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General Operation & Risk Management of BMCB
ACKNOWLEDGEMENT
This is the fact that Success can never be achieved single handled. The
project work is always an outcome of team efforts. A number of people have
contributed towards making this project a success. Some have given advice,
contributed towards making this project a success. Some have given advice, while
some have given their valuable suggestions. Without the help and guidance of The
Bhuj Mercantile Co-operative Bank’s staff members we would have neither instigate
nor accomplished this project to such a great extent. So we are very much thankful to
all of them for their kind co-operation and their efforts that made complete this project
successfully.
We express our deep sense of gratitude and special thanks to Mr. Mahendra
Morabia (Chairman) and Mr. V. P. Shankarwala ( Branch manager ), who gave us to
grab the opportunity our talent. We extent our sincere thanks to project guides Mr.
Ravi Pamwani (Assistant Manager), Mrs.Anjali Mulchandani (Chief Officer),
Mr.Hitesh Tank (EDP Clerk), Mr. Ashok Mishra (Chief Officer), Mrs. Charanjeet
Panjriwala (Officer),Miss Sandhya Tanna (Clerical staff) of BMCB Gandhidham
branch who helped us during the course of our project and for their gracious attitude.
We would like to thank the full staff of BMCB and would admit that they were very
cooperative and willing to share information.
We take this opportunity of expressing our heartiest gratitude to Dr.
Sampada Kapse and Prof.Suresh lalwani, faculties of TIMS for their kind cooperation
and guidance for the project. We thank them for their special interest, counsel and
encouragement.
1 Tolani Institute of Management Studies
General Operation & Risk Management of BMCB
EXECUTIVE SUMMARY
This study is attempted with an objective of getting knowledge regarding
risk management, policies and procedure of The Bhuj Mercantile Co-operative Bank
Ltd., Gandhidham Branch. The whole project also gives us the knowledge regarding
core banking that is operational banking with risk associated with each activity. And
analysis of activities is done to understand the risk and its measuring tools.
Risk is inherent in any walk of life in general and in financial sectors in
particular. Till recently, due to regulated environment, banks could not afford to take
risks. But of late, banks are exposed to same competition and hence are compeled to
encounter various types of financial and non-financial risks. Risks and uncertainties
form an integral part of banking which by nature entails taking risks.
Thus the basis idea behind studying and analyzing the financial terms is not
only comparing their performance but to find out the scope and importance of it.
2 Tolani Institute of Management Studies
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DECLARATION
We, Komal Lalwani and Dinky Khandor students of Tolani Institute of
Management Studies, perusing post graduate diploma in business management declare
that the summer training project report prepared by our self at BMCB is our original
work and is based on study we have undertaken during two months training at BMCB
Dinky Khandor Komal lalwani
3 Tolani Institute of Management Studies
General Operation & Risk Management of BMCB
OBJECTIVE
As we all know without aim life is nothing; in the same way each and every
activity also requires specific objective. Following were our objectives for this
project.
➢ To study the banking operations in detail and risk associated with it.
➢ To obtain general information about risk management and it’s measuring
tools. Measures taken by bank to reduce the risk which are faced by them.
➢ To get the deeper knowledge of the banking sector.
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METHODOLOGY
Primary data:
Personal meetings with manager constituted as our basic source of
information. This includes discussion on various topics in different department and
with concerned person.
Secondary data:
Our secondary data constituted from various websites related to risk management.
The names of the websites respectively are mentioned in the bibliography.
5 Tolani Institute of Management Studies
General Operation & Risk Management of BMCB
[1] INTRODUCTION
[1.1] Introduction of Banking
Define: Banking
Banking regulation act of India, 1949 defines banking as “financial
intermediary that accepts deposits and channels those deposits into lending activities.
Banks are a fundamental component of the financial system, and are also active player
in financial markets. The essential role of a bank is to connect those who have capital
(such as investors or depositors), with those who seek capital (such as individuals
wanting a loan, or businesses wanting to grow). Accepting ,for the purpose of lending
or investment of deposits of money from the public ,repayable on demand or
otherwise and withdrawals by cheques, drafts, and order or otherwise.
The RBI was established to organize effective control over the currency
management in the interest of country benefits and to maintain financial stability. The
power of control and supervise the cooperative bank is with the RBI. The UCB is
wedded to the social objectives with a strong sense of social purpose. It has
democratic management and predominantly a democratic character which is the
essence of co-operation.
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ABOUT BANKS
An institute providing banking service is known as a bank. This
institute continuously tries to maintain balance between profitability and
liquidity. For maintaining this balance the management of the bank must be of a
high level. The History of banking in India dates back to the early half of the
18th century. 3 Presidency Banks that were established in the country namely
the Bank of Hindustan, Bank of Madras and Bank of Bombay can also be
referred to as some of the oldest banking institutions in the country. The State
Bank of India that was earlier known as the Bank of Bengal is also one of the
oldest in the genre.
IN modern age, banks have become centres of faith of millions of
persons that is why in real life its meaning has been derived as a place of
putting faith. For expressing faith it is said proverbially, ‘I bank on you’. Such
deposits are used for lending to others and not for financing its own business of
any kind. The term lending includes both direct lending to borrowers and
indirect lending through investment in open market securities. A bank generates
a profit from the differential between what level of interest it pays for deposits
and other sources of funds, and what level of interest it charges in its lending
activities. This difference is referred to as the spread between the cost of funds
and the loan interest rate.
Banks safeguard money and valuables and provide loans, credit, and
payment services, such as checking accounts, money orders, and cashier’s
checks. Banks also may offer investment and insurance products. In spite of
7 Tolani Institute of Management Studies
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these changes, banks continue to maintain and perform their primary role –
accepting deposits and lending funds from these deposits.
BANKING SECTOR IN INDIA
The banking sector is a lifeline of any modern economy. It is one of the
important financial systems, which plays a vital role in the success / failure of any
economy. Banks are one of the oldest financial intermediaries in the financial system.
They play an important role in the mobilization of deposits and disbursement of credit
to various sector of the economy. The banking system is the fuel injection system
which spurs economic efficiency by mobilizing savings and allocating them to high
return investments.
The banking system reflects the economic health of the country and
efficiency of financial system, which, in turn, depends on a sound and solvent banking
system. A sound banking system efficiently deploys mobilized saving in productive
sectors and a solvent banking system ensures that the bank is capable of meeting its
obligation to the depositors.
8 Tolani Institute of Management Studies
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Types of bank
Public sector banks in India - All government owned banks fall in this variety.
Besides the RBI, SBI and its associate banks and about 20 nationalized banks. Many
of the regional rural banks that are funded by the government banks can also be
clubbed in this genre.
Private sector banks in India - A new wave in the banking industry came about
with the private sector banks in India. With policies on liberalization being
generously taken up, these private banks were established in the country that also
contributed heavily towards the growth of the economy and also offering numerous
services to its customers. Some of the most popular banks in this genre are: Axis
Bank,HDFC Bank, ICICI Bank, Kotak Mahindra Bank and SBI Commercial and
International Bank.
Cooperative banks in India - With the aim to specifically cater to the rural
population, the cooperative banks in India were set up through the country. Issues
like agricultural credit and the likes are taken care of by these banks.
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SERVICES OFFERED BY BANKS :-
Although the type of services offered by a bank depends upon the
type of bank and the country, services provided usually includes:
1. Acceptance of deposits from the public.
2. Lending out money to companies and individuals.
3. Facilitating money transfers such as online transfers and Demand drafts.
4. Issuing credit card, ATMs and debit card.
5. Internet banking.
6. Storing valuables particularly in a safe deposit vault or lockers to keep
jewellery.and valuable documents of customers in safe custody.
7. Acting as trustees.
8. Acting as intermediaries for customers to buy and sell securities on their
behalf, making and receiving payments on behalf of its depositor.
9. Issues letter of credit, Bank Guarantees.
10. Issues travellers cheques for the convenience of customers.
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[Chart-1] STRUCTURE OF BANKING IN INDIA
ABOUT CO-OPERATIVE BANKS
“Co-operative bank” is a special form of business organization aiming
at the economic enlistment of the members and laying a great emphasis on
moral principles and human value.” The cooperative bank gave a special task of
taking up the responsibility of helping the economically weaker and poor as
well as other marginal sector of the society. These banks originated in India
with enactment of the cooperative credit society’s act of 1904. a new act was
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passed in 1912, which provided for the establishment of cooperative banks by
the union of primary credit societies and individuals.
The Co-operative banks have a history of 100 years. The Co-operative
movement originated in the west, but the importance that such banks have
assumed in India is rarely paralleled anywhere else in the world. Their role in
rural financing continues to be important even today, and their business in the
urban areas also has increased phenomenally in recent years mainly due to the
sharp increase in the number of primary co-operative banks.
While the co-operative banks in rural areas mainly finance agricultural
based activities including farming, cattle, milk, hatchery, personal finance etc.
along with some small scale industries and some employment driven activities,
the co-operative banks in urban areas mainly finance various categories of
people for self employment, industries, small scale units, home finance,
customer finance, personal finance etc. Some of the co-operative banks are
quite forward looking and have developed sufficient core competencies to
challenge state and private sector banks.
According to NAFCUB the total deposits & lending of Co-operative
banks in much more than Old Private Sector Banks & also the new private
Sector Banks. This exponential growth of Private Sector Banks is attributed
mainly to their much better local reach, personal interaction with customers, and
their ability to catch the nerve of the local clientele.
[1.2] Introduction of BMCB
[Table-1]The Bhuj Mercantile Cooperative Bank
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13 Tolani Institute of Management Studies
NAME THE BHUJ MERCANTILE CO-OPERATIVE BANK LTD.
