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Credit Programme

For Axis Bank

Praloy Majumder
Kolkata
October 25th 2010

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Session One

2
Loans and Advances

Loan Division

Working Capital Term Loan

3
Loans & Advances
• Working Capital
– Current Assets funding
• Term Loan
– Current Assets
– Fixed Assets
– Other non current assets
• Term Loan
– Margin Money for working capital
– Margin money for other term loan

4
Loans and Advances
Loan Division

Working Capital

Fund Based Non Fund Based


5
Loans and Advances
Loan Division

Working Capital Term Loan

Long Term Asset,


Current Asset
Current Asset
6
Fundamental Concept of
Credit Assessment

7
Very important Slide
Business
Evaluation

Inflow of Fund Outflow of Fund

Income Liability Expenses Asset


P&L B/S P&L B/S

8
Very important slide
Inflow Outflow Cash and
Bank
Balance
Income > Expenses +
Liability > Asset +

Income < Expenses -


Liability < Asset -

9
Working Capital

10
Production

Borrowing

Repayment Sales

Realisation 11
Methods of Assessment of
Fund Based Working Capital
FB Assessment
Method

MPBF CB TO

I II III

12
Working Capital Facilities
Concept of Working Capital Funding
MPBF

LTA

NWC
FB facility CA
NFB OCL

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MPBF Process..
I II III

A CA CA CCA

B OCL OCL OCL

C=A-B WCG WCG WCG

D=Min NWC 0.25WCG 0.25CA 0.25CCA

E=Est NWC Est NWC Est NWC Est NWC

MPBF Min (C-D,C-E) Min (C-D,C-E) Min (C-D,C-E)

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Turn Over Method
• This method is applied for small business houses. The
assumption of this method is very simple.
• The working capital cycle is 3 months i.e. the sales are
rotated four times a year. The total working capital
requirement is 25 % of the projected sales.
• Out of this total requirement, at least 5% is to be
brought in from long term sources. So the remaining
20% would be minimum amount of fund based working
capital to be given to a company.
• This is mainly followed for fund based working capital
limit of up to Rs 500 lacs.

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Export Credit
Export Credit

Pre Shipment Post Shipment

Rupee Foreign Currency Rupee Foreign Currency

16
Export Credit
Pre Shipment Credit Post Shipment

Receipt Completion On board Realisation


Of Order Of Order

OC = RM+WIP+FG OC = Receivable Cycle

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Assessment for FB Limit for
Export Credit
• As mentioned earlier, the packing credit is the fund based
working capital facility given by the bank to meet the expenses
incurred till the shipment stage . The following expenses are
incurred by an exporter till the shipment stage :
– 1) Expenses incurred for purchase of raw material
– 2) Expenses incurred for conversion of raw material to finished
goods
– 3)Expenses incurred for ware housing of finished goods
– 4)Expenses incurred for putting the goods on board.
• As mentioned earlier, the total assessment is carried out in the
same manner as the assessment for the domestic working
capital and the required NWC of 25% of the current assets is to
be brought in by the company

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Assessment for FB Limit for
Export Credit
• Since the fund is disbursed under concessional interest rate, there
should be some mechanism that the fund is going for the export
purpose.
• So any packing credit is disbursed against either LC or confirmed
order and the disbursing bank make an endorsement on the LC or
Export order so that the company can not avail the export packing
credit against the same order from bank. Moreover, the fund under
packing credit needs to be repaid from the post shipment credit and
for this purpose bank maintains a diary of shipment .
• If it is liquidated from the domestic sources, a penal interest rate
well above the market is imposed. This prevents the company to
misuse the packing credit for domestic purpose.

19
Assessment for FB Limit for
Export Credit
• So when the bank disburses the packing credit
its main concern is the shipment of the goods.
• Once the shipment takes place, the packing
credit is liquidated.
• In the case of post shipment credit , the risk of
the bank increases .
• This is because in the pre shipment stage , the
bank has the finished goods as the security in
the post shipment stage the bank is having
only receivable which a piece of paper only.

20
Assessment for FB Limit for
Export Credit
• To reduce the risk of any delinquency, bank
insists on the following :
• Generally bank asks for Letter of Credit for Post
Shipment Credit
• When LC is not available, banks gets credit rating
of the overseas buyer from the reputed agencies
like Dun and Broad Street
• Bank also insists for Export Credit Guarantee
Commission ( ECGC) coverage for Post Shipment
Finance. This is an insurance coverage for counter
party risks.
• Bank does not provide the Post Shipment Finance
for exporting to countries where there are
significant country risk involved
21
Assessment for FB Limit for
Export Credit
• After the post shipment finance is disbursed, the
same precaution to be taken so that the purpose of
concessional interest is not defeated.
• The post shipment finance is to be realized only from
the Realisation of export proceeds and the export
proceeds to be realized in all cases ( except the case
of capital goods export) within one year.
• If it is not realized within 180 days , details to be
given to RBI and the writing off of export receivable
requires fulfilment of many formalities.
• These formalities would act as deterrent for reaping
unscrupulous benefits of concessional interest rate.

