Professional Documents
Culture Documents
Credit Risk Management has always been on the radar of the top management of any
company, but at no other time has its relevance been more felt by financial institutes than in
the current big scenario – plagued by increasing competition; and that great nemesis – the
subprime lending crisis. In this age of advancing and complex risk transfer mechanisms, it
may make sense to step back and take a look into the very basics of Credit Risk Management.
Credit risk is risk due to uncertainty in a counterparty's (also called an obligor) ability to meet
its obligations. Because there are many types of counterparties—from individuals to
sovereign governments—and many different types of obligations—from auto loans to
derivatives transactions—credit risk takes many forms. Institutions manage it in different
ways.
In assessing credit risk from a single counterparty, an institution must consider three issues:
• Default Probability: What is the likelihood that the counterparty will default on its
obligation either over the life of the obligation or over some specified horizon, such as a
year? Calculated for a one-year horizon, this may be called the expected default frequency.
• Credit Exposure: In the event of a default, how large will the outstanding obligation be
when the default occurs?
• Recovery Rate: In the event of a default, what fraction of the exposure may be recovered
through bankruptcy proceedings or some other form of settlement?
When we speak of the credit quality of an obligation, this refers generally to the
counterparty's ability to perform on that obligation. This encompasses both the obligation's
default probability and anticipated recovery rate.
To place credit exposure and credit quality in perspective, recall that every risk comprise two
elements: exposure and uncertainty. For credit risk, credit exposure represents the former,
and credit quality represents the latter.
For loans to individuals or small businesses, credit quality is typically assessed through a
process of credit scoring. Prior to extending credit, a bank or other lender will obtain
information about the party requesting a loan. In the case of a bank issuing credit cards, this
might include the party's annual income, existing debts, whether they rent or own a home,
etc. A standard formula is applied to the information to produce a number, which is called a
credit score. Based upon the credit score, the lending institution will decide whether or not to
extend credit. The process is formulaic and highly standardized.
Many forms of credit risk—especially those associated with larger institutional counterparties
—are complicated, unique or are of such a nature that that it is worth assessing them in a less
formulaic manner. The term credit analysis is used to describe any process for assessing the
credit quality of a counterparty. While the term can encompass credit scoring, it is more
commonly used to refer to processes that entail human judgment. One or more people, called
credit analysts, will review information about the counterparty. This might include its balance
sheet, income statement, recent trends in its industry, the current economic environment, etc.
They may also assess the exact nature of an obligation. For example, senior debt generally
has higher credit quality than does subordinated debt of the same issuer. Based upon this
analysis, the credit analysts assign the counterparty (or the specific obligation) a credit rating,
which can be used for making credit decisions.
There are many ways that credit risk can be managed or mitigated. The first line of defence is
the use of credit scoring or credit analysis to avoid extending credit to parties that entail
excessive credit risk. Credit risk limits are widely used. These generally specify the
maximum exposure a firm is willing to take to a counterparty. Industry limits or country
limits may also be established to limit the sum credit exposure a firm is willing to take to
counterparties in a particular industry or country. Calculation of exposure under such limits
requires some form of credit risk modelling. Transactions may be structured to include
collateralization or various credit enhancements. Credit risks can be hedged with credit
derivatives. Finally, firms can hold capital against outstanding credit exposures.
By understanding the overall lifecycle of a typical Credit Risk Management Process, we can
identify the key priority areas and challenges in the Credit Risk arena and know how a
solution can be designed to tackle this.
Credit Risk is the largest and most elementary risk faced by banks. It essentially focuses on
determining likelihood of default and how costly it will turn out to be if it does occur. And
this is true for consumer lending (retail) or corporate lending (commercial) as well as
counterparty credit risk in capital markets.
Although dependant on the organization’s requirements and profile, a Credit Risk
Management Lifecycle typically involves the following processes:
1. Collect Obligor and Loan Data.
2. Compute Credit Risk.
3. Monitor and Manage Risk Rating.
4. Portfolio Management/Capital Allocation.
The very foundation of a sound Credit Risk Management System lies in the data it gets. The
inputs needed in this stage are the obligor (borrower), facility (loan) and external (ratings)
data. This is the first step in any loan process and all necessary data about the obligor needs
to be collected.
KEY TASKS:
• Get the Obligor Data: The crucial task here is to get the financial, demographic and
qualitative data related to the obligor. A majority of the data comes from the financial
statements but other sources also exist, for example past repayment performances.
• Get the Loan Data: Next, the system must be adequately designed to capture loan data
related to the type of loan, amount, maturity, etc accurately. Of particular concern here is
data related to collaterals, guarantees and contract terms on netting and liquidation. These
must be accurately captured in the system as they are crucial in the rating process.
• Get External Ratings Data: The system must be capable enough to pull relevant data
from external systems such as data from rating agencies and also information such as loan
data from internal systems.
KEY CHALLENGES:
The next phase is calculating the credit risk in the form of risk ratings to meaningfully
differentiate risk among different firms or exposure.
KEY TASKS:
• Develop Rating Model: The obligor has to be rated using an appropriate model. For
example, there are different models for a Commercial & Industrial Category Obligor and a
Commercial Real Estate Category Obligor.
• Calculate Probability of Default (PD): The Probability of Default is the likelihood that a
loan will not be repaid and fall into default. The credit history of the counterparty and
nature of investment will all be taken into account to calculate the PD figures.
• Calculate Loss Given Default (LGD), Exposure At Default (EAD) & Expected Loss
(EL):
Loss Given Default – It is the magnitude of likely loss on the exposure in the event of
default. Both quantitative and qualitative factors such as Government guarantees,
collateral support guarantor support, etc are used to calculate LGD.
