CHAPTER – 1

INTRODUCTION

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1.0 OVERVIEW:

This chapter deals with an introduction to the entire project. It gives an idea about the
different types of risk and to understand the management of risk especially in banking sector.
This project mainly deals with the credit risk management, so this chapter gives a clear cut
study about the credit risk.

1.1 RISK:

Risk concerns the deviation of one or more results of one or more future events from their
expected value. Technically, the value of those results may be positive or negative. However,
general usage tends to focus only on potential harm that may arise from a future event, which
may accrue either from incurring a cost ("downside risk") or by failing to attain some benefit
There are different definitions of risk for each of several applications.

In one definition, "risks" are simply future issues that can be avoided or mitigated, rather than
present problems that must be immediately addressed.

The simple fact is that risk is always a probability issue. Possibility is a binary condition –
either something is possible, or it’s not – 100% or 0%. Probability reflects the continuum
between absolute certainty and impossibility. The key thing to keep in mind is that
establishing probabilities is not the same thing as foretelling the future.

There are many formal methods used to assess or to "measure" risk, which many consider to
be a critical factor in human decision making. Some of these quantitative definitions of risk
are well-grounded in sound statistics theory. However, these measurements of risk rely on
failure occurrence data which may be sparse.

Financial risk is often defined as the unexpected variability or volatility of returns and thus
includes both potential worse-than-expected as well as better-than-expected returns.

In statistics, risk is often mapped to the probability of some event seen as undesirable.
Usually, the probability of that event and some assessment of its expected harm must be
combined into a believable scenario (an outcome), which combines the set of risk, regret and
reward probabilities into an expected value for that outcome.

The risk is then assessed as a function of three variables:

1. the probability that there is a threat

2. the probability that there are any vulnerabilities

3. the potential impact to the business

i. Economic risk:

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Economic risks can be manifested in lower incomes or higher expenditures than expected.
The causes can be many, for instance, the hike in the price for raw materials, the lapsing of
deadlines for construction of a new operating facility, disruptions in a production process,
emergence of a serious competitor on the market, the loss of key personnel, the change of a
political regime, or natural disasters. Reference class forecasting was developed to eliminate
or reduce economic risk. Means of assessing risk vary widely between professions. Indeed,
they may define these professions; for example, a doctor manages medical risk, while a civil
engineer manages risk of structural failure. A professional code of ethics is usually focused
on risk assessment and mitigation (by the professional on behalf of client, public, society or
life in general).

In the workplace, incidental and inherent risks exist. Incidental risks are those that occur
naturally in the business but are not part of the core of the business. Inherent risks have a
negative effect on the operating profit of the business.

R = probability of the event × C

The total risk is then the sum of the individual class-risks.

ii. Financial risk:

In finance, risk is the probability that an investment's actual return will be different than
expected. This includes the possibility of losing some or all of the original investment. Some
regard a calculation of the standard deviation of the historical returns or average returns of a
specific investment as providing some historical measure of risk; see modern portfolio
theory. Financial risk may be market-dependent, determined by numerous market factors, or
operational, resulting from fraudulent behaviour. Recent studies suggest that testosterone
level plays a major role in risk taking during financial decisions.

Financial markets are considered to be a proving ground for general methods of risk
assessment. However, these methods are also hard to understand. The mathematical
difficulties interfere with other social goods such as disclosure, valuation and transparency. In
particular, it is not always obvious if such financial instruments are "hedging"
(purchasing/selling a financial instrument specifically to reduce or cancel\ the risk in another
investment) or "speculation" (increasing measurable risk and exposing the investor to
catastrophic loss in pursuit of very high windfalls that increase expected value).

As regret measures rarely reflect actual human risk-aversion, it is difficult to determine if the
outcomes of such transactions will be satisfactory. Risk seeking describes an individual

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whose utility function's second derivative is positive. Such an individual would willingly
(actually pay a premium to) assume all risk in the economy and is hence not likely to exist.

In financial markets, one may need to measure credit risk, information timing and source risk,
probability model risk, and legal risk if there are regulatory or civil actions taken as a result
of some "investor's regret". Knowing one's risk appetite in conjunction with one's financial
well-being is most crucial.

A fundamental idea in finance is the relationship between risk and return. The greater the
potential return one might seek, the greater the risk that one generally assumes. A free market
reflects this principle in the pricing of an instrument: strong demand for a safer instrument
drives its price higher (and its return proportionately lower), while weak demand for a riskier
instrument drives its price lower (and its potential return thereby higher).

1.2 RISK MANAGEMENT IN BANKING SECTOR:

Banks has always remained a backbone to facilitate & implement economic reforms &
provide a medium for a common man to make his dreams of earning a respectable &
deserving livelihood. Therefore, a well planned, developed, analyzed, implemented &
monitored in terms of policies & procedures comprising a well directed approach is required
to minimize & check the risk associated with it in terms of efficiency, profitability & above
all susceptibility to future trends & requirements.
As the future has disclosed the unpredictable & unpleasant situations, circumstances, human
being in spite of his knowledge, skill, technology & ability to sustain has till date remained a
subject prone to risk & danger of meeting the unpleasant tune of distress, loss &
misinterpreted calculations. Money which has always shared the priority since the time of
emergence of this materialistic world has made man & his well being a subject of outmost
concentration, consideration & concern to keep a suitable & stable check of all the activities
& attributes marking it. This is the only universal truth & fact that relates to common man as
well as to a business tycoon in terms of its priority thrust area.

The concept of seeking a satisfaction in terms of security & opportunity to earn on a better
preposition minimizing the risk to the best possible extent has what contributed to the
emergence of the most driving & deterministic variable of the economy of an individual
alone & also the net worth of the country’s financial strength i.e. the banking sector. The only
assure way of making investments & exploiting limited resources to safeguard against
mismatch of reality to a fantasized proposal is what guarantees a contract being entered with
bank.

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There are different types of risk in bank. It can be mainly classified into mainly three types of
risks. They are:

i. Operational risk:

An operational risk is, as the name suggests, a risk arising from execution of a company's
business functions. It is a very broad concept which focuses on the risks arising from the
people, systems and processes through which a company operates. It also includes other
categories such as fraud risks, legal risks, physical or environmental risks.

The approach to managing operational risk differs from that applied to other types of risk,
because it is not used to generate profit. In contrast, credit risk is exploited by lending
institutions to create profit, market risk is exploited by traders and fund managers, and
insurance risk is exploited by insurers. They all however manage operational risk to keep
losses within their risk appetite - the amount of risk they are prepared to accept in pursuit of
their objectives. What this means in practical terms is that organisations accept that their
people, processes and systems are imperfect, and that losses will arise from errors and
ineffective operations. The size of the loss they are prepared to accept, because the cost of
correcting the errors or improving the systems is disproportionate to the benefit they will
receive, determines their appetite for operational risk.

The Basel Committee defines operational risk as:

"The risk of loss resulting from inadequate or failed internal processes, people and systems or
from external events."

