise these

    disclosures with International Financial Reporting Standards (IFRS) Board Standards

    (International Accounting Standards 30 & 32).

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    Chapter 4

    RESEARCH

    METHODOLOGY

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    RESEARCH METHODOLOGY

    The purpose of research is to discover answers to the questions through the application of

    scientific procedures. The main aim of research is to find out the truth which is hidden and

    which has not been discovered as yet. Though each research study has its own specific

    purpose, we may think of research objectives as falling into a number of following broad

    categories:

    To gain familiarity with a phenomenon or to achieve new insights into it.

    To portray accurately the characteristics of a particular individual, situation or a

    group.

    To determine the frequency with which something occurs or with which it is

    associated with something else.

    To test a hypothesis of a casual relationship between variables.

    Research methodology is a way to systematically solve the research problem . it may be

    understood as a science of studying how research is done scientifically. In it we study the

    various steps that are generally adopted by a researcher in studying his research problem

    along with the logic behind them.

    Research methodology has many dimensions and research methods do constitute a part of the

    research methodology. The scope of research methodology is wider than that of research

    methods. Thus, when we talk of research methodology we not only talk of the research

    methods but also consider the logic behind the methods we use in the context of our research

    study and explain why we are using a particular method or technique and why we are not

    using others so that research results are capable of being evaluated either by the researcher

    himself or by others. Why a research study has been undertaken, what data have been

    collected and what particular method has been adopted, why particular technique of

    analyzing data has been used and a host of similar other question are usually answered when

    we talk of research methodology concerning a research problem or study.

    Research is often described as active; diligent and systematic process of inquiry aimed at

    discovering, interpreting and revising facts. This intellectual investigation produces a greater

    understanding of events, behaviors or theories and makes practical application through lawsand theories. In other words we can say, the purpose of research is to discover answers to the

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    questions through the application of scientific procedures. The main aim of research is to find

    out the truth which is hidden and which has not been discovered as yet.

    Research methodology is a way to systematically solve the research problem. It may be

    understood as a science of studying how research is done scientifically. In it we study the

    various steps that are generally adopted by a researcher in studying his research problem

    along with the logic behind them.

    OBJECTIVE

    Following are the objectives of the study:

    What types of challenges banking industry is facing with special reference to NPA.

    How ICICI bank cope with NPA and its impact in recent economic crisis.

    To find the factors that would effect level of NPAs.

    To analyze the significance of each variable that might effect the NPA level.

    To understand what is Non Performing Assets and what are the underlying reasons for

    the emergence of the NPAs.

    To understand the impacts of NPAs on the operations of the banks.

    To know what steps are being taken by the Indian banking sector to reduce the NPAs?

    To evaluate the comparative ratio of the banks with concerned to the NPAs.

    RESEARCH METHODOLOGY

    The research methodology means the way in which we would complete our

    prospected task. Before undertaking any task it becomes very essential for any one to

    determine the problem of study. I have adopted the following procedure in completing my

    study report.

    1. Formulating the problem

    2. Research design

    3. Determining the data sources

    4. Analysing the data

    5. Interpretation

    6. Preparing research report

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    (1) Formulating The Problem

    I am interested in the banking sector and I want to make my future in the banking

    sector so decided to make my research study on the banking sector. I analysed first the

    factors that are important for the banking sector and I came to know that providing credit

    facility to the borrower is one of the important factors as far as the banking sector is

    concerned. On the basis of the analysed factor, I felt that the important issue right now as far

    as the credit facilities are provided by bank is non performing assets. I started knowing about

    the basics of the NPAs and decided to do study on the NPAs. So, I choose the topic A

    STUDY OF NON PERFORMING ASSETS with special reference to ICICI BANK LTD.

    (2) Research Design

    The research design tells about the mode with which the entire project is prepared.

    My research design for this study is basically descriptive . Because I have utilized the large

    number of data of the banks.

    Descriptive research includes surveys and fact-finding enquiries of different kinds. The major

    purpose of descriptive research is description of the state of affairs, as it exists at present. The

    main characteristic of this method is that the researcher has no control over the variables; he

    can only report what has happened or what is happening. It is also called as ex post facto

    research. Most ex post facto research projects are used for descriptive studies in which

    researcher seeks to measure such items as, for example, frequency of shopping, preferences

    of people, or similar data. Descriptive research also includes attempts by the researcher to

    discover causes even when they cannot control the variables. The methods of research

    utilized in descriptive research are survey methods of all kinds.

