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A REPORT ON CREDIT APPRAISAL By Srikanth.K.G.

Enrolment No-09BSHYD0857

Corporation Bank

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A REPORT ON CREDIT APPRAISAL By Srikanth.K.G.

Enrolment no.-09BSHYD0857

Corporation Bank
A report submitted in partial fulfillment of the requirements of MBA Program of IBS Hyderabad Date of Submission-19th April 2010

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Table of Contents
ABSTRACT ................................................................................................................................................. 4 CREDIT APPRAISAL ................................................................................................................................ 5 INTRODUCTION .................................................................................................................................... 5 Literature Survey .................................................................................................................................... 7 Working Capital ........................................................................................................................................ 10 Working Capital lending methods ...................................................................................................... 12 1. Projected Turnover Method (PTM)............................................................................................ 12 2. Permissible Bank Finance (PBF) .............................................................................................. 14 3. Cash Budget Method ................................................................................................................. 18 4. Net Owned fund Method ............................................................................................................. 20 Steps in Credit Appraisal..................................................................................................................... 22 ABC Limited .............................................................................................................................................. 26 Assessment of FB WC requirements: ............................................................................................... 29 Management ......................................................................................................................................... 30 Industry Analysis .................................................................................................................................. 31 Business Analysis ................................................................................................................................ 32 Risk Analysis ......................................................................................................................................... 33 Ratio Analysis ....................................................................................................................................... 34 Rating Summary Information:............................................................................................................. 36 REFERENCES: ........................................................................................................................................ 37

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ABSTRACT
This project helps to understand one of the most important processes in the growing economy. In todays competitive world providing credit is both a rewarding and a challenging job. So when a Company approaches a bank based on the type of sector (Promising/Preferred, Export oriented, Case to Case) and also the credit portfolio of the bank, prevailing macroeconomic scenario, exposure norms, bank will decide on whether to consider the Company approached for granting Credit. Quantitative and Quantitative information about the Company is gathered by credit investigation (Internal as well as external due diligence agency). Now the Credit Appraisal is carried out for the Company based on the information provided. Techniques like financial statement analysis are used during appraisal and by adopting various methods of lending. A SWOT analysis of the Company is carried out and the bank arrives at a risk rating and based on the rating bank grants Credit to the applicant Company and pricing is fixed based on the rating.

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CREDIT APPRAISAL
INTRODUCTION
This project is based on Credit Appraisal process followed in Corporation Bank for the Clients. Credit appraisal is a process which involves gathering of the required data from the borrower and thereafter evaluating various parameters viz constitution ,background, net worth of the investors, purpose of credit, working results, financial position, requirement of credit, repayment capacity, security guarantee, industry prospects, operations under the account, other ancillary business passed on to bank and also the risks involved. Credit appraisal involves detailed and in-depth analysis of the projected/estimated/audited results of the project. In this process the technical, the marketing the organizational, the financial, the economic and the social aspects of the projects are examined one by one to ensure technical feasibility, market necessity, financial viability, economic strength and social desirability for term loans. It is a process where by a lending financial institution makes an independent and objective assessment of the various aspects of investment proposition for arriving at a financial decision. Appraisal exercises are aimed at determining the viability of a project and some times helps in reshaping the project to upgrade its viability. It is most crucial stage of project cycle at which the bank makes a critical evaluation of all the parameter to determine the feasibility of the project and to make a decision whether to finance or not.

Purpose To study the analytical framework used in credit appraisal in Corporation Bank and different methods used for credit appraisal based on the credit limits.

Scope of study The scope of the study is limited to Corporation Bank Zonal Office, Bangalore; it will give an in-depth theoretical and practical knowledge about the credit appraisal. This study also covers ratio analysis, cash flow from proposed project, risk involved in the project, analysis of the financial statement and the data found in the appraisal statement.