Methods of operational risk management:

• Basic Indicator Approach - based on annual revenue of the Financial Institution

• Standardized Approach - based on annual revenue of each of the broad business lines
of the Financial Institution

• Advanced Measurement Approaches - based on the internally developed risk

measurement framework of the bank adhering to the standards prescribed (methods
include IMA, LDA, Scenario-based, Scorecard etc.)

Types of Operational Risks:

a) Political risk
b) Legal Risk.

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i. Market risk:

Market risk is the risk that the value of an investment will decrease due to moves in market
factors. Market risk can also be contrasted with Specific risk, which measures the risk of a
decrease in ones investment due to a change in a specific industry or sector, as opposed to a
market-wide move.

Types:
The four standard market risk factors include:

• Equity risk, or the risk that stock prices will change.

• Interest rate risk, or the risk that interest rates will change.

• Currency risk, or the risk that foreign exchange rates will change.

• Commodity risk, or the risk that commodity prices (i.e. grains, metals, etc.) will
change.

i. Credit risk:

Credit risk is defined as the possibility of losses associated with diminution in the credit
quality of borrowers or counterparties. In a bank’s portfolio, losses stem from outright default
due to inability or unwillingness of a customer or counterparty to meet commitments in
relation to lending, trading, settlement and other financial transactions. Alternatively, losses
result from reduction in portfolio value arising from actual or perceived deterioration in credit
quality. Credit risk emanates from a bank’s dealings with an individual, corporate, bank,
financial institution or a sovereign.

The risk of loss of principal amount from a borrower's failure to repay a loan or otherwise
meet a contractual obligation. Credit risk arises whenever a borrower is expecting to use
future cash flows to pay a current debt. Investors are compensated for assuming credit risk by
way of interest payments from the borrower or issuer of a debtor obligation.

Credit risk is closely tied to the potential return of an investment, the most notable being that
the yields on bonds correlate strongly to their perceived credit risk. Principles for the
Management of Credit Risk

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Credit risk is most simply defined as the potential that a bank borrower or counterparty will
fail to meet its obligations in accordance with agreed terms. The goal of credit risk
management is to maximise a bank's risk-adjusted rate of return by maintaining credit risk
exposure within acceptable parameters. Banks need to manage the credit risk inherent in the
entire portfolio as well as the risk in individual credits or transactions. Banks should also
consider the relationships between credit risk and other risks. The effective management of
credit risk is a critical component of a comprehensive approach to risk management and
essential to the long-term success of any banking organisation.

1.4 STATEMENT OF THE PROBLEM:

With the emergence and need for implementation of BASEL II and III norms, all three major
risk factors are in the close monitoring of banks for a proper functioning and to survive in this
competitive environment. Here the credit risk management has taken priority because a
bank’s major portion of risk lies in the advances it has provided to customers. So a study of
credit risk management has done with special focus to small and medium exposures which
come around of Rs. 50 lakhs to Rs. 5 crores. The areas like credit risk management practises
in federal bank, various policies, credit rating, rating migration, sector wise rating and
concentration of risks etc over a period of time has been covered in the study.

1.5 SIGNIFICANCE OF THE STUDY:

In today’s emerging business world, advances are inevitable for the successful development
of a country. Also it is an opportunity for banks to explore the business opportunities arising
due to high emphasis of the government towards the SME sector. But recent global issues
like sub prime crisis has really made a jolt among the banking industry regarding the credit
provided and the risk part has become a common focus. Banks should be able to create
healthy assets which can be protected with proper credit risk mitigation. Hence a detailed
study in the small and medium exposure will throw some light on banks existing portfolio
performance and give insight for developing new measures for a safer asset creation.

1.6 SCOPE OF THE STUDY:

The study conducted in federal bank on the credit risk management is based on the
information collected from the IRMD on various instruments of credit risk and details of
accounts under the small and medium exposures.

This study makes an attempt to understand the rating distribution in different regions, sectors
and identification of risky exposure in different regions.

1.7 OBJECTIVE OF THE STUDY:

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  To understand the credit risk management of banks with special focus on federal bank

 To study various credit risk assessment procedures and credit rating procedures and also to
study various instruments of credit risk management

 To analyse the distribution of credit across the region with special focus on small and
medium exposures.

 To study the concentration risk due to deployment of advances in a particular sector or

region.

 To understand the quality of assets and its rating migration.

 To identify the effectiveness of the rating methods adopted by federal bank.

 To analyse the NPA changes in the medium exposures.

1.8 METHODOLOGY:

a. Data resources:

Primary data was collected by discussions and guidance from the Chief Manager and other
executives in IRMD of federal bank

Secondary data has been collected from the records of the bank, account details available in
the IRMD, publications of various institutes, websites etc.

b. Data collection:

Secondary data is mainly used for the study. Primary data gave the researcher an
understanding about the topic under the study. The data used is of the accounts which fall
under the small and medium exposures.

c. Tabulation:

This is done with the purpose of understanding the distribution of the exposures under study
to various regions, industries and to determine the quality of rating done by the bank by the
migration analysis of the accounts.

d. Interpretation:

The data analysis is done with the perspective of achieving the objective of the study.

1.9 LITERATURE REVIEW:

Covello, V. and Mumpower, j. (1985) review the history behind risk management. The needs
for risk management sought for the move towards quantification of risk, such as increase of
commerce and mathematical methodology in 17 century.

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Altenbach, J. (1995), This text introduces the reader to qualitative and quantitative risk
analysis. It reviews methods to represent the result of such analysis in risk matrixes and how
screens can be applied to filter out risks of low significance.

1.10 LIMITATION OF THE STUDY:

a. Data availability:

There is no centralized source for data availability. The data available for the study is
restricted for a particular period.

b. Time constraint:

The time for the study was limited for 60 days. It was very difficult to complete this vast
topic.

c. Generalization of the study:

The findings of the study need not be applicable to the entire banking industry. It differs from
banks to banks on their credit risk management policies and asset quality.

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 CHAPTER – 2

INDUTRY, COMPANY AND PRODUCT PROFILE

20 OVERVIEW:

This chapter gives a detailed idea on banking sector on global and Indian perspective. It also
deals with the company profile, its achievements and also reveals on the company’s product
profile.

2.1 INDUSTRY PROFILE:

Banking in India originated in the first decade of 18th century with The General Bank of
India coming into existence in 1786. This was followed by Bank of Hindustan. Both these
banks are now defunct. The oldest bank in existence in India is the State Bank of India being
established as "The Bank of Bengal" in Calcutta in June 1806. A couple of decades later,
foreign banks like Credit Lyonnais started their Calcutta operations in the 1850s. At that
point of time, Calcutta was the most active trading port, mainly due to the trade of the British

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Empire, and due to which banking activity took roots there and prospered. The first fully
Indian owned bank was the Allahabad Bank, which was established in 1865.

By the 1900s, the market expanded with the establishment of banks such as Punjab National
Bank, in 1895 in Lahore and Bank of India, in 1906, in Mumbai - both of which were
founded under private ownership. The Reserve Bank of India formally took on the
responsibility of regulating the Indian banking sector from 1935. After India's independence
in 1947, the Reserve Bank was nationalized and given broader powers.