Exposure At Default – It is defined as the exposure to the borrower at any point of time.
Expected Loss – It is calculated using the PD, LGD and EAD together. It is the
probability weighted loss which is also used for pricing.
KEY CHALLENGES:
• Rating Approach: There are different approaches that a bank may adopt according to the
Basel Accord.
• Comprehensiveness of Models: The success of adopting advanced approaches relies
heavily on availability of adequate history for modelling, testing and for regulatory
approval. The different obligor risk models should be comprehensive both in terms of
quantitative (financial ratios, loan repayment performance, credit ratings, expected default
frequencies) and qualitative (management quality, tenure in business, operations,
industry/niche) factors.
KEY TASKS:
KEY CHALLENGES
• Reduction on Manual Dependency: The main challenge in this stage and it may apply to
the whole system as well, is to reduce manual dependency. Especially the entire process
must be as automatic as possible.
• Feedback & Alerts: The system must be capable enough to provide for feedback by
different players in the system. Also needed is an automatic generation of alerts whenever
there is a fundamental change in any of the inputs into the process of Credit Ratings of a
particular entity.
KEY TASKS:
• Compute and monitor portfolio risk: The system must be capable of computing and
monitoring the credit risk at a portfolio.
• Allow creation of SPVs for transfer of risk: The system must facilitate the creation of
SPVs for the appropriate transfer of credit risk.
• Reporting on risk: The system must be capable enough to satisfy the reporting
requirements of the organization.
KEY CHALLENGES:
• Stress Testing/Scenario Analysis: A Credit Risk Management System must have the
capability to handle increasingly difficult economic scenarios. Stress testing and scenario
analysis have become increasingly useful in understanding the behaviour of a portfolio
and how it affects the overall level of Credit Risk the organization faces.
CONCLUSION:
It is quite clear as we take a look into the lifecycle of a Credit Risk Management System,
some processes will need more attention going forward as companies move from Credit Risk
Measurement to Credit Risk Management. Technology will continue to play a key role and
the companies that will win in the long run are those that can adapt the quickest in this
dynamic credit market.
STATEMENT OF PROBLEM
Minimizing credit risk is one of the most important responsibilities of financial institutions
today. Analysts are faced with lots of data, complex policy guidelines and a folder full of
history, but when it comes to making a decision, they are on their own. They need to weigh it
all and make the recommendation that puts the bank in the best spot— balancing the upside
opportunity with the downside risk. It is critical for banks to engage in better credit risk
management practices that can optimize risk-adjusted pricing and returns throughout the
organization.
In the wake of recent industry losses, data integration remains crucial for accurate risk
analysis.
The recent cycle of industry losses, global regulatory pressure and a wider acceptance of the
benefits of credit portfolio management are driving banks to address the need for global
credit risk management. This area has seen advances in the past 10 years, but the ability to
integrate credit information and analytics for the banking and trading books, including
mitigation measures (collateral, guarantees and credit derivatives), has remained a largely
unsolved problem. Data integration is crucial for any accurate risk analysis, but bridging the
information silos is especially important for credit risk management in order to capture the
complete exposure information for each obligor.
• To assess the effectiveness of the risk management activities and suggest improvements
for the same.
The study covers operations of KSFC such as Financial Services provided, Area of
Operation, Purpose of Assistance, Limit of Assistance, Procedure for Availing Financial
Assistance from the Corporation, different Loan Schemes of KSFC, Credit Risk Analysis
Models. Used by the Corporation.
METHODOLOGY
The study is conducted with the help of both qualitative and quantitative data provided by the
Corporation.
Primary Data:
The Primary data relevant for the study has been obtained by interviewing officials at KSFC.
Secondary Data:
The Secondary data for the study has been taken from the internal sources of the company
which include Annual Reports, Project Appraisal Manual, Lending Policy Manual, etc.
INTRODUCTION TO KSFC:
Karnataka State Financial Corporation is a State level financial institution established by the
State Government in the year 1959 to meet mainly the long term financial needs of small and
medium enterprises (SMEs) in the State of Karnataka.
KSFC has been playing a pivotal role in the development of SMEs in the State of Karnataka
for the last 45 years of its existence. KSFC has assisted more than 1.54 lakh units with
cumulative sanction of more than Rs. 7,184 crores out of which about 50% is towards SMEs.
Amendments to SFCs Act provide wide ranging scope in financial assistance and operational
flexibility. Keeping this in view, KSFC has reengineered itself to ensure utmost customer
satisfaction with new energy, thrust and speed. In line with this, the Corporation has put in
place comprehensive, client-friendly, need-based policies in the areas of credits, recoveries
and one-time settlement.
Apart from setting standards of performance, these policies also achieve the objective of
transparent governance.
KSFC is an ISO 9001:2000 certified organization. It has played a major role in the industrial
development of the State. It has also assisted many industries that are internationally
recognised like the INFOSYS and BIOCON.
FINANCIAL SERVICES:
KSFC extends all types of financial assistance in the form of long-term loans, short-term
loans (in the form of corporate loans), lease finance, hire purchase finance, merchant
banking, etc. KSFC assists almost all types of industrial and service sectors.
As per SFCs Act, the following activities are eligible for financial assistance:
AREA OF OPERATION
The area of operation covers the entire State of Karnataka. KSFC has branches in all the
district headquarters. The branch offices of the corporation are adequately delegated with
powers of sanctions and disbursements. Financial assistance of up to Rs.50.00 lakhs are
handled by the concerned branch office itself. If the requirement of loan is more than
Rs.50.00 lakhs, entrepreneurs will have to approach the head office.