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Limitations The study is limited to the Credit appraisal department of Corporation Bank Zonal Office, Bangalore. Interbank comparison providing the same service will not be done. Time Constraint Methodology of data Collection As regards methodology, normally both quantitative and qualitative approaches are adopted. In order to collect the data, this study brings a live analysis based on the live data collected from secondary type of data. The techniques of ratio analysis have been made use for the analysis of the financial statement of the bank. Interacting with executives, functional in charge of various areas and Departments discussing informally. Referring to the secondary that is, various project reports prepared by the Bank and desk guides available with the bank. Visiting official website of the bank and other related websites. Referring to news papers and various business magazines. Types of Finance considered for Credit Appraisal 1. Term Loan- Investopedia explains Term Loan as a loan from a bank for a specific amount that has a specified repayment schedule and a floating interest rate. For example -Businesses may use the cash from a term loan to purchase fixed assets such as equipment used in its production 2. Working Capital- Working capital is the money required for day to day operations .Working Capital requirements refer to the funds required for financing the minimum total current assets. Liquid surplus or net working capital surplus of long term sources over long term uses This is the short-term capital or finance that a business keeps. Working capital is the money used to pay for the everyday trading activities carried out by the business - stationery needs, staff salaries and wages, rent, energy bills, payments for supplies and so on. 3. Non fund based limits- The credit facilities given by the banks where actual bank funds are not involved are termed as 'non-fund based facilities'. These facilities are divided in three broad categories as under: a. Letters of credit b. Guarantees c. Co-acceptance of bills/deferred payment guarantees. In this interim report we have dealt with working capital financing.
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Literature Survey
Now due to the growing demand and competition credit appraisal is becoming both a challenging and rewarding process. Funding is done for SME (Small medium industries), Large industries. Initially medium scale was categorized under a different heading. SME Sector: We must now acquaint ourselves with two definitions. SSI & SME. Historically our commercial banks started financing Small Scale Industrial Units way back in the year 1960 with a credit guarantee scheme by the Central Government administered by the Reserve Bank as the Agent. (Presently this scheme is not available). The SSI is defined as an industrial unit whose original investment in plant and machinery should not exceed Rs.7.50 lakhs (raised to Rs.10 lakhs on 10.9.75 and now it is Rs.1 Crore and in the case of Ancillary Unit investment in fixed assets should not exceed Rs.3 crores) And the unit should engage itself, in manufacturing, processing and preservation of goods. Mining and quarrying, servicing and repairing and custom service units are also treated as SSI units. There is a Tiny Sector where the investment in plant and machinery should be less than Rs.25 lakhs and in the case of Village and & Cottage Industries the credit requirement should not be above Rs.50,000/- While determining the scale of industry in our country we have gone by the investment in plant and machinery but in some countries they base on the number of employees, say up to 200 for the SSI. Beyond SSI limit the industry would fall under the category of Medium Scale or Large Scale. We have now integrated Small Scale and Medium Scale under a single category SME. Official Definition: At this juncture it is worth mentioning that Reserve Bank has come out with guidelines to the banks in respect of SME sector. They are reproduced in their monthly publication, Monetary & Credit Information Review (MCIR) issues for Aug & September 2005 which are very relevant both to the bankers and the borrowers. August issue gives guidelines for lending to the sector and September relates to the restructuring of overdue and irregular debts besides one time settlement of the dues of SME. We shall first acquaint ourselves with the definition given on page 2 of Sept 2005 issue: At present, a small scale industrial (SSI) 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. A comprehensive legislation which would enable the paradigm shift form small-scale industry to small and medium enterprises is under consideration of the Parliament. Pending enactment of the 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).

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Credit Flow to SME Sector: From the issue of MCIR for August 2005 we can note the anxiety and concern of the Monetary Authorities to step up the flow of credit with a substantial increase from the present levels. Among other things banks are asked to a) Formulate policies for extending credit to this sector b) Have a cluster approach to reduce the cost of finance c) Each and every Urban and Semi-urban branch of a bank should finance at least 5 new units per year. Similarly from the issue for September 05, we can note the guidelines for Debt Restructuring and Relief besides One Time Settlement (OTS) of NPAs below Rs.10 Crore classified as Doubtful or Loss Assets as on 31.3.2004 and so also for the debts classified as Sub-standard on 31.3.04 but subsequently become Doubtful or Loss Assets. The OTS is also applicable to all debts under litigation subject to obtaining a consent decree. SMEs Abroad: Going back to the SMEs abroad, in some countries, they are encouraging the SMEs to grow international (transnational is the term used) and spread their wings by strategic alliance, joint ventures, having affiliates or making direct investment in capital. In some quarters loans are granted for this purpose at nominal rate of interest. Developed countries prefer developing countries in view of the latter having cheaper manpower and also natural resources. They also transfer technical know-how, impart training and hold conferences and seminars to pass on the knowledge. Indian Context: In the Indian context, financing SMEs is not something new or unknown. All that we have done recently is the renewal of our pledge to serve the SME Sector with a greater vigor. The Finance Minister during his Budget Speech on 28th February 2005 set the ball rolling. The relevant portion of his speech is as follows: SMALL & MEDIUM ENTERPRISES. In recent years our approach to small scale industry has evolved and now we are inclined to treat the sector as the small and medium enterprises sectorSmall Industries Development Bank of India (SIDBI) has established this year a SME Growth Fund with a corpus of Rs.500 Crores. Small and medium units in knowledge based industries such as Pharma, Biotech and IT will be provided equity support through this Fund. There is a need for a new legislation that will provide a supportive environment for small and medium enterprises He concludes that the Minister of Small Scale Industries will introduce the Small and Medium Enterprises Development Bill. Three things are distinctly clear here. From the Small Scale Industries we have moved to a broader SME sector. And this integrated sector is going to get a good legal and legal support from the authorities. In fact these words have given a good fillip to move in the right direction. Performance: On page 15 of the Economic Times of Tuesday the 11th Oct 2005 there is an advertisement from the ICICI Bank that gives us the following figures: 95% of Industrial Units 40% of Manufactured Output 60% of Exported Goods More than 3 Million Companies 17+ Million Employees SMEs are the backbone of the countrys economy
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ICICI Bank periodically carries a special feature of one page in the Economic Times under the caption: ICICI BANK PRESENTS SME DIALOGUE which helps us to know the importance of this sector. Large Enterprises-Since the sector has a better credit history and repayment capabilities obtaining finance for this sector is easier compared to SME so in my literature survey I have devoted attention to SME.

FICCIS ANNUAL SURVEY ON BANKING BANKING SECTOR FOR CONSOLIDATION

The following are the major highlights of the FICCI Survey: Some of the major strengths of the Indian banking industry, which have helped mark its place on the global banking scene as highlighted by our survey respondents were Regulatory Systems (84.21%), Economic Growth Rate (63.15%), Technological Advancement (52.63%), Risk Assessment Systems (47%) and Credit Quality (42.1%) Some of the areas that need to be geared up for future growth, identified by the survey respondents are Diversification of markets beyond big cities (84.2%), HR Systems (63.15%), Size of banks (52.63%) High Transaction Costs (47.3%), Banking Infrastructure (42%) and Labor Inflexibilities (42%). To a question on achieving global competitiveness, Consolidation in the financial sector has emerged to be the most significant measure required to create world class banking system followed by Strict Corporate Governance Norms, Regional Expansion, Higher FDI limits and FTAs.