CORPORATE
OFFICE
PLOT NO. 19, SECTOR NO. 9, OPP.SBI,BMCB HOUSE,
BANKING AREA GANDHIDHAM- 370 201
TYPE PUBLIC
ESTABLISHED 2001
LOCATION GANDHIDHAM
KEY PERSONS SHRI MAHENDRA MORABIA( CHAIRMAN)
SHRI (VICE CHAIRMAN)
SHRI (MANAGING DIRECTOR)
GENERAL
MANAGER
MR.. V. P. SHANKARVALA
INDUSTRY BANKING
` FINANCIAL SERVICE
WEBSITE www.bmcbonline.com
DEPOSITS Rs.2279751046.49
LOANS &
ADVANCES
Rs.1071827396.42
NET INCOME Rs.10593527.64
NO. OF
EMPLOYEES
24
General Operation & Risk Management of BMCB
“Need is the origin of creation”. True, The Bhuj Mercantile
Cooperative Bank Limited was registered in April 1994 and commenced
Banking Business on 15/05/1995 with Bhuj branch. The Bank has been
promoted by its Founder Chairman Shri Mahendra H. Morabia (Chartered
Accountant).
The Bhuj Mercantile Cooperative Bank comes under the control of
RBI and UCB. To maintain the working of the bank properly the first step is to
study the basic operations of the bank. The basic operations help to study
management of the bank. The main power to control the currency supply in the
economy rests with the RBI. By credit control analysis is the way to find how
the bank maintains its liquidity
BMCB VISSION STATEMENT: “To maximize customers and
shareholders value continuously.”
BMCB’S POLICY TO SURVIVE IN COMPETITIVE BANKING
SECTOR
➢ Prime motto – ANYTIME ANYWHERE BANKING SERVICE.
BMCB is the ONLY Cooperative Bank to have DOUBLED its Deposits
from 2001 to 2003 in the aftermath of MMCB crisis.
➢ BMCB is the FIRST Bank in India to give ANYTIME ANYWHERE
BANKING through leased line and Optical Fiber Cable interconnectivity linking ALL
EIGHT BRANCHES.
➢ The NON PERFORMING ADVANCES of the Bank are NIL for NINE YEARS
IN A ROW! This shows SOUNDNESS of the Loans and Advances APPRAISEL,
DISBURSEMENT AND RECOVERY system in the Bank.
➢ BMCB- “The only Bank in the Country providing 365 days non-stop complete
banking.” It offers 24hours total banking along with Telebanking, Homebanking and
ATM services.
14 Tolani Institute of Management Studies
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➢ BMCB believes in CUSTOMER SATISFACTION (provides the banking
product as per the requirement of the customer.
➢ BMCB takes into consideration the SOCIAL RESPONSIBILITY (like
maintenance of amusement park, school, hospital etc).
➢ BMCB also provides BORROWER’S FRIENDLY LOAN schemes.
➢ BMCB has also made the special DEPOSIT SCHEMES for senior citizens, NRI,
shareholder.
➢ Every service provided by BMCB is VALUE INTENSIVE AND COST-
EFFECTIVE.
➢ BMCB have been in the forefront in removing economic backwardness of Kutch
district by providing TIMELY, QUICK AND CONTINUOUS finance to various
sectors.
➢ Opened up its branches at many places in Kutch. It has its eight branches spread
all over Gujarat which include:
[Table-2] Different Branches of BMCB
Sr. no Branch Opening year
1 BMCB Bhid Bazaar now
(Market Yard) Bhuj
1995
2 BMCB station road Bhuj 1997
3 BMCB hospital road Bhuj 1999
4 BMCB Anjar 2000
5 BMCB Gandhiham 2001
6 BMCB Madhapar 2001
7 BMCB Nakhatrana 2001
8 BMCB Ahmedabad 2003
15 Tolani Institute of Management Studies
General Operation & Risk Management of BMCB
BMCB - Special Features
• Online Real Time Inter Branch Connectivity.
• Internet Banking.
• Mobile Banking.
• Tele Banking.
• Home Banking.
• 24*7 ATMs.
• Safe Deposit Vaults.
• DICGC Deposit Insurance cover upto Rs. 1 lac.
• Accepting NRI Deposit
ACHIEVEMENTS OF BMCB:
1. Net profit (2006-07) - Rs.5.10 crores.
2. Net profit (first 5 months 2007-08) - Rs.3.78 crores.
3. 0% NPA Award.
4. Bank with difference Award 2007.
5. Best Bank Award.
6. Rajeev Gandhi shiromani Award.
7. BMCB- The fastest growing Bank
Future planning of BMCB.
• Merger & acquisition.
• Installation of ATMs at various branches.
• Installation of KIOSK at various branches.
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[1.3] Introduction of Risk Management
The etymology of the word “Risk” can be traced to the Latin word
“Rescum”meaning Risk at Sea or that which cuts. Risk is associated with uncertainty
and reflected by way of charge on the fundamental/basic i.e. in the case of business it
is the Capital, which is the cushion that protects the liability holder’s of an institution.
These risks are inter-dependent and events affecting one area of risk can have
ramifications and penetrations for a range of other categories of risks. Foremost thing
is to understand the risks run by the bank and to ensure that the risks are properly
confronted, effectively controlled and rightly managed. Each transaction that the bank
undertakes changes the risk profile of the bank. The extent of calculations that need to
be performed to understand the impact of each such risk on the transactions of the
bank makes it nearly impossible to continuously update the risk calculations. Hence,
providing real time risk information is one of the key challenges of risk management
exercise.
Till recently all the activities of banks were regulated and hence operational
environment was not conducive to risk taking. Better insight, sharp intuition and
longer experience were adequate to manage the limited risks; Business is the art of
extracting money from other’s pocket, without resorting to violence. But profiting in
business without exposing to risk is like trying to live without being born. Everyone
knows that risk taking is failure prone as otherwise it would be treated as sure taking.
Hence risk is inherent in any walk of life in general and in financial sectors in
particular. Of late, banks have grown from being a financial intermediary into a risk
intermediary at present. In the process of financial intermediation, the gap of which
becomes thinner and thinner, banks are exposed to severe competition and hence are
compelled to encounter various types of financial and non-financial risks. Risks and
uncertainties form an integral part of banking which by nature entails taking risks.
17 Tolani Institute of Management Studies
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Business grows mainly by taking risk. Greater the risk, higher the profit and
hence the business unit must strike a trade off between the two. The essential
functions of risk management are to identify measure and more importantly monitor
the profile of the bank. While Non-Performing Assets are the legacy of the past in the
present, Risk Management system is the pro-active action in the present for the future.
Managing risk is nothing but managing the change before the risk manages. While
new avenues for the bank has opened up they have brought with them new risks as
well, which the banks will have to handle and overcome.
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OPERATIONS
IN
BMCB
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Banks usually perform these two basic services:
1. Accept deposit from general public.
2. Lending loan to general public.
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General Operation & Risk Management of BMCB
[2]
DEPOSITS
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General Operation & Risk Management of BMCB
[2.1] INTRODUCTION OF DEPOSITS
Acceptance of deposits and maintenance of deposits account in the core
activity in any bank. The very basic legal interpretation of the word “BANKING” as
defined in the baking regulation act, 1949 means accepting deposits of money, for the
purpose of lending or investment, from the public, repayable on demand or otherwise,
and withdrawable by cheque, draft, order or otherwise. Thus, deposits are the measure
resources and mainstay of a bank and the main objective of a bank are to mobilize
adequate deposits. Various instruction, guidelines, etc. issued from time to time
primary co-operative banks in regard to opening and conduct/monitoring of deposit
accounts.
Accepting deposit from general public
Banks provide this facility to their customer so that the customers can keep
their money in safe place. Banks also provide benefits to their customer in the form of
interest on deposit, which is based on the type of deposit which varies in period.
Deposits are of three types:
Demand deposit:
It is one type of current deposit. The customer can withdraw the
amount from current deposit at any time. In this type of deposit, the bank does
not pay any interest. But infact charges some amount from the customer.
Saving deposit:
22 Tolani Institute of Management Studies
General Operation & Risk Management of BMCB
In this type of deposit, Bank pays certain percentage of interest to the
customer and also places certain restrictions on the withdrawals.
Fixed deposit:
In this type of deposit, period is fixed and a person can withdraw the
amount on at the expiry of specific period. Interest is also paid to customers
which vary from time to time.
PRODUCTS OF BMCB
Saving Accounts:
➢ Minimum Balance: Rs. 1000
➢ Ordinary saving account
Current Accounts:
➢ Ordinary Current Account.
➢ Minimum Balance: Rs. 2500
➢ ADVANTAGE Current Account.
➢ VISHESH Current Account: If minimum balance of Rs.1 lakh is there in the
account then no extra charges or commission on DD and for clearing is
taken
Fixed Deposit:
➢ FD Simple (less than 18 months)
➢ FD Quarterly
➢ FD Double ( Period 84 months)
➢ FD Accumulate (Above 18 months)In FD customer receive compound
interest.
➢ FD Recurring: In FD Recurring, customer deposit the fixed amount.
23 Tolani Institute of Management Studies
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[Table-3] Fixed Deposits Interest Rate
Period Interest Rate
15 days to 30 days 3.5%
31 days to 90 days 4.5%
91 days to 180 days 6.0%
]181 days to 365 days 7.0%
366 days to 5 years 8.0%
For
Shareholder,Sr.Citizen & Trust
0.5%more
Expenses on activities pertaining to deposits accounts include:
➢ Cost of opening an account including not only the cost of making
book entries, but verification of your antecedents.
➢ Cost of transaction of deposit.
➢ Cost of transaction of withdrawals.
➢ Cost of transacting an inquiry.
➢ Cost of processing cheques and other banking tools discussed earlier.
➢ Cost of maintaining accounts.
➢ Cost of making passbook or receipts.
➢ Cost of closing account.
Cash Credit Accounts:
➢ Ordinary Cash Credit Account
➢ Interest charges on the basis of days
24 Tolani Institute of Management Studies
General Operation & Risk Management of BMCB
Overdraft Account
When a customer maintain a current account is allowed by the bank to draw
more than the credit balance in the current account or in a separate loan account called
as overdraft account and such facilities is called an overdraft facility.
Overdraft is a running account and hence debits and credits are freely
allowed. Interest is applied on daily product basis and debited to the account on
monthly basis. Overdrafts are generally against the government securities, National
Saving Certificates, LIC policies and banks own deposits etc.
DOCUMENTS REQUIRED
1. Sanctioned Letter
2. FDR Duly Discharged
3. Letter of Appropriation
4. D.P. Note
5. Continuing Security Letter
6. Letter of lien and set off
FACILITIES PROVIDED
➢ ATM facility is provided
➢ In Outward Billing Collection commission is not charged by the customers.
