APROJECT REPORT ONCREDIT APPRAISAL OF SBI BANK

Submitted to: SRI SAI UNIVERSITY PALAMPURIn the partial fulfillment of the requirement for the degreeOfMaster of Business Administration(2011-13)Under the guidance of:- Submitted by:- MR. GURU SWROOP SANJEEV KUMAR ASSISTANT PROF. OF MANAGEMENT MBA 2ND SEMESTER ROLLNO 611012023 ACKNOWLEDGEMENTThis report bears the imprint of many persons, who have helped me in numerous ways in writing this report. It gives me great pleasure in presenting this report to the SRI SAI SCHOOL of MANAGEMENT AND Commerce STUDY. I would like to take this opportunity to extend my heartful gratitude to all those who helped me in presenting this report. Their contribution no matter big or small has contributed immensely towards completion of this report.I fall short of words to express my gratitude to all the respondents who gives me their valuable time and unbiased responses for my questionnaire of this project report. I acknowledge my deep sense of gratitude to MR. GURU SWAROOP for his generous guidance & advice before & during the course of this work & also in analyzing the work.My overriding debt is to my parents and my siblings who provide me with the moral support & inspiration needed to prepare this report. SANJEEV KUMAR

PREFACEModern organizations are highly complex ad dynamics systems. They operate under very turbulent social economic and political environment. They are required to reconcile several incompatible goals. Conflicting roles and divergent interest they are also fraught with the use risk and uncertainties, hence tactful management of such organization to plan to execute guide, coordination and control the performance of people to achieve predetermined goals. Management has to keep the organization vibrant moving and in equilibrium. It has to achieve goal which themselves are changing it is therefore a problem highly complex and ticklish.This information will be asset to manager in making effective decisions. The researches are used to acquire and analyse information and to make suggestions to management as to how marketing problems should be solved. The marketing research is the process which links to manufacturer, dealers and individuals through information in important part of curriculum of M.B.A. programme is project taken by the students to institute under which he or she is studying, after completion of third semester of the programme.The objective of this project is to enable the students to understand the application of the academics in the real business life. I am fully confident that this project report will be extremely useful to the management.

TABLE OF CONTENTS

Preface i

Acknowledgement ii

Sr. No.Name of ChaptersPage No.

iIntroduction of the project and banking sector10-18

iiIndustry analysis19-23

iiiIntroduction to SME24-27

ivOverview of credit appraisal 28-50

vSBI norms for credit appraisal51-86

viCredit risk assessment87-92

viiData analysis and interpretation 93-98

viiifindings99-100

ixRecommendation and suggestion 101-102

xconclusion103-104

xiBibliography 105

xiiQuestionnaire 106-107

CONTENTS

LIST OF TABLESTable No.Title of the TablePage No

5.1Method and application of SBI32

5.2Levels of prescribed SBI credit appraisal 52

5.3Credit appraisal standards 53-54

5.4Loan sanctioning67-68

5.5Stages of loan sanctioning process83

LIST OF FIGURESTable No.Title of the TablePage No

6.1Do you find to get easy loan93

6.2Do you prefer to go to bank94

6.3Which bank you prefer for credit95

6.4Ranks in following banks detailing in loan on choices95

6.5According to you which of the following economical bank rate96

6.6In case of long tern which you prefer97

\6.7In case of customer friendliness which bank you prefer97

6.8In term of sanctionary of loans according to you which bank quicker98

RESEARCH METHODOLOGY

Introduction to Credit Appraisal:Credit appraisal means an investigation/assessment done by the bank prior before providing any loans & advances/project finance & also checks the commercial, financial & technical viability of the project proposed its funding pattern & further checks the primary & collateral security cover available for recovery of such funds.Problem Statement: To study the Credit Appraisal System in SME sector, at State Bank of India (SBI), PalampurObjectives: To study the Credit Appraisal Methods. To understand the commercial, financial & technical viability of the project proposed & its funding pattern. To understand the pattern for primary & collateral security cover available for recovery of such funds. Research Design: Analytical in natureData Collection: Primary Data: Informal interviews with Branch Manager and other staff members at SBI bank. E-circulars of SBI

Secondary Data: Books and magazines Database at SBI Internal reports of the banks Library research Websites

Expected contribution of the study:This study will help in understanding the credit appraisal system at SBI & to understand how to reduce various risk parameters, which are broadly categorized into financial risk, business risk, industrial risk & management risk associated in providing any loans or advances or project finance.Beneficiaries:Researcher:This report will help researcher in improving knowledge about the credit appraisal system and to have practical exposure of the credit appraisal scenario in SBI.Management student:The project will help the management student to know the patterns of credit appraisal in SBI bank.

SBI Bank:The project will help bank in reducing the credit risk parameters and to improve its efficiencies. It will also help to reduce risk associated in providing any loans & advances or project finance in future and to overcome the loopholes.

Short write-up on the researcher and reason for taking up the project: The researcher are MBA 2nd year students, studying in SRI SAI UNIVERSITY PALAMPUR. The reason for taking up the project is to know and understand the credit appraisal system in banking sector. Credit appraisal is the major focus of banking industries these days, so the project will help in understanding and analyzing the situation prevailing currently.

Limitations of the study: As the credit rating is one of the crucial areas for any bank, some of the technicalities are not revealed which may have cause destruction to the information and our exploration of the problem. As some of the information is not revealed, whatever suggestions generated, are based on certain assumptions. Credit appraisal system includes various types of detail studies for different areas of analysis, but due to time constraint, our analysis was of limited areas only.

CHAPTER-1INTRODUCTION TO BANKING SECTOR AND SBIA snapshot of the banking industry:The Reserve Bank of India (RBI), as the central bank of the country, closely monitors developments in the whole financial sector.

The banking sector is dominated by Scheduled Commercial Banks (SBCs). As at end-March 2002, there were 296 Commercial banks operating in India. This included 27 Public Sector Banks (PSBs), 31 Private, 42 Foreign and 196 Regional Rural Banks. Also, there were 67 scheduled co-operative banks consisting of 51 scheduled urban co-operative banks and 16 scheduled state co-operative banks.Scheduled commercial banks touched, on the deposit front, a growth of 14% as against 18% registered in the previous year. And on advances, the growth was 14.5% against 17.3% of the earlier year.Higher provisioning norms, tighter asset classification norms, dispensing with the concept of past due for recognition of NPAs, lowering of ceiling on exposure to a single borrower and group exposure etc., are among the measures in order to improve the banking sector.A minimum stipulated Capital Adequacy Ratio (CAR) was introduced to strengthen the ability of banks to absorb losses and the ratio has subsequently been raised from 8% to 9%. It is proposed to hike the CAR to 12% by 2004 based on the Basle Committee recommendations.Retail Banking is the new mantra in the banking sector. The home loans alone account for nearly two-third of the total retail portfolio of the bank. According to one estimate, the retail segment is expected to grow at 30-40% in the coming years.Net banking, phone banking, mobile banking, ATMs and bill payments are the new buzz words that banks are using to lure customers.With a view to provide an institutional mechanism for sharing of information on borrowers / potential borrowers by banks and Financial Institutions, the Credit Information Bureau (India) Ltd. (CIBIL) was set up in August 2000. The Bureau provides a framework for collecting, processing and sharing credit information on borrowers of credit institutions. SBI and HDFC are the promoters of the CIBIL.The RBI is now planning to transfer of its stakes in the SBI, NHB and National bank for Agricultural and Rural Development to the private players. Also, the Government has sought to lower its holding in PSBs to a minimum of 33% of total capital by allowing them to raise capital from the market.Banks are free to acquire shares, convertible debentures of corporate and units of equity-oriented mutual funds, subject to a ceiling of 5% of the total outstanding advances (including commercial paper) as on March 31 of the previous year.The finance ministry spelt out structure of the government-sponsored ARC called the Asset Reconstruction Company (India) Limited (ARCIL), this pilot project of the ministry would pave way for smoother functioning of the credit market in the country. The government will hold 49% stake and private players will hold the rest 51%- the majority being held by ICICI Bank (24.5%).

