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Corporate Banking

Corporate Banking
What are the various critical functions managed by a bank at whole bank level? --lending --product innovation --ALM and treasury functions --Cross selling --foreign exchange business --risk management --Government business --personnel, HR and training --compliance --technology --audit and inspection of branches --public relations --international operations

Corporate Banking
Board of Directors is centrical to the operations of any bank.
In Public Sector Banks, the Board is comprised of nominees of GOI and RBI, representatives from industry, representatives from employee organisations and elected members. The chairman of a PSB is appointed by the GOI. In respect of private sector banks, while the chairman are elected, the chairman appointment is cleared by RBI. The Board functions under the overall regulations of Banking Companies Regulation Act, Indian Companies Act and all other regulations. All policies and internal regulations are approved by the Board.

Corporate Banking
As per RBI regulations, for certain important functions, the Board has to constitute various committees with membership from the Board members. The following are the important committees: 1. 2. 3. 4. ALCO (Asset Liability Management) Credit Committee Audit Committee Risk Management Committee

What is the advantage of committee approach? Why RBI is suggesting this approach for certain functions of the bank? In a committee approach, any major decision will have the benefit of being analysed by various members of the committee and the use of their expertise. What are the various important departments at HO and their functions?

Corporate Banking
Normally in any bank the (SBI) chairman will be the CEO of the bank. In some banks the (ICICI) MD may the CEO.
The chairman or MD will be the executive of the bank and other members of the Board will be non executive members. While the policy decisions and periodical high level credit decisions are taken at Board level, their implementation is done by various departments at HO.

Corporate Banking
Credit Department International Banking Treasury Products Development Various segments of business --Retail Banking --SME --Corporate Banking --Agri and Rural Banking Compliance Department Audit and Inspection Department Human Resources Department IT Department

Asset Liability Management

Asset Liability Management


What we shall discuss in this chapter? 1. Composition of a banks balance sheet 2. What is asset liability management? 3. Its significance 4. Its purpose and objective 5. ALM as coordinated balance sheet management

Asset Liability Management


XYZ bank has the following liability and loan portfolio:
Rs in crores Savings Bank Deposits 12500 Special term deposits 28000 (average maturity 3 years) Recurring deposits 2000 Demand loan 16000 Overdraft 1000 Cash Credit 20,000 Term deposits 10,000 (average maturity 2 years) Current accounts 8,000 Term loan 7,000 (average repayment 4 years) Classify them as per the liability and loan portfolio and as demand and time liability. Also bring out the risk if any, faced by the bank.

Asset Liability Management


Is there a difference between the balance sheet of a bank and that of others? Banks balance sheet is also like that of any other company doing business. It is a statement of sources and uses of funds. Liabilities and net worth form the sources and assets represent use of funds. Funds are used to generate income for the bank. Balance Sheet reflects the position of assets and liabilities as on a particular date, normally as on 31st March.

Asset Liability Management


Before we discuss ALM, let us see the components of balance sheet of a bank Liabilities Assets Capital Cash and balances with RBI Reserves and surplus Balances with other banks Deposits Money at call and short notice Borrowings Advances Other liabilities and provisions Fixed assets Other assets

Let us briefly discuss the components

Asset Liability Management


Before we discuss ALM, let us see the components of balance sheet of a bank Liabilities Assets Capital Cash and balances with RBI Reserves and surplus Balances with other banks Deposits Money at call and short notice Borrowings Advances Other liabilities and provisions Fixed assets Other assets

Let us briefly discuss the components

Asset Liability Management


Capital Considered as banks stake in the business. Should be as per RBI requirement. Reserves and surplus Includes statutory reserves, capital reserves, share premium, revenue and other reserves and balance in profit and loss account Deposits Both demand and time deposits from the public Borrowings Borrowings/ refinance obtained from RBI, other banks and other Institutions as IDBI, EXIM Bank, NABARD etc Other liabilities and provisions Bills payable which includes TT, DD, TC, MT, pay slips, bankers cheques etc Inter office adjustments--the credit balance of the net adjustments Interest accrued Others as provision for IT, tax deducted at source, interest tax, provisions
etc.

Asset Liability Management


Components of assets
Cash and balance with RBI This is the most liquid asset for the bank. This is grouped under three heads: Cash in hand sum total of cash and foreign currency kept at all the branches Balances with RBI balances held with RBI including CRR Balances with other banks and money at call and short notice This includes balances in current or term deposits with other banks and money lent in the inter bank call money market and repayable within 15 days notice. Investments A major item in assets side, includes investment made in Government securities, shares, debentures, subsidiaries, and JVs.

Asset Liability Management Components of assets Advances


Cash credits, overdrafts and demand loans Term loans Bills purchased and discounted These are again classified as under, based on securities: Secured by tangible securities Covered by bank/ Government securities Unsecured advances Fixed assets All immovable properties and vehicles etc are classified here. Generally this will be a smaller portion of the assets of banks.