➢ Pass book and cheque book facility is provided.
➢ Free Demand Draft facility up to opening balance for Gujarat / Mumbai
➢ If pass book is not issued then bank statement is given once a month without
any charges taken.
➢ Nomination facility is provided
➢ Tele banking facility is provided
➢ Net banking facility is provided
25 Tolani Institute of Management Studies
General Operation & Risk Management of BMCB
➢ Insurance up to Rs.100000
➢ No charges on cash transaction
➢ No limits for cash withdrawal
➢ No switching charges
[Table-4] FINANCIAL FIGURES (In Rs.)
Sr.
No. Particular 31/03/2006 31/03/2007 31/03/2008 31/03/2009 31/03/2010
1 Deposits 1141093115 1426181431 1585778581 1900101781.51 2279271046.49
2 Advances 732891970 852798340 744051401 844026992.69 1071827396.19
3 Net Profit 24064462 32018382 22035178 61376055.70 10593527.64
4 Reserves 201614920 227943138 280044401 314386327.96 352871043.23
26 Tolani Institute of Management Studies
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[Chart -2]Deposits
[Chart-3] Advances
[Chart-4] Net Profit
[Chart-5] Reserves
POINTS TO BE TAKEN IN TO CONSIDERATION WHILE
RECEIVING THE CHEQUE
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General Operation & Risk Management of BMCB
➢ Date on the cheque should not be post dated.
➢ Name and amount on the cheque and voucher should be same.
➢ Place should be kept in mind while receiving the cheque.
➢ On counter & voucher, the name of the account, account number, dates etc.
➢ Amount in words and figures should be same.
➢ Validity of cheque is up to 6 months.
➢ Cheques should be account payee only.
➢ Vouchers should be filled according to their types of accounts.
[Table-5] Different Voucher for Different Types of Account
ACCOUNT TYPE COLOR
SAVING ACCOUNT WHITE WITH GREEN
CURRENT ACCOUNT WHITE WITH BLUE
LOAN YELLOW WITH BOTTLE GREEN
RECURRING ACCOUN/ FIXED
DEPOSIT
WHITE WITH LIGHT PINK
DEMAND DRAFT WHITE WITH DARK PINK
FRANKING WHITE WITH BROWN
CASH CREDIT/ OVERDRAFT WHITE WITH PURPLE
TELEPHONIC TRANFER CREAM WITH BLACK
28 Tolani Institute of Management Studies
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[2.2] TRANSFER
In Transfer, both the parties have accounts in the bank, and transfer of money
from one account to another is done.
PROCESS OF TRANSFER
➢ Cheques are received from customer of BMCB during whole day.
➢ Voucher is filled according to the types of accounts, voucher includes
details like account name, account number, date, drawee bank, cheque
number, customer name, amount in figures & words, customer’s contact
number.
➢ Transfer stamp is stamped on voucher and cheque.
➢ Stamped counter is returned to customer and rest is sent for entry.
➢ Before passing the entry, balance is checked.
➢ If balance is sufficient then entry is passed in which amount is debited and
credited to accounts of account holders.
➢ If there is insufficient then BMCB debited return charges, Rs.50/- from
cheque issuer and Rs.30/- from cheque receiver.
➢ At the time of passing the entry scroll number is written on the cheque and
voucher.
➢ After passing of entry authorization is done by high grade of officers with
the help of scroll number.
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[2.3]CLEARING
In clearing, the cheques received from other banks by the account holder of
the bank and are deposited in their accounts after the cheques are cleared.
PROCESS OF CLEARING
➢ Cheques are received from the customers of different banks up to specified
time.
➢ Cheques of 37 banks are received in clearing.
➢ Voucher is filled according to the types of accounts, voucher includes
details like account name, account number, date, drawee bank, cheque
number, customer name, amount in figures & words, customer’s contact
number.
➢ Clearing stamp is stamped on voucher and cheque.
➢ Stamped counter is returned to customer and rest is sent for entry.
➢ Entry includes account number, parties name, amount, bank code, bank
name, branch code, cheque number. Scroll number is written on the
voucher.
➢ After passing of entry authorization is done by high grade of officers with
the help of scroll number.
➢ Bank wise statement is printed and is attached with cheques of specified
banks.
➢ Instruments are counted according to bank wise statement.
➢ Daily there are two clearings in clearing house.
i. First at 1:00pm for exchanging of cheques.
ii. Second at 4:00pm for exchanging of returned cheques.
➢ At 1:00pm one employee of BMCB takes all the cheques and a floppy disk
to clearing house. In Gandhidham clearing house is at State Bank of India.
➢ At clearing house all 37 banks come to exchange their cheques with other
banks.
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➢ Statement is received at clearing house by S.B.I. including all information
about exchanging of cheques.
➢ In the case of GL/PL vouchers, ensure that the relevant particulars of
transaction are entered in the computer. Proper GL/PL head is
Debited/Credited. Such vouchers bear signatures of TWO authorized
officials of which one should be of branch head.
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[Table-6] THE BHUJ MERCANTILE CO-OP BANK
CLEARING HOUSE BALANCE REGISTER Of 27th
June,2010
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Sr.No. Name of the banks To Pay To Receive
Cheques Amount (Rs.) cheques Amount (Rs.)
1 STATE BANK OF INDIA 26 4638172 22 1229553
2 BANK OF BARODA 18 309239 21 4299552
3 BANK OF INDIA 11 1601078 22 1141383
4 CENTRAL BANK OF INDIA 2 22320 2 180615
5 STATE BANK OF SAURASHTRA
6 THE KUTCH DIST. CENT. 1 19800
7 DENA BANK 4 183465 7 49525
8 UCO BANK 5 600788 2 20370
9 GANDHIDHAM CO-OP BANK 22 356225 29 379687
10 INDIAN OVERSEAS BANK 5 93364 12 612707
11 SYNDICATE BANK 2 27475 1 14900
12 PUNJAB NATIONAL BANK 4 2124615 2 16122
13 STATE BANK OF INDORE 4 99403 4 205852
14 GANDHIDHAM MER.CO-OP.BANK 24 955968 36 1585194
15 DENA GUJARAT GRAMIN BANK 3 25688 3 229125
16 STATE BANK OF BIKANER &
JAIPUR
2 377070 3 344739
17 CORPORATION BANK 8 595750 37 936905
18 ORIENTAL BANK OF COMM. 2 51660 2 175000
19 MEHSANA URBAN CO OP BANK 3 64429 14 117162
20 UNION BANK OF INDIA 2 93189
21 LAXMI VILAS BANK 1 11000
23 HDFC BANK LTD 98 16584440 43 2047505
24 UTI BANK 18 911976 40 1615805.6
25 VIJYA BANK 6 61966 2 16300
26 ICICI BANK LTD 19 1706834 9 213296
27 INDUSIND BANK 12 1143469 12 304857
CENTURION BANK
General Operation & Risk Management of BMCB
IN WHAT WAYS CHEQUE CAN BE RETURNED
➢ Effects not yet cleared, please present again tomorrow
➢ Not arranged for.
➢ Drawer’s signature required.
➢ Drawer’s joint signature required.
➢ Refer to drawer.
➢ Drawer’s signature differs.
➢ Endorsements required bank’s guarantee.
➢ Alteration requires full signatures of drawer.
➢ Cheque is post-dated.
➢ Cheque is out of date.
➢ Amount in words and figures differs.
➢ Crossed cheque is out of date.
➢ Amount in words and figures differs.
➢ Crossed cheque must be presented through a bank.
➢ Advice not received, please present again.
➢ Payment stopped by the drawer.
➢ Payees separate discharge to the bank required.
➢ Date incomplete.
➢ Insufficient funds.
➢ Account closed.
➢ Today clearing stamp required.
➢ Not drawn on us.
➢ Exceeds arrangement
➢ Fund expected, please present again tomorrow.
➢ Cheque is incomplete.
➢ Cheques are mutilated.
➢ Thumb impression authentication required.
➢ Account is frozen.
➢ Cheque is crossed by two banks
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[Table-6] DIFFERENCE BETWEEN TRANSFER AND CLEARING
POINT OF
DIFFERENCE
TRANSFER CLEARING
DEFINITION In Transfer, both the parties
have accounts in the bank, and
transfer of money from one
account to another is done.
In clearing, the cheques
received from other banks
by the account holders of
the bank and are deposited
in their accounts after the
cheques are cleared.
STAMPING Red colour stamp is used for
transfer cheques.
Green colour stamp is used
for clearing cheques.
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TIME
DURATION
It takes maximum half an
hour.
It takes approximately one
day.
SERVICE Service is provided for whole
day.
From Monday to Friday
cheques are received up to
12:30am and on Saturday
cheques are received up to
11:00am
WITHDRAW In transfer, money can be
withdrawn within half an hour.
In clearing, money can be
withdrawn after one day.
RETURNED
CHARGES
Rs.25/- is charged if the
cheque is returned.
Rs.50/- is charged if the
cheque is returned.
DATE Same date cheques are
received.
Next date cheques are
received after 12:30/11:00.
STAMPS
INCLUDED
Banks name, date and transfer. Bank name, date, and
received payment through
clearing house payee’s
account credited.
[2.4] INWARD BILLS COLLECTION
In IBC, the cheques are received from different banks all over India other then local
cities.
➢ Once IBC is received, bank checks whether it is BMCB cheque or it is local.
➢ Than it is entered in the IBC register manually including all details like, date,
amount, banks name, in favour of, cheque number.
➢ If it is BMCB’s cheque, then it is sent for transfer or if it is local (other banks)
cheques then it is sent for clearing.
➢ After that same process is followed of transfer and clearing.
➢ Payment for IBC is made in three ways:36
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i. Gujarat State Co-operative advised.
ii. Account payees.
iii. Demand Draft.
➢ If cheque is of BMCB then, balance is checked, and if cheques are of other
banks then send for clearing.