Reforms in the banking sector:The first phase of financial reforms resulted in the nationalization of 14 major banks in 1969 and resulted in a shift from Class banking to Mass banking. This in turn resulted in a significant growth in the geographical coverage of banks. Every bank has to earmark a minimum percentage of their loan portfolio to sectors identified as priority sectors. The manufacturing sector also grew during the 1970s in protected environs and the banking sector was a critical source. The next wave of reforms saw the nationalization of 6 more commercial banks in 1980. Since then the number scheduled commercial banks increased four-fold and the number of banks branches increased eight-fold.After the second phase of financial sector reforms and liberalization of the sector in the early nineties, the Public Sector Banks (PSB) s found it extremely difficult to complete with the new private sector banks and the foreign banks. The new private sector banks first made their appearance after the guidelines permitting them were issued in January 1993. Eight new private sector banks are presently in operation. This banks due to their late start have access to state-of-the-art technology, which in turn helps them to save on manpower costs and provide better services.During the year 2000, the State Bank of India (SBI) and its 7 associates accounted for a 25% share in deposits and 28.1% share in credit. The 20 nationalized banks accounted for 53.5% of the deposits and 47.5% of credit during the same period. The share of foreign banks ( numbering 42 ), regional rural banks and other scheduled commercial banks accounted for 5.7%, 3.9% and 12.2% respectively in deposits and 8.41%, 3.14% and 12.85% respectively in credit during the year 2000. Classification of banks:The Indian banking industry, which is governed by the Banking Regulation Act of India, 1949 can be broadly classified into two major categories, non-scheduled banks and scheduled banks. Scheduled banks comprise commercial banks and the co-operative banks. In terms of ownership, commercial banks can be further grouped into nationalized banks, the State Bank of India and its group banks, regional rural banks and private sector banks (the old / new domestic and foreign). These banks have over 67,000 branches spread across the country. The Indian banking industry is a mix of the public sector, private sector and foreign banks. The private sector banks are again spilt into old banks and new banks.

Banking System in IndiaReserve bank of India (Controlling Authority)

Development Financial institutions Banks

IFCI IDBI ICICI NABARD NHB IRBI EXIM Bank SIDBI

Commercial Regional Rural Land Development Co-operative Banks Banks Banks Banks

Public Sector Banks Private Sector Banks

SBI Groups Nationalized Banks Indian Banks Foreign Bank

ABOUT SBI:

THE PLACE TO SHARE THE NEWS ...SHARE THE VIEWS The State Bank of India, the countrys oldest Bank and a premier in terms of balance sheet size, number of branches, market capitalization and profits is today going through a momentous phase of Change and Transformation the two hundred year old Public sector behemoth is today stirring out of its Public Sector legacy and moving with an agility to give the Private and Foreign Banks a run for their money. The bank is entering into many new businesses with strategic tie ups Pension Funds, General Insurance, Custodial Services, Private Equity, Mobile Banking, Point of Sale Merchant Acquisition, Advisory Services, structured products etc each one of these initiatives having a huge potential for growth.The Bank is forging ahead with cutting edge technology and innovative new banking models, to expand its Rural Banking base, looking at the vast untapped potential in the hinterland and proposes to cover 100,000 villages in the next two years. It is also focusing at the top end of the market, on whole sale banking capabilities to provide Indias growing mid / large Corporate with a complete array of products and services. It is consolidating its global treasury operations and entering into structured products and derivative instruments. Today, the Bank is the largest provider of infrastructure debt and the largest arranger of external commercial borrowings in the country. It is the only Indian bank to feature in the Fortune 500 list.The Bank is changing outdated front and back end processes to modern customer friendly processes to help improve the total customer experience. With about 11448 of its own branches and another 6500+ branches of its Associate Banks already networked, today it offers the largest banking network to the Indian customer. Banking behemoth State Bank of India is planning to set up 15,000 ATMs in the country by March 2010 investing more than Rs 1,000 crore. RP Sinha, deputy managing director (information technology) of the bank, said: "We plan to have 25,000 ATMs in the country by March 2010. We will add 15,000 ATMs to the existing ones by end of this fiscal." The bank has almost 10,300 ATMs in the country at present. According to a senior SBI official, the spot for an ATM counter is taken on lease. It requires Rs 5.2-5.5 lakh to set up the infrastructure and almost Rs 3.5 lakh for an ATM machine. "All put together, the cost is around Rs 9 lakh per counter," he said. Going by the estimate, SBI would require a whopping Rs 1,350 crore for setting up 15,000 ATMs. The Bank is also in the process of providing complete payment solution to its clientele with its ATMs, and other electronic channels such as Internet banking, debit cards, mobile banking, etc.With four national level Apex Training Colleges and 54 learning Centres spread all over the country the Bank is continuously engaged in skill enhancement of its employees. Some of the training programes are attended by bankers from banks in other countries.The bank is also looking at opportunities to grow in size in India as well as internationally. It presently has 82 foreign offices in 32 countries across the globe. It has also 8 Subsidiaries in India SBI Capital Markets Ltd, SBI Mutual Funds, SBI factor and commercial services Ltd, SBI DFHI Ltd, SBI Cards and Payment Services Ltd, SBI Life Insurance Company Ltd, SBI Fund Management Pvt. Ltd, SBI Canada - forming a formidable group in the Indian Banking scenario. It is in the process of raising capital for its growth and also consolidating its various holdings.

Background:State Bank of India is the largest and one of the oldest commercial bank in India, in existence for more than 200 years. The bank provides a full range of corporate, commercial and retail banking services in India. Indian central bank namely Reserve Bank of India (RBI) is the major share holder of the bank with 59.7% stake. The bank is capitalized to the extent of Rs.646bn with the public holding (other than promoters) at 40.3%.SBI has the largest branch and ATM network spread across every corner of India. Thebank has a branch network of over 17000 branches (including subsidiaries). Apart fromIndian network it also has a network of 73 overseas offices in 30 countries in all time zones, correspondent relationship with 520 International banks in 123 countries. In recent past, SBI has acquired banks in Mauritius, Kenya and Indonesia. The bank had total staff strength of 198,774 as on 31st March, 2008. Of this, 29.51% are officers, 45.19% clerical staff and the remaining 25.30% were sub-staff. The bank is listed on the Bombay Stock Exchange, National Stock Exchange, Kolkata Stock Exchange, Chennai Stock Exchange and Ahmedabad Stock Exchange while its GDRs are listed on the London Stock Exchange.SBI group accounts for around 25% of the total business of the banking industry while itaccounts for 35% of the total foreign exchange in India. With this type of strong base, SBI has displayed a continued performance in the last few years in scaling up its efficiency levels. Net Interest Income of the bank has witnessed a CAGR of 13.3% during the last five years. During the same period, net interest margin (NIM) of the bank has gone up from as low as 2.9% in FY02 to 3.40% in FY06 and currently is at 3.32%.

KEY AREAS OF OPERATION:The business operations of SBI can be broadly classified into the key income generating areas such as National Banking, International Banking, Corporate Banking, & Treasury operations. The functioning of some of the key divisions is enumerated below:

a) Corporate bankingThe corporate banking segment of the bank has total business of around Rs1,193bn. SBI has created various Strategic Business Units (SBU) in order to streamline its operations. These SBUs are as follows:a.1) Corporate Accountsa.2) Leasinga.3) Project Financea.4) Mid Corporate Groupa.5) Stressed Assets Management

b) National bankingThe national banking group has 14 administrative circles encompassing a vast network of 9,177 branches, 4 sub-offices, 12 exchange bureaus, 104 satellite offices and 679 extension counters, to reach out to customers, even in the remotest corners of the country. Out of the total branches, 809 are specialized branches. This group consists of four business group which are enumerated below:b.1) Personal Banking SBUb.2) Small & Medium Enterprisesb.3) Agricultural Bankingb.4) Government Bankingc) International bankingSBI has a network of 73 overseas offices in 30 countries in all time zones and correspondent relationship with 520 international banks in 123 countries. The bank is keen to implement core banking solution to its international branches also. During FY06, 25 foreign offices were successfully switched over to Finacle software. SBI has installed ATMs at Male, Muscat and Colombo Offices. In recent years, SBI acquired 76% shareholding in Giro Commercial Bank Limited in Kenya and PT Indomonex Bank Ltd. in Indonesia. The bank incorporated a company SBI Botswana Ltd. at Gaborone.

d) TreasuryThe bank manages an integrated treasury covering both domestic and foreign exchange markets. In recent years, the treasury operation of the bank has become more active amidst rising interest rate scenario, robust credit growth and liquidity constraints. The bank diversified its operations more actively into alternative assets classes with a view to diversify the portfolio and build alternative revenue streams in order to offset the losses in fixed income portfolio. Reorganization of the treasury processes at domestic and global levels is also being undertaken to leverage on the operational synergy between business units and network. The reorganization seeks to enhance the efficiencies in use of manpower resources and increase maneuverability of banks operations in the markets both domestic as well as international.

e) Associates & SubsidiariesThe State Bank Group with a network of 14,061 branches including 4,755 branches of its seven Associate Banks dominates the banking industry in India. In addition to banking, the Group, through its various subsidiaries, provides a whole range of financial services which includes Life Insurance, Merchant Banking, Mutual Funds, Credit Card, Factoring, Security trading and primary dealership in the Money Market.e.1) Associates Banks:SBI has six associate banks namely State Bank of Indore State Bank of Travancore State Bank of Bikaner and Jaipur State Bank of Mysore State Bank of Patiala State Bank of Hyderabad

e.2) Non-Banking Subsidiaries/Joint Venturesi) SBI Capital Markets Ltd, ii) SBI Mutual Funds, iii) SBI factor and commercial services Ltd, iv) SBI DFHI Ltd, v) SBI Cards and Payment Services Ltd, vi) SBI Life Insurance Company Ltd, vii) SBI Fund Management Pvt. Ltd, SBI

CHAPTER 2INDUSTRY ANALYSIS

Competitive forces model in the banking industry(PORTERS FIVE-FORCE MODEL)Prof. Michael Porters competitive forces Model applies to each and every company as well as industry. This model with regards to the Banking Industry is presented below.