Conclusion By adopting the Credit Appraisal and Rating beside Risk Assessment Tool development by SIDBI we can serve the SME sector better The sector should avail of the opportunities and scale new heights. With this the sector will be benefited and the society too. Regarding Large industries since they have a proven track record faster credit financing should be done for this sector too K.G.Mallya is a renowned author in Banking and Finance

Industrial classification All the companies can be broadly divided into 3 types. 1. Manufacturing companies/firms 2. Trading companies 3. Construction company/firms.

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Working Capital
Working Capital is an amount of money borrowed from a bank or other lender and used by a new business for money to keep operations going and pay business bills during the startup period, when income is usually less than expenses. For many new businesses, having enough working capital means the difference between the success and failure of the business. Working capital is a liquidity (cash) concept. A business might show a "profit," but if it cannot maintain a positive cash position (that is, having money in the bank to pay bills each month), the business cannot continue to operate.
(Jean Murray, About.com Guide)

Working capital is defined as: Working capital = current assets - current liabilities Where: current assets are short term sources of finance such as stocks, debtors and cash - the amount of cash and cash equivalents - the business has at any one time. Cash is cash in hand and deposits payable on demand (e.g. current accounts). Cash equivalents are short term and highly liquid investments which are easily and immediately convertible into cash. current liabilities are short term requirements for cash including trade creditors, expense creditors, tax owing, dividends owing - the amount of money the business owes to other people/groups/businesses at any one time that needs to be repaid within the next month or so. Current ratio ie Current assets to Current Liabilities should be greater than 1 which signifies greater liquidity and availability of greater working funds. If the net working capital is negative the difference is called net working capital deficit. Such a deficit indicates funds from current sources (current liabilities) have been diverted for long term use and unless more funds are brought from long term source including cash generation, the enterprise may not survive for a long time Working capital Gap is the difference between current assets and current liabilities other than bank borrowings. The data or information needed for working capital assessment for new units and old units are as given below.

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New Units Bankers judgment and calculation will be based on the projections and estimates submitted to the bank by the parties. To check the hypothesis and assumptions interfirm comparisons involved in similar kind of activity can be done. The projections in case of new companies should have following information A. Projected Balance sheets (estimated/projected/audited) B. Projected Profit and loss account (estimated/projected/audited) C. Raw material quantity and value required to affect the sales D. Basis for projecting manufacturing and administrative expenses E. Period involved in various stages of operating cycle F. Proportion of Cash and Credit Sales G. Liquid surplus presently available H. Closing stock of raw materials, work in progress and finished goods and receivable estimates I. Manufacturing process details J. Detailed note on demand and supply and marketing arrangements. K. Competition analysis Existing Units For existing units judgment will be more accurate as the projections can be compared with past performance and estimates can be cross checked to data of past financial statements. The following information of the last year, current year and next year shall be required in order to judge accuracy of the need of the borrower A. Balance sheet (estimated/projected/audited) B. Profit and Loss account (estimated/projected/audited) C. Cash and Credit Sales D. Cash and Credit purchases of raw materials E. Basis for manufacturing costs and factory overheads F. Basis for administrative expenses G. Liquid surplus presently available H. Opening and Closing stock of raw materials ,work in progress and finished goods and receivables I. Manufacturing process details J. Detailed note on demand and supply and marketing arrangements. K. Competition analysis Factors which determine working capital a. Policies for production b. Manufacturing process c. Credit Policy of the unit d. Pace of turnover e. Seasonality

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The level of working capital is determined both by length of operating cycle and level of sales. Based on the credit limit bank uses different lending methods for working capital

Working Capital lending methods

1. Projected Turnover Method (PTM)
Applicability: Applicable to borrowers who are engaged in manufacturing, services and trading activities with fund based working capital requirements up to and Inclusive of Rs 2 crore (5 crore for SSI) as per bank norms. Assessment of Working Capital finance Based on recommendations of Nayak Committee Steps involved in WC assessment are 1. Collection of Financial data 2. Analysis of Financial Data 3. Computation of WC finance 4. Fixing of sub limits

1. Collection of Financial Data CMA (Critical Monetary Analysis) forms (1, 2, 3, 4, 5 ) revised titled as CAF (Credit assessment forms) will be used for collection of financial data. CAF 1-Data on existing/proposed credit from the banking system, additional data Include: -Borrowing from NBFC -Borrowings from term lending institutions for working capital purpose -ICDs taken/Lease finance availed -ICDs given -Installment due and payable within next 12 months CAF 2-Operating statements for previous years (audited), current year (Estimated) and or next year (projected).

CAF 3-Analysis of the balance sheets for the previous years (audited) current
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Year (estimated) and next year projected. CAF 4-Comparative statements of current assets and current liabilities as per the Balance sheet. CAF 5-Fund flow statements for the previous year [actuals], current year [Estimates] and or next year [projections]

2. Analysis of financial statements The financial data collected as above should be analyzed to assess the working capital finance required by the borrower and evaluate the extent of credit risk. Scrutiny and verification of data to ascertain whether the turnover projected is realistic or achievable. Analysis of the fund flow, profit and loss and balance sheet etc for the previous years to examine profitability, financial position, financial management etc

3. Computation of working Capital finance Gross Working Capital requirements are assessed at a minimum 25% of the annual projected turnover. Of the Gross Working Capital at least 20% are to be brought by the borrowers as margin by way of long term sources and remaining 80% will be provided by the bank by way of working capital finance.