22
Important aspect of Export
Credit
• The export credit should be used for export purpose not for domestic
purpose .
• To ensure that bank must ensure the following :
– At the time of assessment :
• Operating Cycle should not be exceptionally long ; Longer
operating cycle means export credit is enjoyed by the borrower
for longer period. ABC Limited’s actual operating cycle for export
is 30 days and cost per day is Rs 1 lacs the current asset is Rs
30 lacs .
• If borrower projects an operating cycle of 60 days and cost per
day kept at same at Rs 1 lacs the current asset is Rs 60 lacs.
• The borrower can get more export credit than required and it
can use Rs 30 lacs additional fund in other than export .

23
Important aspect of Export
Credit
• This can also be method for money
laundering :
– Higher profit margin means higher inflow of
dollars ;
– From this dollars , payment is made to Indian
local marketing agent ;
– This marketing agent may be part of money
laundering racket.
• KYC is very important in export credit.

24
Post shipment credit

Post Shipment
Credit

Advance against
Advance against
Bill Discounting Duty draw back
Bills for collection
Receivable

25
Liquidation Source

Liquidation
Source

Specific Other Unfinanced


Export Export EEFC Account
Bill Bill

26
Session Two

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Important Financial Ratios
• PAT/Sales
– It indicates the profitability of the borrower
• If PAT/Sales ratio is going up then it is good; If it is going
down , we need explanation about how it is likely to go up
in the future
• However this ratio does not takes into account the cash
realisation part
• EBIDTA: This indicates the Profit before the
financing and statutory expenses . This also
excludes the non cash expenses . However
this is also not an indication of Cash
Realisation of the company.

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Important Financial Ratios
• Net Cash Accrual : PAT +
Depreciation +Amortisation
– This indicates the Accrual amount
generated after meeting all expenses
except the principal of the term loan
• Interest Coverage Ratio : [PAT +
Depreciation +Interest ]/ Interest
– It denotes the interest payment capacity
of the borrower. Higher the ratio , better
is the interest repayment capacity.
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Important Financial Ratios
• Debt Service Coverage Ratio : [PAT + Depreciation
+Interest ]/ [Interest + Principal Repayment ]
– It denotes the principal and interest payment
capacity of the borrower for both long term and
short term debt borrowing .
• Current Ratio : Current Asset/Current Liability :
– High : If the current ratio is high , we have to
check the holding level of current asset. If holding
level is high , then there can be areas of concern.
If holding level is low then it is fine .
– Low : If the holding level is high , then the
problem is more serious . If the holding level is
low, then we can inject short term lending

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Important Financial Ratios
• TOL/TNW : Lower the existing ratio , higher is the
capacity of debt borrowing . If the ratio is high , for
future debt borrowing , the borrower has to increase
the TNW by way of converting unsecured loan or
increasing the equity portion .
• Debt/Equity : This is a ratio which indicates the long
term debt / TNW ratio. This indicates the long term
debt borrowing capacity of a borrower.
• Stock Turnover Ratio : Inventory/Sales ;
– This is an important ratio which indicates the
movement of stocks. If the ratio is high , then the
goods movement is slow and the riskiness of the
borrower is high.

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Basic Concept of Fund Flow
• Borrower would be generating cash from three sources
:
– Operation
– Investment
– Financing
• Debt Lender would be looking for the quantum of cash
generated from operation as it indicates the
repayment capacity generated from the core business.
• The cash flow from operation is calculated :
– PAT +D – Other Income – Increase in Raw Material –
Increase in WIP- Increase in Finished Goods –
Increase in Receivable – Increase in Other Current
Asset ( except cash and bank balance ) + Increase
in Other current liability

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Basic Concept of Fund Flow

• Cash flow from operation would increase


due to :
– Increase in Profit
– Decrease in Current Asset
– Increase in Other Current Liability
• Aim is to increase the cash flow from
operation by way of
– Increase in Profit
– Decrease in Current Asset

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Different Working Capital
Products
• Cash Credit
• Working Capital demand Loan
• Bill Discounting
– Drawer Bill
– Drawee Bill
• MIBOR Linked Products
• LIBOR Linked Products

34
Cash Credit
• Fund Based working capital Limit can be availed
in the form of Cash Credit
• Cash Credit is like a current account
• Borrower can deposit and withdraw any number
of times during the period
• The maximum amount of outstanding would be
the Drawing Power or Limit whichever is lower
• The borrower has to submit stock statement on a
periodic basis and based on the stock statement
the drawing power is fixed

35
Cash Credit
• Interest rate is linked to Base Rate
• Interest rate is charged on the amount of
outstanding on the daily basis
• The interest needs to be paid generally on
monthly basis
• This is the most popular working capital
product
• Drawback :
– Cash Management at the hand of bank
• Bank should charge higher interest rate