Asset Liability Management


Components of assets Inter office adjustments the net debit position Interest accrued Tax paid in advance Stationery and stamps Non-banking assets acquired in satisfaction of claims Others Includes clearing claims, unadjusted debit balances representing additions to assets and deduction from liabilities and advances provided to the employees of the bank Contingent liabiliites LCs, Guarantees, acceptances on behalf of customers, Claims against the bank not accepted as liabilities Liability for partly paid up investments, outstanding forward exchange contracts, arrears of cumulative dividends, bills rediscounted, underwriting commitments, estimated amount of contracts remaining to be executed under capital account and not provided for

Asset Liability Management


Profit and Loss Account Profit and loss account consists of income earned by the bank, expenses made and the net result. It is prepared for a particular period of time. Normal time period for preparation of profit and loss account is one financial year namely April to March. Income of banks is divided in to two, namely interest income and non interest income Interest income will include the following: --interest recovered on all types of advances --discount charges on bills purchased and discounted, both domestic bills and foreign currency bills --dividend and interest income on investments --interest on funds kept with RBI and other banks --interest from all other sources

Asset Liability Management


Banks Profit and Loss Accounts OTHER INCOME Commission, exchange, brokerage Profit on sale of investments Profit on revaluation of investments Profit on sale of fixed assets Profit on foreign exchange transactions Income earned by way of dividends from subsidiaries, JVs etc Miscellaneous income

Asset Liability Management


Banks Profit and Loss Account Expenses Broadly classified as Interest expense Other operating expense Provisions and contingencies Interest expenses Interest on deposits Interest on RBI/ inter bank borrowings Other interest Operating expenses Provisions and contingencies

Asset Liability Management


How do we define asset liability management? --strategic balance sheet management --the act of planning, acquiring directing the flow of funds through the organisation --the management of NIM to ensure that its level and riskiness are compatible with risk/return objectives of the bank --an integrated approach to bank financial management --coordinated management to allow alternative interest rate, liquidity and prepayment summaries It allows the banks to test inter relationship between a wide variety of risk factors including market risks, liquidity risk, management decisions, uncertain product cycles etc

What is its significance?

Asset Liability Management


The significance of ALM arises due to the following: 1. Volatility 2. Product innovation 3. Regulatory environment 4. Management recognition

Asset Liability Management


Volatility Deregulation of financial system has led to a change in the dynamics of financial markets. This has reflected in interest rate structures money supply over all credit position of the market exchange rates and price levels. For a bank which is trading in money, fluctuations taking place in the above lead to have direct effect on net interest income (NII).

Asset Liability Management


Product innovation There have been rapid changes taking place in the financial products offered by banks. Sometimes the products are totally new and sometimes the same products have been repositioned with different features. In any case they have an impact of creating risk on the bank. For example a fixed deposit with flexible options of withdrawing any time will put a strain of managing liquidity. Regulatory environment Globally the Bank for International settlements and the Central Banks of various countries including RBI have been emphasizing on sound ALM for managing market risk Management recognition Managements of banks have understood that the game plan of banking globally has changed and banks must be in readiness to manage new risks facing the industry.

Asset Liability Management


What are the purpose and objectives of ALM? To manage the --volume --mix --rate sensitivity --quality --liquidity of assets and liabilities as a whole so as to attain a pre determined acceptable risk/reward ratio The important parameters chosen for ALM are NII, NIM and Economic Equity Ratio

How do we define the above?

Asset Liability Management


Net interest income= interest incomeinterest expenses. Volatility in interest rates will have a direct impact on NII immediately. Banks will be focusing on retaining NII and improve the same by increasing the spread or by decreasing the interest expense. Net interest margin is a percentage of NII to average total assets. It is actually a spread on the earning assets. The larger the risk taken on assets, larger will be the interest income, and larger will be the spread. NIM is arrived by dividing net interest income by average total assets. Economic equity ratio refers to the relationship between shareholders funds to total assets. It otherwise compares the relationship between owners funds to total funds, which is an indicator of long term solvency.

Asset Liability Management


Objectives of ALM Can be divided in to macro level and micro level Macro level --formulation of important business policies --allocation of capital --designing products with appropriate price strategies Micro level --price matching, which aims at maintaining or improving the spread by ensuring that funds are deployed at a higher rate than the cost incurred for sourcing them. --liquidityTreasury performs this task by grouping the assets and liabilities maturity wise to find out the gap between maturities and to effectively manage the gaps.

Asset Liability Management


What are the stages of ALM? It is divided in to two functional stages:

Specific Balance Sheet Management


Asset side Reserve position Liquidity Investment/ Security Loan management Fixed assets Liabilities side Short term liability Reserve position Long term liability ( notes and debentures) Capital

The other is interest expense function


What should be the policy of a bank to achieve good ALM?

Asset Liability Management


The ALM policies of a bank will aim at the following:
--spread --Loan quality --fee income and service charges --control of non-interest operating expenses --Tax management --capital adequacy

What are the risks focused under ALM?


1. 2. 3. Liquidity risk Interest rate risk Exchange risk

Asset Liability Management What is liquidity?


Generally liquidity refers to the ability of a business concern to meet its maturing short term commitments from out of short term assets. From banks point of view, liquidity need refers to the need to repay the deposits when withdrawn and to raise funds for disbursement of loans.

Asset Liability Management


What is liquidity for a bank? And what is its price?
Liquidity is the ability of a bank to accommodate decrease in liabilities and fund the increase in assets. It has a price. What it is? The price of liquidity is a function of market conditions and market perception of the risks, both interest rate and credit risks. The liquidity risk can stem both from internal and external factors. How? Internal is institution specific based upon the market perception of the institution.