Formula: [Rs in Lakhs] 1.Projected turnover for the year 2.Gross Working Capital[GWC] [25% of the projected turnover] Less: 3.Borrowers Margin [a minimum of 20% of GWC or projected NWC whichever is higher] 5.Permissable Bank Finance [(2)-(3)] : :

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4. Fixing of Sub-limits The present system should be continued. In case where there is large buildup of any item of inventory or receivables is required sub limits will be fixed in a flexible manner.

2. Permissible Bank Finance (PBF)

This is the most commonly used method for lending working capital Applicability: Applicable to borrowers who are engaged in manufacturing, services and trading activities with fund based working capital requirements above Rs 2 crore (5 crore for SSI) as per bank norms. It is also applicable to civil contractors/builders/borrowers engaged in construction activities. Assessment of working capital finance The steps involved in assessment of working capital requirement are 1. Collection of Financial data 2. Analysis of Financial Data 3. Classification of Current Assets (CA)/Current Liability (CL) 4. Verification of Projected level of current assets/current liabilities with special emphasis on inventory/receivables/sundry creditors 5. Evaluation of liquidity in business operation 6. Validation of bank finance sought based on projected balance sheet 7. Fixing of sub limits

1. Collection of Financial Data CMA (Critical Monetary Analysis) forms (1, 2, 3, 4, 5) revised titled as CAF (Credit assessment forms) will be used for collection of financial data. CAF 1-Data on existing/proposed credit from the banking system, additional data Include: -Borrowing from NBFC -Borrowings from term lending institutions for working captial purpose -ICDs taken/Lease finance availed -ICDs given -Installment due and payable within next 12 months

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CAF 2-Operating statements for previous years (audited), current year (Estimated) and or next year (projected).

CAF 3-Analysis of the balance sheets for the previous years (audited) current Year (estimated) and next year projected. CAF 4-Comparative statements of current assets and current liabilities as per the Balance sheet. CAF 5-Fund flow statements for the previous year [actuals], current year [Estimates] and or next year [projections]

2. Analysis of financial statements The financial data collected as above should be analyzed to assess the working capital finance required by the borrower and evaluate the extent of credit risk. Scrutiny and verification of data to ascertain whether the turnover projected is realistic or achievable. Analysis of the fund flow, profit and loss and balance sheet etc for the previous years to examine profitability, financial position, financial management etc

3. Classification of Current Assets (CA)/Current liability(CL) The classification should be based on the extant instructions subjected to changes detailed below. a. Bills negotiated under LCs Bank Finance through LC should be shown as a contingent liability under additional items in CAF-3. b. Cash Margins for LCs and Guarantees. Margins deposited should be treated as current assets

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c. Investments FDs with banks and Govt/trustee securities are treated as investment under current assets. Temporary investments in mutual funds, units of UTI and money market are classified as current assets. All other investments like ICDs, investment in shares and debentures should be classified as non-current assets. d. ICDs taken It is a current liability shown separately as item D under additional information in Form 3 e. Book Debts All receivables up to 180 days should be treated as Current Assets. f. Export Receivables The export receivables may be included in total current assets for the purpose of arriving at PBF. g. Term Loan Installment Term Loan installment due in the next 12 months should be treated as current liability.

4. Verification of Projected level of current assets/current liabilities with special emphasis on inventory/receivables/sundry creditors The levels projected should be examined with reference to past trends, indicative levels, the borrower specific operating strength and weakness, their need to hold the current assets at the levels projected, and their ability to absorb cost of carrying inventory/receivables at the levels proposed. 5. Evaluation of Liquidity Under MPBF method a current ratio is 1.33:1 is acceptable and under PBF method a current ratio of 1.25:1 is considered as a benchmark level of liquidity. Any slippages in the current ratio are considered on a case to case basis. Before accepting the current ratio various aspects such as size of the operations, the period of working capital cycle and overall financial position of the borrower are to be examined. For export oriented units a current ration of 1.1:1 is considered satisfactory to encourage exports as per bank norms.

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6. Validation of Bank Finances sought. In the MPBF method the amount of working capital is arrived as a residual source after netting off the working capital gap, the available net working capital or the required minimum of net working capital whichever is higher. Under PBF method the projected bank borrowing shown in CAF-3 (item 1 under current liabilities) which reflects the finance sought by the borrower should be validated for sanction subject to the condition that the operating cycle of the borrower, projected level of operations, reasonableness in the buildup of current assets/current liability, profitability, liquidity etc.furnished by the borrowers acceptable to the bank.

Particulars

Previous Current Year Year

Next Year

1.Total current asset 2.Other current Liability 3. Working Capital Gap [(1)-(2)] 4. Net working Capital (Actual/Projected) 5.Permissible bank finance [(3)-(4)] 6.Net working capital to total current assets[%] 7.Bank finance to total current assets[%] 8.Sundry Creditors to Total Current Assets[%] 9.Other Current Liability to total Current assets[%] 10.Inventories to Net Sales(days) 11.Receivables to Gross Sales(days) 12.Sundry Creditors to Purchasers(days) 7. Fixing of Sub-limits The present system should be continued. In case where there is large buildup of any item of inventory or receivables is required sub limits will be fixed in a flexible manner

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3. Cash Budget Method

Applicability: Applicable to borrowers who are engaged in manufacturing, services and trading activities with fund based working capital requirements above Rs 10 crore It is also applicable to civil contractors/builders/borrowers engaged in construction activities as per bank norms.(Not frequently used)