36
Working Capital Demand
Loan
• In the case of working capital demand loan , the
borrower would mention at the time of borrowing for
what period it is borrowing
• The borrower has to repay the money within the
stipulated time frame
• The cash management is at the hand of the borrower
• Interest rate charged for this loan would be lower
• Drawing power and issues related to stock
statement would be same like cash credit

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Bill Discounting
Bill Discounting

Drawer Bill Drawee Bill


Discounting Discounting

With LC Without LC

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Bill Discounting
Bill Discounting

Drawer Bill Drawee Bill


Discounting Discounting

Replacing creditor in OCL


Receivable
with
Financing
Other bank

Replacing Receivable
Financing with
Bill
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Bills Discounting outside
MPBF
• Finance for Bill Discounting is part of receivable financing
.
• If the drawer enjoys fund based working capital facility it
is getting finance for current asset :
– Inventory Financing
– Receivable Financing
• Under receivable financing :
– Open Account Receivable financing : Invoice Financing
– Bills Receivable
• If other banks provide drawer bill discounting financing ,
the payee bank under bill discounting has to follow the
following practice :

40
Bills Discounting outside
MPBF
• No Objection in Lending from existing lender .
– Failure of this would mean violation of existing contract with
borrower and existing lender
• Negative covenant
• The disbursed amount to be credited by A/C Payee cheque to
the existing lender of the drawer and the payee bank under bill
discounting has to take care of this formalities.
• The same amount would have to be reduced from the drawing
power of the drawer up on receipt of the A/C Payee cheque of
the payee bank.
• Under no circumstances , this is outside the MPBF .

41
Commercial Paper-Who can
issue CP??
• A company, Primary Dealer and All India Financial
Institutions can issue CP. In the case of a company the
following criteria needs to be fulfilled :
o The TNW of the company as per latest audited balance sheet
should not be less than Rs 4crores;
o The Company has been sanctioned a working capital limit by Banks
and /or all India Financial Institutions
o The Borrowal Account is classified as Standard assets by the
bank/FIs.
• In the case of Primary Dealer and All India Financial
Institutions , RBI permits them to issue CP to meet
their short term funding requirement within an
umbrella limit specified by the RBI .

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Interest Rate Situation

GDP Low Low High

Inflation Low High High

Interest Low ? High

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Interest Rate Situation- India

GDP 9% 8.5%

Inflation 6% 10% Low/High

Interest Increased

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Interest Rate Situation- US

GDP 4% 1.5%

Inflation Low

Interest Low

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Conclusion
• Domestic rate would be higher
• LIBOR related rates would be lower
• LIBOR borrowing would be preferred
compared to domestic borrowing
• LIBOR rates are also associated with
exchange risk
• This needs to be taken into account
before borrowing
46
Foreign Currency Borrowing
• India has USD 280 billion FX Reserve
• FX Reserve means amounts of dollar India has
• This balance has been built up by net of Inflows and Outflows:
– Inflows :
• Export
• Capital Account Inflows
– Loans
– Investment in Capital Market
– Recovery of assets
– Out flows :
• Import
• Capital Account Outflows
– Purchase of Assets
– Repayment of Loan

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Foreign Currency Borrowing
• Permanent foreign currency is when country
is having trade surplus
• India is trade deficit country
• Dollars are not India’s dollars
• This is outsiders money
• So RBI would not allow this lenders to lend in
the short term market easily
• So restriction on Short Term Lending in the
form of Foreign Currency would always be
there
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Foreign Currency Borrowing

Foreign Currency
Borrowing

Short Term
Medium Term Long Term
( Medium ( Minimum
( Maximum
Restriction ) Restriction )
Restriction )

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Foreign Currency – Short Term
Borrowing

Short Term

Import – No
Import – Yes Import – No
Export – Yes
Export – No
Only through Export – No
Only through
PCFC and PSCFC Only through
TC for the imported
For export portion FCNR(B)
Portion
Only
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Suppliers credit
• Supplier would :
– Inform Indian buyer that it would
arrange the fund
– Indian buyer has to give a guarantee
• LOU
• SLC
– Overseas lender would be lending to
Indian buyer on the strength of suppliers
recommendation and LOU/SLC
51
Buyers credit
• Buyer would be arranging foreign credit on its
own other than the buyer’s own working capital
banks
• Buyer would be charged higher rate in case of
borrowing in the form of domestic rupee sources
• Buyer would be approached by other banks to
arrange the fund in foreign currency
• Buyer would be asking its own working capital
bank to give the LOU/SLC

52
Sources of Buyers Credit
• Indian Banks would get a sanction of
Foreign Currency Limit from the over
seas bank
• BOM would get a sanction limit from
JPMC for USD 200 million
– The interest rate for this limit would be
primarily depend on :
• Country’s strength
• Country’s banking sector strength
• Individual bank’s strength
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Sources of Buyers Credit
• The difference among banks for borrowing cost
from JPMC would not be very high
• The competitive advantages would be very less
among banks in this form of funds
• The spread would determine the product selling
aspect
• The spread is dependent on the Individual bank’s
marketing policy as well as cross subsidisation
policy .
• There is a huge opportunity on this area.