1. If there is sufficient balance then,
i. GUJARAT STATE CO-OPERATIVE:
If cheque is of co-operative bank and having tie-up with Gujarat state
co-operative (mutual arrangement scheme code) then advised is sent to
Gujarat state co-operative and no commission and postage is charged.
ii. ACCOUNT PAYEE:
The bank sending IBC having account in BMCB then bank transfers
amount to their account. Bank sends a statement showing all the
details.
iii. DEMAND DRAFT:
If bank does not having tie-up with GSC and not even having account
then bank issues demand draft in favor of opposite bank. For that bank
takes commission of Rs.1.25/1000 and Rs.35/- for postage charges.
1. If there is insufficient balance then,
i. Cheque is sent back with written memo.
ii. Return charges are taken Rs.50/-
iii. It is sent through value payable post.
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➢ After this procedure, entry is passed in the IBC register and then IBC send
back through post.
[2.5] OUTWARD BILLS COLLECTION
➢ Once cheques are received and if it is not local then OBC stamped is on the
cheque.
➢ Entries are made in the computer, details like: banks name, city name, banks
code, commission charges, postage charges, document number, document
amount etc.
➢ After entries are made then endorsement stamps are stamped behind the
cheque.
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➢ Authorization of cheques is done by officer.
➢ There are no commission charges and up to Rs.1000/- no postage charges are
taken in saving accounts and above that Rs.35/- are taken.
➢ The BMCB is having tie up with HDFC, State bank of Patiala etc.
➢ OBC number is on the cheque and on the voucher so that whenever customer
needs any information then with the help of that number information is
provided.
➢ According to the tie-up with banks, cheques and statement are sent.
➢ If cheques are passed then payments are made in 3 ways:
i. Advised
ii. Account payee
iii. Demand Draft.
i. GUJARAT STATE CO-OPERATIVE:
If cheque is of co-operative bank and having tie-up with Gujarat state
co-operative (mutual arrangement scheme code) then advised is
received from Gujarat state co-operative and no commission and
postage is charged.
ii. ACCOUNT PAYEE:
The bank receiving OBC having BMCB account in there bank then
bank transfers amount to BMCB account. Bank sends a statement
showing all the details.
iii. DEMAND DRAFT:
If bank does not having tie-up with GSC and not even having account
then bank issues demand draft in favour of BMCB bank.
➢ If cheques are not cleared then return charges are taken according to the banks.
BMCB takes Rs.50/- as return charges from their customers.
➢ When OBC is realized, net amount (after commission and postage charges) is
credited to customers account.
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[2.6] BILLTY
➢ It is one type of service provided to its customers, it is mainly for safety
purpose, and bank acts as a mediator between two parties. For that it earns
commission. For their safety, supplier takes the decision for keeping the bank.
As per buyer’s convenience, they decide the bank.
➢ Commission is charged on invoice amount Rs.1/1000.
➢ As per buyer’s order supplier sends the goods in transport and invoice, lorry
number, etc. is sent to bank.
➢ Invoice including instructions framed by supplier relating to delivery of goods.
I. Collect all charges from drawee- like, commission charges,
transportation charges, courier etc.
II. Discount is allowed if payment is made within stipulated time.
III. Penalty is charged from buyer if payment is not made within
stipulated time.
IV. Ways of payment are specified.
➢ Bank informs the buyer about the Billty received.
➢ When buyer comes to make the payment then billty is realized.
➢ After payment is made lorry receipt is given to them.
➢ As per supplier’s instruction bank sends the payment.
➢ If payment is not made, then billty is send back to supplier.
[3.] DEMAND DRAFT
It is a service provided to the customer by the bank. It is a safe instrument for
making payment. If one company does not have trust on their opposite party then they
to issue demand draft. Authorization is must in D.D. for which bank follows scale-1&
scale-2.In scale-1 there are 3 managers and in scale-2 there are 3officers.1manager
from scale-1 & 1 officer from scale-2 are required for authorization.
40 Tolani Institute of Management Studies
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Demand draft is issued by 2 ways:
i) CASH
ii) TRANSFER
i) CASH:
Firstly, Pink colour voucher is filled by a customer, all details are included in
that voucher e.g. in favour of, customer details, amount with commission, place, date
etc. then cash is paid at payment counter. And demand draft is issued as per voucher.
For that bank charges commission from the customer. DEMAND DRAFT in cash is
made up to Rs.50000/- including commission above that cash is not accepted.
Charges
➢ For all parties and all centers bank charge Rs.3.00/1000
➢ Minimum charges are taken by bank Rs.30/-
i) TRANSFER:
Firstly, Cream colored voucher is filled by a customer, all details are
included in that voucher e.g. in favor of, customer details, amount with commission,
place, date etc. cheque of yourself is attached with the voucher. Cheques are stamped
and send for further processing. And demand draft is issued as per voucher. For that
bank charges commission from the customer.
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➢ BMCB have tie up with HDFC BANK, STATE BANK OF PATIALA
(NATIONALISE D.D.),ICICI BANK,GSC, ETC.
➢ Bank mainly prefers to make demand draft of HDFC Bank, if nothing is
specified by the customer. If branch of HDFC bank is not located in that area
then other tie up banks D.D. is made.
[Table -7] D.D Commission
Sr.No. Mode of issue Ordinary CA/SB with
minimum balance
Rs.2500/Rs.1000 & OD
A/c
Minimum commission
1 On BMCB
Branches
Re.1 per RS. 1000 Rs.25
2 On other center Rs.2per RS.1000 Rs.25
GUJARAT STATE CO-OPERATIVE
If there is no bank facility available in village area then D.D. of GSC bank is issued
by BMCB.
NATIONALIZED DEMAND DRAFT
Nationalized D.D. are issued when customers/parties does not have trust on
private & co-operative banks. As per the requirement of the customer bank issue D.D.
42 Tolani Institute of Management Studies
General Operation & Risk Management of BMCB
of nationalized bank. The bank issue the D.D. of STATE BANK OF PATIALA as it
have tie up.
Charges taken by BMCB Rs.3/Rs.1000
Minimum charges Rs. 30/-
BMCM pay commission to state bank of Patiala is Rs.1.25/Rs.1000
Rs.3-Rs.1.25/Rs.1000 = Rs.1.75/1000
For that BMCB earns of 17.5% commission on issuance of D.D.
In what all ways D.D. can be cancelled
➢ Stop payment made by the issuer
➢ Lost or torn
➢ Above validity (valid for 6 months)
➢ Mistake in opposite party’s name.
For cancellation of D.D. bank takes charges Rs.50/-.
[3.1] PAY ORDER
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Pay order is also known as BANKER’S CHEQUE. It is issued for local
parties (GANDHIDHAM & KANDLA). For authorization, it is not compulsory for
the managers to authorize the pay order two officers can do the authorization.
➢ BMCB take charges as same as demand draft from the customer.
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[4.] CASH DEPARTMENT
Cash section of the bank is the custodian of the cash. It has to keep the cash
of the bank safe and at the time give prompt service to the customers without delay.
To meet day to day obligations the bank has to maintain certain amount of cash on
hand.
The board may fix up a cash retention limit for every branch taking into
consideration the turnover of the cash for that branch. The retention limit will be fixed
for all types of cash including cash on counter and reserve cash in safe etc. Limit of
the cash on closing is fixed by the bank i.e. Rs. 2.5crore at BMCB.
45 Tolani Institute of Management Studies
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[Table-8] DAILY REGISTER OF CASH TAKEN AND KEPT IN
SAFE
OPENING BALANCE
(+) RECEIVED TODAY
TOTAL
(-) PAID TODAY
CLOSING BALANCE
PARTICULAR OF COINS PARTICULAR OF CURRENCY
NO.
OF
COINS
DENOMINATIO
N
AMOUN
T
NO.
OF
NOTE
S
DENOMINATIO
N
AMOUN
T
500 np Rs. 1000
200 np Rs. 500
100 np Rs. 100
50 np Rs. 50
25 np Rs 20
20 np Rs. 10
10 np Rs. 5
Rs. 2
Rs. 1
COINS
TOTAL
CLOSING BALANCE IN WORDS RS.
46 Tolani Institute of Management Studies
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Firstly opening balance is written in the daily register of cash taken and kept
in safe. After that the total cash received during the day is added in the opening
balance, and the payment made during the day is deducted in the total of opening and
cash received. Finally closing balance is calculated, which is the opening balance
[4.1] RECEIPT OF CASH
➢ Receipt of cash is the most important function of the cash department in the
bank.
➢ In BMCB there is one counters of cash receipt.
➢ The cash is received through the pay-in-slips filled in by the customer on
different accounts.
➢ Pay-in-slip includes of account name, date, depositors name, amount in words
and figures, number of notes and coins, account number, contact number.
➢ Cash can be received up to Rs.99000/- without pan card and above that pan
card is needed.
➢ Points must be kept in mind while receiving the cash:
1) Once the cash is received check it twice.
2) Physical notes and notes written in voucher should be tallied.
3) Count manually and by machine.
4) Money should be deposited correctly in the said account.
➢ After entry is passed, the amount is deposited at customers account and
received voucher is stamped and counter foil is returned back to customer.
➢ Then the slip is submitted to the higher official where it is verified that
whether the amount is credited to right persons account with right amount. The
cahier and the higher official should sign the slip.
47 Tolani Institute of Management Studies
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[4.2] PAYMENT OF CASH
➢ Payment of cash is the most important function of the cash department in the
bank.
➢ In BMCB there is one counters of cash payment.
➢ The cash is given according to the daily requirements of the counter.
➢ Before giving the cash it is written in the cash register and cash officer
distributes it among the cashier.
➢ After that cashier passes the opening entry in the Book and starts the
payments.
➢ Payment is made by two ways:
1. Withdrawal form
2. Cheque
➢ If account holder does not have cheque book then with the help of withdrawal
form they can withdraw the cash.
➢ If money is withdrawn with the help of cheque then, cheque should be in the
account holder’s name or it should of ‘SELF’.
➢ Firstly balance is checked, if balance is sufficient then entry is passed.
➢ Scroll number and transaction is written on the cheque or withdrawal form
while passing the entry.
➢ Authorization is done by high grade officer. And for these both officers are
responsible.
➢ In authorization, signature, balance, date, cheque number, is checked with the
scroll number.
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➢ If payment is more than Rs.99000/- , pan card number is required then only
payment is done.
➢ At the time of paying the cash, cashier writes the type of notes behind the
cheque.