External can be geographic, systemic or instrument specific What are the various types of liquidity risks?

Asset Liability Management


What are the various types of liquidity risks? 1. Funding risk 2. Time risk 3. Call risk

How is it managed?
Developing a structure for measuring liquidity risk Setting tolerance level Measuring and managing risk

Asset Liability Management


Funding riskrelates to the need to provide funds for net outflows due to unanticipated withdrawal or non renewal of deposits. The net funds outflow may also arise due to --frauds leading to loss --systemic risk --loss of confidence by the Public --liabilities in foreign currencies Time riskrelates to the need to compensate for non-receipt of expected cash inflow, and also the possible time delay in raising the funds Call riskarises out of crystalisation of contingent liabilities

Asset Liability Management


Setting tolerance level and limit for liquidity risk Points to be considered Cumulative cash flow mismatches Liquid assets as a percentage of short term liabilities Loan to deposit ratio Loan to capital ratio Relationship between anticipated funding needs and available sources for meeting those needs Quantification of primary sources for meeting funding needs Flexible limits on the percentage reliance on a particular liability category Dependence on a particular source or a market segment for funds Flexible limits on the minimum/ maximum average maturity of different categories of liabilities Minimum liquidity position

Asset Liability Management


Measuring and managing liquidity risk 1. Stock approach 2. Flow approach Stock approach is based on the level of assets and liabilities as well as off balance sheet exposures on a particular date. The ratios seen are: 1. Core deposit to total assets 2. Net loans to total deposits 3. Time deposits to total deposits 4. Volatile liabilities to total assets 5. Short term liabilities to liquid assets 6. Liquid assets to total assets 7. Short term liabilities to total assets 8. Prime asset to total assets 9. Market liabilities to total assets

Asset Liability Management


Flow approach It involves the following three major areas: 1. Measuring and managing net funding requirements 2. Managing market access 3. Contingency planning Net funding requirements are determined by analysing the future cash flows based on assumptions on behaviour of assets, liabilities and off balance sheet items and also calculating net excess over various time frames, for liquidity assessment. It is done under the following four heads Constructing maturity ladder Simulating alternate scenarios Measuring liquidity over the chosen time frame Making assumptions for determining cash flows Making market access and drawing contingency plan are the next step in ALM.

Asset Liability Management


Banks maturity table under a time bucket of 1 to 14 days is as under: Cash inflows Rs in crores) 85 15 20 15 135 Cash outflows Rs incrores Maturing deposits Interest payable Investments Lending commitment 98 22 17 46 183

Maturing loans Interest receivable Asset sales Draw down on credit lines Total

Find out the risk involved. What do you suggest for risk management to the Bank?

Asset Liability Management


As per RBI guidelines, the assets and liabilities are to be classified under ten time buckets as below: To-morrow 2-7 days 8-14 days 15-28 days 29 days and up to 3 months Above 3 months and up to 6 months Above 6 months and up to 1 year Above 1 year and up to 3 years Above 3 years and up to 5 years Above 5 years The negative mismatch should not exceed 5%, 10%, 15%, 20% of the cumulative cash outflows in the respective time buckets of next day, 2-7 days,8-14 days and 15-28 days.

Treasury Management

Treasury Management in Banks before globalisation


Treasury was earlier considered only as a service centre. Main functions of Treasury earlier were:--- funds management -- keeping adequate cash balance for daily requirements -- deployment of surplus funds -- sourcing of funds to meet occasional deficits -- responsibility for meeting CRR and SLR -- transfer pricing==

Globalisation and its effects on treasury management


What is globalisation?
-- it is the process of integration of domestic market with global markets, which results in -- free capital flow and -- minimum regulatory intervention

What were effects on treasury management?


Financial sector reforms, -- deregulation of interest rates -- partial convertibility of rupee and -- floating rate regime for the domestic currency
What were the opportunities of this reform? -- arbitrauge opportunity -- access to various markets=

Treasury Management post globalisation


From service centre to profit centre From stand alone, to integrated approach Treasury now interfaces between the bank and various markets The functions of an integrated treasury are:--- meeting requirement of resources -- efficient merchant services -- global cash management -- optimising profit by accessing various markets -- risk management -- assisting bank management in ALM

What are the other aiding factors?

Treasury Management post globalisation What are the other aiding factors?
-- new Institutional structures like CCIL, FIMMDA, NSDL -- new technology platforms for faster transmission of funds and communication of message as INFINET, SFMS, ECS, EFT, RTGS -- liberalisations under FEMA -- Foreign Trade Policy -- Opening up of derivative market=

Organisational set of Treasury in Banks


Some banks have Treasury as specialised branch. Some have the same as a separate Department at Head Office. It will normally be headed by a top management functionary Treasury is mainly divided in to three main functions: Front office ( Dealing Room) Mid Office Back Office Dealing Room Chief Dealer separate dealers for forex, money market Securities market. Securities market dealing primary and secondary. Dealers will be trading only in secondary market. Primary market participation will be done by Investment Department. Each bank will have an Investment Committee which will take investment decisions and authorise Treasury accordingly=

Treasury activities and Products


An integrated treasury operates in the following markets: Money market Securities market Forex market Derivative market Let us see briefly about treasury participation in each market

Treasury activities and Products Money Market


RBI defines money market as -- a market for short term assets that are close substitutes of money.