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Session Three

55
Non Fund Based Product

56
Letter of Credit
Payment Transmitted
Sends Confirmation

Issuing Bank/ Sends Documents Negotiating


Opening Bank Bank
Bank
Sends documents for Acceptance

Payments Made to Bank

Opens
Accepts documents

Submits Documents
LC

Payment Made
For Negotiation
Applies to bank

Advising Bank/
Confirming
Bank
Advises
LC

Applicant/ Goods Receipt Ships Goods


Beneficiary/
Buyer/ Seller/
Drawee Drawer
Sends Invoice
57
Importance of operating cycle
and LC payment
• Applicant would pay LC from selling proceeds of
materials purchased under LC.
• This is operating cycle of the company .
• If a company is having an operating cycle of 6
months and LC usance period is 3 months ,
portion of LC payment has to be arranged from
someone else.
• Bank may have to think providing CC limit or
Trade credit during time.

58
Different Banks involved in a
LC
• Issuing Bank : The bank which issues
the LC.
– If the applicant does not pay , Issuing
Bank has to pay
• Proper assessment of applicant’s repayment
capability
• Proper terms and conditions stipulations so
that real goods are shipped

59
Different Banks involved in a
LC
• Advising Bank : The bank which advises
the LC.
– The authenticity of LC is the prime concern
• Confirming Bank : The bank would pay if
the issuing bank does not pay.
– Confirming bank would take a call on issuing
bank
– Confirming bank would take a call on the
applicant

60
Different banks involved in
LC
• Negotiating Bank
– The bank which discounts the bill and make
the payment to the beneficiaries.
– Negotiating bank would be seller’s bank
– Proper scrutinising of documents under
UCPDC 600 is the main function
– Negotiating bank can be another branches
of issuing bank and confirming bank

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Types of LC
• LC :
– Import
– Inland
• LC :
– Revocable
– Irrevocable
• LC :
– Restricted
– Un restricted

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Types of LC
• LC :
– Green Clause
– Red Clause
• LC :
– Back to back
– Transferable
• LC:
– Revolving
– Non revolving

63
Bank Guarantee ( BG)
• BG are of two types :
– Performance
– Financial
• Financial guarantees are required :
– For submitting tender
– For taking mobilisation advance
– For taking secured advance

64
Time scale of BG of a construction
Company

Bid Award Mob Performance


Bond Advance Guarantee
Performance Progress
Guarantee Retention
Report
Amount
Performance
Measurement

65
Bank Guarantee ( BG)
• Performance Guarantee is required for
releasing retention money.
• Bank must comprehend the entire
process .
• Finding out the requirement at each
stage.
• Number of issued guarantees to be
returned during this period.
• Closing balance of bank guarantee.
66
Important Terms and
Conditions
• Mobilisation advance diversion
• Guarantee issuing bank is at risk
• Proper monitoring of progress of the
project
• At the time of issuance of Mobilisation
advance
– Projected performance report
– Projected cash flow statement
– Reading of the contract
67
Important Terms and
Conditions
• Monthly progress report
– In the same format as to be submitted
to the authority
– External engineering appointment in
case of necessity
– Meeting with the department
– Necessary action in case of any difficulty

68
Difference between LC & BG
• LC is paid for performance of the
beneficiary and BG is paid for the non
performance of the applicant
• LC is paid most of the times , BG is not
paid most of the times
• LC is less riskier where as the BG is
more riskier
• LC can be discounted , BG can also be
discounted
69
Type of Banking
Sole banking Arrangement : When the
entire working capital facility is taken from a
single bank it is called sole banking
arrangement .If the working capital
requirement is not very large , a company
would prefer sole banking arrangement.

70
Type of Banking
o Consortium Banking Arrangement : When the working capital
requirement is large, a single bank may not be willing to lend
such large amount .In that case , the company must go for a
banking arrangement where more than one bank is involved.
One type of banking where more than one bank is involved is
called Consortium banking arrangement. Under this method, a
bank assumes the role of a leader and the bank is called Lead
Bank.
o Lead bank assesses the limit and then informs other bank about
the limit. The other banks joins an association and this is called
as Consortium. Once the leader assess the limit it informs the
other member bank and other member banks carry out its own
assessment and inform the lead bank about the share they are
taking . Once this is formalized , a meeting called consortium
meeting is called and the process for disbursement of fund takes
place.

71
Type of Banking
o Multiple Banking : When the requirement of working
capital is large, more than one banking would be involved.
In this case, apart from the consortium banking , multiple
banking arrangement is also possible. Under multiple
banking arrangement , the limit is assessed by individual
banks and individual banks take exposure.
o The benefit of multiple banking is that in case of consortium
banking there is lot of rigidity from the point of view of the
company. In case there is more requirement of working
capital and even though other member banks wants to
disburse their share , they can not do anything unless the
lead bank approves the limit. This cause some delay which
can hamper the business of a company. In case of multiple
banking , such problem is not there.