PURPOSE/OBJECTIVE OF ASSISTANCE
• Being a term lending agency, the Corporation extends financial assistance normally for
creation of fixed assets in the form of land, building, plant and machinery and
miscellaneous assets required for the project.
• The Corporation also extends short or medium term loans in the form of corporate loans to
meet the urgent working capital requirements of existing units.
• The Corporation also extends financial assistance for creation of fixed assets as also
working capital under a single window type of assistance in extremely deserving cases.
• KSFC provides financial assistance for establishing new units as well as for
expansion/diversification/modernisation of existing units.
LIMIT OF ASSISTANCE
The following are the maximum limit of loan that can be provided by the Corporation to
entrepreneurs:
Note:
• In respect of both the categories mentioned above, the minimum loan that can be
sanctioned by the Corporation is Rs.5.00 lakhs. Loan below Rs.5.00 lakhs is not
sanctioned by the Corporation excepting transport loans.
• In respect of existing units operating successfully, maximum limit can be extended to
Rs.10.00 crores depending on the merits of the case with the prior approval of SIDBI.
However, this applies only to corporate bodies and registered co-operative societies.
Further, in respect of these units, the financial assistance can be granted provided the paid
up capital and free reserves do not exceed Rs.20.00 crores.
• If the loan requirement for a project is substantial and cannot be extended by the
Corporation alone, then the requirement of loan of such a project can be met in consortium
with KSIIDC/Banks.
The Corporation formulates lending policy at the beginning of each year. The loans are given
based on the lending policy of the Corporation. The lending policy covers various aspects
like the group exposure, thrust sectors, sectors in the negative (loans are not granted to such
sectors). The industrial policies of the State and Central Governments are also taken into
account while formulating the lending policy of the Corporation.
• Cost of Project: The project cost ceiling for extending financial assistance by KSFC is
Rs.12.00 crores with respect to SSI and MSI, and is Rs.20 crores with respect to service
sector projects. The entrepreneurs whose projects cost above these limits will have to
approach banks or other institutions.
In respect of National Equity Fund Scheme, the project cost ceiling is Rs.50.00 lakhs. In
respect of RTDM Scheme the project cost ceiling is Rs.100.00 lakhs. However, depending
on the merits of the case the ceiling can be exceeded with the prior approval of SIDBI in
respect of RTDM only.
*
Central/State subsidy if any available for the implementation of the project will be treated as equity
for the purpose of DER calculation.
• Debt Service Coverage Ratio (DSCR): The repayment period of loan is fixed by the
Corporation with due regard to the cash generation and profitability of the project. For this
purpose, average DSCR ranging between 1.5:1 and 2:1 is accepted as reasonable. DSCR
below 1.5:1 will be accepted in extremely deserving cases. The DSCR indicates the ability
of the project to service the debts during the currency of the loan.
• Repayment Period: The repayment period of the term loan varies between 3 to 8 years
including moratorium period of maximum 2 years depending on the period of
implementation. In respect of corporate loan, the maximum repayment period is 30
months including 6 months moratorium.
• Security: in addition to the primary security i.e. assets financed by the Corporation,
collateral security as per the lending policy of the Corporation is insisted. The collateral
security requirement depends upon the type of projects, location, sector, and quality of
primary assets.
PROCEDURE FOR AVAILING FINANCIAL ASSISTANCE
The following is the procedure in brief for availing financial assistance from the corporation.
A special cell viz., Entrepreneurial Guidance (EG) Section headed by an assistant General
Manager operates at the head office of the Corporation to guide the entrepreneurs in respect
of various schemes operated by the Corporation, loan facility available etc, and also provides
information about the minimum requirements to be given to enable them to be called before
the project clearance committee chaired by the Managing Director which meets once in a
week.
A brief Project Profile will have to be given by the promoters to enable the same to be placed
before the committee.
After receipt of the Project Profile as per the format along with the bio data and the net worth
details, the main promoters are called for discussion with the committee and after
discussions, if the project is found support worthy; the application is issued on the spot. A set
of 3 applications are issued. The duly filled applications have to be submitted in duplicate
along with various enclosures as per check list given in the application form. One application
may be retained by the entrepreneur for reference. The application form will have to be
submitted along with the applicable processing fee.
• Legal Fee: In addition to the above, documentation fee for legal scrutiny of the title deeds,
execution of hypothecation and mortgage deed etc, at 0.1% of loan amount is being
charged.
The EG department after scrutinising the application and the enclosures submitted, draws
the receipt for the processing fee paid and forwards the application to the Credit Department
through General Manager (Credits). The credit department appraises the project and
disburse funds after the sanction of loans and will monitor the implementation of the project
till the project is completed and final disbursement made.
Entrepreneurs are advised to contact the Deputy General Manager for processing of the loan
applications.
The Credit Department is also provided with legal officers for legal scrutiny of the
documents and documentation thereafter i.e., after the loan is sanctioned and terms and
conditions of the sanction are accepted by the promoters.
PROJECT PROFILE
3. Constitution:
4. Size of the industry:
5. Products proposed to be manufactured/activity to be carried out:
6. Location:
a) Land (Area in Sq. Ft.):
b) Building (Sq. Ft):
c) Others:
1. Power Requirement:
2. Employment Potential:
3. Name of the Bankers to be approached for Working Capital:
4. (a) Background of the proposed project:
SL. No. Name of the Age in years Qualification Net Worth Experience
Promoter
5. Net Worth statement of the promoters (Movable/Immovable properties and its value)
As per Performa ‘A’ (Please submit proof).