    Why descriptive research?

    In this case descriptive study was most suitable because it helped in giving focus to the

    preferences, knowledge, beliefs & satisfaction of a group of people in a given population and

    characteristics of the successful and unsuccessful companies. Moreover it helped in

    determining the relationships between two or more variables.

    (3) Determining The Data Source

    The data source can be primary or secondary. The primary data are those for data

    which are used for the first time in the study. However such data take place much time and

    are also expensive. Whereas the secondary data are those data which are already available in

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    the market. These data are easy to search and are not expensive too. For my study I have

    utilized totally the secondary data. Which is raw in state I analysed this data for my research

    purpose .

    Source Of Secondary Data

    Annual reports of banks

    Reports of RBI

    Internet

    Books etc.

    source of primary data

    Data generated from ratio analysis

    For this purpose I used following ratios:

    Gross NPA ratio

    Net NPA ratio

    Provision ratio

    Capital adequacy ratio

    Operating expenses/total asset ratio

    Cost/income ratio

    Loan loss coverage ratio

    Data generated by the comparison of banks:

    For this purpose I compare following facts or data of banks

    Comparison of credit growth with GNPA and NNPA

    Between credit growth and repo rate

    Comparison of unsecured loans

    Comparison of deposit growth

    Comparison of provision coverage

    (4) Analysing The Data

    The primary data would not be useful until and unless they are well edited, tabulated

    and analysed. When the person receives the primary data many unuseful data would also be

    there. So, I analysed the data and edited them and turned them in the useful tabulations. So,

    that it can become useful in my report.

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    As no study could be successfully completed without proper tools and techniques, same with

    my project. For the better presentation and right explanation I used tools of statistics and

    computer very frequently. And I am very thankful to all those tools for helping me a lot.

    Basic tools which I used for project from statistics are-

    - Bar Charts

    - Pie charts

    - Tables

    bar charts and pie charts are really useful tools for every research to show the result in a well

    clear, ease and simple way. Because I used bar charts and pie cahrts in project for showing

    data in a systematic way, so it need not necessary for any observer to read all the theoretical

    detail, simple on seeing the charts any body could know that what is being said.

    Technological Tools

    Ms- Excel

    Ms-Word

    Above application software of Microsoft helped me a lot in making project more interactive

    and productive.

    Microsoft-Excel had a great role in my project, it created for me a situation of you sit and

    get. I provided it simply all the detail of data and in return it given me all the relevant

    information..

    And in last Microsoft-Word did help me for the documentation of the project in a presentable

    form.

    (5) Interpretation Of The Data

    With use of analysed data I managed to prepare my project report. But the analysing

    of data would not help the study to reach towards its objectives. The interpretation of the data

    is required so that the others can understand the crux of the study in more simple way without

    any problem so I have added the chapter of analysis that would explain others to understand

    my study in simpler way.In this segment I interpret my findings in the form of graphs and

    charts. All the data which I got form the market will not be disclosed over here but extract of

    that in the form of information will definitely be here.

    (6) Project Writing

    This is the last step in preparing the project report. The objective of the report writing

    was to report the finding of the study to the concerned authorities.

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    LIMITATION OF THE STUDY

    The limitation that I felt in my study are:

    It was critical for me to gather the financial data of the every bank of the public sectorbanks so the better evaluation of the performance of the banks are not possible.

    Since my study is based on the secondary data, the practical operation as related to the

    NPAs are adopted by the banks are not learned.

    Since the Indian banking sector is so wide so it was possible for me to cover all the

    banks of the Indian banking sector.

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    CHAPTER 5

    INDUSTRY

    PROFILE

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    BANKING INDUSTRY

    Banking in India

    Banking in India originated in the last decades of the 18th century. The oldest bank in

    existence in India is the State Bank of India, a government-owned bank that traces its origins

    back to June 1806 and that is the largest commercial bank in the country. Central banking is

    the responsibility of the Reserve Bank of India, which in 1935 formally took over these

    responsibilities from the then Imperial Bank of India, relegating it to commercial banking

    functions. After India's independence in 1947, the Reserve Bank was nationalized and given

    broader powers. In 1969 the government nationalized the 14 largest commercial banks; the

    government nationalized the six next largest in 1980.

