M.L.G. 09-Aug-2008Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. Basel Two Norms & Credit Ratings ( and its practical need-to-know knowledge

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

Basel Two Norms&

Credit Ratings

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

CA’s, & ITP’s in Faridabad )

Sangeet Kr Gupta, CASaturday, August 09, 2008



What is this ?

• This is the set of

• International "Banking laws and Regulations",

• &

• to be complied in India also.


Why was this brought in ?

• We remember, some big banks

• collapsed like Barings plc etc.

• And the economies lost Billions of Dollars.

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


What is the target of BASEL-2 ?


What is the target of BASEL-2

• First Target

• Ensuring that capital allocation is more risk sensitive;

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



• Second Target

• Separating operational risk from credit risk,

• and Quantifying both;

• ( Bank must remember both ).



• Third Target

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

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


• What do we need to know ?

As Advocates & CA's

& ITP's, practising in Faridabad ???


What we need to know ?

• We shall focus on the SME sector .

• We shall know the key idea behind this .

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

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


1) Business Strategy & Targets

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

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

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


Target section includes

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

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

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

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

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

return on capital; cash flow management; credit control)


2) Business Market & Competition

• All Risks associated with the business

• Customer Attractiveness

• Supplier Attractiveness

• Competetion

• Market Growing or not ?

• Product is attractive or not ?

a) Make Notesb) Analyse

c) Give mitigating plan ?


3) Business Capability

1) General Management

2) Sales & Marketing Management

3) Operational / Production Management

4) Facilities Management

5) Financial Management

6) Planning & Information Management

7) People Management


Business Capability – Wiiifm ?

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

Tough work, in case of SMEsince all jobs by consultant


4) Business & Financial Planning

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


So ?

• Tough work, in case of SME

• since all jobs by consultant.

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

• Depends ……..?????


Core Effect ?

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

• So, what is the new thing ?

Core Effect of Basel-II


Core Effect of Basel II

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

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

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

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


Old Position ( under Basel-I )

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


New Position ?


Effect ?

• Let us see the numerical example


Example for Strong CompanyRs.

Loan is 100 CroresRating is AAA

Risk %Capital Reqd

Opportunity Intt lost by bank

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

Crores 1.40 Crores

Why should bank lose this money ??


Effect ?

• Either it will prefer that you get yourself rated.

• Or

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


Effect on a “Weak” company ?

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

• ( no doubts on that )

• And

• If you don’t like that …….

• Go to some other bank ……..


Effect of Basel-2 CAR Intt %

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

• But

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


• Moral of the story

( for Consultant )

• Get your Client's company Rated .

• And

• If the rating is not good enough,

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


Credit Rating ?

• What is that ?

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

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


Credit Rating

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

• Financial Factors this we will discuss.


Over to Excel File


Who Benefits ?

The Assessee wins …

The Bank wins ………..

And an indirect but real winner is …..


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


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

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

• These Basel Two norms

mandate a Higher Credit Risk

for the Unrated Loans, and

Low Credit Risk for AA or AAA rated Loans.


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


Credit Rating for SSI units :

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


• Thank you

• Contributor : CA.Sangeet Kr Gupta,– [email protected]– [email protected]

Documents

M.L.G. 09-Aug-2008Presentation on Basel-2 Norms by Mr Sangeet Gupta at F.I.T.B.A. Basel Two Norms & Credit Ratings ( and its practical need-to-know knowledge