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Primary Security …
• A Primary Security with respect to a
particular type of finance is defined as the
security which is created out of that
finance. For example, when working
capital is provided , current assets are
build up from the working capital . In this
case, the current asset is called as
Primary security.
Similarly for term loan the Primary security
would be the fixed assets.
73
Collateral Security …
• A collateral security with respect to a
particular type of finance is defined as the
security on which charge is created even
though the security is not created from the
sad finance. For example, in case a
charge on the fixed asset of a company for
working capital loan is created, the
collateral security is the fixed asset.

74
Procedure for Charge
Creation
• Lien : Under this process, security is created on
financial asset. The name of the liability holder is
marked on the face of the financial instrument as lien.
Under this system, the ownership is with the borrower
where as the possession is with the lender. The
security is created on financial assets.
• Pledge : Under this process , security is created on
both financial and physical assets. In the case of
Pledge, the ownership is with the borrower where as
the possession is with the lender. The lender can keep
the assets in its own premises or in other premises.

75
Procedure for Charge
Creation
• Hypothecation : Under this process, security is created
on physical assets. In the case of hypothecation, both
the possession and ownership is with the borrower. For
creation of hypothecation, charge needs to be created
for limited company.
• Mortgage : For immovable property, mortgage is
created. In the case of mortgage, the possession and
ownership is with the borrower. But mortgage is created
on the immovable property where as the hypothecation
is created on movable physical assets.

76
Comparison…
Name of Ownership of Possession of the Type of Governing
Process the Asset Asset Asset on Statute
During the During the which
tenure of the tenure of the charge is
loan loan created
Lien Borrower Lender Financial Indian
Asset Contract Act

Pledge Borrower Lender Both Indian


Financial Contract Act
Asset and
Movable
Physical
Asset
Hypothecation Borrower Borrower Movable Indian
Physical Contract Act
Asset

Mortgage Borrower Borrower Immovable Transfer of


Physical Immovable
Asset Properties Act

77
Security
Borrowing

Secured Unsecured

Senior Subordinate Senior Subordinate

Exclusive Exclusive Exclusive Exclusive

Paripassu Pari passu Pari passu Paripassu

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Charge Creation of Limited
Company
• Section 125 of Companies Act : Charges
have to be registered within 30 days from
the date of creation to ROC .
• Section 135 of Companies Act : It specifies
that whenever there is a modification of
charge it is the duty of the company to file
particulars of such modifications to the
Registrar in the Form. 8 & 13.

79
Borrowing Power of a
company
• Section 292 of Companies Act : For
borrowing , the Board of Directors
have to pass a resolution under this
section . So a board resolution under
this Section 292 is required :
– For borrowing under cash credit
– For investment in group companies
– For giving loans and advances

80
Session Four

81
Comparison of Hypothecation
and Pledge

82
Pledge versus Hypothecation
• A pledged article can be sold in case of default
without any reference to a court of law, but
not a hypothecated article.
• The only apparent benefit of hypothecation is
it allows the borrower owner of the
hypothecated asset continuous use of the
asset without any hindrance.
• But this is no big deal as in pledge too the
asset after taking possession of by the creditor
can be given back to the pledger borrower
who holds the assets in trust for and on behalf
of the pledgee creditor.

83
Pledge versus Hypothecation
• Legal positions may be different but for all
practical purposes, (i.e. use of the assets for
business) are served with same effectiveness.
• A pledger merchant can run his business without
the tribulation of taking the assets to and fro the
bank’s warehouse as if he were a mere
hypothecator.
• However, in hypothecation the creditor’ position
gets more weakened than what is suggested by
the absence of an amorphous property interest.

84
Pledge versus Hypothecation
• Since in pledge the debtor holds the securities in trust on
behalf of the creditor and since a breach of trust is a
criminal offence in most jurisdictions, if the borrower
removes the assets or sells the assets and does not
deposit the sale proceeds in the loan account he
becomes liable to be charged for the criminal offence of
breach of trust
• In addition to the civil liability he carries - of an
undischarged debtor.
• On the other hand, in hypothecation the lender only gets
a charge, which entitles him priority in recovering dues
from the sale proceeds of the assets without any
element of 'entrustment of the property‘

85
Pledge versus Hypothecation
• Consequently misappropriation of
hypothecated asset generally does
not give rise to any criminal offence
and the lender cannot invoke the
majesty of State to his aid which he
invariably does in case of
misappropriation of a pledged asset
entrusted to the borrower.

86
Mortgage
• The transferor of the interest is called a mortgagor, the transferee
a mortgagee; the principal money and interest of which payment
is secured with the property are called the mortgage-money, and
if mortgage is created by a document that document is called a
mortgage-deed.
• Mortgages, in some jurisdictions, can indeed be created without a
mortgage deed. An example of such a mortgage (i.e. mortgage
without a mortgage deed), by far the most common form of
mortgage in India, is mortgage by deposit of title deeds.
• In such a mortgage a person (mortgagor) delivers to a creditor
(mortgagee) document of title to immovable property, with intent
to create that property a security for an existing or prospective
loan. The mortgagor must be the title holder and must be deriving
his title from the documents being deposited, and must deposit
the title deed with an intent to create a mortgage.