    Currently, India has 88 scheduled commercial banks (SCBs) - 27 public sector banks (that is

    with the Government of India holding a stake), 29 private banks (these do not have

    government stake; they may be publicly listed and traded on stock exchanges) and 31 foreign

    banks. They have a combined network of over 53,000 branches and 17,000 ATMs.

    According to a report by ICRA Limited, a rating agency, the public sector banks hold over 75

    percent of total assets of the banking industry, with the private and foreign banks holding

    18.2% and 6.5% respectively.

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    http://en.wikipedia.org/wiki/State_Bank_of_Indiahttp://en.wikipedia.org/wiki/Reserve_Bank_of_Indiahttp://en.wikipedia.org/wiki/Government_of_Indiahttp://en.wikipedia.org/wiki/Automated_teller_machinehttp://en.wikipedia.org/wiki/State_Bank_of_Indiahttp://en.wikipedia.org/wiki/Reserve_Bank_of_Indiahttp://en.wikipedia.org/wiki/Government_of_Indiahttp://en.wikipedia.org/wiki/Automated_teller_machine
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    HISTORY

    Early history

    Banking in India originated in the last decades of the 18th century. The first banks were The

    General Bank of India, which started in 1786, and the Bank of Hindustan, both of which are

    now defunct. The oldest bank in existence in India is the State Bank of India, which

    originated in the Bank of Calcutta in June 1806, which almost immediately became the Bank

    of Bengal. This was one of the three presidency banks, the other two being the Bank of

    Bombay and the Bank of Madras, all three of which were established under charters from the

    British East India Company. For many years the Presidency banks acted as quasi-central

    banks, as did their successors. The three banks merged in 1925 to form the Imperial Bank of

    India, which, upon India's independence, became the State Bank of India.

    Indian merchants in Calcutta established the Union Bank in 1839, but it failed in 1848 as a

    consequence of the economic crisis of 1848-49. The Allahabad Bank, established in 1865 and

    still functioning today, is the oldest Joint Stock bank in India. It was not the first though. That

    honor belongs to the Bank of Upper India, which was established in 1863, and which

    survived until 1913, when it failed, with some of its assets and liabilities being transferred to

    the Alliance Bank of Simla.

    When the American Civil War stopped the supply of cotton to Lancashire from the

    Confederate States, promoters opened banks to finance trading in Indian cotton. With large

    exposure to speculative ventures, most of the banks opened in India during that period failed.

    The depositors lost money and lost interest in keeping deposits with banks. Subsequently,

    banking in India remained the exclusive domain of Europeans for next several decades until

    the beginning of the 20th century.

    Foreign banks too started to arrive, particularly in Calcutta, in the 1860s. The Comptoire

    d'Escompte de Paris opened a branch in Calcutta in 1860, and another in Bombay in 1862;

    branches in Madras and Pondichery, then a French colony, followed. HSBC established itself

    in Bengal in 1869. Calcutta was the most active trading port in India, mainly due to the trade

    of the British Empire, and so became a banking center.

    The first entirely Indian joint stock bank was the Oudh Commercial Bank, established in

    1881 in Faizabad. It failed in 1958. The next was the Punjab National Bank, established in