Features
-- liquid -- can be turned over quickly at low cost -- provides an avenue for equalizing the short term funds between lenders and borrowers What is a call money market?

Treasury activities and Products Money Market


Call Money Market It is an inter-bank market Major players are commercial banks It is a market where banks lend and borrow for very short periods Call money-- funds traded over night Notice money funds traded 2 to 14 days Term money funds traded beyond 14 days

Treasury activities and Products Money Market Call Money Market


It is fully regulated by RBI why? What are the major areas of regulation?
Volume of trading Rate of interest Reporting==

Treasury activities and Products Money Market Call Money Market


Banks For borrowing On a fortnightly basis, outstanding not to exceed 100% of capital funds. They can borrow up to 125% of capital funds on any day during the fortnight For lending On a fortnightly basis, outstanding should not exceed 25% of the capital funds. Can lend up to 50% of capital funds on any day during the fortnight.

What are money market instruments?

Treasury activities and Products Money Market Money Market Instruments


Call/ notice/ term money Commercial Paper Certificate of Deposit Treasury Bills Repo Bill Rediscounting Inter Corporate Deposits

Treasury activities and Products Money Market Commercial Paper


An instrument regulated by RBI. An unsecured instrument issued as Promissory Note. Can be issued by corporates, AIFIs, PDs. Short term instrument for periods from 7 days to 1 year.

Certificates of Deposit (CD)


a debt instrument as CP. only Banks can issue against deposit. while a normal deposit is not transferable, CD is negotiable. interest rate is slightly more than the normal deposit rate. maturity period7 days to one year. minimum amount of deposit Rs1.00 lac.=

Treasury activities and Products

Securities market
Government Securities -- regulated under Government Securities Act 2006 -- issued by both Central and State Governements -- On behalf of the Government, RBI is issuing the securities -- tenor- above 1 year, up to 30 years -- State Government securities normally for 10 years -- minimum Rs10,000/- and multiples of Rs10,000/-- sold under auction

Bonds and Debentures


Both are debt instrument Both are long term securities. Internationally, debenture is considered as an unsecured debt and a bond is considered as secured. In India both may be issued as secured or unsecured. While Government generally issues bonds for raising debts, corporates issue both debentures and bonds.

Treasury activities and Products Money Market Treasury Bills


-- issued by GOI only -- for short term liquidity, hence a short term investment opportunity. -- period- 91 ,182 and 364 days -- minimum Rs25000 and multiples there of -- discount to face value -- sold in auction by RBI -- auction conducted every Wednesday for 91 days bill and every alternate Wednesdays for the other two maturities. -- auctions held through NDS -- competitive bids can be done through NDS -- non competitive bids can be routed through respective custodians or any Bank or PD which is member of NDS -- open for investment also by corporates, HNIs and NRIs=

Treasury activities and Products Forex market products


Spot trades Forward trade Swap Foreign exchange surpluses Inter-bank loans-normally over night Short-term investments Nostro accounts Short term loans for exporters, loans against foreign currency deposits Rediscounting of foreign currency bills=

Treasury activities and Products Derivative market


Widely used products by treasuries.

It is used for --Managing risk and for ALM --Catering to corporates --Trading purpose A derivative product is a financial contract, whose value is derived from the spot price of an underlying contract.
It can be in money market, forex market, share market or commodities market==

Treasury activities and Products Derivative market Various Products Forwards Options Swaps Futures Forward rate Agreements (FRA)==

Risk Management Various risks faced by treasury are: Counter party risk Exchange risk Gap risk Settlement risk Country risk Legal risk Price risk Liquidity risk Interest rate risk Treasury also sells risk management products to customers How risks are managed?

Risk Management
Organisational control Exposure ceiling Limits on trading positions, cut loss limits Asset Liability Management

Investment activity
As we saw earlier, next to loans and advances, the major portion of funds are deployed in investments.

Basic objectives of investment are: --safety of capital --liquidity --yield --diversification of credit risk --managing interest rate risk
The entire investment activity should conform to RBI guidelines=

Investment activity Certain important guidelines of RBI --all investments should be approved by Investment committee
-- the bank must have investment policy approved by the Board -- there should be well laid system for monitoring and control -- the three divisions namely front office, mid office and back office well laid out segregation of duties -- investments to be classified under HTM held to maturity HFT held for trading AFS available for sale -- HTM securities can be held up to 25% of total investments -- banks are free to decide on the quantum of HFT and AFS categories -- HFT investment to be sold within 90 days -- shifting of securities from/to HTM can be done once in a year with the approval of the Board=

Investment activity Certain important guidelines of RBI


Shifting from AFS to HFT can be done with the approval of the Board Shifting from HFT to AFS is generally not allowed. In exceptional case it can be done with the approval of the Board/ ALCO/ investment committee Investment Fluctuation Reserve to be built up to 5% of the investment portfolio==

Foreign Exchange General


What is foreign exchange? How does it arise? Foreign exchange can be defined as
Transactions that involve exchange of one currency with another Foreign currency itself Instruments that represent foreign currency.