➢ Customer should count the cash before leaving the bank, for that bank
provides counting machine for the customers. If customer leaves then there is
no responsibility of the bank.
Lastly at the time of closing all the cashiers tally their cash physically with
the computer and then they transfer all the balance to the cash officer. Cash officer
checks physically the cash transferred by cashiers. After that actual receipts and
payments are written in the register and finally closing balance is calculated by cash
officer. And the remaining cash is taken to the safe custody by chief cashier and a
peon. The keys of safe custody are with chief cashier and one with manager.
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[5.] SAFE DEPOSIT VAULT
BMCB provides dedicated services to safe holders for their valuables.
BMCB lead in the local banking industry with the highest number of lockers.
Customer has to deposit the amount as locker deposit for utilizing this facility, which
is refundable. The bank does not charge any other rent except deposit. Bank provides
four types of lockers.
[Table-9]TYPES OF LOCKERS:
LOCKER TYPE SECURITY DEPOSIT
A RS. 7000/-
B RS. 12000/-
C RS. 15000/-
D RS. 50000/-
DOCUMENTS REQUIRED
➢ Customers account number if not then it is opened
➢ Passport size photograph
➢ Residence proof
➢ Photo id- 50
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1) Election card
2) Pan card
3) Licence
UNIQUE FEATURES
➢ One time securing deposit instead of yearly rentals.
➢ Four categories of safe deposit vaults available.
➢ Providing a separate floor for operators.
➢ Quite specious safe room.
➢ Offers maximum time for in local area.
➢ There is no limit of members opening the locker.
Master key is kept with the bank and locker holder’s key is given to the
operator. Locker is not open until both the keys are inserted together. There is no
duplicate key of the locker with the bank. So, in case of keys are misplaced or lost by
the customers then locker is broken and all the cost is bear by the locker holder. The
expense for breaking the locker is RS.3500/-. Locker can be sealed when there is income tax
inquiry.
To verify the photo, signature, locker number, the locker card is maintained
by the bank for daily check during the locker is operated.
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PROCESS FOR OPERATING LOCKER
➢ Firstly, one register is maintained consisting of sr. number, locker number,
time, and signature.
➢ When customer comes to operate locker he has to write all the details in the
register.
➢ Then signature, photo, locker number is verified by the operator.
➢ After that operators key and locker holder’s key is inserted in the locker
➢ Finally locker is opened.
Locker surrender charges taken by BMCB is Rs.250/-.
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[6.] SHARE DEPARTMENT
Co-operative banks can obtain their capital by issuing shares. Even BMCB
has issued shares to obtain the capital. Every year bank issues right shares to the share
holders only from the authorized capital. Bank does not allow people other than its
share holders, so it issues right shares only.
➢ Membership fee is Rs.10/share. Shares can be transferred in blood relation
only. Transfer is not allowed to outsiders. There is no Transfer fee. Shares can
be sold to the shareholders only. Shares are sold on market value.
➢ Bank pays dividend up to 15%. Gifts are also given to its share holders. Paid
up capital for 31/03/2010 was RS.4,35,83,100 and authorized capital is RS.
5,00,00,000.
➢ According to R.B.I, co-operative banks can pay maximum 15% dividend to its
share holders. Since last three years BMCB has maintained this percentage.
TRANSFER OF SHARES 53
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Shares of BMCB can be transferred in three ways:
i) Member to Member Transfer
ii) Transfer in blood relation
iii) Transfer in death case
i) Member to Member Transfer
A) Already a member
In case of partly transfer of shares; share holder can transfer their shares only to share
holders.
B) Not a member
Share holder can transfer their shares to a person who is not a share holder in
that case, his membership gets cancelled and a new member comes in to
existence.
ii) Transfer in blood relation
Fully transfer of shares is done only in blood relation. The person transfer’s
their shares then their membership is cancelled and new member gets the
membership.
iii) Transfer in death case
In case of the death of a share holder then their all the shares are transferred
to their nominee. And in case there is no nominee then shares are transferred to any of
their family members.
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NOTE
➢ Transfer of shares is done after one year.
Why people wish to be share holder of the BMCB
i) Loan:
It is a facility provided to their share holders only. BMCB does not provide
loan other than share holders.
ii) Dividend:
According to R.B.I norms a co-operative bank can declare dividend up to
15%, and BMCB maintains this percentage since three years, which attracts the
people to buy the shares.
iii) Gifts:
Every year during Diwali share holders are given gifts, which is one type of
attraction to the people for becoming the member of the bank.
iv) Goodwill:55
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Trust and reputation of the BMCB is good in the market, so people want to
be its member.
v) Voting Rights:
Share holders are having the rights to vote at the time of selection of
board of directors.
Facilities
i) Insurance:
Bank has tie up with ICICI for accident insurance of share members. Bank
provides Rs.100000 Insurance to its share members and its premium is paid by bank.
This money of insurance is given to the nominee of the share member only in the case
of death due to accident of the share member
In case of Natural death of any member Rs.10000 is given to nominee.
ii) Tax Deducted At Source:
All the share holders get the benefit of TDS in all the deposits. Once
membership number is feed in to the data then TDS is not deducted from the deposits
of the share holders.
DUPLICATE SHARES
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i) Lost of shares:
If shares are lost by the share holders then duplicate shares are issued by the
bank on request of share holders. In that case forms are to be filled for the same. If in
case lost shares are found then original shares are to be returned to bank.
ii) Torn or Destroyed:
If shares are torn or destroyed then shares are returned to the bank.
Duplicate shares are issued for the same.
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[7]
LOANS
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General Operation & Risk Management of BMCB
Lending in form of loan involves a number of risks. In addition to the risks
related to creditworthiness of the borrower, the banks are also exposed to interest risk.
Credit risk involves inability or unwillingness of the borrower to repay the loan.
Bank provides loan in the form of TERM LOAN, DEMAND LOAN,
VEHICLE LOAN, HOUSING LOAN, BUSSINESS LOAN AGAINST PROPERTY
etc. Loan policy of the bank should decide the exposure limit to particular firm/sector.
When the exposure limit per firm is decided no loan should be granted beyond that
limit to that firm. It applies to the financial limit for the sector. The exposure limit to
sensitive sectors such as advances against equity shares, real estates etc, which are
subject to high degree of price volatility. Some specific industries where there are
frequent business cycles more dependent on market conditions/natural calamities are
high risk prone for advances. Any excess exposure should be backed by adequate
collateral security.
There are two types of credit i.e. fund based and non fund based.
➢ Fund based: loans and advances, cash credit, overdraft,
purchasing/discounting of bills.
➢ Non fund based: bank guarantees and letter of credit.
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[7.1] FACTORS TO BE CONSIDERED WHILE GIVING LOANS
Credit risk for a bank depends on external and internal factors.
➢ EXTERNAL FACTORS
1. State of economy
2. Foreign exchange rates and interest rate
3. Trade restrictions
4. Government policies
5. Failure of borrower
➢ INTERNAL FACTORS
1. Deficiency in loan policies
2. Absence of prudential credit limits
3. Deficiency in appraisal of borrowers financial position
4. More dependence on securities
5. Inadequate risk pricing
6. Absence of post sanction supervision on borrower’s account
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[7.2] PROCESS
1. Analysis of the financial statement and project report
The loan in charge/manager makes the detailed financial analysis considering
various RBI guidelines; bank’s specific policies and procedures, accounting standards
issued by ICAI and prepare LOAN REVIEW REPORT.
2. Pre inspection report
After getting the loan proposal from the party and making the preliminary
analysis of the loan proposal, the authorized loan officer/manager makes the site visit
of the party. (Business place, property/ security visit for verification) after the site
visit and interview of the party, and considering the available documents, the
concerned officer/manager prepares the pre inspection report giving his
recommendation for the loan subject to the terms and conditions required to be
fulfilled. A copy of the inspection report has been attached.
1. Sanction of the board
In the board meeting the loan proposal file containing the necessary
documents along the pre inspection report and the branch managers remark is
presented for consideration. The member of the board discuss the loan proposal with
the concerned officer/manager and finally either approve or reject or modify the loan
proposal subject to some specific terms and conditions to be compiled with either
before or after the disbursement of the loan amount.
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2. Completion of documentation formalities
After the board sanction of the loan proposal, security charge/
mortgage/hypothecation/pledge/lien (what so ever applicable) formalities are
completed through the advocate nominated by bank. Then the banks documentation
procedures are completed within 7 days of sanction of the board.
3. Pre disbursement audit report
Before making the disbursement of the loan amount the internal auditor of
the bank verifies the compliance of terms and conditions of loan specified by the
board and gives his report for any deviation for non compliance of terms and
conditions.
4. Disbursement of loan amount
After the completion of all documentation formalities, procedures and
rectifying any discrepancy reported by the internal auditor the bank makes the
disbursement of loan amount as per terms of sanction of the board.
Expenses on activities pertaining to loans include:
➢ Cost of organizing loan.
➢ Cost of processing/appraisal of loan application.
➢ Cost of processing payment.
➢ Cost of maintaining account.
➢ Cost of recovery procedure.
➢ Cost of bad loans.
➢ Cost of final realization/settlement
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[8.]
RISK
MANAGEMENT
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[8.1] Define RISK
Risk is the probability or likelihood of injury, damage or loss in some
specific environment and over some stated period of time. Thus, Risk involves
two elements
➢ Probability
➢ Loss of amount
RISK MANAGEMENT
Risk management is the culture, processes, and structures that are
directed towards the effective management of potential opportunities and
adverse effects.
This definition applies rightly in nearly all fields of management from
financial and human resources management. Risk management can be taken to
mean the process of gathering information to make informed decisions to
minimize the risk of adverse effects to people and the Environment.
Banking is the management of risk. Banks accept risk in order to earn
profits. They must balance alternative strategies in terms of their risk/ return
characteristics with a goal of maximizing shareholders wealth. In doing so,
banks recognize that there are different type of risk and that the impact of a
particular investment strategy on shareholders depends on the impact on the
total risk of the organization.
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[8.2] Risk drivers
Risk drivers’ helps in identifying what kind of risks your business is
exposed to. There are two types of risk drivers. They are as follows:
External drivers
➢ Strategic risks: Competition, Customer needs & demands, Industry
changes
➢ Operational risks: Government regulations, Political environment,
Culture, Vendors/suppliers, contracts
➢ Financial risks: Interest rates, Foreign exchange, Credit analysis.