6. Financial performance of the firm and associate concerns for last 3 years:
M/s. Rs. In
lakhs
Sl. No. Particulars Year1 Year2 Year3
1. Share Capital
2. Reserve and Surplus
3. Net Worth
4. Sales and Other Income
5. Net Profit
6. Depreciation
7. Cash Generated
8. Market: (Give details such as arrangement, firm tie-up, local or export etc)
9. Cost of Project Expansion:
A. Equity
4. Clearance obtained:
Eligibility Criteria:
• For setting up new projects in tiny/small scale and service sector.
• For expansion, diversification, technology upgrade and modernisation by the existing
tiny/small scale and service sector.
• Equity assistance is also available for rehabilitation of viable sick units in the SSI
sector.
• Projects which avail margin money or seed/special capital assistance under any other
scheme of the Central or State Government and other state level institutions or banks
will not be eligible for assistance. However, Central/State investment subsidy, if any,
maybe availed and retained for meeting working capital requirements.
Project Cost: The project cost (including margin money for working capital) shall not
exceed Rs.50.00 lakhs in the case of new projects. In the case of existing units, the total
outlay including the proposed outlay on expansion, modernisation, diversification or
rehabilitation shall not exceed Rs.50.00 lakhs.
Debt Equity Ratio: 1.857:1 (excluding State Investment Subsidy). However, a flexible
approach will be available in the case of rehabilitation proposals.
Nature and Amount of Assistance: Equity type of assistance will be in the form of soft
seed capital and the amount will be calculated based on the gap in the equity as per the
prescribed debt equity norm after taking into account promoters’ contribution subject to a
maximum of 25% of the project cost with a ceiling of Rs.10.00 lakhs. However, in the
case of service sector, the assistance under NEF is available only for acquisition of fixed
assets.
Terms of Assistance:
• Interest: A service charge of 5% per annum will be charged on soft loan component.
For the term loan portion the rate of interest will be applicable as per the current ruling
rates.
• Repayment Period: Normally, 7 years (including moratorium up to 3 years) for the soft
seed capital. The repayment period will be co-terminus with the repayment of normal
term loan for the project.
• Security: No security (including collateral) will be insisted for the soft seed capital
portion. However, the security norms including collateral for the term loan portion will
be as per the present lending policy of the corporation.
• Others: In the event of default of repayment of soft seed capital or service charge, such
instalment amount and arrears of service charges shall carry interest at such rate as
determined by SIDBI.
Objective: The objective of the scheme is to encourage the existing SSI to modernise their
production facilities in order to improve productivity, quality, etc and compete
successfully in domestic and international markets.
Eligibility Criteria: Existing units who are in operation for at least 3 years and who are
not in default to institutions, banks in payment of dues are eligible to be considered under
the scheme. Units graduating from SSI sector are also eligible to be covered under the
scheme. Service sector is also eligible for assistance under the scheme. This will be
examined on a case to case basis and with prior approval of SIDBI.
Project Cost: The project cost should not exceed Rs.100.00 lakhs. In exceptional cases,
the said limit can be exceeded with prior approval of SIDBI.
Debt Equity Ratio: 2:1 for the unit as a whole, i.e. the overall DER for the unit shall be
within 2:1.
Terms of Assistance:
• Interest: The rate of interest applicable under the scheme is 11.5% for loans above
Rs.2.00 lakhs, and 10.5% per annum for loans below Rs.2.00 lakhs. This is subject to
change, if any, by SIDBI.
• Repayment Period: The repayment period including moratorium period shall not
exceed 5 years.
• Security: First charge on the assets created under the scheme will have to be mortgaged
or hypothecated. In addition, collateral security is insisted as per the lending policy of
the Corporation.
• Others: The investment on land, building and electrification shall not exceed 25% of
the total cost of plant and machinery proposed in this scheme. The preliminary and
preoperative expenses including interest during implementation shall not form part of
the project cost.
1. ACQUISITION OF ISO 9000 SERIES CERTIFICATION
Eligibility Criteria: Having good track record of past performance and sound financial
position and in operation for a period of at least 2 years, have earned profit and/or have
declared dividend during preceding 2 years and are regular in payment to financial
institution/banks.
Terms of Assistance: SSI units approaching for loan under this scheme should offer
collateral security as per the lending policy of the Corporation. The rate of interest up to
Rs.2.00 lakhs is 10.50% per annum and above Rs.2.00 lakhs it is 11.50% per annum.
Objective: To provide financial assistance to small and medium scale units to undertake
various activities necessary to increase their sales in domestic and foreign markets and/or
to create physical marketing infrastructure.
Eligibility Criteria: The assistance under the scheme is provided for undertaking various
market related activities such as:
• Market Research.
• Preparation of strategic marketing plan.
• Advertising, branding, broadcasting, catalogue preparation, production of audio-visual
aids, etc.
• Participation in trade fairs and exhibitions, undertaking sales promotion tours, etc.
• Renovation of existing showrooms or construction of showrooms for marketing
products.
• Establishing sales offices or showrooms abroad.
• Establishing distribution networks including showrooms/retail outlets.
• Training of personnel in marketing skills.
• Any other activity directly relating to promotion of marketing the products in the
domestic or international markets.
• Establishing permanent exhibition or trade centres.
Eligible Borrowers:
• Existing units (at least for 2 years) with a good track record (no default to any financial
institution/bank and asset classified as ‘standard’ by bank) and sound financial position
(positive net worth and net profits at least in last 2 years) are eligible for assistance
under the scheme for the above activities except the last activity.