2.1.1 NATIONALISATION:

By the 1960s, the Indian banking industry has become an important tool to facilitate the
development of the Indian economy. At the same time, it has emerged as a large employer,
and a debate has ensued about the possibility to nationalize the banking industry. Indira
Gandhi, the-then Prime Minister of India expressed the intention of the GOI in the annual
conference of the All India Congress Meeting in a paper entitled "Stray thoughts on Bank
Nationalisation." The paper was received with positive enthusiasm. Thereafter, her move was
swift and sudden, and the GOI issued an ordinance and nationalised the 14 largest
commercial banks with effect from the midnight of July 19, 1969. Jayaprakash Narayan, a
national leader of India, described the step as a "masterstroke of political sagacity." Within
two weeks of the issue of the ordinance, the Parliament passed the Banking Companies
(Acquisition and Transfer of Undertaking) Bill, and it received the presidential approval on
9thAugust,1969.
A second dose of nationalisation of 6 more commercial banks followed in 1980. The stated
reason for the nationalisation was to give the government more control of credit delivery.
With the second dose of nationalisation, the GOI controlled around 91% of the banking
business of India.

2.1.2 LIBERALISATION:

In the early 1990s the then Narasimha Rao government embarked on a policy of liberalisation
and gave licences to a small number of private banks, which came to be known as New
Generation tech-savvy banks, which included banks such as UTI Bank (now re-named as
Axis Bank) (the first of such new generation banks to be set up), ICICI Bank and HDFC
Bank. This move, along with the rapid growth in the economy of India, kick started the
banking sector in India, which has seen rapid growth with strong contribution from all the
three sectors of banks, namely, government banks, private banks and foreign banks.
The next stage for the Indian banking has been setup with the proposed relaxation in the

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norms for Foreign Direct Investment, where all Foreign Investors in banks may hold upto
74% voting rights. However voting rights have been restricted to 10% for a single entity.
The new policy shook the Banking sector in India completely. The new wave ushered in a
modern outlook and tech-savvy methods of working for traditional banks. All this led to the
retail boom in India. People not just demanded more from their banks but received more too.

2.1.3 CURRENT SITUATION:

Currently (2007), banking in India is generally fairly mature in terms of supply, product
range and reach-even though reach in rural India still remains a challenge for the private
sector and foreign banks. In terms of quality of assets and capital adequacy, Indian banks are
considered to have clean, strong and transparent balance sheets relative to other banks in
comparable economies in its region. The Reserve Bank of India is an autonomous body, with
minimal pressure from the government. The stated policy of the Bank on the Indian Rupee is
to manage volatility but without any fixed exchange rate-and this has mostly been true.
With the growth in the Indian economy expected to be strong for quite some time-especially
in its services sector-the demand for banking services, especially retail banking, mortgages
and investment services are expected to be strong. One may also expect M&As, takeovers,
and asset sales. In March 2006, the Reserve Bank of India allowed Warburg Pincus to
increase its stake in Kotak Mahindra Bank (a private sector bank) to 10%. This is the first
time an investor has been allowed to hold more than 5% in a private sector bank since the
RBI announced norms in 2005 that any stake exceeding 5% in the private sector banks would
need to be vetted by them.

Currently, India has 88 scheduled commercial banks (SCBs) - 28 public sector banks (that is
with the Government of India holding a stake), 29 private banks (these do not have
government stake; they may be publicly listed and traded on stock exchanges) and 31 foreign
banks. They have a combined network of over 53,000 branches and 17,000 ATMs.
According to a report by ICRA Limited, a rating agency, the public sector banks hold over 75
percent of total assets of the banking industry, with the private and foreign banks holding
18.2% and 6.5% respectively.

The growth in the Indian Banking Industry has been more qualitative than quantitative and it
is expected to remain the same in the coming years. Based on the projections made in the
"India Vision 2020" prepared by the Planning Commission and the Draft 10th Plan, the report
forecasts that the pace of expansion in the balance-sheets of banks is likely to decelerate. The
total assets of all scheduled commercial banks by end-March 2010 are estimated at Rs
90,000 crores. That will comprise about 65 per cent of GDP at current market prices as

12
compared to 67 per cent in 2002-03. Bank assets are expected to grow at an annual composite
rate of 13.4 per cent during the rest of the decade as against the growth rate of 16.7 per cent
that existed between 1994-95 and 2002-03. It is expected that there will be large additions to
the capital base and reserves on the liability side.

The Indian Banking Industry can be categorized into non-scheduled banks and scheduled
banks. Scheduled banks constitute of commercial banks and co-operative banks. There are
about 67,000 branches of Scheduled banks spread across India. As far as the present scenario
is concerned the Banking Industry in India is going through a transitional phase.

The Public Sector Banks (PSBs), which are the base of the Banking sector in India account
for more than 78 per cent of the total banking industry assets. Unfortunately they are
burdened with excessive Non Performing assets (NPAs), massive manpower and lack of
modern technology. On the other hand the Private Sector Banks are making tremendous
progress. They are leaders in Internet banking, mobile banking, phone banking, ATMs. As far
as foreign banks are concerned they are likely to succeed in the Indian Banking Industry.

In the Indian Banking Industry some of the Private Sector Banks operating are ICICI
FEDERAL Bank, SBI Commercial and International Ltd. and banks from the Public Sector
include Punjab National bank, Vijaya Bank, UCO Bank, Oriental Bank, Allahabad Bank
among others. ANZ Grindlays Bank, Bank of Scotland, Standard Chartered, and Citibank are
some of the foreign banks operating in the Indian Banking Industry.

2.2 COMPANY PROFILE:

2.2.1 HISTORY:

The history of Federal Bank dates back to the pre-independence era. Though initially it was
known as the Travancore Federal Bank, it gradually transformed into a full-fledged bank
under the leadership of its Founder, Mr. K P Hormis. The name Federal Bank Limited was
officially announced in the year 1947 with its headquarters nestled on the banks on the river
Periyar. Since then there has been no looking back and the bank has become one of the
strongest and most stable banks in the country in private sector.

Vision:

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Develop into a stronger and more efficient and profitable financial institution with a growing
share of the market, providing an expanding range of products and services to a growing
clientele within and outside the country, adopting best industry practices and employing
contemporary technology, and be counted among the top private banks in the country.

Future:

The fourth largest bank in India in terms of capital base and can easily boast of a Capital
Adequacy Ratio of 19.11%, one of the highest in the industry. This along with the existence
in a highly regulated environment has helped the bank to tide over the recession with
minimum impact to its financial stability.

The bank has been expanding organically over the past few months. They believe in
extending their reach to customers by making their services available to all, 24x7. They have
over 690 ATMs and 669 Branches across India in addition to the Representative Office at
Abu Dhabi that serves as a nerve centre for the NRI customers in UAE.

2.3 PRODUCTS AND SERVICES

Federal Bank, with its wide range of products and services, is a financial supermarket that
caters to all banking needs. Federal Bank believes in making banking a delightful experience
for our customers. They understand that customer time is valuable and hence have designed
products so as to reduce the amount and cost vested in banking. There are plenty of freebies
to make banking the last thing every customers mind.