➢ Hazardous risks: Natural disasters
Internal drivers
➢ Strategic risks: R&D, Intellectual capital
➢ Operational risks: HR, Systems & processes
➢ Financial risks: Cash flow, liquidity
➢ Hazardous risk: Safety (Employee and Equipment), Security
The next step is to analyze and evaluate your risks.
Risk assessment: It involves estimating the level of risk – estimating the
probability of an event occurring and the magnitude of effects if the event does
occur. Essentially risk assessment lies at the heart of risk management,
because it assists in providing the information required to respond to a potential
risk.
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Risk analysis: It is a technique to identify and assess factors that may
endanger the success of a project or achieving a goal. This technique also helps
to define preventive measures to reduce the probability of these factors from
occurring and identify countermeasures to successfully deal with these
constraints when they develop to avert possible negative effects on the
competitiveness of the company.
There are a number of tools you can employ to analyze risks:
➢ Market surveys.
➢ Research & Development.
➢ SWOT: Analysis of Strengths, Weakness, Opportunities, and Threats.
➢ PEST: Political, Economic, Social and Technology analysis.
➢ Scenario Analysis: It is a process of analyzing possible future events by
considering possible outcomes (scenarios). It is also useful for decision
making.
➢ Auditing and Inspection.
➢ Industry benchmarking: It is the process of measuring an organization’s
internal processes then identifying, understanding and adapting
outstanding practices from other organizations considered to be best in
class.
➢ Business process analysis.
➢ Risk map: It is a way to visualize the risk of the market. The purpose of
a risk map is to identify and classify areas, taking into account the
probable damages that could occur as a result of a disaster.
➢ Brainstorming: To think quickly and creatively and to have a rigorous
group discussion in order to generate creative ideas and to encourage
problem solving.
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Once the risks have been identified, one can usually rank them based
on their probability of occurrence and their impact.
Dealing with risk
Once the risk have been identified, evaluated and analyzed, the next
step is how to deal with them. One can do one of four things for each risk:
➢ Accept: There are certain risks which are not in our control and the
cost of eliminating such risks is also very high.
➢ Transfer: A well-known method to transfer risk is insurance.
➢ Reduce: By introducing systems and processes one can reduce risks.
➢ Eliminate it: It is ideal situation to deal with the risk.
BENEFITS OF RISK MANAGEMENT
➢ Provides a structured framework for more effective strategic planning to
ensure maximizing of opportunities and minimization of losses.
➢ Widens management perspective and encourages initiative and pro-
active behaviour.
➢ Contributes to improved organizational efficiency and effectiveness
➢ Optimizes the use of resources.
➢ Promotes greater openness in decision-making and improves
communication.
➢ Provides senior management with a concise summary of the major risks
affecting the organization and a mechanism to ensure that appropriate
resources are directed towards areas of high risk.
➢ Provides a framework for ensuring that unavoidable risks are adequately
insured.
➢ Provides an effective and systematic approach which enables
management to focus on areas of risk in their operations.
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➢ Improves the level of accountability in the organizations.
[8.3] RISK MANAGEMENT PROCESS
It is the systematic application of management policies, procedures
and practices to the tasks of establishing the context, identifying, analyzing,
assessing, treating, monitoring and communicating risks.
It is a repetitive process of well defined steps which, when taken in
sequence, helps in continual improvement in decision making by providing
management with a greater insight into organizational risks and their impact.
[Chart-6] Risk Management Process
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[8.4] BANKS EXPOSURE TO RISK
Banks in the process of financial dealing of various natures face various
kinds of financial and non financial risks such as credit risk, interest rate risk foreign
exchange risk, etc. There are also other areas of risk such as liquidity, equity price,
commodity price, legal, regulatory, reputation etc. all this risks are highly
interdependent on each other and events that affect on area can have ramifications for
a range of other risk categories. The risk factors if triggered in adverse direction can
bring the bank in trouble in different ways. It effects may be very serious and may
bring the bank in danger for even its existence. Therefore, any bank management has
to attach considerable importance to improve the ability to identify, measure, monitor
and control the overall level of risks undertaken. Banks are subjected to wide array of
risks in the course of their operations. The four categories of banking risks are as
follows:
Financial risk: 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. References to negative risk below should be read as
applying to positive impacts or opportunity unless the context precludes
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. Financial risk may be market-dependent, determined by
numerous market factors, or operational, resulting from fraudulent behavior.
It increases banks overall risk profile. For e.g. A bank engaged in the
foreign currency business is normally exposed to currency risk, but will also be
exposed to additional liquidity and interest rate risk.
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Pure risk: It includes liquidity, credit and solvency risk. They can result in a
loss for a bank if they are not properly managed.
Speculative risk: It is based on financial arbitrage. If the arbitrage is correct
then it results in profit otherwise it results in loss. The main categories of
speculative risk are as follows:-
➢Interest rate risk.
➢Currency risk.
➢Market price risk.
Operational risk: This risk is related to banks overall organization and
functioning of internal system which includes computer related and other
technologies, compliance with banks policies and procedures and measures
against mismanagement and frauds.
Business risk: They are associated with a banks business environment
including macroeconomic and policy concerns, legal and regulatory factors and
the overall financial sector infrastructure and payment system.
Event risk: It includes all types of exogenous risks which, if they were to
materialize, could endanger banks operations or undermine its financial
condition and capital adequacy.
CAPITAL ADEQUACY RATIO
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Capital Adequacy Ratio, also called Capital to Risk Asset Ratio
(CRAR), is a ratio of bank’s capital to its risk. Capital adequacy ratio has been
developed to ensure that bank can absorb reasonable level of losses before
becoming insolvent.
Subsequent to nationalization of banks, capitalization in banks was not given
due importance as it was felt necessary for the reason that the ownership of the banks
rested with the government, creating the required confidence in the mind of the
public. Combined forces of globalization and liberalization compelled the public
sector banks, hitherto shielded from the vagaries of market forces, to come to terms
with the market realities where certain minimum capital adequacy has to be
maintained in the face of stiff norms in respect of income recognition, asset
classification and provisioning. It is clear that multi pronged approach would be
required to meet the challenges of maintaining capital at adequate levels in the face of
mounting risks in the banking sector.
Capital adequacy ratio measures the amount of bank’s capital
expressed as a percentage of its risk weighted credit exposure. This ratio helps
in determining the capacity of the bank in terms of meeting the time liabilities
and risk such as credit, operational risk etc. Bank’s capital is a “Cushion” for
potential losses which protect the banks’ depositors or other lenders. it also
maintains stability and efficiency of financial system.
The specifics of CAR calculations vary from country to country but general
approaches tend to be similar for the countries that apply for the Basel Accords.
Two types of capital are measured Tier One and Tier Two.
➢ Tier one capital absorbs losses without a bank being required to cease
trading e.g. Ordinary Share Capital.
➢ Tier two capital which can absorb losses in the event of winding up and
so provides a lesser degree of protection to depositors e.g. Subordinated
debts.
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The minimum capital adequacy ratios that apply are: Tier one capital to
total risk weighted credit exposure to be not less than 4%. Total capital (tier one
plus tier two less certain deductions) to total risk weighted credit exposure to be
not less than 8%.
The higher the CRAR the higher the level of protection available to
depositors.
There are nine types of risk for the purpose of bank supervision credit,
interest rate, operational, liquidity, market, compliance, foreign exchange,
strategic, and reputation.
1. CREDIT RISK: Credit risk is the risk that a loss will be incurred if the
counter party does not fulfill its financial obligations in a timely manner.
Although banks fail for many reasons, the single most important reason is bad
loans. Credit risk is the primary cause of bank failures, and it is the most visible
risk facing bank managers.
2. INTEREST RATE RISK: Risk is the potential negative impact on. the Net
Interest Income and it refers to the vulnerability of an institution’s financial condition
to the movement in interest rates. Changes in interest rate affect earnings, value of
assets, liability off-balance sheet items and cash flow. Hence, the objective of interest
rate risk management is to maintain earnings, improve the capability, ability to absorb
potential loss and to ensure the adequacy of the compensation received for the risk
taken and effect risk return trade-off.
Interest rate risk arises due to the changes in the general rate of interest,
which depends on the inflation rate, regulatory policies, sudden changes in demand
and supply of money etc.
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1. OPERATIONAL RISK: Always banks live with the risks arising out of
human error, financial fraud and natural disasters. The recent happenings such as
WTC tragedy, Barings debacle etc. has highlighted the potential losses on account of
operational risk. Exponential growth in the use of technology and increase in global
financial inter-linkages are the two primary changes that contributed to such risks.
Operational risk, though defined as any risk that is not categorized as market or credit
risk, is the risk of loss arising from inadequate or failed internal processes, people and
systems or from external events. In order to mitigate this, internal control and internal
audit systems are used as the primary means.
It is the risk of loss resulting from inadequate or failed internal processes,
people and systems, or from external events. Operational risk encompasses the
efficiency and effectiveness of all back-office operations including management
information systems, personnel, external and internal frauds, lawsuits, and so on.
2. LIQUIDITY RISK: Bank Deposits generally have a much shorter
contractual maturity than loans and liquidity management needs to provide a cushion
to cover anticipated deposit withdrawals. Liquidity is the ability to efficiently
accommodate deposit as also reduction in liabilities and to fund the loan growth and
possible funding of the off-balance sheet claims. The cash flows are placed in
different time buckets based on future likely behaviour of assets, liabilities and off-
balance sheet items. Liquidity risk consists of Funding Risk, Time Risk & Call Risk.
Liquidity risk arises from the failure to recognize or address changes in
market conditions that affect the ability to liquidate assets quickly and with minimal
loss in value.
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3. MARKET RISK:
Market Risk may be defined as the possibility of loss to bank caused by the
changes in the market variables. It is the risk that the value of on-/off-balance sheet
positions will be adversely affected by movements in equity and interest rate markets,
currency exchange rates and commodity prices. Market risk is the risk to the bank’s
earnings and capital due to changes in the market level of interest rates or prices of
securities, foreign exchange and equities, as well as the volatilities, of those prices.