• Existing or new units with good track record and sound financial position are eligible
for assistance under the scheme for establishing permanent exhibition or trade centres.
Debt Equity Ratio: The DER shall not be more than 2:1.
Rate of Interest: 12.50% per annum for SSIs, 13.50% per annum for MSIs and other SSIs
Security:
• Exclusive charge over the assets acquired out of loan.
• First/second charge on existing fixed assets.
• Collateral security as may be deemed necessary and as per the present lending policy of
the Corporation.
Eligibility Criteria:
• Plant and machinery- machinery of reputed make with minimum residual life of 10
years as assessed by the technical officers of the Corporation supported by Chartered
Engineers Certificate.
• Land and Building- industrial/commercial properties located at prominent places within
municipal limits with a minimum of 20 years residual life, subject to certification by the
technical officers of the Corporation.
• Nature and extent of Finance- financial assistance will be in the form of term loan not
exceeding 70% of the estimated value of the assets being considered for finance. The
minimum limit of finance under this scheme will be Rs.10.00 lakhs and the maximum
as per the prevailing norms applicable for term loan under the general scheme. The
promoters’ contribution and debt equity ratio will also be as specified for term loans
under general scheme.
Terms of assistance:
• Interest: 13% per annum
• Repayment Period: Not exceeding 5 years including moratorium period up to 12
months.
• Security: Collateral security to the extent of minimum 100% of the loan in case of
assets other than land and building in addition to the personal guarantees of the
promoters.
• Others: No lien certificate is given from the seller’s bank/financial institutions on the
assets being purchased.
Objective: The objective of the scheme is to extend short term loans to the existing
successful units who require urgent working capital funds either to meet the gap in the
working capital requirements or funds required for executing the rush of orders. This loan
is also considered for developing / expanding new markets for purchase of new equipment
till a term loan is sanctioned and released by the financial institutions.
Limit of Assistance:
• Minimum of Rs.5.00 lakhs and maximum of Rs.200.00 lakhs in case of proprietary and
partnership firms.
• Rs.500.00 lakhs in respect of corporate bodies, public and private limited companies
and registered co-operative societies.
Terms of Assistance:
• Interest: The current rate of interest is 12.5% p.a. (net). However, the rates are subject
to change from time to time.
• Repayment Period: Not exceeding 30 months including moratorium period of 6 months
(maximum).
• Security: Assets free of encumbrance charged to the Corporation will be further
charged. In the absence of adequate security in the form of primary assets as required
under the scheme, collateral security to the extent of 100% of the loan amount is
insisted in respect of existing units assisted by the Corporation and in respect of other
units approached KSFC for the first time, the collateral security requirement is 150% of
the loan amount, collateral security of 75% for AAA rated entrepreneurs.
1. GENERAL SCHEME
Eligibility Criteria: Projects which are eligible to be financed as per the SFC’s Act.
Project Cost: The project cost shall not exceed Rs.12 crores for SSIs, MSIs (SSIs
including service sector industries). The project cost can go up to Rs.20 crores in respect
of service and infrastructure projects.
Promoters’ Contribution: Varying between 12.5% and 25% depending upon the location
of the project, category etc.
Nature and Amount of Assistance: Under the General Scheme, the assistance will be in
the form of term loan calculated on the basis of maximum 75% of the proposed fixed
assets to be acquired i.e. the land, building, plant and machinery etc. however, the term
loan will be subject to a maximum of Rs.200.00 lakhs in the case of proprietary and
partnership concerns, and Rs.500.00 lakhs in the case of co-operative societies, private and
public limited companies.
Terms of Assistance:
• Rate of Interest: The current rate of interest is 12.5%.
• Repayment: Maximum of 8 years with a moratorium up to 2 years normally.
• Security: Apart from mortgage / hypothecation of proposed fixed assets, suitable
collateral security is also insisted as per the lending policy of the Corporation.
Assistance is also extended to acquire ready built shop or for construction of medical
stores subject to conditions. Medical practitioners with relevant qualifications in general
medicine, dentistry, radiology etc are eligible for assistance for acquiring C.T scanners, x-
ray, endoscopy, gastro copy and other electro medical equipments required by medical
practitioners and hospitals.
Medical professional having bachelor’s degree in any branch of medicine from recognized
university is eligible for financial assistance for setting up clinics.
Eligibility Criteria: The project must be backed by expert services of at least one
postgraduate doctor.
Terms of Assistance:
• Rate of Interest: The interest rate is ranging between 11.55 to 15%.
• Repayment Period: 6 to 8 years with moratorium period of up to 2 years.
Eligible Borrowers: Well established small and medium industrial concern eligible for
finance from SIDBI or IDBI, which have a good of record of performance and a sound
financial position.
Eligibility Criteria:
• The units should have earned profit and / or declaration dividends during the preceding
two financial two financial years.
• It should not be in default to financial institution or banks.
• It should have been in operation for at least 4 years.
• It should have been in operation for at least 4 years.
Nature and Amount of Assistance: The total working capital requirement at the normal
level of operation is up to Rs.20.00 lakhs. Term loan fixed assets and term for working
capital is fixed based on the debt equity ratio.
Terms of Assistance:
• Rate of Interest: The interest rate ranges from 11.5% to 15%.
• Repayment Period: 5 years including a moratorium period of 12 to 18 months.
• Security: Collateral of 30% of the term loan in addition to primary security.
Objective: Providing assistance of term loan as well as working capital to new tiny and
small units.
Nature and Amount of Assistance: The total working capital requirement at the normal
level of operation is up to Rs.20.00 lakhs. Term loan fixed assets and term for working
capital is fixed based on the debt equity ratio.