Foreign exchange transactions arise on account of


Trade Investment and disinvestment Lending, borrowing and repayment Savings Travel
Based on the above. What are the two important aspects of foreign exchange transactions?

Foreign Exchange General


Two important aspects of foreign exchange transactions are: 1. Flow of tradeimport and export of goods and services 2. Flow of foreign currency, both inward and outward. In India, both exports and imports (called as foreign trade) and flow of foreign currencies are regulated by the Government of India.

Foreign trade is regulated through Foreign Trade Policy and flow of foreign currency through Foreign Exchange Management Act (FEMA)

We shall discuss both briefly.

Foreign Exchange General


Foreign Trade Policy
It is framed by Ministry of Commerce. It is implemented through Director General of Foreign Trade (DGFT). Earlier it was known as Exim Policy

Renamed as Foreign Trade policy in the year 2004.


It is a five year policy. Current policy period is 2009-2014 Though it is five year policy, every year it is reviewed and changes announced to suit the current developments.

Foreign Exchange General


The objectives of the Foreign Trade Policy 2004-09 were:
1. to double Indias percentage share of global merchandise within five years from the commencement of the policy period and 2. to act as an effective instrument of economic growth by giving a thrust to employment

Foreign Exchange General


The other aspect of foreign exchange is flow of foreign currency. This is regulated by Government of India, Ministry of Finance. It is regulated through an Act of Parliament called as FEMA. (Foreign Exchange Management Act). Earlier this regulation was made under an Act called as FERA. (Foreign Exchange Regulation Act) FERA was considered as a stringent Act introduced during a time when strict control on movement of foreign currency was necessary. With globalisation and liberalisation of various policies, such a strict Act was no longer considered necessary and therefore FEMA was enacted in the year 1999 and the regulations under FEMA came in to effect from 1.6.2000. Regulations under FEMA are made by RBI. RBI makes necessary changes under FEMA whenever necessary in consultation with the Government of India and announces the same through AP (DIR) Circulars.

Foreign Exchange General


RBI regulates all foreign exchange transactions under FEMA. Foreign exchange transactions are made available to the Residents by Banks/ Companies authorised to do so by RBI. RBI is authorising Banks/ companies under the following categories:

AD I category (Authorised Dealers)


Banks and certain other financial institutions who can make available all types of foreign exchange transactions.

AD II category
Full fledged money changers who satisfy certain conditions stipulated by RBI can make available certain transactions, in addition to the money changing activity.

Full fledged money changers


Companies who are authorised to buy and sell foreign exchange from/to the public There was another category called as restricted money changers who were authorised by RBI. They can buy foreign exchange from the Public, BUT CAN NOT SELL. Now RBI does not authorise them, but permitted AD Banks to authorise them as franchisees

Foreign Exchange General


For the purpose of making available foreign exchange transactions, RBI is categorising the branches of Banks as A, B and C and defines the types of transactions that they can make available. RBI will issue certain number of licenses to a Bank. The respective Bank will decide the branches to whom the license is to be allotted and advise RBI. RBI will then issue a code number to the concerned branches, called as AD code. Then such branches can make available the foreign exchange transactions as per the license.

Foreign Exchange General


A category branches are authorized to maintain Foreign Currency
accounts including ACU accounts (Nostro accounts). They handle all types of forex Transactions.

B category branches are authorized to handle all types of foreign exchange transactions. They are authorized to operate on Banks' Foreign Currency accounts (Nostro accounts). They can not open Nostro account in their name. Ccategory branches are authorized to handle trade related and service related transactions denominated in foreign currencies and Indian rupees through another designated Office, B category branch which is called as Link Office (LO). LO in turn would report the transactions to RBI and Foreign Department .

What is a Nostro account and a Vostro account?

Foreign Exchange General


What is a Nostro account and a Vostro account?
Foreign exchange transactions involve buying one currency for another. The buying Bank and selling Bank may be in the same country or in different countries. For making payment or receiving payment of a foreign currency, a bank must maintain a bank account with a bank in the foreign country in the respective currency. This account is called as Nostro account (our account with you).

When a foreign Bank is maintaining an account with a domestic Bank in the domestic currency for the above purpose, such account is called as Vostro Account (your account with us).

What are the various types of foreign exchange transactions done at branch level?

Foreign Exchange General


What are the various types of foreign exchange transactions done at branch level?
-- exports -- imports -- remittances (inward and outward) -- letters of credit and guarantees -- forward contracts -- issue and purchase of foreign currency, FCTC, -- NRI accounts -- collection and purchase of foreign currency cheques

How the transactions are put through in a branch?

Foreign Exchange General


How the transactions are put through in a branch?
All foreign exchange transactions ultimately involve either a purchase or sale of foreign currency in return for the domestic currency. Whether a transaction is a purchase or sale is decided from the point of view of Bank only. In a purchase transaction, Bank buys foreign currency from the customer and in a sale transaction, Bank sells foreign currency in return for the domestic currency. The price (rate) at which the foreign currency is bought or sold is called as exchange rate and the system of calculating the exchange rate is called as exchange rate mechanism.

We shall discuss some details about exchange rates.