87
Mortgage
• Difference between a “legal mortgage” and an “equitable mortgage”:
• This requires appreciation of differences between law and equity; not
equity of finance and economics which denotes ownership (as in home
equity loan) but equity of law which resembles natural justice and which
has given us such a useful word as equitable.
• The practice of transferring some property right by deposit of title deeds
was common in England and British administrators allowed it at
selected centres in India.
• Though there was no provision for mortgage by deposit of title deeds in
any law (before 1882), such a mortgage has been as effective as a
simple legal mortgage so far as availability of legal remedies is
concerned.

88
Mortgage
• In India there are five types of mortgages recognized in the Act.
– A simple mortgage is created by a mortgage deed and
gives only a non possessary interest to the mortgagee,
just like a mortgage by deposit of title deed.
– In another type called mortgage by conditional sale, the
property is sold to the mortgagee but the sale is
conditional, which becomes absolute in case of default and
becomes void on repayment of mortgage money.
– In yet another type of mortgage called usufructuary
mortgage the mortgagee enjoys the benefits of the
property (rent or crop etc) until the mortgage money is
repaid. Usually this benefit is adjusted against the
mortgage money.

89
Mortgage
• In English mortgage the mortgager makes
absolute transfer of the property but
retains the right to redeem it by repaying
the mortgage money as per agreement.
(Incidentally English mortgage is no longer
valid in the UK.)
– In a rare instance of fresh open mindedness
the Indian law provides for a sixth type of
mortgage describing it as a mortgage which is
not one of the five types described earlier!

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Mortgage
• Let us take a look at the interest passed on to the
mortgagee in these different types of mortgage.
• In simple mortgage, usufructuary mortgage and
mortgage by deposit of title deed the mortgagee
needs to obtain court order for selling the property.
• In other two, viz. mortgage by conditional sale and
English mortgage the mortgagee can sell the
property, without requiring a court's permission, if
mortgagor fails to repay the mortgage money.
• In both these cases the registration of mortgages
attract stamp duty and court fee as applicable in
transfer of properties.

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Negative Lien
• Negative lien does not relate exclusively to immovable
properties.
• Negative lien does not create any encumbrance on the
property. Negative lien denotes that the issuer of the
debt will not create any charge or encumbrance on its
unencumbered property in favour of any body in future
without creating same charge in favour of those who
would be subscribing to the present debt issue.
• Since it is a conditional promise to create a charge it
does not create any security.

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Meaning of charge
• A charge is not passing of any property interest
in any asset from the charge-giver to the charge-
holder, as evidently is the case in pledge and
mortgage.
• Having a charge means having a priority in
recovery of one’s dues from the liquidation
proceeds when the charged asset is liquidated.
• It can be described as the creation of a right of
payment out of an immovable or movable asset.
It entails no transfer of interest.

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Position of 1st Charge vs 2nd
Charge…
• Let us take an example .A lender provides a working
capital loan of Rs 25 lacs against a first charge on
current assets of the company values at Rs 32 lacs. In
the case of liquidation of the company, the lender on
liquidation of the current assets would get Rs 32 lacs and
it would first appropriate Rs 25 lacs and the remaining Rs
7 lacs would go to the second charge holder if any.
• Generally, the working capital banker would take the first
charge on current assets and second charge on fixed
assets . The term lender on the other hand take first
charge on fixed assets and second charge on current
assets of the company .The purpose of taking second
charge of a company is to increase its security coverage.

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Exclusive v/s Pari Passu
Charge
• Now the first charge can be on the basis of exclusive charge or
can be on pari passu basis. In the case of exclusive charge , a
lender gets the entire realization obtained from the liquidation
of the asset. However , when the credit facility is significantly
large, more than one bank is involved .
• For example, a company has been sanctioned a working capital
limit of Rs 50 crores and the total amount of working capital
facility would be provided by say 4 banks each providing Rs
12.50 crores . Since all the banks are lending against the same
current assets of the company , the charge is created on pari
passu basis.
• Now if the value of the security is say Rs 60 crores, in case the
charge is created on pari passu basis, each bank are entitled to
get Rs 15 crores each from the realization of the current assets
of the company.

95
NPA

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NPA
• Interest and/ or instalment of principal remain
overdue for a period of more than 90 days in
respect of a term loan
• Remains ‘out of order’ in respect of an
Overdraft/Cash Credit (OD/CC),
• Bill remains overdue for a period of more than 90
days in the case of bills purchased and
discounted,
• Instalment of principal or interest thereon
remains overdue for two crop seasons for short
duration crops
• Instalment of principal or interest thereon
remains overdue for one crop season for long
duration crops,
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Out of Order
• An account should be treated as 'out of order' if
the outstanding balance remains continuously in
excess of the sanctioned limit/drawing power.
• In cases where the outstanding balance in the
principal operating account is less than the
sanctioned limit/drawing power, but there are no
credits continuously for 90 days as on the date of
Balance Sheet or credits are not enough to cover
the interest debited during the same period,
these accounts should be treated as 'out of
order'.