Market Risk Management provides a comprehensive and dynamic frame work for
measuring, monitoring and managing liquidity, interest rate, foreign exchange and
equity as well as commodity price risk of a bank that needs to be closely integrated
with the bank’s business strategy.
Market risk is the risk that the value of an investment will decrease due
to moves in market factors. Market risk results from changes in the prices of
equity instruments, commodities, money and currencies.
The four standard market factors are:
Equity risk: The risk in which the stock prices changes.
Interest rate risk: It is the risk in which the interest rate will change.
Currency risk: It is the risk in which foreign exchange rates will change.
Commodity risk: It is the risk in which commodity prices will change.
4. COMPLIANCE RISK: Compliance Risk is the risk to earnings or
capital arising from violations of laws, rules, and regulations and so on. For
example, banks failing to meet minimum capital requirements must raise new
capital, or they may be closed, forced to merge, or required to take some other
corrective action.
5. FOREIGN EXCHANGE/CURRENCY RISK: Foreign exchange
risk results from changes in exchange rate between a bank’s domestic currency
and other currencies. It originates from mismatches between the values of assets
and liabilities denominated in different currencies, or because of mismatch
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between foreign receivable and foreign payables that are expressed in domestic
currency.
Foreign exchange risk is the risk that a bank may suffer loss as a result of
adverse exchange rate movement during a period in which it has an open position,
either spot or forward or both in same foreign currency. Even in case where spot or
forward positions in individual currencies are balanced the maturity pattern of
forward transactions may produce mismatches. There is also a settlement risk arising
out of default of the counter party and out of time lag in settlement of one currency in
one center and the settlement of another currency in another time zone. Banks are also
exposed to interest rate risk,which arises from the maturity mismatch of foreign
currency position.
6. STRATEGIC RISK: 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. Strategic Risk is
the risk to earnings or capital arising from making bad business decisions that
adversely affects the value of the bank.
7. REPUTATIONAL RISK: Reputation Risk is the risk to earnings or
capital arising from negative public opinion of the bank. Negative public
opinion can arise from poor service, failure to serve the credit needs of their
communities, and for other reasons. A recent survey revealed that consumers
rank telephone companies ahead of banks in terms of service. Regulators feared
that negative public opinion would contribute to a loss of market
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[Chart-7]THE FOUR MAJOR RISK FACED BY BANKS:
OPERATIONAL RISK
Always banks live with the risks arising out of human error, financial fraud
and natural disasters. The recent happenings such as WTC tragedy, Barings debacle
etc. has highlighted the potential losses on account of operational risk. Exponential 76
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growth in the use of technology and increase in global financial inter-linkages are the
two primary changes that contributed to such risks. Operational risk, though defined
as any risk that is not categorized as market or credit
risk, is the risk of loss arising from inadequate or failed internal processes, people and
systems or from external events. In order to mitigate this, internal control and internal
audit systems are used as the primary means.
An operational risk is a risk arising from a company’s business
functions and from the practical implementation of the management’s strategy.
Operational risk includes:
➢ Employee errors.
➢ Systems failures.
➢ Fire, floods or other losses to physical assets.
➢ Fraud or other criminal activity.
Internal Fraud: Loss due to acts of a type intended to defraud,
misappropriate property or avoid regulations, the law or company policy,
excluding diversity / discrimination events, which involves at least one internal
party.
External Fraud: Theft of information, hacking damage, third-party theft and
forgery.
Employment Practices and Workplace Safety: Losses arising from
activities/Practices inconsistent with employment, health or safety laws or
agreements.
Clients, Products & Business Practice: Market manipulation, antitrust,
improper trade, product defects, fiduciary breaches (breaking trust), account
churning.
Damage to Physical Assets: losses arising from natural disasters,
terrorism or other events.
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Disruption & Systems Failures: Losses arising from disruption of
business or system failures.
Execution, Delivery, & Process Management: Data entry errors,
accounting errors, failed mandatory reporting, negligent loss of client assets
Most operational risks are best managed within the departments in which they
arise. Information technology professionals are best suited for addressing
systems-related risks.
However, overall planning, coordination, and monitoring should be provided by
a centralized operational risk management department
In BMCB they pay great attention to improve the internal systems. At every
stage the work is checked and authorized at BMCB so the chances of human error
been avoided. Administrative type of work like staffing management, work
management, bank reconciliation statements etc., are done on the regular basis.
Operational risk in BMCB arises due to following factors:
Collection and information counter:
There are three / four stages in payment system existing in BMCB.
Firstly the clerk checks the attached document and verifies signature, amount
entered, account no., date, etc. and prepares a voucher and signs on it. This
voucher is then sent to the authorized person he then checks, verifies it and
authorize it and if the amount is small then it is send to cashier where the
payment is made to the customer. if the amount is very large, then the 78
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authorized voucher is sent to the branch manager and he finally signs and
approves the payment. After approval, the cheque is send to cashier who pays
the amount to the customer Thus in case of payment system the voucher passes
through three / four stages to avoid and control human error.
As the cheque is submitted to the collection counter the risk is transfer to the
bank. Cheques and bills are divided in three parts DD, Transfer and clearing. Cheques
of transfer and clearing are passed on to Clearing Department where it is bifurcated in
outstation and local clearing, and also the posting is also done at the same time.
Clearing work also includes exchanging of cheques with local banks. It is necessary
that for clearing, every bank must have its account in SBI. At clearing house that is at
SBI in Gandhidham where 37 banks gathers for the same purpose.
Returns of cheques:
There are many reasons because of which the cheques are returned to the
clients, the common reasons are insufficient funds, post dated or stale, drawer’s
signature incomplete or differs, amount in words and figure differs etc.
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Cash Counter:
Cash Counter is basically for providing services like cash receipts and cash
payments. On this counter one has to be careful about the seal, tally, duplication and
denomination written on slip for withdrawals
EDP Department:
In BMCB they have EDP (electronic data processing) Department; this EDP
department mainly has the work to transfer the data of one branch to another. In EDP
department they have the risk of data getting corrupted. So, in this case they keep the
backup of every data.
Thus, in this way they manage their operational risk quite efficiently. BMCB
use winban software and all transaction detail we can store in this software.
LIQUIDITY RISK
Liquidity is necessary for banks to compensate for expected and unexpected
balance sheet fluctuations and to provide funds for growth. It represents banks ability
to efficiently accommodate the redemption of deposits and other liabilities.
A bank has adequate liquidity potential when it can obtain needed funds by
increasing liabilities, securitizing, or selling assets promptly and at reasonable cost.
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Liquidity risk is the risk to earnings or capital arising from a bank’s inability
to meet its obligations when they come due without incurring unacceptable losses.
Liquidity risk includes the inability to manage unplanned decreases or changes in
funding sources. It arises from the failure to recognize or address changes in market
conditions that affect the ability to liquidate assets quickly and with minimal loss in
value.
A bank is considered to be “liquid” if it has immediately spendable funds at
reasonable cost at the time when those funds are needed. This suggests that a liquid
bank either has the right amount of immediately spendable funds on hand when they
are required or can raise liquid funds in a timely fashion by borrowing or by selling
assets. Indeed, lack of adequate liquidity can be one of the first signs that a bank is in
real trouble. For example, a troubled bank that is losing deposits will likely be forced
to dispose of some of its safer, more liquid assets
Excess liquidity leads to decrease in the long-term profitability, whereas
inadequate liquidity leads to disastrous consequences. Liquidity problem can arise out
of the following problems.
➢ Funding of long-term asset with short-term liabilities.
➢ Fluctuation in cash credit accounts.
➢ Long-term investment in Government securities as against short-term sources
of the Bank.
There are several methods for estimating a bank’s liquidity requirement. BMCB
follows sources and uses of funds approach.
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SOURCES AND APPLICATION OF FUNDS APPROACH:
The sources and Application of funds method for estimating liquidity
needs begins with two simple facts:
1. Liquidity increases as deposits increase and loans decrease.
2. Liquidity declines when deposits decrease and loans increase.
3. A liquidity gap arises when there is sources and application of fund
mismatch.
➢ Sources of liquidity are the increase in deposits or decrease in loans.
➢ Application of liquidity is the decrease in deposit or increase in loans.
When the sources of liquidity are greater than the application of
liquidity, the bank will have a positive liquidity gap. In this case the funds must
be invested in earning asset until they are needed.
When the application of liquidity is greater than sources of liquidity,
the bank will have a negative liquidity gap. In this case, the bank must raise
funds from the cheapest and most timely sources available.
Always care should be taken that there is required amount of liquidity
is maintained at all the times.
The key steps in the sources and application of funds approach are as follows:
1. Loans and deposits must be forecast for a given liquidity planning period.
2. The estimated change in loans and deposits must be calculated for that same
planning period.
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3. The liquidity manager must compare the loans given to customers and deposits
accepted from customer and then estimate the net liquid funds surplus or deficit
for the respected period.
The liquidity pressure in BMCB arises from the following
sources:
➢ Liquidity problem arises due to changes in interest rates. When the
interest rate rise many depositors withdraw their funds from the bank
and deposit it elsewhere in order to get high returns.
➢ Many loan customers postpone taking loan from bank as the interst rate
increases.
ASSET/LIABILITY MANAGEMENT
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Asset liability management is a risk management technique designed to
earn an adequate return while maintaining a comfortable surplus of assets beyond
liabilities.
In banking asset liability management is the practice of managing risks that arise
due to mismatches between the assets and liabilities of the bank. Banks face several
risks such as liquidity risk, interest rate risk, credit risk and operational risk. Asset
liability management is a strategic management tool to manage interest rate risk
and liquidity risk faced by banks, other financial services companies and
corporations.
This technique also takes into consideration interest rates, earning power
and degree of willingness to take on debt also called surplus management.
Asset/liability management comprises strategic planning and
implementation, and control processes that affect the volume, interest rate
sensitivity, quality and liquidity of a bank’s assets and liabilities.
The primary goal of asset- liability management is to produce a high
quality, stable, large and growing flow of net interest income. This goal is achieved
by optimum combination and level of assets, liabilities and financial risks.
Asset/Liability management focuses on the net interest income of the
institution. Net interest income is the difference between the amounts of interest
received from loans and investments and the amount of interest paid for deposits
and other liabilities.