Terms of Assistance:
• Rate of Interest: The interest rate is 12.5%
• Repayment Period: 8 years with a moratorium period up to 2 years.
I. COMPOSITION OF CREDIT RISK:
Credit Risk is common in every financial activity of an organization. There are many risks
existing in the financial institutions and banks. The type and magnitude of the risk depend on
the nature and policy of the organization.
The risks which greatly affect the operations of KSFC are classified into Internal Risks and
External Risks. The various Internal and External risks are illustrated below:
CREDIT RISK
INTERNAL RISK:
Internal risks are those risks that exist within the organization. They impart strengths and
weaknesses to the organization. The various Internal Risks of KSFC are discussed below:
1. Financial Risk:
Financial Risk is the possibility that the borrower of a loan or the issuer of a security may
be unable to meet interest and principal payments when they fall due. This failure of
borrowers to carry out their financial obligations to their lenders as pledged by contract is
call default. A borrower may be unable to perform up to the expectations for a variety of
reasons, many of which are not always predictable. For businesses, a slump in sales, a
sudden increase in operating costs or in cost of raw materials, stiff competition in the
market place, labour problems or industry regulations all may cause default. Anything that
affects the borrower’s financial position contributes to credit risk.
Financial Risk arises when the firm decides to use debt in its capital structure. The greater
the proportion of long term debt in the capital structure of the firm, the greater is the
financial risk because there is a need for larger amount of periodic interest payment and
principal repayment at the time of maturity. In such a situation the firm requires higher
operating profits to cover these charges. If it fails to earn adequate operating profits, the
probability of insolvency increases.
2. Project Risk:
Project Risk comprises Project Identification Risk and Project Information Risk:
a. Project Identification Risk: Project Identification Risk arises when the Corporation
(KSFC) selects the project without considering the technical and economic feasibility
of a project, or if the project is against the state and national interest.
b. Project Information Risk: Project Information Risk arises when the borrower
provides wrong information regarding the project or his financial soundness to the
Corporation.
Project Risk is managed at KSFC by a special cell viz., Entrepreneurial Guidance (EG)
Section headed by an assistant General Manager which operates at the head office of
the Corporation to guide the entrepreneurs in respect of various schemes operated by
the Corporation, loan facility available etc.
A brief Project Profile will have to be given by the promoters to enable the same to be
placed before the committee.
KSFC has been playing a pivotal role in the development of SMEs in the State of
Karnataka for the last 45 years of its existence. KSFC has assisted more than 1.54 lakh
units with cumulative sanction of more than Rs. 7,184 crores out of which about 50% is
towards SMEs.
KSFC is an ISO 9001:2000 certified organization. It has played a major role in the
industrial development of the State. It has also assisted many industries that are
internationally recognised like the INFOSYS and BIOCON.
Hence, KSFC is a highly regarded Corporation that has achieved the trust of entrepreneurs
throughout Karnataka.
2. Concentration Risk:
The Concentration Risk arises when an organization deals in a single or a narrow set of
products and services.
3. Operating Risk:
The Operating Risk arises when it is not possible for the organization to cover its
operational fixed cost.
FIXED COST: Remains fixed irrespective of the level of output.
VARIABLE COST: Changes according to the level of output.
EXTERNAL RISKS:
External Risks include all the risk factors outside the organization which provides
opportunities or poses threats to the organization. External Risks are common for all kinds of
organizations. This implies that also KSFC faces External Risk. But the External Risk faced
by KSFC is less compared to private financial institutions because it is a State Government
Organization. The various External Risks are discussed below:
1. Technological Risk:
Technological Risk consists of those factors related to knowledge applied and the
materials and machines used in the production of goods and services that have an impact
on the business of the organization. Technology in the banking sector may be related to
raising, distributing and recovery of funds and providing service to customer by utilizing
latest technology. The factors that affect Technological Risk are: Source of Technology,
Cost of Technology Acquisition and Technology Development.
2. Market Risk:
Market Risk is that risk which is caused due to competition from groups and other
organizations. It also depends on needs and preferences of the customers, demand of the
services provided and quality of customer service.
In order to manage market risk, KSFC provides merchant Banking services and has also
entered into partnership agreement with IFFO-TOKIO for providing insurance services. It
is also considering providing venture capital for Biotechnology sector.
3. Political Risk:
Political Risk occurs due to the political system of the Centre and the State. Conflicting
policies and goals of the various political parties directly effects the organization. It is one
of the major external risks which not only provides opportunity to the Corporation but also
poses threats and also determines the services provided by KSFC.
The State Government has major component of shares both in the share capital and Board
of Directors of KSFC, hence, ruling party’s policy may influence the operations of KSFC.
Political risk is one of the uncontrollable risks because it may not be possible for KSFC to
take independent decisions as the State Government has major component of shares in the
share capital of KSFC.
4. Regulatory Risk:
Factors relating to Regulatory Risk are planning, promotion and regulations of operations
and financial activities by the Government and the Reserve Bank of India that have a
direct impact on the business of the organization.
KSFC is regulated by RBI, SFC Act and the State Government. Their policies relating to
the Small Scale Industries, Imports, Exports, Tax Policy, Sick Industry, etc, provides
opportunity and also pose certain threats to the organization. If there is any change in the
existing laws or policies then, KSFC should react accordingly and also make some internal
changes.
5. Social Risk:
Social Risk is associated with factors such as human relations and its development, forms
and functions having a bearing on the operations of the organization. Changes in factors
such as Demographic characteristics, Use of Mass Media, Role of Women in Society,
Education level, Awareness of Rights, etc can cause and change in the magnitude of
Social Risk of a company.