98
Types of NPA
• Substandard Assets : A sub standard asset would
be one, which has remained NPA for a period less
than or equal to 12 months.
• Doubtful assets : With effect from March 31, 2005,
an asset would be classified as doubtful if it has
remained in the sub standard category for a period
of 12 months.
• Loss Asset : A loss asset is one where
loss has been identified by the bank or internal or
external auditors or the RBI inspection but the
amount has not been written off wholly.

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Exposure Norms
• Single Borrower : 15% of the Tier I and
Tier II capital of the lending bank
• Group : 40% of the Tier I and Tier II
capital of the lending bank
• Single borrower : Additional 5% of the
Tier I and Tier II capital of the lending
bank can be lent for a single borrower if
this incremental lending is going
towards infrastructure projects

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Exposure Norms
• Group : Additional 10% of the Tier I and Tier II
capital of the lending bank can be lent for a
single borrower if this incremental lending is
going towards infrastructure projects
• In addition to the exposure permitted, banks
may, in exceptional circumstances, with the
approval of their Boards, consider
enhancement of the exposure to a borrower
(single as well as group) up to a further 5
percent of capital funds subject to the borrower
consenting to the banks making appropriate
disclosures in their Annual Reports. 

101
Exposure Norms
• Individual NBFC : Exposure (both lending and
investment, including off balance sheet
exposures) of a bank to a single NBFC / NBFC-AFC
(Asset Financing Companies) should not exceed
10% / 15% respectively, of the bank's capital
funds as per its last audited balance sheet.
• Banks may, however, assume exposures on a
single NBFC / NBFC-AFC up to 15%/20%
respectively, of their capital funds provided the
exposure in excess of 10%/15% respectively, is on
account of funds on-lent by the NBFC / NBFC-AFC
to the infrastructure sector.

102
Exposure Norms
• Exposure of a bank to Infrastructure Finance
Companies (IFCs) should not exceed 15% of its
capital funds as per its last audited balance sheet,
with a provision to increase it to 20% if the same is
on account of funds on-lent by the IFCs to the
infrastructure sector.
• Bills purchased / discounted / negotiated under LC
(where the payment to the beneficiary is not made
'under reserve') will be treated as an exposure on the
LC issuing bank and not on the borrower. In the case
of negotiations ' under reserve' the exposure should
be treated as on the borrower.

103
Priority Sector Guidelines

104
Priority Sector Advance

Priority
Sector
Advance

Agri SSI RT Micro Education Housing

Direct In
Direct 105
Other Sector

Other Sector

Educational
Housing
Micro Credit Loan
Loan
Rs 50000/- Rs 10 Lacs
Rs 20 Lacs
Rs 20 Lacs

106
Targets ….
• The targets and sub-targets under priority sector lending would be linked to
Adjusted Net Bank Credit (ANBC) (Net Bank Credit plus investments made by
banks in non-SLR bonds held in HTM category) or Credit Equivalent amount of
Off-Balance Sheet Exposures (OBE), whichever is higher, as on March 31 of the
previous year.
•  Fresh deposits placed by banks' on or after the date of this circular with
NABARD/SIDBI on account of non-achievement of priority sector lending
targets/sub-targets would not be eligible for classification as indirect finance to
agriculture/Small Enterprises Sector, as the case may be. However, the deposits
placed with NABARD/SIDBI by banks on the above account and outstanding as
on the date of this circular would be eligible for classification as indirect finance
to agriculture/Small Enterprises sector, as the case may be, till the date of
maturity of such deposits or March 31, 2010, whichever is earlier.
 

107
Targets ….
• Total priority sector advance would be higher of the two :
– 40% of ANBC or
– 40% of Credit Equivalent of Non Fund Based exposure;
• Within this , 18% would be in the Agricultural Advance;
• In this connection , indirect lending above 4.5% of the ANBC or Credit
Equivalent of Non Fund Based exposure would not be eligible for 18%
target of Agricultural Advance ;
• However all the advances under agricultural advance would qualify for
Priority Sector Advance .
• For Foreign Banks, there are no such targets.

108
Direct Agriculture ….
• Finance to individual farmers [including Self Help Groups (SHGs) or Joint
Liability Groups (JLGs), i.e. groups of individual farmers, provided banks
maintain disaggregated data on such finance] for Agriculture and Allied
Activities (dairy, fishery, piggery, poultry, bee-keeping, etc.)
– Short-term loans for raising crops, i.e. for crop loans. This will include traditional/non-
traditional plantations and horticulture.
– Advances up to Rs. 10 lakh against pledge/hypothecation of agricultural produce
(including warehouse receipts) for a period not exceeding 12 months, irrespective of
whether the farmers were given crop loans for raising the produce or not.
– Working capital and term loans for financing production and investment requirements for
agriculture and allied activities.
– Loans to small and marginal farmers for purchase of land for agricultural purposes.