(2)Potential Entrants is high as development financial institutions as well as private and foreign banks have entered in a big way.

(5)Organizing power of the supplier is high. With the new financial instruments they are asking higher return on the investments.(1)Rivalry among existing firms has increased with liberalization. New products and improved customer services is the focus.(4)Bargaining power of buyers is high as corporate can raise funds easily due to high competition.

(3)Threat from substitute is high due to competition from NBFCs and insurance companies as they offer a high rate of interest than banks.

Rivalry among existing firmsWith the process of liberalization, competition among the existing banks has increased. Each bank is coming up with new products to attract the customers and tailor made loans are provided. The quality of services provided by banks has improved drastically.1. Potential EntrantsPreviously the Development Financial Institutions mainly provided project finance and development activities. But they now entered into retail banking which has resulted into stiff competition among the exiting players.2. Threats from SubstitutesBanks face threats from Non-Banking Financial Companies. NBFCs offer a higher rate of interest.3. Bargaining Power of BuyersCorporate can raise their funds through primary market or by issue of GDRs, FCCBs. As a result they have a higher bargaining power. Even in the case of personal finance, the buyers have a high bargaining power. This is mainly because of competition.4. Bargaining Power of Suppliers With the advent of new financial instruments providing a higher rate of returns to the investors, the investments in deposits is not growing in a phased manner. The suppliers demand a higher return for the investments.5. Overall AnalysisThe key issue is how can banks leverage their strengths to have a better future. Since the availability of funds is more and deployment of funds is less, banks should evolve new products and services to the customers. There should be a rational thinking in sanctioning loans, which will bring down the NPAs. As there is a expected revival in the Indian economy Banks have a major role to play. Funding corporate at a low cost of capital is a special requisite.

SWOT ANALYSISThe banking sector is also taken as a proxy for the economy as a whole. The performance of bank should therefore, reflect Trends in the Indian Economy. Due to the reforms in the financial sector, banking industry has changed drastically with the opportunities to the work with, new accounting standards new entrants and information technology. The deregulation of the interest rate, participation of banks in project financing has changed in the environment of banks.The performance of banking industry is done through SWOT Analysis. It mainly helps to know the strengths and Weakness of the industry and to improve will be known through converting the opportunities into strengths. It also helps for the competitive environment among the banks.

a) STRENGTHS

1. Availability of FundsThere are seven lakh crore wroth of deposits available in the banking system. Because of the recession in the economy and volatility in capital markets, consumers prefer to deposit their money in banks. This is mainly because of liquidity for investors.2. Banking networkAfter nationalization, banks have expanded their branches in the country, which has helped banks build large networks in the rural and urban areas. Private banks allowed to operate but they mainly concentrate in metropolis.3. Large Customer BaseThis is mainly attributed to the large network of the banking sector. Depositers in rural areas prefer banks because of the failure of the NBFCs.4. Low Cost of CapitalCorporate prefers borrowing money from banks because of low cost of capital. Middle income people who want money for personal financing can look to banks as they offer at very low rates of interests. Consumer credit forms the major source of financing by banks.

b) WEAKNESS

1. Loan DeploymentBecause of the recession in the economy the banks have idle resources to the tune of 3.3 lakh crores. Corporate lending has reduced drastically2. Powerful UnionsNationalization of banks had a positive outcome in helping the Indian Economy as a whole. But this had also proved detrimental in the form of strong unions, which have a major influence in decision-making. They are against automation.3. Priority Sector LendingTo uplift the society, priority sector lending was brought in during nationalization. This is good for the economy but banks have failed to manage the asset quality and their intensions were more towards fulfilling government norms. As a result lending was done for non-productive purposes.4. High Non-Performing AssetsNon-Performing Assets (NPAs) have become a matter of concern in the banking industry. This is because of change in the total outstanding advances, which has to be reduced to meet the international standards.

c) OPPORTUNITIES

1. Universal BankingBanks have moved along the valve chain to provide their customers more products and services. For example: - SBI is into SBI home finance, SBI Capital Markets, SBI Bonds etc.2. Differential Interest RatesAs RBI control over bank reduces, they will have greater flexibility to fix their own interest rates which depends on the profitability of the banks.

3. High Household SavingsHousehold savings has been increasing drastically. Investment in financial assets has also increased. Banks should use this opportunity for raising funds.4. Overseas MarketsBanks should tape the overseas market, as the cost of capital is very low.5. Interest BankingThe advance in information technology has made banking easier. Business can effectively carried out through internet banking.

d) THREATS

1. NBFCs, Capital Markets and Mutual fundsThere is a huge investment of household savings. The investments in NBFCs deposits, Capital Market Instruments and Mutual Funds are increasing. Normally these instruments offer better return to investors.2. Change in the Government PolicyThe change in the government policy has proved to be a threat to the banking sector.3. InflationThe interest rates go down with a fall in inflation. Thus, the investors will shift his investments to the other profitable sectors.4. RecessionDue to the recession in the business cycle the economy functions poorly and this has proved to be a threat to the banking sector. The market oriented economy and globalization has resulted into competition for market share. The spread in the banking sector is very narrow. To meet the competition the banks has to grow at a faster rates and reduce the overheads. They can introduce the new products and develop the existing services.

CHAPTER 3INTRODUCTION TO SMESME

1 Concept:The small-scale industries (SSI) produce about 8000 products, contribute 40% of the industrial output and offer the largest employment after agriculture. The sector, therefore, presents an opportunity to the nation to harness local competitive advantages for achieving global dominance.

2 From SSI to SME:Defining the New Paradigm2.1 Government policy as well as credit policy has so far concentrated on manufacturing units in the small-scale sector. The lowering of trade barriers across the globe has increased the minimum viable scale of enterprises. The size of the unit and technology employed for firms to be globally competitive is now of a higher order. The definition of small-scale sector needs to be revisited and the policy should consider inclusion of services and trade sectors within its ambit. In keeping with global practice, there is also a need to broaden the current concept of the sector and include the medium enterprises in a composite sector of Small and Medium Enterprises (SMEs). A comprehensive legislation, which would enable the paradigm shift from small-scale industry to small and medium enterprises under consideration of Parliament. The Reserve Bank of India had meanwhile set up an Internal Group which has recommended: Current SSI/tiny industries definition may continue. Units with investment in plant and machinery in excess of SSI limit and up to Rs.10 crore may be treated as Medium Enterprises (ME). The definition may be reviewed after enactment of the Small and Medium Enterprises Development Bill.3Definition of SMEs- At present, a small scale industrial unit is an undertaking in which investment in plant and machinery, does not exceed Rs.1 crore, except in respect of certain specified items under hosiery, hand tools, drugs and pharmaceuticals, stationery items and sports goods, where this investment limit has been enhanced to Rs 5 crore. Units with investment in plant and machinery in excess of SSI limit and up to Rs. 25 crore may be treated as Medium Enterprises (ME). The Government of India has enacted the Micro, Small and Medium Enterprises Development (MSMED) Act 2006 which was notified on October 2, 2006. The definition of the small and medium enterprises as provided in the Act (Annex VII) will have immediateeffect.

4 Eligibility criteria(i) These guidelines would be applicable to the following entities, which are viable or potentially viable:a) All non-corporate SMEs irrespective of the level of dues to banks. b) All corporate SMEs, which are enjoying banking facilities from a single bank, irrespective of the level of dues to the bank.c) All corporate SMEs, which have funded and non-funded outstandingup toRs.10 crore under multiple/ consortium banking arrangement.(ii) Accounts involving willful default, fraud and malfeasance will not be eligiblefor restructuring under these guidelines. (iii) Accountsclassified by banks as Loss Assets willnot be eligible forrestructuring.(iv)In respect of BIFR cases banks should ensure completion of allformalities in seeking approval from BIFR before implementing the package.