Assessment of Working Capital Finance The working capital finance should be projected from quantified from monthly/quarterly cash outflows/inflows projected and not from projected level of asset and liabilities The Cash budget method eliminates the anomaly of averages of production and sales parameters and takes into account the fluctuations in the requirement of funds within a time frame1.Collection of Financial Data CMA (Critical Monetary Analysis) forms (1, 2, 3, 4, 5) revised titled as CAF (Credit assessment forms) will be used for collection of financial data. CAF 1-Data on existing/proposed credit from the banking system, additional data Include: -Borrowing from NBFC -Borrowings from term lending institutions for working captial purpose -ICDs taken/Lease finance availed -ICDs given -Installment due and payable within next 12 months

CAF 2-Operating statements for previous years (audited), current year CAF 3-Analysis of the balance sheets for the previous years (audited) current Year (estimated) and next year projected. CAF 4-Comparative statements of current assets and current liabilities as per the Balance sheet. CAF 5-Fund flow statements for the previous year [actuals], current year [Estimates] and or next year [projections]

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2. Analysis of financial statements The financial data collected as above should be analyzed to assess the working capital finance required by the borrower and evaluate the extent of credit risk. Scrutiny and validation of projected income and expenditure projected balance sheet and projected fund flow to examine whether these are acceptable from the angle of liquidity, overall gearing efficiency of operations. Analysis of the fund flow, profit and loss and balance sheet etc for the previous years to examine profitability, financial position, financial management etc

3. Assessment of bank finance for working capital Monthly/Quarterly projections of Cash receipts and Cash outflows should be furnished in the cash budget statement and the cash gap has to be arrived at which forms the basis for assessing working capital finance. On the scrutiny of data the following data should be extracted for the purpose of assessment of working capital requirements. Sl no Particulars Current Actual/Projections Q1 Q2 Q3 year Q4

1 2 3 4

Total cash outflows from business operations Total cash inflows to business operations Cash Gap in business operations LESS Amount brought/proposed to be brought in from other sources i.e. cash surplus under non business operations/capital accounts/sundry items Net Cash Gap for business operations [item 3-4]

7. Fixing of Sub-limits The present system should be continued. In case where there is large buildup of any item of inventory or receivables is required sub limits will be fixed in a flexible manner

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4. Net Owned fund Method

For Working Capital requirement of NBFCs comprising of (a) Companies engaged in leasing and hire purchase activities (b) loans and investment companies (c) residuary non banking companies, are being assessed under the second method of lending requiring maintenance of current ratio of 1.33:1.The eligible bank finance linked to Net Owned Funds [NOF] of the borrowing unit Ceilings on Banks Lending to NBFCs NBFC Category Companies with not less than 75% of their assets in equipment leasing and hire purchase and 75% of their gross income from these type of activities as per last audited balance sheet In respect of the equipment leasing, hire purchase and investment companies [Companies with not less than 51% of their assets in equipment leasing and hire purchase and 33% of their gross income from these type of activities as per last audited balance sheet] Loans and investment companies and residuary non banking Companies Ceilings on overall borrowings. NBFC CATEGORY Registered EL/HP companies complying with credit rating requirement and prudential norms Registered EL/HP companies complying with/without credit rating requirement or prudential norms Registered EL/HP companies complying with neither credit rating requirement nor prudential norms Unregistered EL/HP companies EL=Equipment Leasing HP=Hire Purchase OVERALL CEILING ON BORROWING No ceiling Up to 10 times the NOF Eligible Bank Finance 3 times the NOF of the company

2 times the NOF of the company

1 times the NOF

Up to 7 times the NOF

Up to 5 times the NOF

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1. Computation Of Net Owned Fund: Owned fund shall consist of paid up equity capital, free reserves, balance in share premium account and capital reserves representing surplus arising out of sale proceeds of assets. Investments in shares of other banking financial companies and in shares, debentures of subsidiaries and group companies and loans and advances to and deposits with subsidiaries and companies in the same group, in excess of 10% of the owned fund should be deducted to arrive at the net owned fund. Net owned funds should be calculated as under: A] Paid-up equity capital B] General Reserves C] Share premium D] Capital Reserve E] Debenture redemption reserve. F] Capital redemption reserve G] Credit Balance in profit and loss account H] Any other free reserve I] Total [A to H] J] Accumulated losses K] Intangible assets L] Total [J+K] M] Owned funds [I-L] N] Investment in shares of subsidiaries and companies in the same group and all non banking financial companies. O] Outstanding loans and advances to and deposits with subsidiaries and companies in the same group P] Total [N+O] Q] Amount of item no P in excess of 10% of item No M above. R] Net Owned Funds [M-Q] 2. Computation of Working Capital Finance

Working Capital requirement of NBFCs should be assessed based on the commercial judgment after taking into consideration the nature/type of activities, actual and projected cash flows, projections of current assets and current liabilities. Borrowers total business operations, financial position, management capabilities etc should be analyzed to evaluate the overall credit risk.

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Steps in Credit Appraisal

Credit appraisal begins once the bank has undertaken a thorough credit investigation on the constituents and is satisfied about his integrity, reputation and credit worthiness.

The steps which are followed by the bank in appraisal of a project are as follows. a. Collection of Required data from the borrower. b. The bank verifies the legal status of the entity and the constitution of the entity to undertake business. c. The bank shall ensure that constituent has obtained all the relevant approvals from Government/Regulatory authorities. d. Background of the Promoters and their Net worth are checked thoroughly. e. Analysis of the financial statements is done. f. Details of Associate/Group companies if any are obtained. g. Security/Guarantee standards for repayment will be evaluated. h. Assessment of Credit Limits is done. i. j. Structuring of Credit Limits. Will check the Management and the organizational setup.

k. Production facilities, Market Prospects and Selling Arrangements of the constituent are analyzed. l. Will analyze the operational experience of the client.

m. Customer Profitability analysis is carried out. n. Exposure Norms are considered based on sector, industry and other factors. o. Based on the SWOT analysis carried out Rating and Pricing is done. p. A credit appraisal group goes to the client to carry a thorough analysis

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Functions of credit Appraisal Group Undertake detailed techno-economic appraisal of large projects seeking Financial assistance from bank and preparation of appraisal report by evaluating technical, managerial, financial and commercial aspects of the project for term loan. Undertake regular evaluation of progress of implementation of large Projects assisted by the Bank. Peruse and furnish views/observations on project appraised by other Banks/reputed consultants, submitted by Cos/other groups of the wing. To undertake monitoring agency activity of companies going for IPO as per SEBI guidelines. Upgrade project evaluation skills. Undertake unit visits and hold discussions with the official of the Company. Undertake detailed techno-economic merchant appraisal of projects going for IPO as per SEBI guidelines.

Banks way of Appraisal: The Branch should call for from the applicant an Application in the prescribed format covering full particulars. The application should contain the following essential data/information. a. Particulars of the project along with the copy of project report furnishing details of the Technology, Manufacturing Process, Availability of Raw Material, Construction, Production facilities etc. b. Estimate of costs of the project detailing assets acquired, to be acquired inclusive preliminary expenses and working capital. c. Details of the proposed means of financing, indicating the extent of promoters contribution, the share capital is to be raised from public and borrowings. d. Working capital requirement at the initial year e. Project implementation schedule f. Organization setup with list of Board of Directors, Qualification, Experience and Competencies. g. Demand projection based on the overall market prospectus together with copy of market survey report if any. h. Estimate of sales, cost of production, profitability. i. Projected profit and loss a/c, balance sheet for the operating years during banks assistance. j. Proposed amortization schedule (repayment program) k. Projected fund flow statement l. Details of the nature and value of securities of fund.

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Due diligence report shall be submitted in the prescribed format. Consent from the authorities of the Pollution Control Board and any other information will be sought.

Brief History In case of already existing company the bank will collect following information, Essential particulars about its promoters and background Its incorporation Its subsequent corporate growth to the date Major developments/changes in its management If the borrowing unit is new to the bank a credit report will be obtained by bank to ascertain the credit worthiness of the company. The banks will carefully scrutiny the MOA and AOA to ensure there is no limitations have been placed on the companies borrowing power and operations. Past Performance A summery of companys past performance in terms of operating capacity, sales, operating profit and net profit for the past 3 year will be analyzed by the bank. The bank will analyze the sales and profitability for last 3 years. If the trend is in ascending order the performance can be consider satisfactory.

Projected Balance Sheet In the case of cost of production and profitability estimates and fund flow projection, the projected balance sheet should be furnished by the company for the entire period. While appraising the following points will be checked by the bank. The cost of the project means of financing, the profitability estimates and the fund flow projection.

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Others (Brief Comment) i. Quality of Management Appraiser will briefly comment on the companys management setup, the composition of the board and the chief executive in-charge of the day-to-day operations. ii. Credit Rating The bank will do the overall assessment of the company and rate the company according to the assessment. Disbursement: Execution of loan agreement and other necessary legal documents is not sufficient for disbursing the amount. Branch will ensure that the amount disbursed is utilized for the purpose for which it has been sanctioned. Supervision and Follow-up Projected supervision and follow-up of assisted project during and after implementation is indeed a important exercise to performed periodically by bank. It not only safeguards the interest of the bank but also to ensure optimum returns on the total investment in project. Even a project well accepted at the appraisal stage may go bad due to lack of adequate care. There fore supervision and control during implementation is necessary during and after project implementation it will be done by the bank by following methods. Scrutiny of progress chart Analysis of annual financial results Visit/Inspection, regulatory control Discussion with management

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Illustration ABC Limited

Background of the borrower ABC limited was incorporated on 29th May 2007and is promoted by the XYZ Group with the main object of setting up facilities for manufacture of different consumer electronic products and home appliances. XYZ group has a market share of 25% in consumer electronics and household appliances. In line with the strategies of other multinational companies the group proposes to focus on distribution, brand building, new product development and OEM segments which have better margins. Strengths Proximity to Northern Indian markets which accounts for 25% of Total Indian Markets. Exemption from excise duties. All facilities under one roof thus saving administrative costs. Ultra modern facility Personal Guarantee of promoters and corporate guarantee of XYZ Weakness Larger working capital cycles, hence high working capital is required. As the company is planning to market its product through the group company viz XYZ Industries Ltd the success of the project is dependent on the performance of the XYZ Industries Ltd and its market penetration level.

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Present proposal
The credit sanctioned by the bank as under: Sl No Nature Facility of Existing Limits Banking system 1. Working capital Fund based 1.Cash credit cum WCDL Total Corporation Banks share Proposed Limits Banking System Corporation Banks share

125 125

25 25

Banking Arrangements
Type of Banking-Multiple The following Banks financed for the project. Name of Bank IDBI Corporation Bank Bank of Maharashtra/Bank of Baroda Loan Amount(Cr) 75 25 25

Out of the 200 crore given by IDBI bank 100 crore-term loan ,75 crore-fund based working capital and 25 crore-non fund based limits.