109
Direct Agriculture ….
– Loans to distressed farmers indebted to non-institutional
lenders, against appropriate collateral or group security.
– Loans granted for pre-harvest and post-harvest activities
such as spraying, weeding, harvesting, grading, sorting,
processing and transporting undertaken by individuals,
SHGs and cooperatives in rural areas.

110
Direct Agriculture ….
• Finance to others [such as corporates, partnership
firms and institutions] for Agriculture and Allied
Activities (dairy, fishery, piggery, poultry, bee-
keeping, etc.):
– Finance up to an aggregate amount of Rs. one crore per
borrower for the purposes listed before ;
– One-third of loans in excess of Rs. one crore in aggregate
per borrower for agriculture and allied activities

111
Indirect Agriculture ….
• Two-third of loans to entities covered under above in
excess of Rs. one crore in aggregate per borrower for
agriculture and allied activities.
• Loans to food and agro-based processing units with
investments in plant and machinery up to Rs. 10
crore, undertaken by those other than pre harvest
activity.
• Credit for purchase and distribution of fertilisers,
pesticides, seeds, etc.
• Loans up to Rs. 40 lakh granted for purchase and
distribution of inputs for the allied activities such as
cattle feed, poultry feed, etc

112
Direct Finance to MSE
• Manufacturing :
– Enterprises engaged in the manufacture/production,
processing or preservation of goods and whose
investment in plant and machinery [original cost
excluding land and building and the items specified by
the Ministry of Small Scale Industries vide its notification
no.S.O. 1722 (E) dated October 5, 2006] does not
exceed Rs. 5 crore.
– Enterprises engaged in the manufacture/production,
processing or preservation of goodsand whose
investment in plant and machinery [original cost
excluding land and buildingand such items as in 2.1.1
(a)] does not exceed Rs. 25 lakh, irrespective of the
location ofthe unit.

113
Direct Finance to MSE
• Service :
– Enterprises engaged in providing/rendering of
services and whose investment inequipment (original
cost excluding land and building and furniture,
fittings and otheritems not directly related to the
service rendered or as may be notified under the
MSMEDAct, 2006) does not exceed Rs. 2 crore.
– Enterprises engaged in providing/rendering of
services and whose investment inequipment [original
cost excluding land and building and furniture,
fittings and suchitems as in 2.1.2 (a)] does not
exceed Rs. 10 lakh.

114
Direct Finance to MSE
• Small and micro (service) enterprises shall include
– small road & water transportoperators, small business,
– professional & self-employed persons, and
– other service enterprises engaged in activities, viz,.,
consultancy services including management services,
composite broker services in risk and insurance management,
Third PartyAdministration (TPA) services for medical insurance
claims of policy holders, seed grading services, training-cum-
incubator centre, educational institutions, training institutes,
retail trade, practice of law i.e. legal services, trading in
medical instruments (brand new), placement and management
consultancy services, advertising agency and training centres,
etc. and which satisfy the definition of micro and small
(service)enterprises in respect of investment of investment in
equipment (original cost excludingland and building and
furniture, fittings and other items not directly related to
theservices rendered or as may be notified under the MSMED
Act, 2006) (i.e. not exceedingRs. 10 lakh and Rs. 2 crore
respectively).

115
Indirect Finance to MSE
• Indirect finance to the micro and small
(manufacturing as well as service)
enterprises sector will include credit to:
– Persons involved in assisting the
decentralised sector in the supply of inputs
to and marketing of outputs of artisans,
village and cottage industries.
– Advances to cooperatives of producers in
the decentralised sector viz. artisans
village and cottage industries.
• Loans granted by banks to NBFCs for on-
lending to micro and small enterprises
(manufacturing as well as service).
116
Penalty for non
achievement
• Domestic scheduled commercial banks having shortfall in lending to
priority sector lending target shall be allocated amounts for
contribution to the Rural Infrastructure Development Fund (RIDF)
established with NABARD or Funds with other Financial Institutions,
as specified by the Reserve Bank.
• For the purpose of allocation of RIDF tranche or any other Fund, as
decided by Reserve Bank from time to time, the achievement level
of priority sector lending as on the last reporting Friday of March of
the immediately preceding financial year will be taken into account
(i.e. For allocation in RIDF or anyother Fund in the year 2010-2011,
the achievement level of priority sector lending as on the last
reporting Friday of March 2010will be taken into account).

117
Penalty for non
achievement
• The concerned banks will be called upon by
NABARD or such other Financial Institution as
may be decided by Reserve Bank, as and when
funds are required by them, after giving one
month’s notice.
• The corpus of a particular tranche of RIDF is
decided by Government of India every year. The
amount of contribution by banks to a particular
tranche of RIDF or any other Fund will be decided
in the beginning of the financial year. 1.3 The
interest rates on banks’ contribution to RIDF or
any other Fund, periods of deposits, etc. shall be
fixed by Reserve Bank of India from time to time.

118
Thank You

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