SAVINGS BANK ACCOUNT

An exclusive range of Savings accounts with features to make banking a pleasurable. Range
of accounts that suits the customers financial requirements and shall enjoy the benefits of
easy banking and greater transaction power. SB accounts help customers to make their
regular expenditure easy. Debit cards allow cashless transactions. And the ATMs spread all
over the country make SB accounts accessible from anywhere in the world. The unutilized
portion in account earns interest.

Internet banking, instant funds transfers, online opening of deposit accounts, e-statements,
mobile alerts, online payment of bills, personalised cheque books, passbooks to keep track
and reconcile your accounts… The savings bank accounts come with a bundle of features
which one cannot live without. Freedom SB , SB Plus , Fed Power , Fed Power+

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Mahilamitra ,Yuvamitra , Fed Classic , Fed Classic+, Fed Smart ,No Frills , Fed
NRI Power, Fed NRI Premium Fed NRI Privilege .

DEPOSITS

For personal accounts with cheque books facility the best option is Savings Bank Accounts..
For a business firm or corporate looking for an account to collect its receivables and make
payments to its suppliers and creditors Current Accounts suits well. To deposit funds for a
period, ranging from a few days to a number of years, Term Deposits are used. Term
Deposits with Federal Bank fetches good return coupled with high security. To withdraw
periodical interest accrued in the account the best option is Fixed Deposits. When there is no
preference for periodical interest payments, the customer can get compound interest (ie
interest on interest) on his deposit and the principal with interest payable at the end of the
period. Cash Certificates from Federal Bank offers these features. To systematic small
deposits over a period of time, recurring deposits are for you. Federal Bank offers the most
convenient Federal Savings Fund exactly to meet this requirement.)

Fed Fast – Tele remittance from Gulf Countries

Through Fed Fast NRIs can make Rupee remittance from Gulf countries to the beneficiary’s
account in India. Once the remitter remits money at the Bank / Exchange house in the Gulf,
the amount is credited to the beneficiary’s account with Federal Bank / or any other Bank
within a short span of time. Fed Fast is not restricted to the Federal Bank customers alone.
Any NRI can remit funds through Fed Fast to account in with any bank in India. Federal
Bank has tie-up with reputed Exchange Houses and Banks in the Middle East. The state of
the art technology procured by the bank, effects hassle free remittances to India, at express
speed.

Remittance through Demand Drafts from GCC Countries

NRIs can make remittance to India by taking Demand Drafts from Exchange Companies in
GCC Countries and mailing it to the beneficiary.

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Fed-e-Cash (Cash on-Line scheme)

Fed-e-Cash scheme is for making remittance up to Rs 50,000. The benefit is that the
beneficiary can collect cash from the Bank by producing a Photo Identity Card. The
beneficiaries need not be account holders of Federal Bank or of any bank in India. The
remittance can be made through Exchange Houses/ Banks in GCC countries to our branches
in India. The beneficiary should approach the branch where money was sent with his/her
photo identity card. The remittance can reach the beneficiary at express speed.

Presently Cash on line arrangement exists with three Banks in Saudi Arabia.

1) Arab National Bank

2) Al Rajhi Bank Ltd

3) Bank Al Bilad.

Xpress Money of UAE Exchange Centre

Xpress Money (XM) is a money transfer scheme that helps NRIs to send remittance to
beneficiaries in India through branches of UAE Exchange Centre. Remittance up to Rs
50,000 will be paid in cash on production of Photo Identity Card and the secret code number
issued by UAE Exchange Centre. The remittance reaches the beneficiary immediately.

Fed India Remit Service from USA

Fed India Remit Service is an Internet based remittance service using ACH clearing
arrangement in US. Bank has associates with Bank of America to bring this service to its US
based customers. Using this service, NRIs can transfer US Dollar funds, from their account
with any ACH-affiliated bank in the USA, to the account of the beneficiary with any branch
of Federal Bank. The attraction of the scheme is its cost affordability. By paying just Rs 10
one can transfer $ 15,000 per day subject to a maximum of $ 45,000 per month. For details
about registering for the service and other salient features see the Fed India Remit Service
page.

Lock Box Facility

Lock box is a value added service provided by Federal Bank, in association with Bank of
America, This service avoids the delay in getting realization of your US$ personal cheques.
Hitherto your personal cheques were to be first sent from USA, all the way, back to India and
these instruments had to go back to USA for presentation in clearing for realization of funds.
Now customers can deposit their personal cheques in a local Post Box of Bank of America in

16
USA and get credits in their Federal Bank account in India very fast. Lock Box services
avoid delay in realization, and additional cost on account of bank charges, postage etc.

Remittance through SWIFT from anywhere in the world

Apart from the tailor-made schemes above, customers can send money from any part of the
world through SWIFT. It is the most popular mode of money transfer in the world. To
facilitate remittance through SWIFT, Federal bank has correspondence banking relationship
with all major banks in the world.

MUTAL FUNDS

Investors are attracted to mutual funds for variety of reasons. Some of these benefits are
professional investment management, diversification, low cost, convenience and flexibility,
quick, personalized service, ease of investing, total liquidity, easy withdrawal, investor
information, periodic withdrawals, dividend options, etc. For the convenience of investors

Federal Bank has tied up with the leading AMCs in the country.

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 CHAPTER – 3

ANALYSIS AND INTERPRETATION

30 OVERVIEW:

This chapter deals with the analysis and interpretation which gives a clear cut idea about the
credit deployment of the banks. The main aim of the study is to identify the credit migration
of the banks respective of different regions.

3.1 BASEL ACCORD AND NEW CAPITAL ADEQUACY FRAMEWORK:

In 1988, the committee decided to introduce a capital measurement system commonly

referred to as the Basel capital accord. This system provided for the implementation of a
credit risk measurement framework with a minimum capital standard of 8 % by end 1992.

18
In 1999, the committee issued a proposal for a new capital adequacy framework to replace
the 1988 accord.

Basel II framework set out the details for adequacy more risk – sensitive minimum capital
requirements for banking organisation. It offers a new set of standards for establishing
minimum capital requirements. The new accord is founded on three pillars.

i) Minimum capital requirements:

It defines capital and minimum capital requirements (8% ratio prescribed under Basel
minimum capital in India 9%) with regard to risk weighted assets held. The new accord
provides for three distinct options for the calculations of credit risks as follows:

a. Standardised approach:

Bank may measure credit risk by using credit rating of external credit assessing institutions
which are recognised by regulators, to assess institutions which are recognised by regulators,
to assess the credit quality of their borrowers for arriving at the regulatory capital

b. Internal ratings based approach:

Here are two options:

➢ Foundation IRB approach

➢ Advance IRB approach

It complies with quantitative and qualitative criteria prescribed by Basel committee.

i) Supervisory review process:

It recognises the necessity of exercising effective supervisory review of banks internal

assessments of their overall risks to ensure that bank management is exercising sound
judgement and has set aside adequate capital of these risks.

ii) Market discipline:

It leverages the ability of market discipline to motivate prudent management by enhancing

the degree of transparency in bank’s public reporting. It sets out the public disclosures that
banks must make that lend greater insight into the adequacy of their capitalisation. It
highlights the need for banks and supervisors to give appropriate attention.

2.1 RISK MANAGEMENT IN FEDERAL BANK:

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The overall responsibility for bank wide risk management lies with the Board of Directors.
They have to ensure that adequate structure, policies and procedures are in place for risk
management and they are properly implemented.

The responsibility for devising the policy and strategy for bank - wide risk management vests
with the board level sub – committee called Risk management committee. The RMC devises
the policy by evaluating the overall risks faced by the bank and determining the acceptable
level of risks.

Functions of RMC:

a. Devise the policy and strategy for implementing bank wide risk management system
for addressing effectively various risks

b. Effectively co-ordinate between the credit risk management committee, asset liability
management committee and operation risk management committee.

c. Setting policies and guidelines for measurement, management and reporting of credit
risk, market risk and operational risk.

d. Set risk mitigation and stop loss parameters in respect of all three risks.

e. Appointment and posting of qualified and competent staff and independent credit risk
managers etc for ensuring effective risk management system.

f. Ensure adequate training to the staff in risk management department, which handles
this complex function.

g. Deciding/approving technological adoption/MIS system needed for risk management.

The RMC will have different support committee:

 Credit risk management committee

 Asset liability management committee

 Operational risk management committee

Instruments of credit risk management are:

i) Credit approving authority:

All credit proposals above a cut-off limit of Rs. 10 crores will have a multi tier credit
approving system.

ii) Prudential exposure limits:

20
Within the broad guidelines of RBI, and considering the needs of the bank, prudential
exposure limits are fixed by the board every year based on the capital of the bank is at the end
of the immediately preceding financial year.

iii) Risk rating system:

Ratings are initially done at the branches and confirmed by the regional office. Depending
upon cut off limit, it s used as a standard for loans. It is also used for monitoring the quality
of the portfolio and for regular review of individual exposures. On the basis of credit quality,
the risk is to be measured in a numerical scale ranging from FB–1 TO FB- 10 and for each
category a qualitative definition of the borrower, which reveals the underlying quality of the
loan, is also given. The borrowers are categorised into ten grades on the percentage of marks
scored as per CRA and give the following qualitative definitions.

Rating scale Rating Qualitative definition

6.00 – 5.25 FB 1 Highest safety
5.24 – 4.75 FB 2 High safety
4.74 – 4.25 FB 3 Adequate safety
4.24 - 3.75 FB 4 Moderate safety
3.74 – 3.25 FB 5 Marginal safety
3.24 – 2.75 FB 6 Threshold safety
2.74 – 2.25 FB 7 Potential weakness
2.24 – 1.75 FB 8 Definite weakness
1.74 – 1.25 FB 9 Default
1.24 – 1.00 FB 10 Loss

Periodicity of rating:

All funded and non funded limits above Rs. 2 lakh have to be rated at the time of sanction
renewal or enhancement. Credit scoring is done for all the housing loan accounts irrespective
of the size of limits.

Confirmation of credit rating:

\Credit rating is applicable in respect of exposure above Rs.2 lakh. Regional head is the
confirming authority for credit rating made

21
Minimum rating levels

Delegates at field levels can exercise heir delegate powers for fresh asset creation in rating
grades FB – 1 to FB – 4 and for renewals in grades FB – 1 to FB – 5.

Study on rating migration:

Deterioration of credit quality mat take place over a period of time until an unsustainable
level is reached and slips into default mode.

Sl No: Exposure size Exposure Credit rating Credit rating

sanctioning recommending confirming
authority authority
1 Above 2 lakh to Branches in the Principal officer Respective
50 lakh region of branch regional head
2 Regional office Regional head GAD

3 G A D at HO GAD at HO IRMD

4 Rs. 50 lakh and Regional head Regional HEAD IRMD

above and GAD/HO GAD/HO
5 Rs. 50 lakh and GAD/HO GAD/HO IRMD
above
6 Rs. 500 lakh and CFD/HO CFD/HO IRMD
above

iv) Risk pricing system:

It is an important aspect of risk management. It is essential for banks to appropriately price

their products to ensure that bank is adequately compensated for the risk exposure. In a risk
return selling, borrowers with weak financial position who are place in high risk category
should be priced high. Bank should evolve scientific systems to price the credit risk, which
should have a bearing on the expected probability of default.

v) Portfolio management system:

CRMD has the authority to monitor the entire loan portfolio. The portfolio quality is
evaluated by tracking the migration of borrowers from ne rating scale to another.

vi) Loan review mechanism:

22
It is an effective tool for constantly evaluating the quality of credit portfolio and to bring
about the qualitative inputs in credit administration.

2.1 SME’s:

The micro, small and medium enterprises (MSME) sector contributes significantly to the
manufacturing output, employment and exports of the country. It is estimated that in terms of
value, the sector accounts for about 45 per cent of the manufacturing output and 40 per cent
of the total exports of the country. The sector is estimated to employ about 59 million persons
in over 26 million units throughout the country. Further, this sector has consistently
registered a higher growth rate than the rest of the industrial sector. There are over 6000
products ranging from traditional to high-tech items, which are being manufactured by the
MSMEs in India. It is well known that the MSME sector provides the maximum
opportunities for both self-employment and jobs after agriculture sector.

IBA’s Banking Vision 2010 foresees that “ in the next ten years, SME sector will emerge
more competitive and efficient and knowledge-based industries are likely to acquire greater
prominence. SMEs will be dominating in industry segments such as Pharmaceuticals,
Information Technology and Biotechnology.

With SME sector emerging as a vibrant sector of the Indian economy, flow of credit to this
sector would go up significantly. There is empirical evidence to suggest that advances to
SME segment will give better yield to the banks. In SMEs credit portfolio, credit risk is
minimal as it gets spread over a number of borrowers and the exposure is normally covered
by good collateral. Therefore, Federal Bank follows the strategy of increasing its business in
the SME by offering excellent service at reasonable rates.

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Definition of SMEs under MSME Act 2006

In the year 2005 RBI gave its first definition of SME. According to that definition SMEs
comprised of Small & Medium Industries with investment in plant & machinery up to Rs.10
Crores. At that time SMEs virtually comprised of manufacturing sector with the only
exception of Small Scale Service & Business Enterprises (SSSBE) coming under the service
sector. SSSBE was a component of SSI but it was confined to a few industry related services.
Again the ceiling on investment in equipments for SSSBE was just Rs.10 L. Because of these
reasons, majority of SME loans comprised of manufacturing sector only

Change in Statutory & RBI definition of SMEs.

The above definition of RBI was issued in absence of any

legislation. But the Parliament enacted the Micro, Small & Medium Enterprises Development
Act 2006 (MSMED Act 2006) and the same has come into effect from 02 October, 2006.
With the revised guidelines of RBI on Priority Sector Lending, Micro & Small Enterprises
come under Priority Sector.