SME: At present, a small scale industrial unit is an industrial undertaking in which investment in plant and machinery, does not exceed Rs.1 crore except in respect of certain specified items under hosiery, hand tools, drugs and pharmaceuticals, stationery items and sports goods where this investment limit has been enhanced to Rs.5 crore. A comprehensive legislation which would enable the paradigm shift from small scale industry to small and medium enterprises is under consideration of Parliament. Pending enactment of the above legislation, current SSI/tiny industries definition may continue. Units with investment in plant and machinery in excess of SSI limit and up to Rs.10 crore may be treated as Medium Enterprises (ME). Only SSI financing will be included in Priority Sector. All banks may fix self-targets for financing to SME sector so as to reflect a higher disbursement over the immediately preceding year, while the sub-targets for financing tiny units and smaller units to the extent of 40% and 20% respectively may continue. Banks may arrange to compile data on outstanding credit to SME sector as on March 31, 2005 as per new definition and also showing the break up separately for tiny, small and medium enterprises.Banks may initiate necessary steps to rationalize the cost of loans to SME sector by adopting a transparent rating system with cost of credit being linked to the credit rating of enterprise. SIDBI has developed a Credit Appraisal & Rating Tool (CART) as well as a Risk Assessment Model (RAM) and a comprehensive rating model for risk assessment of proposals for SMEs. The banks may consider to take advantage of these models as appropriate and reduce their transaction costs.In order to increase the outreach of formal credit to the SME sector, all banks, including Regional Rural Banks may make concerted efforts to provide credit cover on an average to at least 5 new small/medium enterprises at each of their semi urban/urban branches per year.A debt restructuring mechanism for nursing of sick units in SME sector and a One Time Settlement (OTS) Scheme for small scale NPA accounts in the books of the banks as on March 31, 2004 are being introduced.5 Challenges faced by SME:The challenges being faced by the small and medium sector may be briefly set out as follows-a) Small and Medium Enterprises (SME), particularly the tiny segment of the small enterprises have inadequate access to finance due to lack of financial information and non-formal business practices. SMEs also lack access to private equity and venture capital and have a very limited access to secondary market instruments.b) SMEs face fragmented markets in respect of their inputs as well as products and are vulnerable to market fluctuations.c) SMEs lack easy access to inter-state and international markets.d) The access of SMEs to technology and product innovations is also limited. There is lack of awareness of global best practices.e) SMEs face considerable delays in the settlement of dues/payment of bills by the large scale buyers. With the deregulation of the financial sector, the ability of the banks to service the credit requirements of the SME sector depends on the underlying transaction costs, efficient recovery processes and available security. There is an immediate need for the banking sector to focus on credit and SMEs.

CHAPTER 4OVERVIEW OF CREDIT APPRAISALCredit appraisal means an investigation/assessment done by the bank prior before providing any loans & advances/project finance & also checks the commercial, financial & technical viability of the project proposed its funding pattern & further checks the primary & collateral security cover available for recovery of such funds.Brief overview of credit:Credit Appraisal is a process to ascertain the risks associated with the extension of the credit facility. It is generally carried by the financial institutions which are involved in providing financial funding to its customers. Credit risk is a risk related to non repayment of the credit obtained by the customer of a bank. Thus it is necessary to appraise the credibility of the customer in order to mitigate the credit risk. Proper evaluation of the customer is performed which measures the financial condition and the ability of the customer to repay back the loan in future. Generally the credit facilities are extended against the security know as collateral. But even though the loans are backed by the collateral, banks are normally interested in the actual loan amount to be repaid along with the interest. Thus, the customer's cash flows are ascertained to ensure the timely payment of principal and the interest. It is the process of appraising the credit worthiness of a loan applicant. Factors like age, income, number of dependents, nature of employment, continuity of employment, repayment capacity, previous loans, credit cards, etc. are taken into account while appraising the credit worthiness of a person. Every bank or lending institution has its own panel of officials for this purpose.However the 3 C of credit are crucial & relevant to all borrowers/ lending which must be kept in mind at all times. Character Capacity Collateral

If any one of these are missing in the equation then the lending officer must question the viability of credit.There is no guarantee to ensure a loan does not run into problems; however if proper credit evaluation techniques and monitoring are implemented then naturally the loan loss probability / problems will be minimized, which should be the objective of every lending officer.Credit is the provision of resources (such as granting a loan) by one party to another party where that second party does not reimburse the first party immediately, thereby generating a debt, and instead arranges either to repay or return those resources (or material(s) of equal value) at a later date. The first party is called a creditor, also known as a lender, while the second party is called a debtor, also known as a borrower. Credit allows you to buy goods or commodities now, and pay for them later. We use credit to buy things with an agreement to repay the loans over a period of time. The most common way to avail credit is by the use of credit cards. Other credit plans include personal loans, home loans, vehicle loans, student loans, small business loans, trade.A credit is a legal contract where one party receives resource or wealth from another party and promises to repay him on a future date along with interest. In simple terms, a credit is an agreement of postponed payments of goods bought or loan. With the issuance of a credit, a debt is formed.

Basic types of creditThere are four basic types of credit. By understanding how each works, you will be able to get the most for your money and avoid paying unnecessary charges. Service credit is monthly payments for utilities such as telephone, gas, electricity, and water. You often have to pay a deposit, and you may pay a late charge if your payment is not on time. Loans let you borrow cash. Loans can be for small or large amounts and for a few days or several years. Money can be repaid in one lump sum or in several regular payments until the amount you borrowed and the finance charges are paid in full. Loans can be secured or unsecured. Installment credit may be described as buying on time, financing through the store or the easy payment plan. The borrower takes the goods home in exchange for a promise to pay later. Cars, major appliances, and furniture are often purchased this way. You usually sign a contract, make a down payment, and agree to pay the balance with a specified number of equal payments called installments. The finance charges are included in the payments. The item you purchase may be used as security for the loan.Credit cards are issued by individual retail stores, banks, or businesses. Using a credit card can be the equivalent of an interest-free loan--if you pay for the use of it in full at the end of each month.

Brief overview of loans:

Loans can be of two types fund base & non-fund base:

FUND BASE includes:

Working Capital Term Loan

NON-FUND BASE includes:

Letter of Credit Bank Guarantee Bill Discounting

FUND BASE: -

WORKING CAPITAL: -1. GeneralThe objective of running any industry is earning profits. An industry will require funds to acquire fixed assets like land, building, plant, machinery, equipments, vehicles, tools etc., & also to run the business i.e. its day to day operations.Funds required for day to-day working will be to finance production & sales. For production, funds are needed for purchase of raw materials/ stores/ fuel, for employment of labour, for power charges etc., for storing finishing goods till they are sold out & for financing the sales by way of sundry debtors/ receivables.Capital or funds required for an industry can therefore be bifurcated as fixed capital & working capital. Working capital in this context is the excess of current assets over current liabilities. The excess of current assets over current liabilities is treated as net working capital or liquid surplus & represents that portion of the working capital, which has been provided from the long-term source.

2. DEFINITIONWorking capital is defined as the funds required to carry the required levels of current assets to enable the unit to carry on its operations at the expected levels uninterruptedly.

Thus Working Capital Required is dependent on(a) The volume of activity (viz. level of operations i.e. Production & sales)(b) The activity carried on viz. mfg process, product, production programme, the materials & marketing mix.

3. Methods & Application

SEGMENTLIMITSMETHOD

SSIUpto Rs 5 crTraditional Method & Nayak Committee method

Above Rs 5 crProjected Balance Sheet Method

SBFAll loansTraditional / Turnover Method

C&I Trade & ServicesUpto Rs 1 crTraditional Method for Trade &Projected Turnover Method

Above Rs 1 cr& upto Rs 5 crProjected Balance Sheet Method &Projected Turnover Method

Above Rs 5 crProjected Balance Sheet Method

C&I Industrial UnitsBelow Rs 25 lacs Traditional Method

Rs 25 lacs &Over but uptoRs 5 crProjected Balance Sheet Method &Projected Turnover Method

Above Rs 5 crProjected Balance Sheet Method

4. Operating cycle method

4.1 Any manufacturing activity is characterized by a cycle of operations consisting of purchase of purchase of raw materials for cash, converting these into finished goods & realizing cash by sale of these finished goods.

4.2 Diagrammatically, the operating cycle is represented as under

4.3 The time that lapses between cash outlay & cash realization by sale of finished goods & realization of sundry debtors is known as the length of the operating cycle.

4.4 That is, the operating cycle consists of:

Time taken to acquire raw materials & average period for which they are in store. Conversion process time Average period for which finished goods are in store & Average collection period of receivables (Sundry Debtors)

4.5 Operating cycle is also called the cash-to-cash cycle & indicates how cash is converted into raw materials, stocks in process, finished goods, bills (receivables) & finally back to cash. Working capital is the total cash that is circulating in this cycle. Therefore, working capital can be turned over or redeployed after completing the cycle.

4.6 The length of the operating cycle = a+b+c+d (as in 4.4)

If a = 60 days b = 10 days c = 20 days d = 30 days

The operating cycle is 120 days (nearly 4 months). This means there are 365/120 = 3 cycles of operations in a year.

Sales = Rs. 1,00,000 per annum Operating expenses = Rs. 72,000 per annum

But the working capital requirement, as you know, is not Rs. 72,000.

In these cases, there are 3 operating cycles in a year. That means each rupee of working deployed in the unit is turned over 3 times in a year. (This is also known as working capital turnover ratio). Therefore WCR = Operating Expenses = Rs. 72,000/- = Rs. 24,000/- No. of cycles per annum 3 WCR is therefore not Rs. 72,000/- but only Rs. 24,000/-

4.7 Assessment of Working Capital Requirement & Permissible Bank Finance using Operating Cycle Concept

Let us consider a case of a unit where:

Sales = Rs. 20,000 p.m. (A) Raw Materials = Rs. 14,000 p.m. Wages = Rs. 2,000 p.m. Other manufacturing Expenses = Rs. 3,000 p.m. Total expenses = Rs. 19,000 p.m. (B) Profit = Rs. 1,000 P.m. (C) The operating cycle is Raw Materials = 15 days Stock in Process = 2 days FG = 3 days Sundry Debtors = 15 days The total length of Operating cycle = 35 days (D)

WCR = B * D = 19,000 * 35 = Rs. 22,167/- (approx.) 30 30 Where B = Operating Expenses; & D = Length of Operating cycle

The length of the operating cycle is different from industry to industry and from one firm to another within the same industry. For instance, the operating cycle of a pharmaceutical unit would be quite different from one engaged in the manufacture of machine tools. The operating cycle concept enables us to assess the working capital need of each enterprise keeping in view the peculiarities of the industry it is engaged in and its scale of operations. Operating cycle is an important management tool in decision-making.

Traditional Method of Assessment of Working Capital RequirementThe operating cycle concept serves to identify the areas requiring improvement for the purpose of control and performance review. But, as bankers, we require a more detailed analysis to assess the various components of working capital requirement viz., finance forstocks, bills etc. Bankers provide working capital finance for holding an acceptable level of current assets, viz. raw materials, stocks-in-process, finished goods and sundry debtors for achieving a predetermined level of production and sales. Quantification of these funds required to be blocked in each of these items of current assets at any time will, therefore provide a measure of the working capital requirement (WCR) of an industry.

It can thus be summarized as follows:

Projected Annual Turnover Method for SSI units (Nayak Committee)For SSI units which enjoy fund based working capital limits up to Rs.5 cr, the minimum working capital limit should be fixed on the basis of projected annual turnover. 25% of the output or annual turnover value should be computed as the quantum of working capital required by such unit .The unit should be required to bring in 5% of their annual turnover as margin money and the Bank shall provide 20% of the turnover as working capital finance. Nayak committee Guidelines correspond to working capital limits as per the Operating Cycle method where the average production / processing cycle is taken to be 3 months (i.e. working capital would be turned over 4 times in a year).

Projected Annual Turnover Method for C & I industrial units (limits upto Rs 5 cr)Bank has decided to extend Nayak Committee approach for assessment of limits to C&I industrial units requiring credit limits upto Rs.5 cr. That is, credit requirement up to Rs.5 crores of C&I borrowers (industrial units) may be assessed at a minimum of 20% of projected annual turnover. In other words, the working capital requirement will be assessed at 25% of projected annual turnover, of which 5% should be borne by entrepreneur as margin and 20% would be allowed as Bank Drawings. While accepting projected annual sales turnover, a cap of 25% over actual annual sales turnover in the immediately preceding year should be set, except where production capacity has been substantially increased.

Projected Annual Turnover Method for Business Enterprises in Trade & ServicesSector:i) For working Capital limits up to Rs. 5 cr to C&I(Trade) sector, the assessment of credit limit is to be based upon annual turnover. Thus, an across the board credit limit equal to 15% of projected annual turnover be offered to business enterprises in the T&S sector. It would be available for utilization generally as a cash credit limit. However, where needed an LC limit (as a sub-limit of total), may also be allowed.ii) The credit limit would be secured by hypothecation charge on the current assets of the enterprise. Periodical stock statements are to be obtained and margin of 25% be retained.iii) Credit limits under this assessment method may be offered to established (at least 3 years old) profit making business enterprises, eligible for credit rating of SB-4 and above. Mortgage of property valued at least at 33% of the limit is to be prescribed. Further, an interest rebate of 0.50% p.a. may be given to borrowers who offer mortgage of property valued at over 75% of the credit limit.iv) While accepting projected annual sales turnover, a cap of 25% over actual annual sales turnover in the immediately preceding year should be set. When circumstances warrant its breach, reasons therefor should be recorded.v) Where borrowers indicate need for credit limits which are higher than the amount indicated above, assessment under the traditional PBS method may be resorted to.Projected Balance Sheet Method (PBS)The PBS method of assessment will be applicable to all C&I borrowers who are engaged in manufacturing, services, and trading activities, including merchant exports and who require fund based working capital finance of Rs. 25 lacs and above. In the case of SSI borrowers, who require working capital credit limit up to Rs.5 cr, the limit shall be computed on the basis of Nayak Committee formula as well as that based on production and operating cycle of the unit and the higher of the two may be sanctioned. Fund based working capital credit limits beyond Rs 5 cr for SSI units shall be computed in the same way as for C&I units. For business enterprises in Trade and Services Sector, where the projected turnover method is not applicable, PBS method shall be followed.8.1 In the Projected Balance Sheet (PBS) method, the borrowers total business operations, financial position, management capabilities etc. are analyzed in detail to assess the working capital finance required and to evaluate the overall risk of the exposure. The following financial analysis is also to be carried out:

Analysis of the borrowers Profit and Loss account, Balance Sheet, Funds Flow etc. for the past periods is done to examine the profitability, financial position, financial management, etc. in the business. Detailed scrutiny and validation of the projected income and expense in the business, and projected changes in the financial position (sources and uses of funds) are carried out to examine if these are acceptable from the angle of liquidity, overall gearing, efficiency of operations etc.

8.2 There will not be a prescription like mandatory minimum current ratio or maximum level of a current asset (inventory and receivables holding level norms) under PBS method. Under the PBS method, assessment of WC requirement will be carried out in respect of each borrower with proper examination of all parameters relevant to the borrower and their acceptability.

TERM LOAN:1. A term loan is granted for a fixed term of not less than 3 years intended normally for financing fixed assets acquired with a repayment schedule normally not exceeding 8 years. 2. A term loan is a loan granted for the purpose of capital assets, such as purchase of land, construction of, buildings, purchase of machinery, modernization, renovation or rationalization of plant, & repayable from out of the future earning of the enterprise, in installments, as per a prearranged schedule.From the above definition, the following differences between a term loan & the working capital credit afforded by the Bank are apparent: The purpose of the term loan is for acquisition of capital assets. The term loan is an advance not repayable on demand but only in installments ranging over a period of years. The repayment of term loan is not out of sale proceeds of the goods & commodities per se, whether given as security or not. The repayment should come out of the future cash accruals from the activity of the unit. The security is not the readily saleable goods & commodities but the fixed assets of the units.3. It may thus be observed that the scope & operation of the term loans are entirely different from those of the conventional working capital advances. The Banks commitment is for a long period & the risk involved is greater. An element of risk is inherent in any type of loan because of the uncertainty of the repayment. Longer the duration of the credit, greater is the attendant uncertainty of repayment & consequently the risk involved also becomes greater.4. However, it may be observed that term loans are not so lacking in liquidity as they appear to be. These loans are subject to a definite repayment programme unlike short term loans for working capital (especially the cash credits) which are being renewed year after year. Term loans would be repaid in a regular way from the anticipated income of the industry/ trade.5. These distinctive characteristics of term loans distinguish them from the short term credit granted by the banks & it becomes necessary therefore, to adopt a different approach in examining the applications of borrowers for such credit & for appraising such proposals.6. The repayment of a term loan depends on the future income of the borrowing unit. Hence, the primary task of the bank before granting term loans is to assure itself that the anticipated income from the unit would provide the necessary amount for the repayment of the loan. This will involve a detailed scrutiny of the scheme, its financial aspects, economic aspects, technical aspects, a projection of future trends of outputs & sales & estimates of cost, returns, flow of funds & profits.