At present, due to the sound reputation of KSFC, Social Risk is very low compared to any
other External Risks. KSFC should take precaution by providing and improving services
expected by the society.
The maximum financing limit is Rs.24 crores but the bulk of financing is done in sub Rs.2.00
lakhs category. Loans are sanctioned at a rate of 15.5% and ensured that the Corporation has
an interest spread of 3% to 3.5% over the refinance/loc rate. Loans are sanctioned for a period
of 5 to 7 years excluding the moratorium period, which ranges between 6 to 24 months.
A project which is considered technically feasible, economically viable and financially sound
may run into difficulties if it is not backed by sound and efficient management. The person
behind the project is important. It is said that a second rate project in the hands of a first rate
management is better than a first rate project in the hands of second rate management.
Therefore, proper evaluation of management is an essential part of appraisal of a project.
KSFC receives applications from new as well as from existing entrepreneurs for establishing
new units or expanding/diversifying existing ones. While appraising existing entrepreneurs,
their past records are judged. A judgement is made based on the basis of past balance sheets,
profit & loss statements, credit records with bankers and financial institutions, adherence to
sound business policies and evidence of professionalism in management. While appraising
expansion/diversification/modernisation of projects, it is ensured whether present
management is flexible enough to change itself according to the new circumstances.
In case of new projects, the past record may not be available with the institutions and banks.
KSFC obtains information regarding background of the new entrepreneurs and try to judge
their character on the basis of the performance of other units managed by them. Efforts are
made to get as much information as possible about the past record of the promoters. Each
promoter will have to come in contact of the appraising officer several times for discussions
regarding the project. Appraising officer evaluates the qualities of the promoter after
interviewing him.
Although the above assessment is highly subjective, it gives an idea about the qualities of the
promoters. If the promoters are coming in contact with more than one appraising officer, all
of them will rank the promoter independently after two to three meetings with the promoter
and average is obtained from the assessment.
After the project is appraised and the financial assistance is sanctioned, the next step will be
to disburse money and to ensure successful implementation of the project.
The Corporation ensures that the loan amount is utilized for the purpose for which it was
sanctioned. The following information should be furnished by the borrowing unit to the
Corporation:
• Physical progress of the project such as the progress made in the acquisition of land, site
development, construction of buildings, acquisition of plant and machinery, arrangements
made for supply of power, water and other utilities.
• Financial progress of the project such as expenditures incurred under different heads and
the means of financing. This information should be certified by an auditor for authenticity.
• Whether the promoters’ contribution stipulated in the letter of intent has been actually
brought in, auditors’ certificate giving full details of the promoters’ contributions should
be enclosed.
• Certified copy of the resolution passed by the company’s Board of Directors authorizing
any Director(s) or any other person(s) to execute the documents and provide security for
the institutional loans.
• Certified copy of the resolution passed by the company in the general meeting for
authorizing the Board of Directors to mortgage the assets of the company in favour of the
Corporation.
• Opinion from the company’s legal advisors stating that the company and its Directors have
the necessary power to enter into the loan agreement with the Corporation.
• Purchase policies of raw materials and stores and whether the unit is able to obtain smooth
flow of requisite quality of raw materials, especially imported raw materials.
In order to accomplish its objective of providing adequate credit to the various borrowers
within the state and also to carry out its day to day activities without any hindrances, KSFC
needs to raise funds from diverse sources. It further needs to ensure that these sources not
only remain constant and effective but also are cost-efficient.
KSFC has traditionally been funded by the refinance facility of IDBI/SIDBI and the State
Government guaranteed bonds, which are eligible investments for commercial banks
maintaining an SLR portfolio. The sources of funds for the Corporation are as follows:
• Enhancement of share capital.
• Line of credit from IDBI/SIDBI.
• Statutory Liquidity Ratio Bonds.
• Line of Credit from Banks.
• Fixed Deposits.
• Subsidy bonds.
• Line of credit-seed capital.
• Margin money from state level Corporations.
• Recoveries.
• Income from interest and other activities.
Risks Involved in Sourcing of Funds:
• A Committee constituted by the IDBI under Dr. K.V.Mada in the early nineties to review
the operations and the resource mix of the SFCs suggested the following:
Financial Risks:
Bad & Doubtful Debts of KSFC have been increasing over the years. With the increase
in the proportion of debt commitments in the capital structures, financial risk increases.
Financial risk increases the probability of insolvency.
Concentration Risk:
Table 2: Table Showing Industry wise sanctions during the year 2008-2009
Graph 2: Graph showing Industry wise sanctions during the year 2008-2009
It is clear from the above graph that loans are sanctioned mostly to the hotel and food
processing industries. This increases the chance of Concentration Risk.
Operating Risk:
Table 3: Table Showing Cost Structure of KSFC
2. SANCTIONS:
Table 5: Table showing Amounts Sanctioned
It can be observed that the amount of loan sanctioned has decreased since 1997-1998. The
amount has improved in 2008-2009.
3. DISBURSEMENTS:
Table 6: Table showing Amounts Disbursed
Sl. No. Year Amount (Rs. in
Lakhs)
1. 1995-1996 61263.18
2. 1996-1997 64946.56
3. 1997-1998 46955.66
4. 1998-1999 35986.95
5. 1999-2000 29849.46
6. 2000-2001 32878.20
7. 2001-2002 29242.45
8. 2002-2003 26827.94
9. 2003-2004 24878.79
10 2004-2005 24034.05
11. 2005-2006 19986.00
12. 2006-2007 31039.00
13. 2007-2008 30313.00
14. 2008-2009 38391.55
It can be observed that the amount of loan disbursed has decreased since 1997-1998. The
amount has improved in 2008-2009.