Other Details 1. Method of lending-Permissible bank finance 2. Priority/Non Priority-Non Priority 3. Whether post sanction reporting to RBI applicable-Yes

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SECURITY Sl no Security Name Owner Total value Share of Basis Date of Security valuation avlue available to Bank 53.06 Projections 2007/08

Paripassu Company first charge on inventory cum book debts/current assets Paripassu Company first charge on P&M and other moveable assets Paripassu Company first charge on factory land and building

318.34

216.5

58.1

As per project cost

38.5

8.55

As per project cost

Total

618.34

119.71 66.65

Total for coverage(excluding receivables)

security stocks and 300

The security covers for the credit limit extended by the Bank works out to be 88.87% which is considered satisfactory.

Shareholding Pattern
Paid up capital-1 crore Shareholder category BBB Inc CCC Ltd XYZ Industries Ltd XYZ Appliances Ltd Total % Holding 49 26 19 6 100%
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Compliance with group credit policy guidelines

Parameters Entry Level per borrower exposure for FB facilities(Corporate) Maximum per borrower/Exposure Maximum group exposure Exposure to industry/sector Current Ratio Current Ratio for export oriented units Debt Equity Ratio DSCR TOL/TNW Promoters Contribution to project cost Minimum credit rating prescribed if any Whether industry falls under category where selective approach is to be adopted Banks norm (Rs in Cr) 100 Actual (Rs in Cr) 75

547 1461 Electronics 10% of NBC 1.25:1 1.10:1 2:1 1.5:1 4:1 25% Minimum CB 6 No

75 231 0.14% of NBC 1.5:1 2.5:1 40% CB2

Summary of Financials a. Financials As the applicant company was incorporated on 29-05-2007 and as such it doesnt have any past financials. The authorized capital is 1 crore and it proposes to increase the capital to 101 crore.

Justification of the limits proposed

Assessment of FB WC requirements:
Net sales for the current year projected by the year : Rs 766 (Rs in crore) Net Sales Projection accepted by us: Rs 766 (Rs in crore) As indicated the company has projected sales turnover of Rs 766 crore for first year. It is based on extensive market study undertaken. It is reported that Northern India accounts for nearly 30% of the Indian Market for consumer durables and its location will
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facilitate proximity to market. The location has other advantages like savings in transportation cost, tax soaps. Particulars 1.Total Current Assets* 2.Current Liabilities *(other than bank borrowings) 3.Working Capital Gap (1-2) 4.Projected Net Working Capital 5.Permissable bank Finance (3-4) Amount(Rs in crore) 344 95 249 124 125

Current Assets * 1.Imported Raw Materials-45.35 crore 2.Indigenous Raw Materials98.27 Cr 3.Stock in Process-19.54Cr 4.Finished Goods-29 Cr 5.Recievables-125.77 Cr 6.Other current assets-23.07 Cr Current Liabilities* 1.Creditors-89.26 Cr 2.Tax provision-3.74 Cr 3.Others-3 Cr Out of this 75 Crore has already been given by IDBI having regard to the above bank has recommended for taking up of a share of Rs.25 Crore to be extended in the form of Cash-cum-Credit-WCDL providing for drawals against paid for stocks and book debts with a cover period of 90 days.

Management
The Management of the company vests with the Board of Directors comprising four Directors.Mr.ACE son of Mr.BDF is the managing director of the company. He is reported to have experience in the field of electronics, entertainment and gaming solutions and is instrumental in the growth and development of various home appliances brands. He is in the board of 9 other companies. He looks after the strategic and business related aspects and is also engaged in day to day business affairs of the company. The other promoter director Mr.CEG is associated with various companies of XYZ group and looks after international operations, sales and marketing of the entire group. The other two directors Mr. A and Mr.S are associated with the XYZ group. Mr. G, the former director of D Bank, is an advisor to the Board of Directors of XYZ group while Mr.H has served the group in various capacities and currently acts as a Finance Controller. Apart from the Board of Directors the company has appointed key managerial persons to look after the day to day affairs for different area of functioning, like production, marketing, finance.

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Industry Analysis
Industry Name: Consumer Electronics Demand Supply Gap The industry is rated marginally favourable.The CTV is growing by an estimate 6.5% annually during last five years. Going ahead ,while the B/W TV segment share will continue to shrink at a fast pace the CTV segmented to grow by 9 % in the medium term.LCD TV may strain the growth rate of high-demand flat CRT-TV category. Government Policies The import duty has reduced from 65% (94-95) to 10.7 % (07-08), while imports from Thailand has zero duty. While the CTV imports have been negligible due to competitive domestic prices. While the prices of Chinese manufactured CTVs are lower, the threat from Chinese imports is limited due to perceived low quality of Chinese products among Indian consumers. Thus CTV industry has been rated neutral on this parameter.

Input Related Risk The main inputs required to manufacture CTVs are CPTs (27-30 % of raw materials cost) and printed circuit boards. Other inputs include tuners, cabinets, moulds, speakers and integrated circuits. Only a small number of electronic components need to be imported. The reduction in customs duty and FTA with Thailand are bringing down the cost of components and forcing domestic CPT players to slash their prices. Hence easy availability and competitive pricing policy, the CTV industry has been rated marginally favorable on this parameter.

Extent of Competition The CTV industry is intensely competitive in nature. With the entry of foreign players competition has shot up. Top 4 players control approx 60% of the market and remaining 40% is split among 18 regional players. The industry has experienced 6.43% increase in demand for consumer durable goods in FY 2007 and demand is expected to increase at a CAGR of 22% by FY2010.Increase in raw material prices and rise in power tariffs will be major challenges. Major players in the categories are L, S, XYZ, B., M electronics.L, S, XYZ share a major chunk of Television, washing machine and refrigerator sales.

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Business Analysis

1. Production and Infrastructural facilities and Selling and Marketing arrangements. a. Production and Infrastructural facilities
Plant and machinery will be procured from reputed suppliers and implemented under the guidance and support of Hi-tech Group and XYZ group. The company does not foresee any problem in sourcing required raw materials. The color picture tube will be purchased from S Color Ltd, B display Devices Ltd and JCTDF Electronics Ltd whereas speakers will be purchased from SVE Pvt Ltd and San International Ltd b. Selling and Marketing Arrangement XYZ has entered into an long term buy back agreement with the applicant company for assuring 100% off take. Presently group has more than 35000 dealers and distribution networks in India and abroad and has exports to various countries like Middle East, Africa and Europe. It has well distribution and marketing channels and strategies and pursuing aggressively for deepening and expansion of the same.

2. Market Position and Competitiveness XYZ is the market leader with a market share of 30% for Colour TVs, 25% in Refrigerators, 28% for washing machine, 21% in Acs.The group has decided to remain market leader and also to consolidate the business. It has decided to follow up the OEM for domestic as well as international markets. Group is marketing various brands such as XYZ, DEF and is expected to add few more international brands to its existing multibrands strategy.

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Risk Analysis

Risk Factor
Industry Risk

Mitigation

The industry is growing at an estimated rate of 6.5% and expected to grow at 9% in the medium term Marketing Risk XYZ group takes the responsibility of Buy Back of manufactured items and entire marketing activities Employee Risk The company plans to appoint 2285 staff for the proposed unit which includes 825 skilled labors, 1250 semi skilled and 210 officers and supporting staff. Necessary guidance will be provided by XYZ Construction Risk Company has proposed to hire reputed engineering consultants and contractors for the execution of the project. More over it is also proposed to have a well chosen team of experienced persons and in house task force to co-ordinate the implementation of the project Availability and Transportation of Raw Company has made necessary Materials arrangements with back ups Management risk The promoter are well experienced and have successfully implemented many projects in the past

Funding Risk

Environmental risk

Catastrophic Risk

Promoters contribution to the project is 40% upfront in the form of equity ,considering the group reputation it should be not be difficult to tie up debt funds for the project The company has applied for No objection certificates from the State Pollution Control Board and is awaiting for the approval. All the necessary insurances are done.

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Ratio Analysis
a. Net Profit Ratio

This ratio shows the relationship between net profit and net sales which indicates efficiency of management. Year 2008 2009 2010 2011 2012 2013 2014 PAT 33.78 80.68 94.14 100.52 107.08 94.79 90.47 Sales 765.72 1372.22 1583.12 1683.56 1787.01 1803.89 1807.24 NP Ratio % 4.41 5.87 5.94 5.97 5.99 5.25 5.00

b. Current Ratio

It measures the relationship between current asset and current liability. The ratio is an indicator of the firms commitment to meet its short term liabilities. Year 2008 2009 2010 2011 2012 Current assets 341.44 571.55 660.28 740.69 829.33 Current liabilities 216.79 390.29 411.75 423.14 435.63 Current Ratio 1.57 1.46 1.6 1.75 1.90

The current ratio as per bank norms is 1.25 and the current ratio for this company is well above the prescribed norms. This shows company has sufficient funds to pay its creditors and take care of all the current liabilities. The ratio is increasing year by year, it shows that the company has high capable of paying its creditors. But on the negative side there is a less efficient use of funds.

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c. Quick Ratio or Acid Ratio

The ratio measures the capacity of the organization to pay off liabilities of the urgent nature immediately. Year 2008 2009 2010 2011 2012 Current assets 148.97 240.32 283.28 363.69 401.37 Current liabilities 216.79 390.29 411.75 423.14 435.63 Current Ratio 0.687 0.615 0.687 0.859 0.921

It will give a more realistic picture than current ratio since the inventory is left out

d. Stock Turnover Ratio/Inventory Turnover Ratio

The ratio indicates the number of times the stock has been turned over during the period and evaluates the efficiency with which a firm is able to manage its inventory. Year 2008 2009 2010 2011 2012 Sales 765.72 1372.22 1583.12 1683.56 1787.01 Inventory 192.47 331.23 377 401.37 427.96 Current Ratio 3.97 4.14 4.19 4.19 4.17

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Debtors turnover ratio or accounts receivables turnover ratio indicates the velocity of debt collection. In simple words it indicates the number of times average debtors (receivables) are turned over during the year.

Year 2008 2009 2010 2011 2012

Sales 765.72 1372.22 1583.12 1683.56 1787.01

Receivables/Average trade debtors 125.87 225.59 260.24 299.81 342.71

DTR 6.08 6.08 6.08 5.61 5.21

Rating Summary Information:

Rating is done using the software of risk assessment model provided by CRISIL Two types of rating is done 1. Facility Rating This is based on the type of Credit facility availed 2. Company Rating This is based on four factors 1. Business Risk 2.Financial Risk 3.Management Risk 4.Industry Risk Internal Credit Rating Latest Previous Based on Specific Financials Grade 2008 P1 Model Single Scale Rating CB2 -

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REFERENCES:
Bank Finance for Industry and Trade-N.S.TOOR Lending Policy-Methods of Lending-Corporation Bank Group Credit Policy-Corporation Bank. Live Cases-Corporation Bank. http://www.investopedia.com/terms/t/termloan.asp\ http://www.bized.co.uk/learn/accounting/financial/sources/capital.htm http://wiki.answers.com/Q/What_are_Non_fund_based_limit http://www.accountingformanagement.com

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