7. Appraisal of Term Loans Appraisal of term loan for, say, an industrial unit is a process comprising several steps. There are four broad aspects of appraisal, namely

Technical Feasibility - To determine the suitability of the technology selected & the adequacy of the technical investigation & design;

Economic Feasibility - To ascertain the extent of profitability of the project & its sufficiency in relation to the repayment obligations pertaining to term assistance;

Financial Feasibility - To determine the accuracy of cost estimates, suitability of the envisaged pattern of financing & general soundness of the capital structure; &

Managerial Competency To ascertain that competent men are behind the project to ensure its successful implementation & efficient management after commencement of commercial production.

7.1 Technical FeasibilityThe examination of this item consists of an assessment of the various requirement of the actual production process. It is in short a study of the availability, costs, quality & accessibility of all the goods & services needed. a) The location of the project is highly relevant to its technical feasibility & hence special attention will have to be paid to this feature. Projects whose technical requirements could have been taken care of in one location sometimes fail because they are established in another place where conditions are less favorable. One project was located near a river to facilitate easy transportation by barge but lower water level in certain seasons made essential transportation almost impossible. Too many projects have become uneconomical because sufficient care has not been taken in the location of the project, e.g. a woolen scouring & spinning mill needed large quantities of good water but was located in a place which lacked ordinary supply of water & the limited water supply available also required efficient softening treatment. The accessibility to the various resources has meaning only with reference to location. Inadequate transport facilities or lack of sufficient power or water for instance, can adversely affect an otherwise sound industrial project.b) Size of the plant One of the most important considerations affecting the feasibility of a new industrial enterprise is the right size of the plant. The size of the plant will be such that it will give an economic product, which will be competitive when compared to the alternative product available in the market. A smaller plant than the optimum size may result in increased production costs & may not be able to sell its products at competitive prices.c) Type of technology An important feature of the feasibility relates to the type of technology to be adopted for a project. A new technology will have to be fully examined & tired before it is adopted. It is equally important to avoid adopting equipment or processes which are absolute or likely to become outdated soon. The principle underlying the technological selection is that a developing country cannot afford to be the first to adopt the new nor yet the last to cast the old aside.d) Labour The labour requirements of a project, need to be assessed with special care. Though labour in terms of unemployed persons is abundant in the country, there is shortage of trained personnel. The quality of labour required & the training facilities made available to the unit will have to be taken into accounte) Technical Report A technical report using the Banks Consultancy Cell, external consultants, etc., should be obtained with specific comments on the feasibility of scheme, its profitability, whether machinery proposed to be acquired by the unit under the scheme will be sufficient for all stages of production, the extent of competition prevailing, marketability of the products etc., wherever necessary.

7.2 Economic FeasibilityAn economic feasibility appraisal has reference to the earning capacity of the project. Since earnings depend on the volume of sales, it is necessary to determine how much output or the additional production from an established unit the market is likely to absorb at given prices.a) A thorough market analysis is one of the most essential parts of project investigation. This involves getting answers to three questions.a) How big is the market?b) How much it is likely to grow?c) How much of it can the project capture?The first step in this direction is to consider the current situation, taking account of the total output of the product concerned & the existing demand for it with a view to establishing whether there is unsatisfied demand for the product. Care should be taken to see that there is no idle capacity in the existing industries. ii) Future possible future changes in the volume & patterns of supply & demand will have to be estimated in order to assess the long term prospects of the industry. Forecasting of demand is a complicated matter but one of the vital importance. It is complicated because a variety of factors affect the demand for product e.g. technological advances could bring substitutes into market while changes in tastes & consumer preference might cause sizable shifts in demand.iii) Intermediate product The demand for Intermediate product will depend upon the demand & supply of the ultimate product (e.g. jute bags, paper for printing, parts for machines, tyres for automobiles). The market analysis in this case should cover the market for the ultimate product.

7.3 Financial FeasibilityThe basis data required for the financial feasibility appraisal can be broadly grouped under the following headsi) Cost of the project including working capitalii) Cost of production & estimates of profitabilityiii) Cash flow estimates & sources of finance.

The cash flow estimates will help to decide the disbursal of the term loan. The estimate of profitability & the break even point will enable the banker to draw up the repayment programme, start-up time etc. The profitability estimates will also give the estimate of the Debt Service Coverage which is the most important single factor in all the term credit analysis.A study of the projected balance sheet of the concern is essential as it is necessary for the appraisal of a term loan to ensure that the implementation of the proposed scheme.Break-even point:In a manufacturing unit, if at a particular level of production, the total manufacturing cost equals the sales revenue, this point of no profit/ no loss is known as the break-even point. Break-even point is expressed as a percentage of full capacity. A good project will have reasonably low break-even point which not be encountered in the projections of future profitability of the unit.Debt/ Service Coverage:The debt service coverage ratio serves as a guide to determining the period of repayment of a loan. This is calculated by dividing cash accruals in a year by amount of annual obligations towards term debt. The cash accruals for this purpose should comprise net profit after taxes with interest, depreciation provision & other non cash expenses added back to it.

Debt Service = Cash accruals Coverage Ratio Maturing annual obligations

This ratio is valuable, in that it serves as a measure of the repayment capacity of the project/ unit & is, therefore, appropriately included in the cash flow statements. The ratio may vary from industry to industry but one has to view it with circumspection when it is lower than the benchmark of 1.75. The repayment programme should be so stipulated that the ratio is comfortable.

7.4 Managerial CompetenceIn a dynamic environment, the capacity of an enterprise to forge ahead of its competitors depends to a large extent, on the relative strength of its management. Hence, an appraisal of management is the touchstone of term credit analysis.If there is a change in the administration & managerial set up, the success of the project may be put to test. The integrity & credit worthiness of the personnel in charge of the management of the industry as well as their experience in management of industrial concerns should be examined. In high cost schemes, an idea of the units key personnel may also be necessary.

NON-FUND BASE: -LETTER OF CREDIT Introduction The expectation of the seller of any goods or services is that he should get the payment immediately on delivery of the same. This may not materialize if the seller & the buyer are at different places (either within the same country or in different countries). The seller desires to have an assurance for payment by the purchaser. At the same time the purchaser desires that the amount should be paid only when the goods are actually received. Here arises the need of Letter of Credit (LCs). The objective of LC is to provide a means of payment to the seller & the delivery of goods & services to the buyer at the same time.Definition A Letter of Credit (LC) is an arrangement whereby a bank (the issuing bank) acting at the request & on the instructions of the customer (the applicant) or on its own behalf,i. is to make a payment to or to the order of a third party (the beneficiary), or is to accept & pay bills of exchange (drafts drawn by the beneficiary); orii. authorizes another bank to effect such payment, or to accept & pay such bills of exchanges (drafts); oriii. authorizes another bank to negotiate against stipulated document(s), provided that the terms & conditions of the credit are complied with.

Basic Principle:The basic principle behind an LC is to facilitate orderly movement of trade; it is therefore necessary that the evidence of movement of goods is present. Hence documentary LCs is those which contains documents of title to goods as part of the LC documents. Clean bills which do not have document of title to goods are not normally established by banks. Bankers and all concerned deal only in documents & not in goods. If documents are in order issuing bank will pay irrespective of whether the goods are of expected quality or not. Banks are also not responsible for the genuineness of the documents & quantity/quality of goods. If importer is your borrower, the bank has to advice him to convert all his requirements in the form of documents to ensure quantity & quality of goods.