SME Definition

SECTOR
Manufacturing. Services.
CATEGORY
The investment in Plant & Machinery The investment in equipment
Micro Enterprise (original cost) does not exceed Rs.25 does not exceed Rs. 10 Lakhs.
Lakhs.
The investment in Plant & Machinery The investment in equipment
Small Enterprise (original cost) is more than Rs.25 is more than Rs.10 Lakhs but
Lakhs but does not exceed Rs. 500 does not exceed Rs. 200
Lakhs. Lakhs.
The investment in Plant & Machinery The investment in equipment
Medium Enterprise (original cost) is more than Rs.500 is more than Rs.200 Lakhs but
Lakhs but does not exceed Rs. 1000 does not exceed Rs.500
Lakhs. Lakhs.

24
Investment means original cost of plant and machinery in the case of manufacturing sector &
original cost of equipments in the case of service sector. It is not the depreciated value or
book value.

All the investment ceilings mentioned above are excluding Land & Building. So also the
investment in Pollution Control, Research & Development and Industrial Safety Devices etc
for the manufacturing sector and furniture & other items not directly related to the service
rendered for the service sector, need not be reckoned for calculation of investment.

MICRO SMALL AND MEDUIM ENTERPRISES DEVELOPMENT ACT, 2006

(MSMED ACT)

MSMED Act came into effect on 2nd October,2006 to address policy issues affecting MSMEs
as well as the coverage and investment ceiling of the sector. Both the Central and State
Governments have taken effective steps towards implementation of the Act. The salient
features of the Act include:

• Setting up of a National Board for MSMEs

• Classification of enterprises
• Advisory Committees to support MSMEs
• Measures for promotion, development and enhancement of MSMEs
• Schemes to control delayed payments to MSMEs
• Enactment of rules by State Governments to implement the MSMED Act, 2006 in
their respective States.

MINISTRY OF MSME

On 9 May 2007, subsequent to an amendment of the Government of India (Allocation of

Business) Rules, 1961, the Ministry of Small Scale Industries and the Ministry of Agro and
Rural Industries were merged to form the Ministry of Micro, Small and Medium Enterprises
(MSME). This Ministry now designs policies, programmes, schemes and monitors their
implementation with a view to assist MSMEs and helps them scale up. It has a prominent role
to assist the States in their efforts to encourage entrepreneurship, employment and livelihood
opportunities and enhance the competitiveness of MSMEs in the changed economic scenario.
The schemes/programmes undertaken by the Ministry and its organizations seek to
facilitate/provide:

25
• adequate flow of credit from financial institutions/banks
• support for technology up gradation and modernization
• integrated infrastructural facilities
• modern testing facilities and quality certification
• access to modern management practices
• entrepreneurship development and skill up gradation through appropriate training
facilities
• support for product development, design and packaging
• welfare of artisans and workers
• assistance for better access to domestic and export markets
• clusterwise measures to promote capacity-building and empowerment of the units and
their collectives.

ROLE OF STATE GOVERNMENT IN MSME DEVELOPMENT

The primary responsibility of promotion and development of MSMEs is of the State

Governments. However, the Government of India, supplements the efforts of the State
Governments through different initiatives like:

• Establishment of the National Board for Micro, Small and Medium Enterprises
(NBMSME) under the Micro, Small and Medium Enterprises Development Act, 2006 and
Rules made there under. The Board examines the factors affecting promotion and
development of MSMEs, reviews policies and programmes from time to time and makes
recommendations to the Government in formulating the policies for the growth of MSMEs.

• Formation of National Commission for Enterprises in the Unorganised Sector

(NCEUS) to examine the problems of the enterprises in the unorganized/informal sector. The
Commission has made recommendations to provide technical, marketing and credit support

26
to these enterprises and submitted 11 Reports to the Government. The Commission
completed its term on 30th April, 2009.

• Established The National Small Industries Corporation (NSIC) Ltd. ,as a Public
Sector Company in 1955. The main function of the Corporation is to promote, aid and foster
the growth of institutes which are engaged in developing training modules; undertaking
research & training; and providing consultancy services for the development & promotion of
MSMEs.

• Implemented a National Strategy for Manufacturing, drawn up by the National

Manufacturing Competitiveness Council (NMCC), which will enable SMEs to achieve
competitiveness. The Strategy has identified various priority areas for action like textiles &
garments, food processing, IT hardware & electronics, leather & footwear, automobiles &
auto-components and chemicals & petrochemicals and Pharma sectors.

• Setting up of the Small Industries Development Bank of India (SIDBI), as the apex
refinance institution in India for the purpose of channelling of finance to Small Scale
Industries (SSIs) and SMEs in an organised manner. SIDBI has recently negotiated a line of
credit with the World Bank for financing and development of SMEs in India, with a view to
upscale the credit flow to the sector and raising resources for the SME Fund.

Some of the initiatives made by SIDBI are:

1. SIDBI Venture Capital

SIDBI Venture Capital Limited (SVCL) is a wholly owned subsidiary of SIDBI, incorporated
in July 1999. Current funds managed by SVCL are:

National Venture Fund for Software and Information Technology (NFSIT The focus of the
fund is in small scale units in the growing IT industry and related businesses such as
networking, multimedia, data communication and value added telecommunication services.

2. SME Growth Fund (SGF)

27
SME Growth Fund’s focus is to invest in unlisted entities in the small and medium
enterprises in manufacturing as well as services sector as also businesses providing
infrastructure or other support to SMEs. The Fund seeks to achieve attractive risk-adjusted
returns for its contributors through long-term capital appreciation and may also invest very
selectively in listed entities, to take advantage of attractive opportunities in growing
companies.

3. SME Rating Agency of India Limited (SMERA)

SME Rating Agency of India Limited (SMERA) is a joint initiative by Small Industries
Development Bank of India (SIDBI), Dun & Bradstreet Information Services India Private
Limited (D&B), Credit Information Bureau (India) Limited (CIBIL) and several leading
banks in the country. It has been operating from September, 2005, is a third-party credit
rating agency exclusively set up for MSMEs. It is the country's first rating agency that
focuses primarily on the Indian SME segment and its primary objective is to provide
transparent and reliable ratings. This would facilitate greater and easier flow of credit from
the banking sector to SMEs. The rating takes into account the financial condition and several
qualitative factors that have bearing on credit worthiness of the SME. SMERA Rating
consists of 2 parts, a Composite Appraisal/Condition indicator and a size indicator. The rating
categorises SMEs based on size, so that each SME is evaluated amongst its peers. This
enables rational- comparison of companies of the same size, thus ensuring that the smaller
companies are not at a disadvantage while applying for credit.As on December 31, 2009,
SMERA had cumulatively completed 5389 ratings, including 1945 MSMEs ratings during
Apr -Dec, 2009.

• Set up Credit Gaurantee Fund Trust For Micro And Small Enterprises (CGTMSE)
with the help of SIDBI. The main objective is that the lender should give importance to
project viability and secure the credit facility purely on the primary security of the assets
financed. The other objective is that the lender should endeavor to give composite credit to
the borrowers so that the borrowers obtain both term loan and working capital facilities from
a single agency. The scheme seeks to reassure the lender that, in the event of a MSE unit,
which availed collateral free credit facilities, fails to discharge its liabilities to the lender, the
Guarantee Trust would make good the loss incurred by the lender up to 75 / 80/ 85 per cent of
the credit facility

28
• Credit Linked Capital Subsidy Scheme (CLCSS) was launched in October, 2000,
which aims at facilitating technology upgradation of SMEs in specified products/sub-sectors.
The revised scheme on 2005 aims at facilitating technology upgradation of Micro and Small
Enterprises by providing 15% capital subsidy (12% prior to 2005) on institutional finance
availed by them for creation of well established and improved technology in approved sub-
sectors/products. The admissible capital subsidy under the revised scheme is calculated with
reference to purchase price of Plant and Machinery. Maximum limit of eligible loan for
calculation of subsidy under the revised scheme is also been raised Rs. 40 lakhs to Rs. 100
lakh w.e.f. 29-09.2005.

• A scheme named as “Small Enterprises Financial Centres” for strategic alliance

between branches of banks and SIDBI , has been formulated in consultation with the
Ministry of SSI and Banking Division, Ministry of Finance, Government of India, SIDBI,
IBA and select banks and circulated to all scheduled commercial banks on May 20, 2005 for
implementation. Initially, SIDBI had decided to start 149 such centres. SIDBI has so far
executed MoU with 16 banks so far (Bank of India, UCO Bank, YES Bank, Bank of Baroda,
Oriental Bank of Commerce, Punjab National Bank, Dena Bank, Andhra Bank, Indian Bank,
Corporation Bank, IDBI Bank, Indian Overseas Bank, Union Bank of India, State Bank of
India, State Bank of Saurashtra and Federal Bank).

RBI GUIDELINES TO BANKS FOR SME FINANCING

TARGETS FOR PRIORITY SECTOR LENDING

Domestic banks Foreign banks

Total Priority Sector 40 percent of ANBC (Adjusted 32 percent of ANBC

advances Net Bank Credit)

SSI advances No target 10 percent of ANBC

DOMESTIC BANKS
The domestic commercial banks are expected to enlarge credit to priority sector and ensure
that a priority sector advance (which includes the small enterprises sector) constitute 40 per

29
cent of Adjusted Net Bank Credit (ANBC) or credit equivalent amount of Off-Balance Sheet
Exposure, whichever is higher.

There is no sub-target fixed for lending to small enterprises sector, as per the policy package
announced by the Government of India for stepping up credit to SME sector, banks may fix
self set target for growth in advances to SME sector in order to achieve a minimum 20% year
on year growth in credit to SMEs with the objective to double the flow of credit to the SME
sector.

FOREIGN BANKS
Foreign banks are expected to enlarge credit to priority sector and ensure that a priority sector
advance (which includes the Small Enterprises sector) constitute 32 per cent of Adjusted Net
Bank Credit (ANBC) or credit equivalent amount of Off-Balance Sheet Exposure, whichever
is higher.

Within the overall target of 32 per cent to be achieved by foreign banks, the advances to
small enterprises sector should be 10 per cent of the adjusted net bank credit (ANBC) or
credit equivalent amount of Off-Balance Sheet Exposure, whichever is higher.
ANBC or credit equivalent of Off-Balance Sheet Exposures will be computed with reference
to the outstanding as on March 31 of the previous year. For this purpose, outstanding FCNR
and NRNR deposits balances will no longer be deducted and investments made by banks in
the Recapitalization Bonds floated by Government of India will not be taken into account for
computation of ANBC. For the purpose of priority sector lending, ANBC denotes NBC plus
investments made by banks in non-SLR bonds held in HTM category.

In order to ensure that credit is available to all segments of the Small Enterprises sector,
banks should ensure that:-

(a) 40 per cent of the total advances to small enterprises sector should go to micro
(manufacturing) enterprises having investment in plant and machinery up to Rs. 5 lakh and
micro (service ) enterprises having investment in equipment up to Rs. 2 lakh;

(b) 20 per cent of the total advances to small enterprises sector should go to micro
(manufacturing) enterprises with investment in plant and machinery above Rs. 5 lakh and up

30
to Rs. 25 lakh, and micro (service) enterprises with investment in equipment above Rs. 2 lakh
and up to Rs. 10 lakh. (Thus 60 per cent of small enterprises advances should go to the micro
enterprises).

COMMON GUIDELINES FOR LENDING TO SME SECTOR

Disposal of Applications
All loan applications for SSI up to a credit limit of Rs. 25,000/- should be disposed of within
2 weeks and those up to Rs. 5 lakh within 4 weeks provided the loan applications are
complete in all respects and accompanied by a 'check list'.

Collateral
The limit for all SSI units for collateral free loans is Rs 5 lakh. Banks may on the basis of
good track record and financial position of the SSI units, increase the limit of dispensation of
collateral requirement for loans up to Rs.25 lakh (with the approval of the appropriate
authority)

Many small-scale entrepreneurs are facing difficulties in providing collateral security as per
the requirements of the financing banks. The problem is addressed to a certain extent with the
introduction of the Credit Guarantee Fund Trust Scheme under which collateral free loans up
to a limit of Rs. 25 lakhs are guaranteed. The Bank shall look at this is an opportunity to lend
to small and medium enterprises with good track record and/or growth potential.

Composite loan
A composite loan limit of Rs.1crore can be sanctioned by banks to enable the SSI
entrepreneurs to avail of their working capital and term loan requirement through Single
Window.

Specialized SSI/SME branches

Public sector banks have been advised to open at least one Specialized branch in each district.
This will enable the entrepreneurs to have easy access to the bank credit and to equip bank
personnel to develop requisite expertise. Further banks have been permitted to categories
their SSI general banking branches having 60% or more of their advances to SSI sector. The
existing specialized SSI branches may be also be redesignated as SME branches.

31
Delayed Payment
Under the Amendment Act, 1998 of Interest on Delayed Payment to Small Scale and
Ancillary Industrial Undertakings, penal provisions have been incorporated to take care of
delayed payments to SSI units which inter-alia stipulates

• agreement between seller and buyer shall not exceed more than 120 days

• Payment of interest by the buyers at the rate of one and a half times the prime
lending rate (PLR) of SBI for any delay beyond the agreed period not exceeding 120 days.

Further, banks have been advised to fix sub-limits within the overall working capital limits to
the large borrowers specifically for meeting the payment obligation in respect of purchases
from SSI.

Guidelines on rehabilitation of sick SSI units (based on Kohli Working Group

recommendations)

As per the definition, a unit is considered as sick when any of the borrowal account of the
unit remains substandard for more than 6 months or there is erosion in the net worth due to
accumulated cash losses to the extent of 50% of its net worth during the previous accounting
year and the unit has been in commercial production for at least two years. The criteria will
enable banks to detect sickness at an early stage and facilitate corrective action for revival of
the unit.

As per the guidelines, the rehabilitation package should be fully implemented within six
months from the date the unit is declared as potentially viable/viable. During this six months
period of identifying and implementing rehabilitation package banks/FIs are required to do
“holding operation” which will allow the sick unit to draw funds from the cash credit account
at least to the extent of deposit of sale proceeds

Following are broad parameters for grant of relief and concessions for revival of potentially
viable sick SSI units:

• Interest on Working Capital Interest 1.5% below the prevailing fixed / prime lending
rate, wherever applicable

32
• Funded Interest Term Loan Interest Free

• Working Capital Term Loan Interest to be charged 1.5% below the prevailing fixed /
prime lending rate, wherever applicable

• Term Loan Concessions in the interest to be given not more than 2 % (not more than
3 % in the case of tiny / decentralized sector units) below the document rate.