Foreign Exchange General


Exchange Rates
All transactions are reported to Head Office by branches. Why? All foreign exchange bought by the branches have to be sold in the market and for all the foreign exchange sold by the branches, it has to be bought from the market. This process of buying and selling in the forex market on account of the transactions done by the branches is called as cover operation. This is done to ensure that bank is not put to any loss on account of adverse movement of exchange rates. Bank will buy foreign exchange at a lower price from the customers and sell at a higher price in the market. What ever Bank buys from the market will be sold to customers at a higher price. This process of buying at lower price and selling at higher price is called as Buy low and sell high. This is a general market principle

Foreign Exchange General


Exchange Rates
Treasury buys and sells foreign exchange in the market on behalf of branches. This market is known as inter bank forex market. The rate at which treasury buys or sells is called as inter bank rate

The rates quoted in the market will be as under: 1 USD= 49.31/32 This means that market is prepared to buy one USD at Rs.49.31 and sell at Rs49.32. The rate on the left side is called as buy rate and the rate on the right side is called as sell rate. This is also called as bid/ask rate This is also a market practice. This practice of quoting simultaneously a price for buying and selling is called as two way quote. In the above example, Indian Rupee is quoted for one unit of foreign currency. This type of keeping foreign currency as constant and making the domestic currency as variable is called as direct quote.

Foreign Exchange General


Exchange Rates If the domestic currency is kept constant and the foreign currency made variable, it is called as indirect quote. In India, we follow direct quote. The exchange rated quoted by branches to customers is called as merchant rate
Two way quote is not made to customers because, 1. A customer does not come to a branch for trading, he comes with a definite intention of either to buy or sell foreign exchange in a particular transaction. 2. Our exchange control regulations make it obligatory for Banks to ascertain the details of the transactions before they offer any exchange rate.

There are two different rates for customers: 1. Card rate: fixed by Treasury every day morning which will be valid for the whole day irrespective of any market movements. This is generally for low value transactions 2. On line rate: the rate quoted by Treasury based on the current market movement. This will naturally vary from time to time.

Foreign Exchange General


Exchange Rates
At branches we quote different rates for different transactions. The reasons for quoting different rates are: 1. Availability of cover funds 2. Locking in Banks funds 3. Inventory carrying cost 4. Risks involved in the transactions 5. Additional work load carried by the Bank in the transaction

Foreign Exchange General


Exchange Rates Settlement at whole bank level
In the inter bank market, let us assume that bank A buys $ 1million from bank B to the at Rs48.39, what happens next? The transaction has to be settled. A has to deliver 1mxRs48.39 to the Rupee account of bank B and bank B has to deliver $1 m to the $ account (nostro) of bank A. This type of exchanging the value of the currencies traded is called as Settlement. There are four types of settlements. 1. SPOT= settlement within two working days after transaction date. 2. CASH= on the same day of transaction 3. TOM= on the next working day after transaction date 4. Forward= on any day after the spot day.

Foreign Exchange General


Reporting of forex transactions Purpose of submission of R returns to RBI
1. RBI compiles BOT (Balance of Trade) and BOP (Balance of Payment) statistics for the country from the R returns. 2. RBI is able to monitor the movement of various foreign currencies in to and out of the country both volume and purpose. Now RBI is gradually switching over to the system as under:

Instead of each branch submitting the returns directly to RBI, they will submit to their respective Head Office. The HO will submit one consolidated R return for Bank as a whole. RBI expects that the new system will ensure timely submission and also accuracy of the data.

Let us now define BOT, BOP, Current and Capital accounts

Foreign Exchange General


Reporting of forex transactions
Balance of Trade: Difference between countrys merchandise exports and imports during a particular period. Balance of Payment: Difference between total foreign exchange receivable and payable by the country during a particular period. Capital account transactions: Transactions related to investment, disinvestment, borrowing, lending and repayment of borrowing are called as capital account transactions. Current account transactions: Transactions related to trading in goods and services and purposes other than capital account are called as current account transactions.

Let us now understand certain important institutions connected with foreign exchange business.

Foreign Exchange General


Institutions connected with foreign exchange business FEDAI (Foreign Exchange Dealers Association of India)
FEDAI is the representative body of the ADs. It is formed at the instance of RBI. FEDAI provides certain uniform ground rules for the ADs to ensure orderly dispensation of business by all the banks. The rules are applicable for various types of foreign exchange Transactions.

In tune with the liberalised policy of RBI, FEDAI also is making liberalisation in a number of its rules.

Foreign Exchange General


Institutions connected with foreign exchange business International Chamber of Commerce (ICC)
This is an organisation with head quarters in Paris which is contributing to development of world trade by providing uniform standards, rules and guidelines to the players in world trade. The rules issued by ICC are codified under various heads as those relating to -- letters of credit (UCP) Uniform customs and Practice -- bills sent on collection (URC) Uniform Rules for Collection -- reimbursement (URR) Uniform Rules for Reimbursement -- guarantees (URG) Uniform Rules for Guarantees -- Stand by letter of credit (ISP) International Standby Practices All major countries through out the world have agreed to the uniform rules of ICC and made it obligatory for the participants of trade in their respective countries to abide by the uniform rules. India is also one such country who have agreed for the rules

Foreign Exchange General


Institutions connected with foreign exchange business
Export-Import Bank of India (EXIM) -- promoted by GOI -- to finance and promote foreign trade The functions of Exim bank are: --lending --guaranteeing --promotional services --advisory services Lending activities of Exim bank include lending to --Indian companies --foreign Governments/ companies --Indian banks

Foreign Exchange General


Institutions connected with foreign exchange business
Export Credit Guarantee Corporation of India Limited (ECGC) Promoted by GOI, Ministry of Commerce Originally set up as Export Risk Insurance Corporation (ERIC) in 1957 Subsequently became Export Credit and Guarantee Corporation Limited in 1964 Subsequently renamed as above

It provides insurance cover to exporters and guarantee cover for the advance extended by banks to exporters
Operating functionaries working in export credit related desks should have a fair understanding of ECGC guidelines.