Parties to the LC1) Applicant The buyer who applies for opening LC2) Beneficiary The seller who supplies goods3) Issuing Bank The Bank which opens the LC4) Advising Bank The Bank which advises the LC after confirming authenticity5) Negotiating Bank The Bank which negotiates the documents6) Confirming Bank The Bank which adds its confirmation to the LC7) Reimbursing Bank The Bank which reimburses the LC amount to negotiating bank8) Second beneficiary The additional beneficiary in case of transferable LCsConfirming bank may not be there in a transaction unless the beneficiary demand confirmation by his own bankers & such a request is made part of LC terms. A bank will confirm an LC for his beneficiary if opening bank requests this as part of LC terms. Reimbursing bank is used in an LC transaction by an opening bank when the bank does not have a direct correspondent/branch through whom the negotiating bank can be reimbursed. Here, the opening bank will direct the reimbursing bank to reimburse the negotiating bank with the payment made to the beneficiary. In the case of transferable LC, the LC may be transferred to the second beneficiary & if provided in the LC it can be transferred even more than once.Bank Guarantees:A contract of guarantee is defined as a contract to perform the promise or discharge the liability of the third person in case of the default. The parties to the contract of guarantees are:a) Applicant: The principal debtor person at whose request the guarantee is executedb) Beneficiary: Person to whom the guarantee is given & who can enforce it in case of default.c) Guarantee: The person who undertakes to discharge the obligations of the applicant in case of his default.Thus, guarantee is a collateral contract, consequential to a main contract between the applicant & the beneficiary.Purpose of Bank GuaranteesBank Guarantees are used to for both both preventive & remedial purposes. The guarantees executed by banks comprises both performance guarantees & financial guarantees. The guarantees are structured according to the terms of agreement, viz., security, maturity & purpose.Branches may issue guarantees generally for the following purposes:a) In lieu of security deposit/earnest money deposit for participating in tenders;b) Mobilization advance or advance money before commencement of the project by the contractor & for money to be received in various stages like plant layout, design/drawings in project finance;c) In respect of raw materials supplies or for advances by the buyers;d) In respect of due performance of specific contracts by the borrowers & for obtaining full payment of the bills;e) Performance guarantee for warranty period on completion of contract which would enable the suppliers to realize the proceeds without waiting for warranty period to be over;f) To allow units to draw funds from time to time from the concerned indenters against part execution of contracts, etc.g) Bid bonds on behalf of exportersh) Export performance guarantees on behalf of exporters favouring the Customs Department under EPCG scheme.

Guidelines on conduct of Bank Guarantee businessBranches, as a general rule, should limit themselves to the provision of financial guarantees & exercise due caution with regards to performance guarantee business. The subtle difference between the two types of guarantees is that under a financial guarantee, a bank guarantees a customer financial worth, creditworthiness & his capacity to take up financial risks. In a performance guarantee, the banks guarantee obligations relate to the performance related obligations of the applicant (customer).While issuing financial guarantees, it should be ensured that customers should be in a position to reimburse the Bank in case the Bank is required to make the payment under the guarantee. In case of performance guarantee, branches should exercise due caution & have sufficient experience with the customer to satisfy themselves that the customer has the necessary experience, capacity, expertise, & means to perform the obligations under the contract & any default is not likely to occur.Branches should not issue guarantees for a period more than 18 months without prior reference to the controlling authority. Extant instructions stipulate an Administrative Clearance for issue of BGs for a period in excess of 18 months. However, in cases where requests are received for extension of the period of BGs as long as the fresh period of extension is within 18 months. No bank guarantee should normally have a maturity of more than 10 years. Bank guarantee beyond maturity of 10 years may be considered against 100% cash margin with prior approval of the controlling authority.More than ordinary care is required to be executed while issuing guarantees on behalf of customers who enjoy credit facilities with other banks. Unsecured guarantees, where furnished by exception, should be for a short period & for relatively small amounts. All deferred payment guarantee should ordinarily be secured.Appraisal of Bank Guarantee LimitProposals for guarantees shall be appraised with the same diligence as in the case of fund-base limits. Branches may obtain adequate cover by way of margin & security so as to prevent default on payments when guarantees are invoked. Whenever an application for the issue of bank guarantee is received, branches should examine & satisfy themselves about the following aspects:a) The need of the bank guarantee & whether it is related to the applicants normal trade/business.b) Whether the requirement is one time or on the regular basisc) The nature of bank guarantee i.e., financial or performanced) Applicants financial strength/ capacity to meet the liability/ obligation under the bank guarantee in case of invocation.e) Past record of the applicant in respect of bank guarantees issued earlier; e.g., instances of invocation of bank guarantees, the reasons thereof, the customers response to the invocation, etc.f) Present o/s on account of bank guarantees already issuedg) Marginh) Collateral security offered

Format of Bank GuaranteesBank guarantees should normally be issued on the format standardized by Indian Banks Association (IBA). When it is required to be issued on a format different from the IBA format, as may be demanded by some of the beneficiary Government departments, it should be ensured that the bank guarantee isa) for a definite period,b) for a definite objective enforceable on the happening of a definite event,c) for a specific amountd) in respect of bona fide trade/ commercial transactions,e) contains the Banks standard limitation clausef) not stipulating any onerous clause, &g) not containing any clause for automatic renewal of the bank guarantee on its expiryCREDIT APPRAISAL PROCESS

Receipt of application from applicant|Receipt of documents(Balance sheet, KYC papers, Different govt. registration no., MOA, AOA, and Properties documents)|Pre-sanction visit by bank officers|Check for RBI defaulters list, willful defaulters list, CIBIL data, ECGC caution list, etc.|Title clearance reports of the properties to be obtained from empanelled advocates|Valuation reports of the properties to be obtained from empanelled valuer/engineers|Preparation of financial data|Proposal preparation|Assessment of proposal|Sanction/approval of proposal by appropriate sanctioning authority|Documentations, agreements, mortgages|Disbursement of loan|Post sanction activities such as receiving stock statements, review of accounts, renew of accounts, etc (on regular basis)

CHAPTER-5SBI NORMS FOR CREDIT APPRAISAL

Credit appraisal means an investigation/assessment done by the bank prior before providing any loans & advances/project finance & also checks the commercial, financial & technical viability of the project proposed its funding pattern & further checks the primary & collateral security cover available for recovery of such funds.1. Loan policy An Introduction1.1 State Bank of Indias (SBI) Loan Policy is aimed at accomplishing its mission of retaining the banks position as a Premier Financial Services Group, with World class standards & significant global business, committed to excellence in customer, shareholder & employee satisfaction & to play a leading role in the expanding & diversifying financial services sector, while continuing emphasis on its Development Banking role.

1.2 The Loan Policy of the any bank has successfully withstood the test of time and with inbuilt flexibilities, has been able to meet the challenges in the market place. The policy exits & operates at both formal & informal levels. The formal policy is well documented in the form of circular instructions, periodic guidelines & codified instructions, apart from the Book of Instructions, where procedural aspects are highlighted.

1.3 The policy, at the holistic level, is an embodiment of the Banks approach to sanctioning, managing & monitoring credit risk & aims at making the systems & controls effective.

1.4 The Loan Policy also aims at striking a balance between underwriting assets of high quality, and customer oriented selling. The objective is to maintain Banks undisputed leadership in the Indian Banking scene.

1.5 The Policy aims at continued growth of assets while endeavoring to ensure that these remain performing & standard. To this end, as a matter of policy the Bank does not take over any Non-Performing Asset (NPA) from other banks.1.6 The Central Board of the Bank is the apex authority in formulating all matters of policy in the bank. The Board has permitted setting up of the Credit Policy & Procedures Committee (CPPC) at the Corporate Centre of the Bank of which the Top Management are members, to deal with issues relating to credit policy & procedures on a Bank-wide basis. The CPPC sets broad policies for managing credit risk including industrial rehabilitation, sets parameters for credit portfolio in terms of exposure limits, reviews credit appraisal systems, approves policies for compromises, write offs, etc. & general management of NPAs besides dealing with the issues relating to Delegation of Powers.

Based on the present indications, following exposure levels are prescribed:

Individuals as borrowers

Maximum aggregate credit facilities of Rs. 20 crores( Fund based & non-fund based )

Non-corporates( e.g. Partnerships, JHF, Associations )

Maximum aggregate credit facilities of Rs. 80 crores ( Fund based & non-fund based )

CorporatesMaximum aggregate credit facilities as per prudential norms of RBI on exposures

Term Loans (loans with residual maturity of over 3 years) should not in the aggregate exceed 35% of the total advances of SBI. The Bank shall endeavour to restrict fund based exposure to a particular industry to 15% of the Banks total fund based exposure. The Bank shall restrict the term loan exposure to infrastructure projects to 10% of Banks total advances. The Bank shall endeavour to restrict exposure to sensitive sectors (i.e. to capital market, real estate, and sensitive commodities listed by RBI) to 10% of Banks total advances. The Banks aggregate exposure to the capital markets shall not exceed 5% of the total outstanding advances (including commercial paper) as on March 31 of the previous year.

2. Credit Appraisal Standards1 (A) Qualitative:At the outset, the proposition is examined from the angle of viability & also from the Banks prudential levels of exposure to the borrower, Group & Industry. Thereafter, a view is taken about our past experience with the promoters, if there is a track record to go by. Where it is a new connection for the bank but the entrepreneurs are already in business, opinion reports from existing bankers & published data if available are carefully pursued. In case of a maiden venture, in addition to the drill mentioned heretofore, an element of subjectively has to be perforce introduced as scant historical data weightage to be placed on impressions gained out of the serious dialogues with the promoter & his business contacts.

1 (B) Quantitative:(a) Working capital:The basis quantitative parameters underpinning the Banks credit appraisal are as follows:-Sector/ ParametersMfgOthers

Liquidity Current Ratio (min.)1.331.20(For FBWC limits above Rs. 5 cr.)1.00(For FBWC limits upto Rs. 5 cr.))

Financial SoundnessTOL/TNW (max.)3.005.00

DSCRNet (min.)Gros (min.)2:11.75:12:11.75:1

GearingD/E (max.)2:12:1

Promoters contribution (min.)30% of equity20% of equity

(i) Liquidity:Current Ratio (CR) of 1.33 will generally be considered as a benchmark level of liquidity. However the approach has to be flexible. CR of 1.33 is only indicative & may not be deemed mandatory. In cases where the CR is projected at a lower than the benchmark or a slippage in the CR is proposed, it alone will not be a reason for rejection for the loan proposal or for the sanction of the loan at a lower level. In such cases, the reason for low CR or slippage should be carefully examined & in deserving cases the CR as projected may be accepted. In cases where projected CR is found acceptable, working capital finance as requested may be sanctioned. In specific cases where warranted, such sanction can be with the condition that the borrower should bring in additional long-term funds to a specific extent by a given future date. Where it is felt that the projected CR is not acceptable but the borrower deserves assistance subject to certain conditions, suitable written commitment should be obtained from the borrower to the effect that he would be bringing in required amounts within a mutually agreed time frame.(ii) Net Working Capital:Although this is a corollary of current ratio, the movements in Net Working Capital are watched to ascertain whether there is a mismatch of long term sources vis--vis long term uses for purposes which may not be readily acceptable to the Bank so that corrective measures can be suggested.(iii) Financial Soundness:This will be dependent upon the owners stake or the leverage. Here again the benchmark will be different for manufacturing, trading, hire-purchase & leasing concerns. For industrial ventures a Total Outside Liability/ Tangible Net worth ratio of 3.0 is reasonable but deviations in selective cases for understandable reasons may be accepted by the sanctioning authority.

(iv) Turn-Over:The trend in turnover is carefully gone into both in terms of quantity & valve as also market share wherever such data are available. What is more important to establish a steady output if not a rising trend in quantitative terms because sales realization may be varying on account of price fluctuations.(v) Profits:While net profit is ultimate yardstick, cash accruals, i.e., profit before depreciation & taxation conveys the more comparable picture in view of changes in rate of depreciation & taxation, which have taken place in the intervening years. However, for the sake of proper assessment, the non-operating income is excluded, as these are usually one time or extraordinary income. Companies incurring net losses consistently over 2 or more years will be given special attention, their accounts closely monitored, and if necessary, exit options explored.(vi) Credit Rating:Wherever the company has been rated by a Credit Rating Agency for any instrument such as CP / FD this will be taken into account while arriving at the final decision. However as the credit rating involves additional expenditure, we would not normally insist on this and only use this tool if such an agency had already looked into the company finances.

(b) Term Loan (i) In case of term loan & deferred payment guarantees, the project report is obtained from the customer, (ii) which may be compiled either in-house or by a firm of consultants/ merchant bankers. The technical feasibility & economic viability is vetted by the bank & wherever it is felt necessary, the Credit Officer would seek the benefit of a second opinion either from the Banks Technical Consultancy cell or from the consultants of the Bank/ SBI Capital Markets Ltd.(iii) Promoters contribution of at least 20% in the total equity is what we normally expect. But promoters contribution may vary largely in mega projects. Therefore there cannot be a definite benchmark. The sanctioning authority will have the necessary discretion to permit deviations.(iv) The other basic parameter would be the net debt service coverage ratio i.e. exclusive of interest payable, which should normally not go below 2. On a gross basis DSCR should not be below 1.75. These ratios are indicative & the sanctioning authority may permit deviations selectively.(v) As regards margin on security, this will depend on Debt: Equity gearing for the project, which should preferably be near about 1.5: 1 & should not in any case be above 2:1, i.e., Debt should not be more than 2 times the Equity contribution. The sanctioning authority in exceptional cases may permit deviations from the norm very selectively.(vi) Other parameters governing working capital facilities would also govern Term Credit facilities to the extent applicable.

(C) Lending to Non-Banking Financial Companies (NBFCs)

(D) Financing of infrastructure projects

(E) Lease Finance

(F) Letter of Credit, Guarantees & bills discounting

(G) Fair Practices for lenders

Documentation standards1: The systems and procedures for documentation have been laid down keeping in view the ultimate objective of documentation which is to serve as primary evidence in any dispute between the Bank and the borrower and for enforcing the Bank's right to recover the loan amount together with interest thereon (through a court of law as a final resort), inthe event of all other recourses proving to be of no avail. In order that this objective is achieved, our documentation process attempts to ensure that: The owing of the debt to the Bank by the borrower is clearly established by the documents. The charge created on the borrower's assets as security for the debt is maintained and enforceable The Bank's right to enforce the recovery of the debt through court of law is not allowed to become time-barred under the Law of Limitation. 2: Documentation is not confined to mere obtention of security documents at the outset. It is a continuous and ongoing process covering the entire duration of an advance comprising the following stages :(i) Pre-execution formalities:These cover mainly searches at the Office of Registrar of Companies and search of the Register of Charges (applicable to corporate borrowers), also capacity of borrowers to borrow and the formalities to be completed by the borrowers, searches at the office of the sub-Registrar of Assurances or Land Registry to check the existence or otherwise of prior charge over the immovable property offered as security, besides taking other precautions before creating equitable / registered mortgage.(ii) Execution of DocumentsThis covers obtention of proper documents, appropriate stamping and correct execution thereof as per terms of the sanction of the advance and the internal directives of a corporate borrower such as Memorandum and Articles of Association, etc. (iii) Post-execution formalitiesThis phase covers the completion of formalities in respect of mortgages, if any, registration with the Registrar of Assurances, wherever applicable, and the registration of charges with the Registrar of Companies within the stipulated period, etc..(iv) Protection from Limitation / Safeguarding SecuritiesThese measures aim at saving the documents from getting time-barred by limitation and protecting the securities charged to the Bank from being diluted by any charge that might be created by the borrower to secure his other debts, if any. These objectives are sought to be achieved by:(a) Obtention of revival letter within the stipulated period(b) Obtention of Balance Confirmation from the borrower at least at annual intervals(c) Making periodical searches at the Office of the Registrar of Companies.(d) Insurance of Assets charged - (unless specifically waived) to insure the Bank against the risk of fire, other hazards, etc..

3. Keeping the above broad objectives and the documentation process in view, the Bankhas devised standard documents in most cases for various types of loans given to the borrowers. Wherever standard specimens have not been evolved, these are suitably drafted on a case-by-case basis with the help of in-house legal department and, on occasions, with the help of reputed outside solicitors. Furthermore, changes in the documentation procedures and the implications involved are circularised from time to time to all the branches/offices so that those who are responsible for obtaining and safeguarding the documents are made fully conversant with them. This is further strengthened through on-the-job training at the branches as well as at the Bank's training colleges / centres, where the officials are briefed on the documentation procedures so that the Bank's interest is protected in this crucial area.4. In respect of consortium advances, the documents are generally executed in consultation with the other member banks in accordance with the guidelines laid down by RBI /IBA in the matter. Similarly, where advances are extended jointly with the financial institutions, documents are specially drafted in consultation with the solicitors / in-house legal experts to ensure pari passu charge and / or second charge, whichever is applicable, of the movable / immovable assets of the borrower to protect the Bank's interests.

5. While it is the Bank's endeavor to standardize documents for all types of facilities, in cases where documents have to be specially drafted, the Local Head Offices are empowered to vet and approve such documents for facilities which are sanctioned at their level. For facilities requiring sanction of COCC / ECCB, such specially drafted documents are cleared by the Corporate Centre.

3. Requirement of documents for process of loan

1. Application for requirement of loan

2. Copy of Memorandum & Article of Association

3. Copy of incorporation of business

4. Copy of commencement of business

5. Copy of resolution regarding the requirement of credit facilities

6. Brief history of company, its customers & supplies, previous track records, orders in hand. Also provide some information about the directors of the company

7. Financial statements of last 3 years including the provisional financial statement for the year 2008-09

8. Copy of PAN/TAN number of company

9. Copy of last Electricity bill of company

10. Copy of GST/CST number

11. Copy of Excise number

12. Photo I.D. of all the directors

13. Address proof of all the directors

14. Copies related to the property such as 7/12 & 8A utara, lease/ sa