Net interest income = interest revenue - interest expense
Expressing the net interest income as a percentage of earnings allows us to
express the interest income as a margin. The total net interest income may not be
meaningfully compared between banks of different size but the margin may be
meaningfully compared.
Net interest margin = Net interest income/earning assets
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Asset/liability management is a relatively recent phenomenon that has
assumed greater importance after the deregulation of bank interest rate. Prior to
deregulation, bank funds were obtained from relatively stable demand deposits and
from small time deposits. In order to attract fresh deposits, opening more branches
was the only way out.
With deregulation, there are number of institutions competing with the
banks for the funds. The banks ability to grow will be hampered if they do not have
access to the funds required to create assets. They have the freedom to obtain funds
by borrowing from the markets.
As they strike different sources of funds, there is an increased need for
liability management and it becomes an important part of their financial
management.
With liability management banks now have two sources of funds- core deposits and
purchased funds (borrowings).
From the viewpoint of the management, the core deposits offer the
advantage of stability. However, core deposits have the disadvantage of not being
reactive to management needs for expansion. A bank cannot expect the core
deposit to increase proportionately if the demand of loan increases.
For purchased funds, however, the bank can obtain all the funds that it
wants if it is willing to pay the market determined price.
Unlike core deposits where the bank determines the price, the interest
rates on purchased funds are set in the national money market. The bank can be
thought of as a price taker in the purchased funds market whereas in the core
deposit market it can be viewed as a price setter.
If the market perceives the bank’s assets to be of poor quality, it will not
have any funds available for purchase which may cause liquidity crisis for the bank
and in the extreme case may even cause a run on the bank.
Classification of Assets and Liabilities85
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Those assets and liabilities whose interest return or cost vary with interest
rate are referred to as rate sensitive assets (RSA) or rate sensitive liabilities (RSL).
Those assets or liabilities whose interest return or cost do not vary with
interest rate movements over the same time horizons are referred to as non – rate
sensitive assets (NRSA) or non rate sensitive liabilities (NRSL).
Measuring Interest Rate Sensitivity
The most commonly used measure of the interest rate position of a bank
is Gap analysis. The Gap is the difference between the amount of rate sensitive
assets and rate sensitive liabilities. The gap may be expressed in variety of ways.
The simplest is the Rupee Gap – the difference between the amount of RSA and
RSL expressed in rupees.
Some other measures of Gap are relative Gap ratio, which is ratio of rupee
Gap and the total assets. Another measure is the interest rate sensitivity ratio, which
is the ratio of the RSA to RSL.
Relative Gap ratio = Rupee Gap/Total assets.
Interest rate sensitivity ratio = RSA/RSL.
A bank at a given time may be asset or liability sensitive. If the bank were
asset sensitive, it would have a positive Gap, a positive relative Gap ratio and an
interest sensitive ratio greater than one.
Conversely, a bank that is liability sensitive would have a negative
Gap, a negative relative Gap ratio and interest sensitivity ratio less than one.
Banks that are asset sensitive experience an increase in their net
interest income when interest rate increase and vice versa.
Conversely, banks that Are Liability sensitive see their net interest
income decreases when interest rate rise and vice versa.
Strategies for Asset/Liability Management
The principal purpose of asset/liability management has been to
control the size on net interest income. The control may be defensive or
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aggressive. The goal of defensive asset/liability management is to protect the
net interest income from changes in Interest rate.
In contrast, aggressive asset/liability management focuses on
increasing the net interest income by altering the portfolio of the institution.
Both defensive and aggressive asset/liability management relates to
the management of interest rate sensitivity position of the asset and liability
portfolio of the bank, and the success or failure of the strategies depends upon
the effect of interest rates.
For the success of aggressive asset/liability management, it is
necessary to forecast future interest rate changes. On the other hand, the
defensive strategies do not require the forecast of future interest rate changes.
The attempt is to isolate the bank from rates. either an increase or decrease in
the rates.
Aggressive Gap Management
Management chooses the strategy to focus on the Gap in controlling
the interest rate risk of its portfolio. This strategy seeks profit from the
predictable interest rate movements. With an aggressive interest rate risk
management programme, the first step is to make a prediction of future interest
rates. Second, adjustment is made to the interest sensitivity of the asset and
liabilities in order to take the advantage of the projected changes in rates. The
prediction of interest rates generally results in shifting to a positive Gap,
whereas the prediction of falling interest rates generally results in shifting the
portfolio to a negative Gap position.
Defensive Gap management
The main aim of Defensive Gap management is to reduce the
unpredictability of the net interest income. Unlike the aggressive strategy, there
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is no attempt to profit from the expected changes in the rates. The defensive
strategy attempts to keep the volume of rate sensitive in balance with that of
rate sensitive liabilities over a given period. If successful, an increase in the
interest rate will produce equal increase in interest revenue and interest expense,
with the result that net interest income and net interest margin will not change.
INTEREST RATE RISK
Interest rate risk management is critical to the overall profitability of
bank. Although managing interest rate risk is not part of day-to-day
responsibilities, bank must manage the process and need to be clear, definitive
understanding the issues so that bank can stay profitable
When interest rate fluctuates, a bank’s earnings and expenses change,
as do the economic values of asset, liabilities and balance-sheet positions. The
net effect of these changes is reflected in the banks overall income and capital.
Interest rate management comprises of the various policies, actions,
and techniques that a bank can use to reduce risk of its net equity as a result of
adverse changes in interest rates.
MANAGING THE INTEREST RATE RISK
BMCB manages the interest rate risk in following ways.
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1. Monitoring and controlling of interest rate gaps.
2. Adjusting asset liability mix
Monitoring and Controlling Of Interest Rate Gaps
Prime Lending Rate is the minimum lending rate and banks were
earlier not allowed to lend below their PLR. Presently according to RBI
guidelines the PLR is 7.5%.
.
BMCB’s Management Committee makes quarterly analysis of the
Prime Lending Rate and the lending rate of other Nationalized and Private
Sector Banks. The committee also considers the Deposit rate and the rate of
Government securities. According to RBI guidelines Deposit rate is 7.5% -
9.6%. By making the proper analysis of lending and deposit interest rates by the
committee the board decides the rate of interest of deposits and finance and
makes proper control on them.
Adjusting Asset Liability Mix
BMCB follows the RBI Guidelines for proper Adjusting the Asset
Liability Mix. The bank maintains the SLR (Statutory Liquidity Ratio) and
CRR (Cash Reserve Ratio) Ratios as prescribed by the RBI from time to time.
According to RBI guidelines CRR is 4.5% and SLR is 24%.
Statutory Liquidity Ratio (SLR) is a term used in the regulation of
banking in India. It is the amount which a bank has to maintain in the form of
cash, gold or approved securities. The quantum is specified as some percentage
of the total demand and time liabilities ( i.e. the liabilities of the bank which are
payable on demand anytime, and those liabilities which are accruing in one
months time due to maturity) of a bank.89
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General Operation & Risk Management of BMCB
The objectives of SLR are:
1) To restrict the expansion of bank credit
2) To augment the investment of the banks in Government securities.
3) To ensure solvency of banks.
A reduction of SLR rates looks eminent to support the credit growth in India.
Cash Reserve Ratio: It is the portion (expressed as a percent) of depositors'
balances banks must have on hand as cash. The reserve ratio affects the money
supply in a country.
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General Operation & Risk Management of BMCB
CREDIT RISK
What is credit?
Credit is borrowed money that one can use to purchase things
when needed and repay the funds back at an agreed time.
What is credit risk?
Credit risk is the chance that a debtor or financial instrument issuer will
not be able to pay interest or repay the principal according to the terms specified
in a credit agreement. Credit risk means that payments may be delayed or
ultimately not paid at all, which in turn can cause cash flow problems and affect
a bank’s liquidity. Despite innovation in the financial services sector, credit risk
is still the major cause of bank failures.
What is credit risk management?
Credit risk management is the process of assessing risk in an
investment. When the risk has been assessed, investment decisions can be
made
Credit risk arises when a bank provide financial assistance to
customers by many ways such as cash credit, term loan, overdraft etc. It takes
many forms thus bank must consider three issues:
➢ Default probability: It is the probability that the counterparty will
default or not on its obligations.
➢ Credit exposure: If the default occurs then one must know that how
much time will the outstanding obligation will take?
➢ Recovery rate: In case of default how much recovery through
bankruptcy can be done?
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General Operation & Risk Management of BMCB
When carrying out duties on behalf of both depositors and
shareholders, a board of directors must ensure that a bank’s lending function
fulfils three fundamental objectives:
➢ Loans should be granted on a sound and collectible basis;
➢ Funds should be invested profitably for benefit of shareholders and the
protection of depositors;
➢ The valid needs of economic agents and / or households should be
satisfied.
➢ Main business of the bank is to acquire funds through deposits from the
public and to utilize such funds in the form of loans and advances, cash
credit, overdraft, purchasing/discounting of bills (fund based) and bank
guarantees, letter of credit (Non fund based).
CONCLUSION
Banking is financial inter-mediation between the financial savers on the one
hand and the funds seeking business entrepreneurs on the other hand. As such, in the
process of providing financial services, commercial banks assume various kinds of
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General Operation & Risk Management of BMCB
risks both financial and non-financial. Therefore, banking practices, which continue to
be deep routed in the philosophy of securities, based lending and investment policies,
need to change the approach and mindset, rather radically, to manage and mitigate the
perceived risks, so as to ultimately improve the quality of the asset portfolio.
To the extent the bank can take risk more consciously, anticipates adverse
changes and hedges accordingly, it becomes a source of competitive advantage, as it
can offer its products at a better price than its competitors. What can be measured can
mitigation is more important than capital allocation against inadequate risk
management system.
The effectiveness of risk measurement in banks depends on efficient
Management Information System, computerization and net working of the branch
activities. The data warehousing solution should effectively interface with the
transaction systems like core banking solution and risk systems to collate data. An
objective and reliable data base has to be built up for which bank has to analyze its
own past performance data relating to loan defaults, trading losses, operational losses
etc., and come out with bench marks so as to prepare themselves for the future risk
management activities. Any risk management model is as good as the data input.
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