• Contingency Loan Assistance The Concessional rate allowed for Working Capital
Assistance

3.3 ANALYSIS AND INTERPRETATION:

3.3.1 CREDIT RATING OF MEDIUM EXPOSURES AND MIGRATION MATRIX:

Based on the credit rating made for credit exposures of Rs.50 lakh to Rs.5 crores, which were
handled by SME and branches, an analysis of rating migration, interest rate wise distribution
of exposures, sectoral deployment of funds was carried out. The main purpose of this study is
to facilitate the data built up process for the implementation of internal ratings based
approach.

As per guidelines of Reserve Bank of India, commercial banks are subject to the deployment
of robust credit risk management systems, as more than 70% of normal risks to banks are
estimated to emanate from credit portfolio. For graduating the IRB approach under the Basel
II, banks are subject to up gradation of its legacy systems to more technologically advanced
core banking and CRM systems and required to create database of its portfolio.

Credit rating exercise:

The credit rating system adopted by the bank forms the base for assessing the credit quality,
doing analysis and arriving at inferences in the report.

As per credit risk assessment mechanism, the risk factors have been broadly categorised into
three and risk mitigation also is added as a factor in the case of rating of exposures up to Rs.
5 crores. Thereafter banks have started considering collaterals/ risk mitigation for facility
rating only and borrower rating is done excluding these factors. A rating scale with 100
points is adopted in the format and considering the weight age to be given to each risk
parameter, points are apportioned as follows:

33
For loans upto 5 crores

FACTORS WEIGHT
INDUSTRY AND BUSINESS RISK 20
MANAGEMENT RISK 20
FINANCIAL RISK 40
SECURITY COVERAGE 20

For loans above5 crores

FACTORS WEIGHT
INDUSTRY RISK 10
BUSINESS RISK 30
MANAGEMENT RISK 30
PAST FINANCIALS 20
PROJECTIONS 10

Risk asset quality of advances from 50 lakh to 5 crores over the year 2002 – 2009

Interpretation:

There is a great improvement in the level of advances which comes under the acceptable
level. The unacceptable level of advances has decreased comparing to the previous years

In 2009 the unacceptable level has comes down to 3.21% whereas the acceptable level it
comes to 96.79%.

34
Amount of Net NPA for the period 2008 – 09 and 2009 – 10

INTERPRETATION:

The net NPA for 2008 – 09was 68.12% and 2009 – 10 is 128.78. the situation changed in
2009 – 10 where the Net NPA has increased. This shows that the credit management is not
properly able to overcome the situation as such the the non performing assets are increasing
year by year

Percentage of Gross NPA to Gross advances FOR THGE PERIOD 2008-09 AND 2009 -10

INTERPRETATION:

The percentage of NPA for 2008 – 09 was 2.57%. In 2009 – 10 it increases to 2.97%. This
shows that the company’s capability to pay off more advances is more. The bank still suffers
in maintain the NPA in the bank.

Percentage of Net NPA to advances for the period 2008 - 09 and 2009 – 10.

The percentage of Net NPA to advances also showed the same trend as like the gross NPA to
gross advances. The percentage of Net NPA for 2008 – 09 was .3% and for 2009 – 10 was .
48%

This shows that NPA for the respective years from the advances has been increasing and it
shows that NPA will increase in the future years and it can affect the function of bank.

35
INTERPRETATION:

Total business = deposits + advances

As the bank is now very familiar with the smooth function among the people and it shows
that the business of bank has been shown a tremendous increase throughout the year. It shows
that the bank has a good financial sound and the financial position of the bank is growing i
fast pace.

Net Profit for the year 2008 – 09 and2009 – 10

INTERPRETATION:

A high net profit margin would ensure adequate return to the owner as well as enable a firm
to withstand adverse economic condition.

Though the net profit for 2009 – 10 has been decreased comparing to the previous year. But
the bank is in a good sound position to meet its demand and to overcome the Net NPA for the
year.

Earnings per share for the year

Year EPS

2008 – 09 32.42

2009 - 10 27.15

It is clear that the bank has its least EPS in this year as compared to last 5 year. EPS measure
the profit available to the equity shareholder on a per share basis.

36
In 2008 – 09 EPS was 32.42 and in 2009 – 10 it was 27.15. as the NPA for the bank has been
increasing year by year it is affecting the banks EPS and is now decreasing year by year.

Return on total assets

Year ROA

2008 – 09 1.48

2009 – 10 1.15

The profitability can also be relationship between net profits and assets. Return on total assets
may also call as profit t asset ratio. ROA based on this ratio would be as under estimate as the
interest paid to the creditors is excluded from the net profit.

ROA has shown a decreasing pattern because the productive assets in the bank is decreasing
as the NPA in bank is increasing year by year.

37
 CHAPTER 4

FINDINGS SUGGESTION AND CONCLUSION

20 OVERVIEW;

38
This chapter deals with the findings, suggestion an conclusion. This is an important chapter
which deals with the major finding of the project.

2.1 Findings and suggestions;

➢ The bank is following up a efficient credit control system for proper management of

credit

➢ A fully fledged MIS is required to implement Basel III norms

➢ The NPA has increased and the advances granted also has increased

➢ The regulatory capital requirement as per Basel II and III norms can be easily met by

tending to highly rated corporate with less weight age

➢ The deposits and advances of the bank has also show a positive trend

➢ It should be noted that the assets under acceptable level is more compared to the one

in unacceptable level

➢ Both manufacture and export sector were almost 13% of the total SME

➢ The percentage of advances exposed under NPA category is high

➢ Seafood and textiles are the noticeable export categories in terms of accounts and loan

amount provided under the export sector

➢ Proper awareness among the employees has to be made regarding the relevance of the

credit rating which determines the authenticity of accounts being provided. This will help in

generating more acceptable level of assets in the banks kitty of advances.

➢ NPA are more found in the medium sector loans of 50L and 5 crores. The rating of

accounts being provided is done in a more extensive way in corporate sector than that of the

medium sector which alleviates the risk factor. Hence more comprehensive rating methods

can be done for medium exposures with the help of proper system

➢ Each region should be given a specific target in order to avoid concentration risk.

39
2.1 CONCLUSION:

In order to sustain in this much competitive environment, a proper credit risk management
system has to be adopted by every bank. Federal bank is effective in the process with its
focus of Basel II norms implementation

The bank is in the process of negotiation with various agencies regarding the installation of
risk management software for the purpose of adopting some standardized rating process so
that it can be universally competitive. The bank is adapting itself to the technological
environment, which already has been started installing.

As a premier bank, federal bank is set to achieve its objectives in the risk management with
strong policies and procedure and the bank is better equipped with its capital needs than what
will be required in Basel norms. Thus it sets pace for a dynamic future with an emerging
reputation among the industry.

BIBLIOGRAPHY

www.thehindubusinessline.com

www,federalbank.co.in

www.bis.or

www.rbi.org.in

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