Foreign Exchange General


Remittances
Foreign exchange coming in to India is called as inward remittance Foreign currency going out of India is called as outward remittance. Under the present exchange control regulations, there are practically no restrictions for receiving inward remittances through approved manner except those contained under Foreign contribution Regulation Act 1976 and those with regard to foreign direct investment.

Foreign direct investment (FDI) is the investment made by non-residents in the business and industry in India.
With a view to regulate the flow of foreign funds to certain specific sectors in the industry, Government of India and RBI place certain regulations and fix ceiling for such investments. This has to be taken in to account while handling such remittances.

Foreign Exchange General


Remittances
Inward remittance may come in the form of TT through Swift. SWIFT stands for Society for Worldwide Inter bank Financial Telecommunication. It is a financial messaging net work with head quarters at Brussels, Belgium. It can be DDs issued by banks abroad or in the form of encashment of foreign currency travelers cheques, foreign currency, collection of cheques denominated in foreign currency. Inward remittance certificate is issued when we receive a remittance from abroad for credit of a customers account. Encashment certificate is issued when we encash foreign currency or foreign currency travelers cheques.

They are issued as evidence that the remittance has been received or encashment made through an authorized dealer in an approved manner.

Foreign Exchange General


Remittances
No ceiling has been imposed under FEMA for encashment of foreign currency or foreign currency travelers cheques for tourists visiting India But if the aggregate amount of foreign currency and foreign currency travelers cheques exceed the equivalent of $10,000 or if the amount of foreign currency alone exceeds the equivalent of $5000, they have to declare the same in a form called as CDF (Currency Declaration Form) to the customs at the port of entry. Customs officials will scrutinize the same and affix their stamp.

It is a valid proof that the currency or travelers cheques have been brought in to the country in a genuine manner.

Foreign Exchange General


Remittances
In the case of outward remittance, where do we refer to know the present guidelines as to the purpose of remittance, ceiling etc? For release of foreign exchange to persons resident in India for various current account transactions, rules have been given under section 5 of FEMA1999. Under the rules, the purposes of remittances have been classified under three schedules I, II and III. Drawal for foreign exchange for the purposes mentioned under schedule I is expressly prohibited. Drawal of foreign exchange for purposes mentioned under schedule II are permitted, provided the applicant has secured the approval from the Ministry/ Department of Government of India specified therein. Drawal of foreign exchange up to the limits specified therein in respect of purposes mentioned in schedule III can be permitted by ADs. Permitting drawal of foreign exchange beyond the limits requires the prior approval of RBI. Every year, as on 1st July, RBI issues Master Circular containing the Codified instructions in this regard. Banks can refer these instructions in the website of RBI for guidance.

Foreign Exchange General


Remittances Money laundering
Money laundering refers to the process of converting illegal money in to legal money. Monetary authorities through out the world are concerned that illegal money should not circulate through countries causing damage to countries economy. Therefore they want each country to have well established system in place which will ensure that illegal money does not enter in to or exit from the financial system of the country. To be in tune with global need, India passed the Prevention of Money Laundering Act which sets certain guidelines for putting through various transactions. Introduction of KYC guidelines also is a part of such measure only.

Corporate lending

Corporate lending
Corporates need products from banking system as under:
a) parking surplus funds b) cash management c) managing financial requirements both short term and long term d) non fund based requirements e) merchant banking needs f) managing foreign exchange business needs

Corporate lending
Corporates are generally coming under:
1. SME 2. Mid-corporates 3. Large corporates

Corporate lending
Financial needs of corporates:
Working capital Term finance Non fund based advance

Methods of financing corporates


Financing against stocks and receivables Corporate demand loan Mortgage loan

Bill discounting Factoring, Forfaiting Channel financing


FCNRB demand loans and term loans

Export finance Bridge loans and take out financing are other two methods of financing corporates.

Corporate lending
Corporates are extended finance under
a) b) c) d) e) Single bank borrowing Multiple banking Consortium lending Syndicated lending Take out financing

Corporate lending
Since corporate advances are generally of high value, they are processed in a centralised processing cells. What is a centralised processing cell? Some banks have the system of Asset Management Teams (AMTs). What is AMT? what is its role? Most of the advances will be sanctioned under committee approach. What are its advantages? How does it function? Every bank has a well documented loan policy and credit policy and procedures. They also have delegation of power structure for sanction and reporting of advances. All advances sanctioned by a particular authority are to be reported to next higher authority for control purpose. All corporate advances will be subject to the prudential norms suggested under RBI guidelines

