M.L.G. 09-Aug-2008Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. Basel Two Norms...

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Basel Two Norms&

Credit Ratings

( and its practical “need-to-know” knowledge for us, as Advocates,

CA’s, & ITP’s in Faridabad )

Sangeet Kr Gupta, CASaturday, August 09, 2008

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

What is this ?

• This is the set of

• International "Banking laws and Regulations",

• &

• to be complied in India also.

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Why was this brought in ?

• We remember, some big banks

• collapsed like Barings plc etc.

• And the economies lost Billions of Dollars.

• So, this is a safeguard, which if followed , then, Risk of those problems will be less

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

What is the target of BASEL-2 ?

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

What is the target of BASEL-2

• First Target

• Ensuring that capital allocation is more risk sensitive;

• ( see that Bank takes only that much risk, as it can afford to has adequate capital to cover the same C.A.R. ( Capital Adequacy Ratio’s ).

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

What is the target of BASEL-2

• Second Target

• Separating operational risk from credit risk,

• and Quantifying both;

• ( Bank must remember both ).

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

What is the target of BASEL-2

• Third Target

• Remove the difference in policies of banks in different countries - "Regulatory Arbitrage".

• ( Some countries have too flexible norms. The unscruplous companies may try to shift to these countries , to save them from tough standards of USA, or India )

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

• What do we need to know ?

As Advocates & CA's

& ITP's, practising in Faridabad ???

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

What we need to know ?

• We shall focus on the SME sector .

• We shall know the key idea behind this .

• This is an "imposition". But for the better future.

• So, target of this topic is how we can serve our clients even better, using this knowledge ?

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

1) Business Strategy & Targets

• The "Project Report", we make/we guide the client to make, must have a detailed working on the “Strategy”

a) Targets should be clear = Management agrees with them . ( And no conflict )

b) Targets are SMART = Specific, Measurable, Achievable, Realistic and Timed

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Target section includes

• Product quality (e.g. number of warranty claims or returned items)

• Service quality (e.g. number of breakdowns or disruptions in service)

• Process efficiency (e.g. volumes in a stated period versus cost of process

• Customer satisfaction (e.g. number of complaints or repeat orders)

• Staff satisfaction (e.g. staff turnover, training provided)• Financial performance (e.g. sales targets; profit margins;

return on capital; cash flow management; credit control)

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

2) Business Market & Competition

• All Risks associated with the business

• Customer Attractiveness

• Supplier Attractiveness

• Competetion

• Market Growing or not ?

• Product is attractive or not ?

a) Make Notesb) Analyse

c) Give mitigating plan ?

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

3) Business Capability

1) General Management

2) Sales & Marketing Management

3) Operational / Production Management

4) Facilities Management

5) Financial Management

6) Planning & Information Management

7) People Management

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Business Capability – Wiiifm ?

a) make notes on themb) Analyse data, c) Give mitigating action plan

Tough work, in case of SMEsince all jobs by consultant

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

4) Business & Financial Planning

• This should contain: • Purpose of Plan • Summary description of the business and any of its unique selling propositions (USP) • Overview of key aspects of the marketplace • Summary of SWOT analysis (highlighting your business attributes and and key people) • Key Business Objectives and Targets • Critical Success and Risk Factors (key issues and actions) • Financial Analysis & Outcomes of Plan (Key financial results, ratios, sensitivity tests

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

So ?

• Tough work, in case of SME

• since all jobs by consultant.

• But ………. Then, if we can manage, it becomes more remunerative .

• Depends ……..?????

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Core Effect ?

• In India, all these documents were still asked for ………

• So, what is the new thing ?

Core Effect of Basel-II

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Core Effect of Basel II

• Bank Loan Rating under New Capital Adequacy Framework (BASEL II)

• On April 27, 2007, the Reserve Bank of India released the final guidelines for implementation of the New Capital Adequacy Framework (Basel II) applicable to the Banking system of the country

• The new framework mandates that the amount of capital provided by a bank against any loan and facility will be based on the credit rating assigned to the loan issue by an external rating agency.

• This means that a loan and a facility with a higher credit rating will attract a lower risk weight than one with a lower credit rating

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Old Position ( under Basel-I )

* Capital required is computed as Loan Amount × Risk Weight × 9%

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

New Position ?

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Effect ?

• Let us see the numerical example

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Example for Strong CompanyRs.

Loan is 100 CroresRating is AAA

Risk %Capital Reqd

Opportunity Intt lost by bank

C.A.R. unrated 150% 13.50 1.62 CroresC.A.R. New 20% 1.80 0.22 Crores

Crores 1.40 Crores

Why should bank lose this money ??

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Effect ?

• Either it will prefer that you get yourself rated.

• Or

• it will prefer that you pay a higher rate of interest to compensate for the loss

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Effect on a “Weak” company ?

• Bank will prefer that you pay a higher rate of interest to compensate for the loss.

• ( no doubts on that )

• And

• If you don’t like that …….

• Go to some other bank ……..

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Effect of Basel-2 CAR Intt %

• If you don’t like that higher rate of interest ……. You have to go to some other bank ……..

• But

• Will that bank, give you good interest rates, in coming years also ???

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

• Moral of the story

( for Consultant )

• Get your Client's company Rated .

• And

• If the rating is not good enough,

• Educate the Client … to have a better Credit Rating…

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Credit Rating ?

• What is that ?

• That is an evaluation of Credit Worthiness of a person or company , or instrument.

It indicates their willingness to pay the obligation and the net worth

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Credit Rating

• Non-Financial Factors – Marketing, Competition, Raw Material, HR etc

• Financial Factors this we will discuss.

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Over to Excel File

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Who Benefits ?

The Assessee wins …

The Bank wins ………..

And an indirect but real winner is …..

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Income Tax …..Collections are rising every year….46% last year

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Credit Rating for Mid-Corporates( for Bank Loans ):

• Reserve Bank of India, has mandated that Indian Banks shall observe the BASEL-II norms .

• These Basel Two norms

mandate a Higher Credit Risk

for the Unrated Loans, and

Low Credit Risk for AA or AAA rated Loans.

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

• So, if you have a loan of say, Rs. 50 Crores with a Bank, if you are unrated, the bank will have to cover your risk by 150% of normal, and suppose you get yourself rated, your risk may come down to just 20%(in case of AAA). So, this is a huge Penalty Vs saving scenario. This saving for bank becomes saving for the company too. In coming times, companies with Good Rating shall find cheaper loans and vice versa.

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

Credit Rating for SSI units :

• SSI Credit Rating is not a must. Banks are not giving much credence to it. But it is a beneficial report. It helps you in marketing your company before diverse audience like HUDA/PUDA for allotment of Land applications, New Customer for credibility, Export Market development and so on. Some large corporates are also asking for D & B reports etc in case you want to be an approved vendor to them.

09-Aug-2008 Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. M.L.G.

• Thank you

• Contributor : CA.Sangeet Kr Gupta,– groupmlg@eth.net– skgupta@mlginfotech.com