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    http://en.wikipedia.org/wiki/Bank_of_Bengalhttp://en.wikipedia.org/wiki/Bank_of_Bengalhttp://en.wikipedia.org/wiki/Bank_of_Bombayhttp://en.wikipedia.org/wiki/Bank_of_Bombayhttp://en.wikipedia.org/wiki/Bank_of_Madrashttp://en.wikipedia.org/wiki/Imperial_Bank_of_Indiahttp://en.wikipedia.org/wiki/Imperial_Bank_of_Indiahttp://en.wikipedia.org/wiki/Allahabad_Bankhttp://en.wikipedia.org/wiki/Alliance_Bank_of_Simlahttp://en.wikipedia.org/wiki/American_Civil_Warhttp://en.wikipedia.org/wiki/Lancashirehttp://en.wikipedia.org/wiki/Confederate_Stateshttp://en.wikipedia.org/wiki/Kolkatahttp://en.wikipedia.org/w/index.php?title=Comptoire_d%27Escompte_de_Paris&action=edit&redlink=1http://en.wikipedia.org/w/index.php?title=Comptoire_d%27Escompte_de_Paris&action=edit&redlink=1http://en.wikipedia.org/wiki/Mumbaihttp://en.wikipedia.org/wiki/Chennaihttp://en.wikipedia.org/wiki/Pondicheryhttp://en.wikipedia.org/wiki/HSBChttp://en.wikipedia.org/wiki/Bengalhttp://en.wikipedia.org/wiki/British_Rajhttp://en.wikipedia.org/wiki/Faizabadhttp://en.wikipedia.org/wiki/Punjab_National_Bankhttp://en.wikipedia.org/wiki/Bank_of_Bengalhttp://en.wikipedia.org/wiki/Bank_of_Bengalhttp://en.wikipedia.org/wiki/Bank_of_Bombayhttp://en.wikipedia.org/wiki/Bank_of_Bombayhttp://en.wikipedia.org/wiki/Bank_of_Madrashttp://en.wikipedia.org/wiki/Imperial_Bank_of_Indiahttp://en.wikipedia.org/wiki/Imperial_Bank_of_Indiahttp://en.wikipedia.org/wiki/Allahabad_Bankhttp://en.wikipedia.org/wiki/Alliance_Bank_of_Simlahttp://en.wikipedia.org/wiki/American_Civil_Warhttp://en.wikipedia.org/wiki/Lancashirehttp://en.wikipedia.org/wiki/Confederate_Stateshttp://en.wikipedia.org/wiki/Kolkatahttp://en.wikipedia.org/w/index.php?title=Comptoire_d%27Escompte_de_Paris&action=edit&redlink=1http://en.wikipedia.org/w/index.php?title=Comptoire_d%27Escompte_de_Paris&action=edit&redlink=1http://en.wikipedia.org/wiki/Mumbaihttp://en.wikipedia.org/wiki/Chennaihttp://en.wikipedia.org/wiki/Pondicheryhttp://en.wikipedia.org/wiki/HSBChttp://en.wikipedia.org/wiki/Bengalhttp://en.wikipedia.org/wiki/British_Rajhttp://en.wikipedia.org/wiki/Faizabadhttp://en.wikipedia.org/wiki/Punjab_National_Bank
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    Lahore in 1895, which has survived to the present and is now one of the largest banks in

    India.

    Around the turn of the 20th Century, the Indian economy was passing through a relative

    period of stability. Around five decades had elapsed since the Indian Mutiny, and the social,

    industrial and other infrastructure had improved. Indians had established small banks, most of

    which served particular ethnic and religious communities.

    The presidency banks dominated banking in India but there were also some exchange banks

    and a number of Indianjoint stockbanks. All these banks operated in different segments of

    the economy. The exchange banks, mostly owned by Europeans, concentrated on financing

    foreign trade. Indian joint stock banks were generally under capitalized and lacked theexperience and maturity to compete with the presidency and exchange banks. This

    segmentation let Lord Curzon to observe, "In respect of banking it seems we are behind the

    times. We are like some old fashioned sailing ship, divided by solid wooden bulkheads into

    separate and cumbersome compartments."

    The period between 1906 and 1911, saw the establishment of banks inspired by the Swadeshi

    movement. The Swadeshi movement inspired local businessmen and political figures to

    found banks of and for the Indian community. A number of banks established then have

    survived to the present such as Bank of India, Corporation Bank, Indian Bank, Bank of

    Baroda, Canara Bankand Central Bank of India.

    The fervour of Swadeshi movement lead to establishing of many private banks in Dakshina

    Kannada and Udupi district which were unified earlier and known by the name South

    Canara ( South Kanara ) district. Four nationalised banks started in this district and also a

    leading private sector bank. Hence undivided Dakshina Kannada district is known as "Cradleof Indian Banking".

    From World War I to Independence

    The period during the First World War (1914-1918) through the end of the Second World

    War(1939-1945), and two years thereafter until the independence of India were challenging

    for Indian banking. The years of the First World War were turbulent, and it took its toll with

    banks simply collapsing despite the Indian economy gaining indirect boost due to war-related

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    economic activities. At least 94 banks in India failed between 1913 and 1918 as indicated in

    the