Corporate lending
What are prudential guidelines?
The prudential guidelines help the bank to take balanced exposure in advances. Its aim is to ensure that bank does not assume undue exposure to any one individual, group, or to a particular activity or industry thereby exposing the bank to higher risk. The prudential guidelines generally relate to: a) Ratio of term loan to total advances b) Exposure to individual borrower c) Exposure to group companies d) Exposure to particular industry e) Stock market exposure f) Unsecured advances g) Documentation standards h) Financing infrastructure projects i) Bridge loans

Corporate lending
The entire credit activity is divided in to two parts, pre sanction and post sanction.
Pre sanction activity consists of: a) Visit to company and holding discussions with company officials b) Scrutiny of MOA and AOA in the case of companies, the respective deeds in respect of others c) Search in ROC records in case of companies d) Getting CIBIL reports and referring to RBI caution list and defaulters list e) Analysis of financial statements and project reports f) Submission of proposal to the sanctioning authority and obtention of sanction

Corporate lending
Post sanction activity consists of
a) Conveying sanction of advance along with the terms and conditions and obtention of Board acceptance in the case of companies and borrowers the case of others. The letter conveying sanction of advance will be acknowledged by the guarantors also. Security documentation Creation of securities Registration of charge with ROC Disbursement Satisfaction of end use of funds Physical inspection as per the stipulated periodicity Scrutiny of periodical stock statements and FFR statements Review Renewal

b) c) d) e) f) g) h) i) j)

Corporate lending
Of the whole activity, making assessment of the financial requirements, obtention of sanction, making review and renewal assume major importance. The assessment of financial requirements will cover the following areas.

Corporate lending
1. Borrower profile
Name , Address, Manufacturing activity/Locations, Date of incorporation, Banking arrangement etc of Brief Background(Company/ Group/ Promoters/ Management including shareholding pattern ) Brief write up on Industry/Sector and Companys standing RMD Advisory/qualitative approach/Quantitative approach/Comments Indebtedness/Exposure & capital charge

2. Present Proposal
Proposal : For sanction/approval/confirmation Credit limits (existing and proposed) Sharing pattern

Corporate lending
3. Performance Details
Performance and Financial indicators Movement in TNW Synopsis of balance sheet

4. Risk assessment
Credit Rating Risk and mitigating factors Warning signals/Major irregularities in Inspection Audit/Credit Audit/Other Reports Security Changes in Security if any, justification

Corporate lending
5. Pricing
Conduct of account Income analysis Other Banks/FIs pricing Proposed pricing

6. Loan Policy : Deviations & Compliance:


Whether names of promoters, directors, company, group concern figure in defaulters/willful defaulters list Deviation in Loan policy Deviation in Take over norms and comments Directors of Borrowers company: status of relation with Board/ Senior Official of the bank etc

Corporate lending
7. a) Future plans & Business Potential including cross selling/retail marketing b) Environmental and sustainability implications c) Earlier terms of Sanction: Compliance status d) Statutory dues /Contingent Liabilities 8. Justification for the Proposal & Recommendations Appraisal Memorandum for Term Loan Assessment of Working Capital Facilities Terms and Conditions

Corporate lending
Important aspects seen while considering a term loan
a) b) c) d) e) Cost and means of the project Present status of the project Factors of production and production process If plant and machinery are involved, quality of supply If large construction activity is involved, comments on the credibility of the contractors f) Whether all regulatory approvals are obtained g) Technical feasibility h) Marketing i) Financial viability --projected profitability --D/E --DSCR --Security Margin --Sensitivity

Corporate lending
Assessment of working capital
What are the important points seen? --projected turn over, its comparison to the past actual --holding of current assetsjustification for holding --projected level of current liabilities --how much bank can finance and what is the deficit --if deficit is identified, how the company is going to bridge the gap

Corporate lending
Follow up of advances, review and renewal
Follow up mainly involves: a) Obtention and scrutiny of periodical stock and receivable statements and select operational data b) Periodic visits to factory and company office c) Holding discussions with company officials d) Monitoring the operations of accounts e) In respect of vary large advances having National significance, observing the developments and quoted in the Press, stock market perception, analysts views etc f) Obtention and scrutiny of FFR I and II forms g) Follow up of bank exposure under LC and BG issued on behalf of the company

Corporate lending
All large term loans are subject to half yearly review. The review will cover the following: a) What is the present stage of completion of the project? b) Whether the project is being implemented as per plan? c) If there is a deviation from original plan, whether this has been properly processed and approvals obtained? d) Whether the time schedule is being adhered to? If there is any delay, what are the reasons? What is the likely impact? e) End use of funds f) Obtetnion of necessary Government clearances g) Likely date of completion and commencement of commercial production h) Whether periodic interest is being serviced

Corporate lending
Renewal of loan limits
Working capital and non fund based advances are generally sanctioned for 12 months only subject to review. Based on the review bank will reduce or renew at the existing level or enhance the loan limits. While renewing the limits, bank will mainly focus on the following: a) Whether the estimated turnover and profits have been achieved. b) Whether the financials have been achieved as per projections. c) Whether the securities as per sanction have been created. d) Whether the terms and conditions stipulated have been satisfied e) Whether any diversion of funds have taken place f) Whether the entire turn over achieved by the company has been routed through the account g) Whether the industry in which the company is engaged is performing well h) Whether any negative comments have been made by the inspection and audit.