4. RECOVERY:
Table 7: Table showing Amounts Recovered
FINDINGS
1. Karnataka State Financial Corporation is a State level financial institution established by
the State Government in the year 1959 to meet mainly the long term financial needs of
small and medium enterprises (SMEs) in the State of Karnataka.
2. KSFC is an ISO 9001:2000 certified organization. It has played a major role in the
industrial development of the State. It has also assisted many industries that are
internationally recognised like the INFOSYS and BIOCON.
3. Bad & Doubtful Debts of KSFC have been increasing over the years. With the increase in
the proportion of debt commitments in the capital structures, financial risk increases.
Financial risk increases the probability of insolvency.
4. The amounts recovered at a reasonably stable pace.
5. Loans are sanctioned mostly to the hotel and food processing industries. This increases the
chances of concentration risk.
6. The Fixed Cost is greater than the Variable Cost. The greater the Fixed Cost relative to the
Variable Cost, the Greater the Operating Risk. Hence, KSFC faces high level of
Operational Risk.
7. there was a sudden dip in the profits earned by the Corporation during the period 1998 to
2003. The Corporation has been improving profits until 2007-2008. The Corporation has
again posted a loss in 2008-2009.
8. the amount of loan sanctioned has decreased since 1997-1998. The amount has improved
in 2008-2009.
9. the amount of loan disbursed has decreased since 1997-1998. The amount has improved in
2008-2009.
RECOMMENDATIONS
1. At present, KSFC is operating as a lending institution. The Corporation can diversify its
portfolio to minimize its risk. For example, it can consider providing insurances as a
means of diversification.
2. The Corporation can implement independent accounting system for every department in
an effort to accomplish profits from each individual department.
3. Special care should be taken while sanctioning loans to areas where default is most
probable, be it size-wise or industry-wise sanctions.
4. KSFC should consider sanctioning loans to other industries apart from hotel and food
which may bring in profits.
5. The Corporation may lend to new areas to minimize risk. For example, lending loans to
sectors like educational institutions.
BIBLIOGRAPHY
• Measuring and Managing Credit Risk – Arnaud De Servigny & Olivier Renault
• http://www.ksfc.in
• http://www.riskglossary.com
• http://www.risk.net
Model-B: Applicable for existing units with loans aggregating between Rs.25.00 lakhs and
Rs.75.00 lakhs.
Model-C: Applicable to new units with loans aggregating more than Rs.25.00 lakhs (new
units).
Model-D: Applicable to existing units with loans aggregating to Rs.75.00 lakhs and above
(existing units).
Based on the risk weight under different models, 7 risk indicators have been formulated as
given below:
The Categories indicated at 1 to 6 are considered acceptable for financing, whereas proposals
falling under Sl. No. 7 with score less than 40 are considered Not Support Worthy. The
rejection of the proposals on credit rating basis shall be done by one level above the
sanctioning authority.
MODEL-A
FOR CASES WITH EXPOSURE LESS THAN Rs.25.00 LAKHS
(BOTH NEW AND EXISTING UNITS)
A. FINANCIAL RISKS:
Remarks: Where the land has been valued based on SR and market value is more than SR,
no discounting needs to be done. Where the market value of land is less than SR, discounting
factor up to 25% may be applied to match the SR with market value. For building,
discounting factor of 10% may be applied and for plant and machinery, discounting factor of
20% may be applied.
A. BUSINESS RISKS:
1. Location:
3. Class of Machinery:
4. Machinery Obsolescence:
Sl. No. Range Score
1. Machineries not prone to obsolescence in next 5-7 years 5
2. Machineries not prone to obsolescence in next 3-5 years 3
3. Machineries not prone to obsolescence in next 3 years 0
5. Competition:
A. MANAGEMENT RISKS:
1. Background:
A. LEGAL RISKS:
MODEL-B
1. Current Ratio-Scheme:
7. Repayment Period:
11.Worth of Guarantees*:
1. Technology:
2. Location:
4. Class of Machinery:
5. Product Obsolescence:
6. Machinery Obsolescence:
7. Competition:
9. Customer Profile:
10.Seasonability:
A. MANAGEMENT RISKS:
1. Background:
A. LEGAL RISKS:
MODEL-C
A. FINANCIAL RISKS:
1. Debt Equity Ratio-Scheme:
3. Repayment Period:
Remarks: Where the land has been valued based on SR and market value is more than SR,
no discounting needs to be done. Where the market value of land is less than SR, discounting
factor up to 25% may be applied to match the SR with market value. For building,
discounting factor of 10% may be applied and for plant and machinery, discounting factor of
20% may be applied.
7. Worth of Guarantees*:
A. BUSINESS RISKS:
1. Technology:
2. Location:
4. Product Obsolescence:
6. Competition:
8. Customer Profile:
A. MANAGEMENT RISKS:
1. Background:
*
(Track Record & Relationship of associate units if any).
A. LEGAL RISKS:
MODEL-D
A. FINANCIAL RISKS:
1. Current Ratio:
7. Repayment Period:
12. Worth of Corporate Guarantee (Applicable for cases where guarantee is given by a
company other than borrowing company):
A. BUSINESS RISKS:
1. Technology:
3. Class of Machinery:
4. Product Obsolescence:
5. Machinery Obsolescence:
6. Competition:
8. Customer Profile:
9. Seasonability:
A. MANAGEMENT RISKS:
1. Background:
6. Certifications: