Final project 3

Executive summary

The future of Indian Banking represents a unique mixture of unlimited opportunities amidst
insurmountable challenges. On one hand, we see the scenario represented by the rapid
process of globalization presently taking shape bringing the community of nations in the
world together, transcending geographical boundaries, in the sphere of trade and commerce,
and even employment opportunities of individuals. All these indicate newly emerging
opportunities for Indian Banking.

But on the darker side we see the accumulated morass, brought out by three decades of
controlled and regimented management of the banks in the past. It has siphoned profitability
of the banks, accumulated bloated NPA and threatens Capital Adequacy of the Banks and
their continued stability. In the nutshell the problem is how to shed the legacies of the past
and adapt to the demands of the new age.

The accumulation of huge non-performing assets in banks has assumed great importance.
The depth of the problem of bad debts was first realized only in early 1990s. The magnitude
of NPAs in banks and financial institutions is over Rs.1, 50,000crore.

The project has tried to analyze the present situation in Indian banks. With the process of
liberalization and globalization, the bank credit has witnessed spectacular growth as a catalyst
of economic growth. With the increase in the growing volume of credit, the volume of
impaired credit has also multiplied due to various factors. This burgeoning level of NPA had
become a grave matter of concern for the Indian banks.

In the study conducted focus was laid on the approach of various banks to manage NPAs, the
process of identification of the same, the classification and assessment of provisions and the
pre-sanction appraisal methodology and the post-sanction follow-up procedure.

The nature of research was descriptive as well as exploratory as the study was aimed at
studying the various measures adopted by banks for management of NPAs in the banking
sector.

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Alliance Business Academy

While gross NPA reflects the quality of the loans made by banks, net NPA shows the actual
burden of banks. Now it is increasingly evident that the major defaulters are the big
borrowers coming from then on-priority sector. The banks and financial institutions have to
take the initiative to reduce NPAs in a time bound strategic approach.

Public sector banks figure prominently in the debate not only because they dominate the
banking industries, but also since they have much larger NPAs compared with the private
sector banks. This raises a concern in the industry and academia because it is generally felt
that NPAs reduce the profitability of a bank, weaken its financial health and erode its
solvency.

For the recovery of NPAs a broad framework has evolved for the management of NPAs
under which several options are provided for debt recovery and restructuring. Banks and FIs
have the freedom to design and implement their own policies for recovery and write-off
incorporating compromise and negotiated settlements.

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1. Introduction

NPA: The three letters Strike terror in banking sector and business circle today. NPA is short
form of “Non Performing Asset”. The dreaded NPA rule says simply this: when interest or
other due to a bank remains unpaid for more than 90 days, the entire bank loan automatically
turns a non performing asset. The recovery of loan has always been problem for banks and
financial institution. To come out of these first we need to think is it possible to avoid NPA,
no cannot be then left is to look after the factor responsible for it and managing those factors.

1.1Definitions:

An asset, including a leased asset, becomes non-performing when it ceases to generate
income for the bank.
A „non-performing asset‟ (NPA) was defined as a credit facility in respect of which the
interest and/ or instalment of principal has remained „past due‟ for a specified period of time
With a view to moving towards international best practices and to ensure greater
transparency, it has been decided to adopt the „90 days’ overdue’ norm for identification of
NPAs, from the year ending March 31, 2004. Accordingly, with effect from March 31, 2004,
a non-performing asset (NPA) shall be a loan or an advance where;

 Interest and/ or instalment of principal remain overdue for a period of more than 90
days in respect of a term loan,

 The account remains „out of order‟ for a period of more than 90 days, in respect of an
Overdraft/Cash Credit (OD/CC),

The bill remains overdue for a period of more than 90 days in the case of bills
purchased and discounted,

 Interest and/or instalment of principal remains overdue for two harvest seasons but for
a period not exceeding two half years in the case of an advance granted for agricultural
purposes.

As a facilitating measure for smooth transition to 90 days norm, banks have been advised to
move over to charging of interest at monthly rests, by April 1, 2002. However, the date of
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classification of an advance as NPA should not be changed on account of charging of interest
at monthly rests. Banks should, therefore, continue to classify an account as NPA only if the
interest charged during any quarter is not serviced fully within 180 days from the end of the
quarter with effect from April 1, 2002 and 90 days from the end of the quarter with effect
from March 31, 2004.

Banking:

„Banking‟ as defined in the Section 5 (b) of the Banking Regulations Act, 1949 is the
business of "Accepting deposits of money from the public for the purpose of lending or
investment". These deposits are repayable on demand or otherwise, and withdraw able by a
cheque, draft, and order or otherwise.

1.2 NPAs: AN ISSUE FOR BANKS AND FIs IN INDIA

To start with, performance in terms of profitability is a benchmark for any business enterprise
including the banking industry. However, increasing NPAs have a direct impact on banks
profitability as legally banks are not allowed to book income on such accounts and at the
sometime are forced to make provision on such assets as per the Reserve Bank of India (RBI)
guidelines. Also, with increasing deposits made by the public in the banking system, the
banking industry cannot afford defaults by borrower s since NPAs affects the repayment
capacity of banks.

Further, Reserve Bank of India (RBI) successfully creates excess liquidity in the system
through various rate cuts and banks fail to utilize this benefit to its advantage due to the tear
of burgeoning non-performing assets.

1.3 FACTORS FOR RISE IN NPAs

The banking sector has been facing the serious problems of the rising NPAs. But the
problem of NPAs is more in public sector banks when compared to private sector banks and
foreign banks. The NPAs in PSB are growing due to external as well as internal factors.

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1.3.1EXTERNAL FACTORS:-

 Ineffective recovery tribunal

The Govt. has set of numbers of recovery tribunals, which works for recovery of loans
and advances. Due to their negligence and ineffectiveness in their work the bank
suffers the consequence of non-recover, thereby reducing their profitability and
liquidity.

 Willful Defaults

There are borrowers who are able to pay back loans but are intentionally withdrawing
it. These groups of people should be identified and proper measures should be taken
in order to get back the money extended to them as advances and loans.

 Natural calamities

This is the measure factor, which is creating alarming rise in NPAs of the PSBs. every
now and then India is hit by major natural calamities thus making the borrowers
unable to pay back there loans. Thus the bank has to make large amount of provisions
in order to compensate those loans, hence end up the fiscal with a reduced profit.
Mainly ours farmers depends on rain fall for cropping. Due to irregularities of
rain fall the farmers are not to achieve the production level thus they are not repaying
the loans.

 Industrial sickness

Improper project handling , ineffective management , lack of adequate resources ,
lack of advance technology , day to day changing govt. Policies give birth to
industrial sickness. Hence the banks that finance those industries ultimately end up
with a low recovery of their loans reducing their profit and liquidity.
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 Lack of demand

Entrepreneurs in India could not foresee their product demand and starts production
which ultimately piles up their product thus making them unable to pay back the
money they borrow to operate these activities. The banks recover the amount by
selling of their assets, which covers a minimum label. Thus the banks record the non-
recovered part as NPAs and has to make provision for it.

 Change on Govt. policies

With every new govt. banking sector gets new policies for its operation. Thus it has to
cope with the changing principles and policies for the regulation of the rising of
NPAs.

The fallout of handloom sector is continuing as most of the weavers Co-
operative societies have become defunct largely due to withdrawal of state patronage.
The rehabilitation plan worked out by the Central government to revive the handloom
sector has not yet been implemented. So the over dues due to the handloom sectors
are becoming NPAs.

1.3.2INTERNAL FACTORS:-

 Defective Lending process

There are three cardinal principles of bank lending that have been followed by the
commercial banks since long.
i. Principles of safety
ii. Principle of liquidity
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iii. Principles of profitability

i. Principles of safety :-

By safety it means that the borrower is in a position to repay the loan both
principal and interest. The repayment of loan depends upon the borrowers: a)
Capacity to pay b) Willingness to pay

a) Capacity to pay depends upon:
1. Tangible assets
2. Success in business
b) Willingness to pay depends on:
1. Character
2. Honest
3. Reputation of borrower

The banker should, therefore take utmost care in ensuring that the enterprise or
business for which a loan is sought is a sound one and the borrower is capable of
carrying it out successfully .He should be a person of integrity and good character.

 Inappropriate technology

Due to inappropriate technology and management information system, market driven
decisions on real time basis cannot be taken. Proper MIS and financial accounting
system is not implemented in the banks, which leads to poor credit collection, thus
NPA. All the branches of the bank should be computerized.

 Improper SWOT analysis
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The improper strength, weakness, opportunity and threat analysis is another reason for
rise in NPAs. While providing unsecured advances the banks depend more on the
honesty, integrity, and financial soundness and credit worthiness of the borrower.

Banks should consider the borrowers own capital investment.
it should collect credit information of the borrowers from_
a. From bankers.
b. Enquiry from market/segment of trade, industry, business.
c. From external credit rating agencies.
Analyze the balance sheet.
True picture of business will be revealed on analysis of profit/loss a/c and
balance sheet.
Purpose of the loan
When bankers give loan, he should analyze the purpose of the loan. To ensure
safety and liquidity, banks should grant loan for productive purpose only.
Bank should analyze the profitability, viability, long term acceptability of the
project while financing.

 Poor credit appraisal system

Poor credit appraisal is another factor for the rise in NPAs. Due to poor credit
appraisal the bank gives advances to those who are not able to repay it back. They
should use good credit appraisal to decrease the NPAs.

 Managerial deficiencies

The banker should always select the borrower very carefully and should take tangible
assets as security to safe guard its interests. When accepting securities banks should
consider the_

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1. Marketability
2. Acceptability
3. Safety
4. Transferability.

The banker should follow the principle of diversification of risk based on the
famous maxim “do not keep all the eggs in one basket”; it means that the banker
should not grant advances to a few big farms only or to concentrate them in few
industries or in a few cities. If a new big customer meets misfortune or certain traders
or industries affected adversely, the overall position of the bank will not be affected.
Like OSCB suffered loss due to the OTM Cuttack, and Orissa hand loom industries.
The biggest defaulters of OSCB are the OTM (117.77lakhs), and the handloom sector
Orissa hand loom WCS ltd (2439.60lakhs).

 Absence of regular industrial visit

The irregularities in spot visit also increases the NPAs. Absence of regularly visit of
bank officials to the customer point decreases the collection of interest and principals
on the loan. The NPAs due to willful defaulters can be collected by regular visits.

 Re loaning process

Non remittance of recoveries to higher financing agencies and re loaning of the same
have already affected the smooth operation of the credit cycle. Due to re loaning to
the defaulters and CCBs and PACs, the NPAs of OSCB is increasing day by day.

1.4 PROBLEMS DUE TO NPA

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1. Owners do not receive a market return on their capital .in the worst case, if the banks
fails, owners lose their assets. In modern times this may affect a broad pool of
shareholders.

2. Depositors do not receive a market return on saving. In the worst case if the bank
fails, depositors lose their assets or uninsured balance.

3. Banks redistribute losses to other borrowers by charging higher interest rates, lower
deposit rates and higher lending rates repress saving and financial market, which
hamper economic growth.

4. Nonperforming loans epitomize bad investment. They misallocate credit from good
projects, which do not receive funding, to failed projects. Bad investment ends up in
misallocation of capital, and by extension, labor and natural resources.

Nonperforming asset may spill over the banking system and contract the money stock, which
may lead to economic contraction. This spillover effect can channelize through liquidity or
bank insolvency:

a) When many borrowers fail to pay interest, banks may experience liquidity shortage. This
can jam payment across the country.

b) Illiquidity constraints bank in paying depositors

c) Undercapitalized banks exceed the bank‟s capital base.

'Out of Order' status:

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 six months 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'.

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‘Overdue‟:
Any amount due to the bank under any credit facility is „overdue‟ if it is not paid
on the due date fixed by the bank.

1.5 Types of NPA

A] Gross NPA
B] Net NPA

A] Gross NPA:
Gross NPAs are the sum total of all loan assets that are classified as NPAs as per RBI
guidelines as on Balance Sheet date. Gross NPA reflects the quality of the loans made by
banks. It consists of all the non-standard assets like as sub-standard, doubtful, and loss
assets.
It can be calculated with the help of following ratio:

Gross NPAs Ratio Gross NPAs
Gross Advances

B] Net NPA:

Net NPAs are those type of NPAs in which the bank has deducted the provision regarding
NPAs. Net NPA shows the actual burden of banks. Since in India, bank balance sheets
contain a huge amount of NPAs and the process of recovery and write off of loans is very
time consuming, the provisions the banks have to make against the NPAs according to the
central bank guidelines, are quite significant. That is why the difference between gross and
net NPA is quite high.

It can be calculated by following

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Net NPAs  Gross NPAs – Provisions
Gross Advances - Provisions

1.6 GLOBAL DEVELOPMENTS AND NPAs

The core banking business is of mobilizing the deposits and utilizing it for lending to
industry. Lending business is generally encouraged because it has the effect of funds being
transferred from the system to productive purposes, which results into economic growth.

However lending also carries credit risk, which arises from the failure of borrower to fulfill
its contractual obligations either during the course of a transaction or on a future obligation.

A question that arises is how much risk can a bank afford to take? Recent happenings in the
business world -Enron, WorldCom, Xerox, Global Crossing do not give much confidence to
banks. In case after case, these giant corporate becan1e bankrupt and failed to provide
investors with clearer and more complete information thereby introducing a degree of risk
that many investors could neither anticipate nor welcome. The history of financial institutions
also reveals the fact that the biggest banking failures were due to credit risk. Due to this,
banks are restricting their lending operations to secured avenues only with adequate collateral
on which to fall back upon in a situation of default.

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2.1 BACKGROUND:

Banking system which constitutes the core of the financial sector plays a vital role in
transmitting monetary policy impulses to the economic system. Therefore its efficiency and
development are vital for enhancing growth and improving the changes for stability. During
the recent past, profits of the Bank came under pressure due to rise in interest rates, decrease
in non-interest income and increase in provisions and contingencies.

2.2LITERATURE REVIEW

In presence of NPAs has affected the profitability, liquidity and competitive functioning of
banks and finally the psychology of the bankers in respect of their disposition towards credit
delivery and credit expansion. Effects range from liquidity crisis, deposit runs and bank
failures that lead to writing off of non-performing loans, restructuring, mergers and
acquisitions and even closer of weaker banks. The accumulation of huge non-performing
assets in banks has assumed great importance. The depth of the problem of bad debts was
first realized only in early 1990s. The magnitude of NPAs in banks and financial institutions
is over Rs.1, 50,000crores.

While gross NPA reflects the quality of the loans made by banks, net NPA shows the actual
burden of banks. Now it is increasingly evident that the major defaulters are the big
borrowers coming from the non-priority sector. The banks and financial institutions have to
take the initiative to reduce NPAs in a time bound strategic approach.

Lepley, William (1998) in his article “Systematic Risk, Total risk and bank risk assessment”
states that in bank finance, the risk assessment of individual loans appears to be based on
total risk rather than systematic risk. Research found that total risk will reduce firm value by
quicker liquidation leading to bankruptcy.

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Giampaola, Gabbi (2000) in his article “Measuring liquidity risk on a Banking” states that to
mitigate risk, a comparison between the potential loss produced by the individual financial
positions using VAR, it is possible to figure the capital required to bear maximum loss. The
integration of financial flows makes it possible to find a higher efficient frontier.

Thirwell, John (2002) in his article “Operational risk, the banks and the regulators struggle”
states that the research was conducted to know the awareness of the banks about the
operational risk and its management. The research found that the operational risk is not the
mean of distribution curve. It is the level of future loss.

Fthemi, Ali and Fooladi, Iraj (2006) in their article “Credit risk management- A survey of
practices” states that the purpose is to shed light on current practices of financial institutions.
The research found that identifying counter party default risk is the single most important
purpose served by the credit risk models. Only few banks use vendor-marketed model for
managing credit risk.

Waseem, Ahmed (2006) in his article “Non-Performing Assets (NPAs) in Banks” states that
with the liberalization of economy, banking industry is facing several challenges giving rise
to NPAs. It depends on the quality of the credit risk management of banks. NPAs have direct
impact on banks profitability, building up stress on management.

Pillai, Manoj (2007) in his article “ARCIL and management of NPAs of Indian Banks” states
that presence of NPAs has had an adverse impact on the productivity and efficiency of Indian
banks resulted in erosion of profits. The research found that during last 4 years the aggregate
advances increased by 104% but NPAs has reduced, and gives this credit to establishment of
ARCIL.

In 2009 Article “Are Banks stock sensitive to risk management?” states that the risk
management capabilities of banks have been improving overtime except for its last two years.
The return through stocks is sensitive to risk management capabilities of banks.

Article in livemint(2010)Mumbai: The Reserve Bank of India (RBI) has asked banks to
provide sector-wise details of their non-performing assets and exposures in the balance sheets
from this fiscal. The banks have also been asked to furnish details of any special purpose
vehicles sponsored by the banks.
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According to analysts, the move would bring in more transparency in the banks‟
operations.“It has been decided to prescribe the following additional disclosures in the „notes
to accounts‟ in the banks‟ balance sheets...(like) concentration of deposits, advances,
exposures and NPAs, sector-wise NPAs, overseas assets, NPAs and revenue, off-balance
sheet SPVs sponsored by banks,” RBI said in an statement.

Public sector banks figure prominently in the debate not only because they dominate the
banking industries, but also since they have much larger NPAs compared with the private
sector banks. This raises a concern in the industry and academia because it is generally felt
that NPAs reduce the profitability of banks, weaken its financial health and erode its
solvency.

For the recovery of NPAs a broad framework has evolved for the management
of NPAs under which several options are provided for debt recovery and restructuring.
Banks and FIs have the freedom to design and implement their own policies for recovery and
write-off incorporating compromise and negotiated settlements.

2.3 STATEMENT OF THE PROBLEM:

“Comparative Analysis on Non Performing Assets Of Private And Public Sector Banks”

“While The Banking Industry in India is progressively complying with the international
prudential norms and Accounting practices, there are certain areas like recovery management
in which it does not have a legal playing field as compared to other participants in the
International financial markets”

2.4 NEED AND IMPORTANCE OF THE STUDY

 The Banks and Financial Institutions have been burdened with ever increasing Non
Performing Assets.
 The recovery method of collection NPAs is not appropriate.
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2.5 OBJECTIVES OF THE STUDY:

The basic idea behind undertaking the Grand Project on NPA was to:

 To evaluate NPAs (Gross and Net) in different banks.

 To study the past trends of NPA

 To calculate the weighted of NPA in risk management in Banking

 To analyze financial performance of banks at different level of NPA

 To evaluate profitability positions of banks

 To evaluate NPA level in different economic situation.

 To Know the Concept of Non Performing Asset

 To Know the Impact of NPAs

 To Know the Reasons for NPAs

 To learn Preventive Measures

2.6 SCOPE OF THE STUDY:

 Concept of Non Performing Asset
 Guidelines
 Impact of NPAs
 Reasons for NPAs
 Preventive Measures

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2.7 OPERATIONAL DEFINITIONS:

 NPA: An asset is classified as non-performing asset (NPA‟s) if dues in the form of
principal and interest are not paid by the borrower for a period of 90 days.
 Standard Assets: Such an asset is not a non-performing asset. In other words, it
carries not more than normal risk attached to the business.
 Sub-standard Assets: It is classified as non-performing asset for a period not
exceeding 18 months.
 Doubtful Assets: Asset that has remained NPA for a period exceeding 18 months is a
doubtful asset.
 Loss Assets: Here loss is identified by the banks concerned or by internal auditors or
by external auditors or by Reserve Bank India (RBI) inspection
 Statutory Liquidity Ratio (SLR): It is the one which every banking company shall
maintain in India in the form of cash, gold or unencumbered approved securities, an
amount which shall not, at the close of business on any day be less than such
percentage of the total of its demand and time liabilities in India as on the last Friday
of the second preceding fortnight, as the Reserve Bank of India (RBI) may specify
from time to time.
 Cash Reserve Ratio (CRR): It is the reserve which the banks have to maintain with
itself in the form of cash reserves or by way of current account with the Reserve Bank
of India (RBI), computed as a certain percentage of its demand and time liabilities.
The objective is to ensure the safety and liquidity of the deposits with the banks.

2.8 RESEARCH METHODOLOGY

Type of Research: The research methodology adopted for carrying out the study
were

 In this project Descriptive research methodologies were use.

 At the first stage theoretical study is attempted.

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 At the second stage Historical study is attempted.

 At the Third stage Comparative study of NPA is undertaken.

Type of Data: Secondary Data
Source of data collection: Websites, Research Articles

2.9 Limitations of the study:

 It was critical for me to gather the financial data of the every bank of the Public
Sector Banks so the better evaluations of the performance of the banks are not
possible

 Since the Indian banking sector is so wide so it was not possible for me to cover all
the banks of the Indian banking sector.

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3. Industry profile

3.1Definition of Banking

“In general terms, the business activity of accepting and safeguarding money owned by
other individuals andentities, and then lending out this money in order toearn a profit.”

Bank - An organization, usually a corporation, chartered by a state or federal government,
which does most or all of the following:... More

Deposit - Money given in advance to show intention to complete the purchase of a property.

Loan - An arrangement in which a lender gives money or property to a borrower, and the
borrower agrees to return the property or repay

“A bank is a financial intermediary that accepts deposits and channels those deposits into
lending activities. Banks are a fundamental component of the financial system, and are also
active players in financial markets. The essential role of a bank is to connect those
who have capital (such as investors or depositors), with those who seek capital (such as
individuals wanting a loan, or businesses wanting to grow)”

Section 6 of Banking Regulations Act, 1949 elaborately specifies the other forms of business
which a banking company may carry in addition to banking as defined in section 5. Some of
these are mentioned below:

 Issuing Demand Drafts & Travellers Cheques
 Collection of Cheques, Bills of exchange

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 Discounting and purchase of Bills
 Issuing Letters of Credit & Letters of Guarantee
 Sale and Purchase of Foreign Exchange
 Custodial Services
 Investment services

3.2 HISTORY OF INDIAN BANKING
A bank is a financial institution that provides banking and other financial services. By the
term bank is generally understood an institution that holds a Banking Licenses. Banking
licenses are granted by financial supervision authorities and provide rights to conduct the
most fundamental banking services such as accepting deposits and making loans. There are
also financial institutions that provide certain banking services without meeting the legal
definition of a bank, a so-called Non-bank. Banks are a subset of the financial services
industry.
The word bank is derived from the Italian banca, which is derived from German and means
bench. The terms bankrupt and "broke" are similarly derived from banca rotta, which refers
to an out of business bank, having its bench physically broken. Moneylenders in Northern
Italy originally did business in open areas, or big open rooms, with each lender working from
his own bench or table.
Typically, a bank generates profits from transaction fees on financial services or the interest
spread on resources it holds in trust for clients while paying them interest on the asset.
Development of banking industry in India followed below stated steps.

 Banking in India has its origin as early as the Vedic period. It is believed that the
transition from money lending to banking must have occurred even before Manu, the
great Hindu Jurist, who has devoted a section of his work to deposits and advances
and laid down rules relating to rates of interest.

 Banking in India has an early origin where the indigenous bankers played a very
important role in lending money and financing foreign trade and commerce. During
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the days of the East India Company, was the turn of the agency houses to carry on the
banking business. The General Bank of India was first Joint Stock Bank to be
established in the year 1786. The others which followed were the Bank Hindustan and
the Bengal Bank.

 In the first half of the 19th century the East India Company established three banks;
the Bank of Bengal in 1809, the Bank of Bombay in 1840 and the Bank of Madras in
1843. These three banks also known as Presidency banks were amalgamated in 1920
and a new bank, the Imperial Bank of India was established in 1921. With the passing
of the State Bank of India Act in 1955 the undertaking of the Imperial Bank of India
was taken by the newly constituted State Bank of India.

 The Reserve Bank of India which is the Central Bank was created in 1935 by passing
Reserve Bank of India Act, 1934 which was followed up with the Banking
Regulations in 1949. These acts bestowed Reserve Bank of India (RBI) with wide
ranging powers for licensing, supervision and control of banks. Considering the
proliferation of weak banks, RBI compulsorily merged many of them with stronger
banks in 1969.

 The three decades after nationalization saw a phenomenal expansion in the
geographical coverage and financial spread of the banking system in the country. As
certain rigidities and weaknesses were found to have developed in the system, during
the late eighties the Government of India felt that these had to be addressed to enable
the financial system to play its role in ushering in a more efficient and competitive
economy. Accordingly, a high-level committee was set up on 14 August 1991 to
examine all aspects relating to the structure, organization, functions and procedures of
the financial system. Based on the recommendations of the Committee (Chairman:
Shri M. Narasimham), a comprehensive reform of the banking system was introduced
in 1992-93. The objective of the reform measures was to ensure that the balance
sheets of banks reflected their actual financial health. One of the important measures
related to income recognition, asset classification and provisioning by banks, on the
basis of objective criteria was laid down by the Reserve Bank. The introduction of
capital adequacy norms in line with international standards has been another
important measure of the reforms process.
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1. Comprises balance of expired loans, compensation and other bonds such as
National Rural Development Bonds and Capital Investment Bonds. Annuity
certificates are excluded.

2. These represent mainly non- negotiable non- interest bearing securities issued to
International Financial Institutions like International Monetary Fund, International
Bank for Reconstruction and Development and Asian Development Bank.

3. At book value.

4. Comprises accruals under Small Savings Scheme, Provident Funds, Special
Deposits of Non- Government

 In the post-nationalization era, no new private sector banks were allowed to be set
up. However, in 1993, in recognition of the need to introduce greater competition
which could lead to higher productivity and efficiency of the banking system, new
private sector banks were allowed to be set up in the Indian banking system. These
new banks had to satisfy among others, the following minimum requirements:

(i) It should be registered as a public limited company;
(ii) The minimum paid-up capital should be Rs 100 crore;
(iii) The shares should be listed on the stock exchange;
(iv) The headquarters of the bank should be preferably located in a centre which
does not have the headquarters of any other bank; and
(v) The bank will be subject to prudential norms in respect of banking operations,
accounting and other policies as laid down by the RBI. It will have to
achieve capital adequacy of eight per cent from the very beginning.

 A high level Committee, under the Chairmanship of Shri M. Narasimham, was
constituted by the Government of India in December 1997 to review the record of
implementation of financial system reforms recommended by the CFS in 1991 and

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chart the reforms necessary in the years ahead to make the banking system stronger
and better equipped to compete effectively in international economic environment.
The Committee has submitted its report to the Government in April 1998. Some of the
recommendations of the Committee, on prudential accounting norms, particularly in
the areas of Capital Adequacy Ratio, Classification of Government guaranteed
advances, provisioning requirements on standard advances and more disclosures in
the Balance Sheets of banks have been accepted and implemented. The other
recommendations are under consideration.

 The banking industry in India is in a midst of transformation, thanks to the
economic liberalization of the country, which has changed business environment in
the country. During the pre-liberalization period, the industry was merely focusing on
deposit mobilization and branch expansion. But with liberalization, it found many of
its advances under the non-performing assets (NPA) list. More importantly, the sector
has become very competitive with the entry of many foreign and private sector banks.
The face of banking is changing rapidly. There is no doubt that banking sector
reforms have improved the profitability, productivity and efficiency of banks, but in
the days ahead banks will have to prepare themselves to face new challenges.

Indian Banking: Key Developments

1969  Government acquires ownership in major banks
 Almost all banking operations in manual mode
 Some banks had Unit record Machines of IBM for IBR & Pay roll
1970- 1980  Unprecedented expansion in geographical coverage, staff,
business & transaction volumes and directed lending to
agriculture, SSI & SB sector
 Manual systems struggle to handle exponential rise in transaction
volumes --
 Outsourcing of data processing to service bureau begins
 Back office systems only in Multinational (MNC) banks' offices
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1981- 1990  Regulator (read RBI) led IT introduction in Banks
 Product level automation on stand alone PCs at branches
(ALPMs)
 In-house EDP infrastructure with Unix boxes, batch processing in
Cobol for MIS.
 Mainframes in corporate office

1991-1995  Expansion slows down
 Banking sector reforms resulting in progressive de-regulation of
banking, introduction of prudential banking norms entry of new
private sector banks
 Total Branch Automation (TBA) in Govt. owned and old private
banks begins
 New private banks are set up with CBS/TBA form the start

1996-2000  New delivery channels like ATM, Phone banking and Internet
banking and convenience of any branch banking and auto sweep
products introduced by new private and MNC banks
 Retail banking in focus, proliferation of credit cards
 Communication infrastructure improves and becomes cheap.
IDRBT sets up VSAT network for Banks
 Govt. owned banks feel the heat and attempt to respond using
intermediary technology, TBA implementation surges ahead
under fiat from Central Vigilance
 Commission (CVC), Y2K threat consumes last two years

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2000-2003  Alternate delivery channels find wide consumer acceptance
 IT Bill passed lending legal validity to electronic transactions
 Govt. owned banks and old private banks start implementing
CBSs, but initial attempts face problems
 Banks enter insurance business launch debit cards

3.3 Initial Phase of Nationalization:

Government implemented the exercise of nationalization of significant part of the Indian
Banking system in the year 1955, when Imperial Bank of India was Nationalized in that year
for the stated objective of "extension of banking facilities on a large scale, more particularly
in the rural and semi-urban areas, and for diverse other public purposes" to form State Bank
of India. SBI was to act as the principal agent of the RBI and handle banking transactions of
the Union & State Governments throughout India. The step was in fact in furtherance of the
objectives of supporting a powerful rural credit cooperative movement in India and as
recommended by the "The All-India Rural Credit Survey Committee Report, 1954". State
Bank of India was obliged to open an accepted number of branches within 5 years in
unbanked centres. The seven banks now forming subsidiaries of SBI were nationalized in the
year 1960. This brought one-third of the banking segment under the direct control of the
Government of India.

The major process of nationalization was carried out on 19th July 1969, when the Prime
Minister of India, Mrs. Indira Gandhi announced the nationalization of 14 major commercial
banks in the country. One more phase of nationalization was carried out in the year 1980,
when seven more banks were nationalized. This brought 80% of the banking segment in India
under Government ownership. The country entered the second phase, i.e. the phase of
Nationalized Banking with emphasis on Social Banking in 1969/70.

3.4 TYPES OF BANKS AND THERE INTRODUCTION

3.4.1PUBLIC BANKS:

 DENA Bank

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 Punjab National Bank
 Union Bank Of India
 Bank Of Baroda
 Bank Of India

3.4.2 PRIVATE BANKS:

 ICICI Banks
 KOTAK Mahindra Banks
 AXIS Bank
 HDFC Banks
 INDUSIND Banks

3.4.3Private sector Banks Introduction

ICICI Bank:

ICICI Bank is the largest private sector bank in India. To understand about this big bank,
we need to understand how it became so big a force to reckon with. ICICI (Industrial Credit
Investment Corporation of India) promoted the ICICI bank in 1994 with its stake reducing to
46% after the IPO in 1998. ICICI is a well-known name in India along with IDBI and was
formed in 1955 at the initiative of the World Bank, Indian Government and Indian Industries.
Both of these institutions have an exceptional brand-image and one of the highest possible
ratings from CRISIL and other rating organizations. ICICI can be considered an oligopolistic
corporation along with IDBI (please M2M me, if you want to discuss this!). ICIC listed in
NYSE in 2000. In 2001 it underwent a tight marriage with Bank of Madura in a stock-only
amalgamation. This was a tough marriage and I guess they are still suffering from this
hiccup, which kind of substantiates their mediocre performance today, in my perspective.
This and the merger with the ICICI Corporation have caused some management strain and
some tough merger time. I could only wish they come over this and serve the customers in a
better manner.

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Kotak Mahindra Bank:

Kotak Mahindra is one of India's leading financial organizations, offering a wide range of
financial services that encompass every sphere of life. From commercial banking, to stock
broking, to mutual funds, to life insurance, to investment banking, the group caters to the
diverse financial needs of individuals and corporate.

The group has a net worth of over Rs. 7,100crore and has a distribution network of branches,
franchisees, representative offices and satellite offices across cities and towns in India and
offices in New York, London, San Francisco, Dubai, Mauritius and Singapore. The Group
services around 6.5 million customer accounts.

The Kotak Mahindra Group was born in 1985 as Kotak Capital Management Finance
Limited. This company was promoted by Uday Kotak, Sidney A. A. Pinto and Kotak &
Company. Industrialists Harish Mahindra and Anand Mahindra took a stake in 1986, and
that's when the company changed its name to Kotak Mahindra Finance Limited.

AXIS Bank:

Axis Bank was the first of the new private banks to have begun operations in 1994, after the
Government of India allowed new private banks to be established. The Bank was promoted
jointly by the Administrator of the specified undertaking of the Unit Trust of India (UTI - I),
Life Insurance Corporation of India (LIC) and General Insurance Corporation of India (GIC)
and other four PSU insurance companies, i.e. National Insurance Company Ltd., The New
India Assurance Company Ltd., The Oriental Insurance Company Ltd. and United India
Insurance Company Ltd.

The Bank today is capitalized to the extent of Rs. 405.17crores with the public holding (other
than promoters and GDRs) at 53.09%.

The Bank's Registered Office is at Ahmadabad and its Central Office is located at Mumbai.
The Bank has a very wide network of more than 1000 branches and Extension Counters (as
on 31st March 2010). The Bank has a network of over 4055 ATMs (as on 31st March 2010)
providing 24 hrs a day banking convenience to its customers. This is one of the largest ATM
networks in the country. The Bank has strengths in both retail and corporate banking and is

27


committed to adopting the best industry practices internationally in order to achieve
excellence.

HDFC Bank:

The Housing Development Finance Corporation Limited (HDFC) was amongst the first to
receive an 'in principle' approval from the Reserve Bank of India (RBI) to set up a bank in the
private sector, as part of the RBI's liberalization of the Indian Banking Industry in 1994. The
bank was incorporated in August 1994 in the name of 'HDFC Bank Limited', with its
registered office in Mumbai, India. HDFC Bank commenced operations as a Scheduled
Commercial Bank in January 1995.

HDFC Bank's mission is to be a World-Class Indian Bank. The objective is to build sound
customer franchises across distinct businesses so as to be the preferred provider of banking
services for target retail and wholesale customer segments, and to achieve healthy growth in
profitability, consistent with the bank's risk appetite. The bank is committed to maintain the
highest level of ethical standards, professional integrity, corporate governance and regulatory
compliance. HDFC Bank's business philosophy is based on four core values - Operational
Excellence, Customer Focus, Product Leadership and People.
As on 31st March, 2010 the authorized share capital of the Bank is Rs. 550crore. The paid-up
capital as on said date is Rs. 457,74,32,720/- (45,77,43,272 equity shares of Rs. 10/- each).
The HDFC Group holds 23.73 % of the Bank's equity and about 16.97 % of the equity is held
by the ADS Depository (in respect of the bank's American Depository Shares (ADS) Issue).
26.59 % of the equity is held by Foreign Institutional Investors (FIIs)..

The shares are listed on the Bombay Stock Exchange Limited and The National Stock
Exchange of India Limited. The Bank's American Depository Shares (ADS) are listed on the
New York Stock Exchange (NYSE) under the symbol 'HDB' and the Bank's Global
Depository Receipts (GDRs) are listed on Luxembourg Stock Exchange under ISIN No
US40415F2002.

INDUSIND Bank:

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IndusInd Bank derives its name and inspiration from the Indus Valley civilisation - a culture
described by National Geographic as 'one of the greatest of the ancient world' combining a
spirit of innovation with sound business and trade practices.

Mr. Srichand P. Hinduja, a leading Non-Resident Indian businessman and head of the
Hinduja Group, conceived the vision of IndusInd Bank - the first of the new-generation
private banks in India - and through collective contributions from the NRI community
towards India's economic and social development, brought our Bank into being.

The Bank, formally inaugurated in April 1994 by Dr. Manmohan Singh, Honourable Prime
Minister of India who was then the country‟s Finance Minister, started with a capital base of
Rs.1,000 million (USD 32 million at the prevailing exchange rate), of which Rs.600 million
was raised through private placement from Indian Residents while the balance Rs.400 million
(USD 13 million) was contributed by Non-Resident Indians.

IndusInd Bank is one of the new generation private-sector banks in India, which commenced
its operations in 1994. The Bank caters to the needs of both Consumer & Corporate Clients
and has a robust technology platform supporting multi – channel delivery capabilities. The
Bank enjoys a patronage of 2 million customers and has a network of 209 branches and 427
ATMs spread over 168 geographical locations in 28 states and union territories across the
country. The Bank also has a Representative Office in Dubai and London.

The Bank‟s total business (deposits plus advances) as on December 31, 2009 crossed Rs.
43,000 crore. The Bank is driven by state-of-the-art technology since its inception. It has
multi-lateral tie-ups with other banks providing access to more than 21000 ATMs for its
customers. It enjoys clearing bank status for both major stock exchanges - BSE and NSE -
and three major commodity exchanges in the country – MCX, NCDEX, and NMCE. It also
offers DP facilities for stock and commodity segments. The Bank has been bestowed with the
mandate of being a Settlement Banker for tea auctions at Kolkata, Siliguri, Coonoor,
Coimbatore and Guwahati.

During the quarter, in a pioneering initiative in „Green Banking‟ the Bank became the first
bank in Maharashtra to open a solar-power ATM. Subjects like sustainable development,

29


social responsibility and climate change are fast becoming part of the corporate vocabulary
and IndusInd is at the forefront of this change in the Indian banking sector.

The Bank has been awarded the highest P1+ rating for its Fixed Deposits and Certificates of
Deposit by CRISIL. Recently, CRISIL has reaffirmed its P1+ rating of IndusInd Bank‟s fixed
deposits and certificates of deposit program. The rating continues to reflect the Bank‟s
established presence in the Commercial Vehicle (CV) financing business and the significant
improvement in its asset quality. The rating also features in the Bank‟s modest resource and
earnings profile, and average capitalization levels.

3.4.4 PUBLIC BANKS:

DENA Bank:

Dena Bank was founded o n 26th May, 1938 by the family of Devkaran Nanjee under the
name Devkaran Nanjee Banking Company Ltd.

It became a Public Ltd. Company in December 1939 and later the name was changed to Dena
Bank Ltd.

In July 1969 Dena Bank Ltd. along with 13 other major banks was nationalized and is now a
Public Sector Bank constituted under the Banking Companies (Acquisition & Transfer of
Undertakings) Act, 1970. Under the provisions of the Banking Regulations Act 1949, in
addition to the business of banking, the Bank can undertake other business as specified in
Section 6 of the Banking Regulations Act, 1949.

Milestones

üOne among six Public Sector Banks selected by the World Bank for sanctioning a loan of
Rs.72.3crores for augmentation of Tier-II Capital under Financial Sector Developmental
project in the year 1995.

One among the few Banks to receive the World Bank loan for technological up
gradation and training.

30


Launched a Bond Issue of Rs.92.13crores in November 1996.

Maiden Public Issue of Rs.180Crores in November 1996.

Introduced Tele banking facility of selected metropolitan centers.

Dena Bank has been the first Bank to introduce:

Minor Savings Scheme.

Credit card in rural India known as "DENA KRISHI SAKH PATRA" (DKSP).

Drive-in ATM counter of Juhu, Mumbai.

Smart card at selected branches in Mumbai.

Customer rating system for rating the Bank Services.

PUNJAB NATIONAL BANK:

Punjab National Bank (PNB) (BSE: 532461), was registered on May 19, 1894 under the
Indian Companies Act with its office in Anarkali Bazaar Lahore. Today, the Bank is the
second largest government-owned commercial bank in India with about 5000 branches across
764 cities. It serves over 37 million customers. The bank has been ranked 248th biggest bank
in the world by the Bankers Almanac, London. The bank's total assets for financial year 2007
were about US$60 billion. PNB has a banking subsidiary in the UK, as well as branches
in Hong Kong, Dubai and Kabul, and representative offices in Almaty,Dubai, Oslo,
and Shanghai.

History:

1895: PNB commenced its operations in Lahore. PNB has the distinction of being the first
Indian bank to have been started solely with Indian capital that has survived to the present.
(The first entirely Indian bank, the Oudh Commercial Bank, was established in 1881
in Faizabad, but failed in 1958.) PNB's founders included several leaders of
the Swadeshi movement such as Dyal Singh Majithia and Lala HarKishen Lal,[1] Lala

31


Lalchand, Shri Kali Prosanna Roy, Shri E.C. Jessawala, Shri Prabhu Dayal, Bakshi Jaishi
Ram, and Lala Dholan Dass. Lala Lajpat Rai was actively associated with the management of
the Bank in its early years.

1904: PNB established branches in Karachi and Peshawar.

1940: PNB absorbed Bhagwan Dass Bank, a scheduled bank located in Delhi circle.

1947: Partition of India and Pakistan at Independence. PNB lost its premises in Lahore, but
continued to operate in Pakistan.

1951: PNB acquired the 39 branches of Bharat Bank (est. 1942); Bharat Bank became Bharat
Nidhi Ltd.

1961: PNB acquired Universal Bank of India.

1963: The Government of Burma nationalized PNB's branch in Rangoon (Yangon).

September 1965: After the Indo-Pak war the government of Pakistan seized all the offices in
Pakistan of Indian banks, including PNB's head office, which may have moved to Karachi.
PNB also had one or more branches in East Pakistan (Bangladesh).

1960s: PNB amalgamated Indo Commercial Bank (est. 1933) in a rescue.

1969: The Government of India (GOI) nationalized PNB and 13 other major commercial
banks, on July 19, 1969.

1976 or 1978: PNB opened a branch in London.

1986 The Reserve Bank of India required PNB to transfer its London branch to State Bank of
India after the branch was involved in a fraud scandal.

1986: PNB acquired Hindustan Commercial Bank (est. 1943) in a rescue. The acquisition
added Hindustan's 142 branches to PNB's network.

1993: PNB acquired New Bank of India, which the GOI had nationalized in 1980.

1998: PNB set up a representative office in Almaty, Kazakhstan.

32


2003: PNB took over Nedungadi Bank, the oldest private sector bank in Kerala. At the time
of the merger with PNB, Nedungadi Bank's shares had zero value, with the result that its
shareholders received no payment for their shares.

PNB also opened a representative office in London.

2004: PNB established a branch in Kabul, Afghanistan.

PNB also opened a representative office in Shanghai.

PNB established an alliance with Everest Bank in Nepal that permits migrants to transfer
funds easily between India and Everest Bank's 12 branches in Nepal.

2005: PNB opened a representative office in Dubai.

2007: PNB established PNBIL - Punjab National Bank (International) - in the UK, with two
offices, one in London, and one in South Hall. Since then it has opened a third branch in
Leicester, and is planning a fourth in Birmingham.

2008: PNB opened a branch in Hong Kong.

2009: PNB opened a representative office in Oslo, Norway, and a second branch in Hong
Kong, this in Kowloon.

2010: PNB received permission to upgrade its representative office in the Dubai International
Financial Centre to a branch.

UNION BANK OF INDIA:

The dawn of twentieth century witnesses the birth of a banking enterprise par excellence-
UNION BANK OF INDIA- that was flagged off by none other than the Father of the
Nation, Mahatma Gandhi. Since that the golden moment, Union Bank of India has this far
unflinchingly traveled the arduous road to successful banking a journey that spans 88 years.
We at Union Bank of India, reiterate the objective of our inception to the profound thoughts
of the great Mahatma... "We should have the ability to carry on a big bank, to manage
efficiently crores of rupees in the course of our national activities. Though we have not
many banks amongst us, it does not follow that we are not capable of efficiently
33


managing crores and tens of crores of rupees."

Union Bank of India is firmly committed to consolidating and maintaining its identity as a
leading, innovative commercial Bank, with a proactive approach to the changing needs of
the society. This has resulted in a wide gamut of products and services, made available to its
valuable clientele in catering to the smallest of their needs. Today, with its efficient, value-
added services, sustained growth, consistent profitability and development of new
technologies, Union Bank has ensured complete customer delight, living up to its image
of, “GOOD PEOPLE TO BANK WITH”. Anticipative banking- the ability to gauge the
customer's needs well ahead of real-time - forms the vital ingredient in value-based services
to effectively reduce the gap between expectations and deliverables.

The key to the success of any organization liew with its people. No wonder, Union Bank's
unique family of about 26,000 qualified / skilled employees is and ever will be dedicated
and delighted to serve the discerning customer with professionalism and wholeheartedness.
Union Bank is a Public Sector Unit with 55.43% Share Capital held by the Government of
India. The Bank came out with its Initial Public Offer (IPO) in August 20, 2002 and Follow
on Public Offer in February 2006. Presently 44.57 % of Share Capital is presently held by
Institutions, Individuals and Others.

Over the years, the Bank has earned the reputation of being a techno-savvy and is a front
runner among public sector banks in modern-day banking trends. It is one of the pioneer
public sector banks, which launched Core Banking Solution in 2002. Under this solution
umbrella, All Branches of the Bank have been 1135 networked ATMs, with online Tele-
banking facility made available to all its Core Banking Customers - individual as well as
corporate. In addition to this, the versatile Internet Banking provides extensive information
pertaining to accounts and facets of banking. Regular banking services apart, the customer
can also avail of a variety of other value-added services like Cash Management Service,
Insurance, Mutual Funds and Demat.

The Bank will ever strive in its Endeavour to provide services to its customer and enhance

34


its businesses thereby fulfilling its vision of becoming “the bank of first choice in our
chosen area by building beneficial and lasting relationship with customers through a
process of continuous improvement”.

BANK OF BARODA:

It has been a long and eventful journey of almost a century across 25 countries. Starting in
1908 from a small building in Baroda to its new hi-rise and hi-tech Baroda Corporate Centre
in Mumbai is a saga of vision, enterprise, financial prudence and corporate governance.

It is a story scripted in corporate wisdom and social pride. It is a story crafted in private
capital, princely patronage and state ownership. It is a story of ordinary bankers and their
extraordinary contribution in the ascent of Bank of Baroda to the formidable heights of
corporate glory. It is a story that needs to be shared with all those millions of people -
customers, stakeholders, employees & the public at large - who in ample measure, have
contributed to the making of an institution. Our new logo is a unique representation of a
universal symbol. It comprises dual „B‟ letterforms that hold the rays of the rising sun. We
call this the Baroda Sun.

The sun is an excellent representation of what our bank stands for. It is the single most
powerful source of light and energy – its far reaching rays dispel darkness to illuminate
everything they touch. At Bank of Baroda, we seek to be the sources that will help all our
stakeholders realize their goals. To our customers, we seek to be a one-stop, reliable partner
who will help them address different financial needs. To our employees, we offer rewarding
careers and to our investors and business partners, maximum return on their investment.

The single-color, compelling vermillion palette has been carefully chosen, for its
distinctiveness as it stands for hope and energy.
We also recognize that our bank is characterized by diversity. Our network of branches spans
geographical and cultural boundaries and rural-urban divides. Our customers come from a
wide spectrum of industries and backgrounds. The Baroda Sun is a fitting face for our brand
because it is a universal symbol of dynamism and optimism – it is meaningful for our many
35


audiences and easily decoded by all.

Our new corporate brand identity is much more than a cosmetic change. It is a signal that we
recognize and are prepared for new business paradigms in a globalised world. At the same
time, we will always stay in touch with our heritage and enduring relationships on which our
bank is founded. By adopting a symbol as simple and powerful as the Baroda Sun, we hope
to communicate both.

BANK OF INDIA:

Bank of India (BoI), established on 7 September 1906 is a bank with headquarters
in Mumbai. Government-owned since nationalization in 1969, It is one ofIndia's
leading banks, with about 3140 branches including 27 branches outside India. BoI is a
founder member of SWIFT (Society for Worldwide Inter Bank Financial
Telecommunications) in India which facilitates provision of cost-effective financial
processing and communication services. The Bank completed its first one hundred years of
operations on 7 September 2006.

Previous banks that used the name Bank of India:

At least three banks having the name Bank of India had preceded the setting up of the
present Bank of India.

A person named Ramakishen Dutt set up the first Bank of India in Calcutta (now Kolkata) in
1828, but nothing more is known about this bank.

The second Bank of India was incorporated in London in the year 1836 as an Anglo-Indian
bank.

The third bank named Bank of India was registered in Bombay(now Mumbai) in the year
1864.

The current bank:

The earlier holders of the Bank of India name had failed and were no longer in existence by
the time a diverse group of Hindus, Muslims, Parsis, and Jews helped establish the present

36


Bank of India in 1906. It was the first bank in India promoted by Indian interests to serve all
the communities of India. At the time, banks in India were either owned by Europeans and
served mainly the interests of the European merchant houses, or by different communities
and served the banking needs of their own community.

The promoters incorporated the Bank of India on 7 September 1906 under Act VI of 1882
with an authorized capital of Rs. 1crore divided into 100,000 shares each of Rs. 100. The
promoters placed 55,000 shares privately, and issued 45,000 to the public by way of IPO on 3
October 1906; the bank commenced operations on 1 November 1906.

The lead promoter of the Bank of India was Sir Sassoon J. David (1849-1926). He was a
member of the community of Baghdadi Jews, which was notable for its history of social
service and included theSassoons. He was a prudent banker, and remained the Chief
Executive of the bank from its founding in 1906 until his death in 1926.

The first board of directors of the bank consisted of Sir Sassoon David, Sir Cowasjee
Jehangir, J. Cowasjee Jehangir, Sir Frederick Leigh Croft, Ratanjee Dadabhoy Tata,
Gordhandas Khattau, Lalubhai Samaldas, Khetsety Khiasey, Ramnarain Hurnundrai,
Jenarrayen Hindoomull Dani, Noordin Ebrahim Noordin.

3.5 NPAs IN INDIAN BANKING SYSTEM:

Undoubtedly the world economy has slowed down, recession is at its peak, globally stock
markets have tumbled and business itself is getting hard to do. The Indian economy has been
much affected due to high fiscal deficit, poor infrastructure facilities, sticky legal system,
cutting of exposures to emerging markets by FIs, etc.

Further, international rating agencies like, Standard & Poor have lowered India‟s credit
rating to sub-investment grade. Such negative aspects have often outweighed positives such
as increasing for ex-reserves and a manageable inflation rate.

Under such a situation, it goes without saying that banks are no exception and are bound to
face the heat of a global downturn. One would be surprised to know that the banks and

37


financial institution in India hold nonperforming assets worth Rs. 110000crores Bankers have
realized that unless the level of NPAs is reduced drastically, they will find it difficult to
survive.

NPA surfaced suddenly in the Indian banking scenario, around the Eighties, in the midst of
turbulent structural changes overtaking the international banking institutions, and when the
global financial markets were undergoing sweeping changes. In fact after it emerged as if the
problem of NPA kept hidden and gradually swelling unnoticed and unperceived, in the maze
of defective accounting standards that still continued with Indian Banks up to the Nineties
and opaque Balance sheets.

In a dynamic world, it is true that new ideas and new concepts that emerge through such
changes caused by social evolution bring beneficial effects, but only after levying a heavy
initial toll. The process of quickly integrating new innovations in the existing set-up leads to
an immediate disorder and unsettled conditions. People are not accustomed to the new
models. These new formations take time to configure, and work smoothly. The old is cast
away and the new is found difficult to adjust. Marginal and sub-marginal operators are swept
away by these convulsions. Banks being sensitive institutions entrenched deeply in traditional
beliefs and conventions were unable to adjust themselves to the changes. They suffered easy
victims to this upheaval in the initial phase.

Consequently banks underwent this transition-syndrome and languished under distress and
banking crises surfaced in quick succession one following the other in many countries. But
when the banking industry in the global sphere came out of this metamorphosis to re-adjust to
the new order, they emerged revitalized and as more vibrant and robust units. Deregulation in
developed capitalist countries particularly in Europe, witnessed a remarkable innovative
growth in the banking industry, whether measured in terms of deposit growth, credit growth,
growth intermediation instruments as well as in network.

During all these years the Indian Banking, whose environment was insulated from the global
context and was denominated by State controls of directed credit delivery, regulated interest
rates, and investment structure did not participate in thi kars vibrant banking revolution.
Suffering the dearth of innovative spirit and choking under undue regimentation, Indian
38


banking was lacking objective and prudential systems of business leading from early
stagnation to eventual degeneration and reduced or negative profitability. Continued political
interference, the absence of competition and total lack of scientific decision-making, led to
consequences just the opposite of what was happening in the western countries.

Imperfect accounting standards and opaque balance sheets served as tools for hiding the
shortcomings and failing to reveal the progressive deterioration and structural weakness of
the country's banking institutions to public view. This enabled the nationalized banks to
continue to flourish in a deceptive manifestation and false glitter, though stray symptoms of
the brewing ailment were discernable here and there.

The government hastily introduced the first phase of reforms in the financial and banking
sectors after the economic crisis of 1991. This was an effort to quickly resurrect the health of
the banking system and bridge the gap between Indian and global banking development.
Indian Banking, in particular PSB‟s suddenly woke up to the realities of the situation and to
face the burden of the surfeit of their woes.

Simultaneously major revolutionary transitions were taking place in other sectors of the
economy on account the ongoing economic reforms intended towards freeing the Indian
economy from government controls and linking it to market driven forces for a quick
integration with the global economy. Import restrictions were gradually freed. Tariffs were
brought down and quantitative controls were removed. The Indian market was opened for
free competition to the global players. The new economic policy in turn revolutionaries the
environment of the Indian industry and business and put them to similar problems of new
mixture of opportunities and challenges. As a result we witness today a scenario of banking,
trade and industry in India, all undergoing the convulsions of total reformation battling to
kick off the decadence of the past and to gain a new strength and vigor for effective links
with the global economy. Many are still languishing unable to get released from the old set-
up, while a few progressive corporate are making a niche for themselves in the global
context.

During this decade the reforms have covered almost every segment of the financial sector. In
particular, it is the banking sector, which experienced major reforms. The reforms have taken
39


the Indian banking sector far away from the days of nationalization. Increase in the number of
banks due to the entry of new private and foreign banks; increase in the transparency of the
banks' balance sheets through the introduction of prudential norms and norms of disclosure;
increase in the role of the market forces due to the deregulated interest rates, together with
rapid computerization and application of the benefits of information technology to banking
operations have all significantly affected the operational environment of the Indian banking
sector.

In the background of these complex changes when the problem of NPA was belatedly
recognized for the first time at its peak velocity during 1992-93, there was resultant chaos and
confusion. As the problem in large magnitude erupted suddenly banks were unable to analyze
and make a realistic or complete assessment of the surmounting situation. It was not realized
that the root of the problem of NPA was cantered elsewhere in multiple layers, as much
outside the banking system, more particularly in the transient economy of the country, as
within. Banking is not a compartmentalized and isolated sector delinked from the rest of the
economy. As has happened elsewhere in the world, a distressed national economy shifts a
part of its negative results to the banking industry.

In short, banks are made ultimately to finance the losses incurred by constituent industries
and businesses. The unpreparedness and structural weakness of our banking system to act to
the emerging scenario and de-risk itself to the challenges thrown by the new order, trying to
switch over to globalization were only aggravating the crisis. Partial perceptions and hasty
judgments led to a policy of ad-hoc-ism, which characterized the approach of the authorities
during the last two-decades towards finding solutions to banking ailments and dismantling
recovery impediments. Continuous concern was expressed. Repeated correctional efforts
were executed, but positive results were evading. The problem was defying a solution.

The threat of NPA was being surveyed and summarized by RBI and Government of India
from a remote perception looking at a bird's-eye-view on the banking industry as a whole
delinked from the rest of the economy. RBI looks at the banking industry's average on a
macro basis, consolidating and tabulating the data submitted by different institutions. It has
collected extensive statistics about NPA in different financial sectors like commercial banks,

40


financial institutions, urban cooperatives, NBFC etc. But still it is a distant view of one
outside the system and not the felt view of a suffering participant. Individual banks inherit
different cultures and they finance diverse sectors of the economy that do not possess
identical attributes. The scenario is not so simple to be generalized for the industry as a whole
to prescribe a readymade package of a common solution for all banks and for all times.

3.6 REASONS FOR THE EXISTENCE OF HUGE LEVEL OF NPAS IN
THE INDIAN BANKING SYSTEM (IBS):

The origin of the problem of burgeoning NPA‟s lies in the quality of managing credit risk by
the banks concerned. What is needed is having adequate preventive measures in place
namely, fixing pre-sanctioning appraisal responsibility and having an effective post-
disbursement supervision. Banks concerned should continuously monitor loans to identify
accounts that have potential to become non-performing.

To start with, performance in terms of profitability is a benchmark for any business enterprise
including the banking industry. However, increasing NPA‟s have a direct impact on banks
profitability as legally banks are not allowed to book income on such accounts and at the
same time banks are forced to make provision on such assets as per the Reserve Bank of
India (RBI) guidelines. Also, with increasing deposits made by the public in the banking
system, the banking industry cannot afford defaults by borrowers since NPA‟s affects the
repayment capacity of banks.

Further, Reserve Bank of India (RBI) successfully creates excess liquidity in the system
through various rate cuts and banks fail to utilize this benefit to its advantage due to the fear
of burgeoning non-performing assets.

Some of the reasons are:

 After the nationalization of banks sector wise allocation of credit disbursements
became compulsory.

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 Banks were compelled to give credit to even those sectors, which were not considered
to be very profitable, keeping in mind the federal policy.
 People in the agricultural sector were hardly interested in returning the loans as they
were confident that the loans with the interest would be written off by the successive
governments.
 The small scale industries also availed credit even though they were not sure of
performing to the extent of returning the loans.
 Banks were also not in the position to press enough securities to cover the loans in
calls of timings.
 Even if the assets were provided they proved to be substandard assets as the values
that could be realized were very low.
 The slackness in effort by the bank authorities to collect or recover loan advances in
time also contributes to the increase in NPA‟s.
 Lack of accountability of the officers, who sanctioned the loans led to a caste whole
approach by the officers recovering the loans.
 Loans sanctioned to under servicing candidates due to pressure from the ministers and
other politicians also led to the non recovery of debts.
 Poor credit appraisal system, lack of vision while sanctioning credit limits.
 Lack of proper monitoring.
 Reckless advances to achieve the budgetary targets.
 Lack of sincere corporate culture, inadequate legal provisions on foreclosure and
bankruptcy.
 Change in economic policies/environment.
 Lack of co-ordination between banks.

Some of the internal factors of the organization leading to NPA‟s are:

 Division of funds for expansion, diversification, modernization, undertaking new
projects and for helping associate concerns, this is coupled with recessionary trends
and failure to tap funds in the capital and debt markets.
 Business failure( product, marketing etc.,),inefficient management, strained labor
relations, inappropriate technology, technical problems, product obsolescence etc.,

42


 Recession , shortage of input, power shortage, price escalation, accidents, natural
calamities, besides externalization problem in other countries leading to non payment
of over dues.
 Time/cost overrun during the project implementation stage.
 Government policies like changes in the excise duties, pollution control orders.
 Wilful default, siphoning off of funds, fraud, misappropriation, promoters/directors
disputes etc.
 Deficiencies on the part of the banks like delay in release of limits and delay in
release of payments/subsidies by the government.

3.7 RBI GUIDELINES ON INCOME RECOGNITION (INTEREST
INCOME ON NPA‟s)

In the peak crisis period in early Nineties, when the first Series of Banking Reforms were
introduced, the working position of the State-owned banks exhibited the severest strain.
Commenting on this situation the Reserve Bank of India has pointed out as under:

"Till the adoption of prudential norms relating to income recognition, asset classification,
provisioning and capital adequacy, twenty-six out of twenty-seven public sector banks were
reporting profits (UCO Bank was incurring losses from 1989-90). In the first post-reform
year, i.e., 1992-93, the profitability of the PSB‟s as a group turned negative with as many as
twelve nationalized banks reporting net losses. By March 1996, the outer time limit
prescribed for attaining capital adequacy of 8 per cent, eight public sector banks were still
short of the prescribed."

Consequently PSB‟s in the post reform period came to be classified under three categories as
-

 Healthy banks (those that are currently showing profits and hold no accumulated
losses in their balance sheet)

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 Banks showing currently profits, but still continuing to have accumulated losses of
prior years carried forward in their balance sheets
 Banks which are still in the red, i.e. showing losses in the past and in the present.

Banks recognize income including interest income on advances on accrual basis. That is,
income is accounted for as and when it is earned. The prima-facie condition for accrual of
income is that it should not be unreasonable to expect its ultimate collection. However,
NPA‟s involves significant uncertainty with respect to its ultimate collection.

Considering this fact, in accordance with the guidelines for income recognition issued by the
Reserve Bank of India (RBI), banks should not recognize interest income on such NPA‟s
until it is actually realized.

3.7.1 Income recognition – Policy

 The policy of income recognition has to be objective and based on the record of
recovery. Internationally income from non-performing assets (NPA) is not recognised
on accrual basis but is booked as income only when it is actually received. Therefore,
the banks should not charge and take to income account interest on any NPA.

 However, interest on advances against term deposits, NSCs, IVPs, KVPs and Life
policies may be taken to income account on the due date, provided adequate margin is
available in the accounts.

 Fees and commissions earned by the banks as a result of re-negotiations or
rescheduling of outstanding debts should be recognised on an accrual basis over the
period of time covered by the re-negotiated or rescheduled extension of credit.

 If Government guaranteed advances become NPA, the interest on such advances
should not be taken to income account unless the interest has been realised.

3.7.2. Reversal of income:

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 If any advance, including bills purchased and discounted, becomes NPA as at the
close of any year, interest accrued and credited to income account in the
corresponding previous year, should be reversed or provided for if the same is not
realised. This will apply to Government guaranteed accounts also.

 In respect of NPAs, fees, commission and similar income that have accrued should
cease to accrue in the current period and should be reversed or provided for with
respect to past periods, if uncollected.

3.7.3 Leased Assets

The net lease rentals (finance charge) on the leased asset accrued and credited to
income account before the asset became non-performing, and remaining
unrealised, should be reversed or provided for in the current accounting period.

The term 'net lease rentals' would mean the amount of finance charge taken to the
credit of Profit & Loss Account and would be worked out as gross lease rentals
adjusted by amount of statutory depreciation and lease equalisation account.

As per the 'Guidance Note on Accounting for Leases' issued by the Council of
the Institute of Chartered Accountants of India (ICAI), a separate Lease
Equalisation Account should be opened by the banks with a corresponding debit
or credit to Lease Adjustment Account, as the case may be. Further, Lease
Equalisation Account should be transferred every year to the Profit & Loss
Account and disclosed separately as a deduction from/addition to gross value of
lease rentals shown under the head 'Gross Income'.

45


Appropriation of recovery in NPAs

 Interest realised on NPAs may be taken to income account provided the credits in the
accounts towards interest are not out of fresh/ additional credit facilities sanctioned to
the borrower concerned.

 In the absence of a clear agreement between the bank and the borrower for the
purpose of appropriation of recoveries in NPAs (i.e. towards principal or interest due),
banks should adopt an accounting principle and exercise the right of appropriation of
recoveries in a uniform and consistent manner.

3.7.4 Interest Application:

There is no objection to the banks using their own discretion in debiting interest to an NPA
account taking the same to Interest Suspense Account or maintaining only a record of such
interest in preformed accounts.

3.7.5 Reporting of NPAs

 Banks are required to furnish a Report on NPAs as on 31st March each year after
completion of audit. The NPAs would relate to the banks‟ global portfolio, including
the advances at the foreign branches. The Report should be furnished as per the
prescribed format given in the Annexure I.

 While reporting NPA figures to RBI, the amount held in interest suspense account,
should be shown as a deduction from gross NPAs as well as gross advances while
arriving at the net NPAs. Banks which do not maintain Interest Suspense account for
parking interest due on non-performing advance accounts, may furnish the amount of
interest receivable on NPAs as a foot note to the Report.

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 Whenever NPAs are reported to RBI, the amount of technical write off, if any, should
be reduced from the outstanding gross advances and gross NPAs to eliminate any
distortion in the quantum of NPAs being reported.

3.8 Asset Classification
Categories of NPAs

(1) Standard Assets

(2) Sub-Standard Assets

(3) Doubtful Assets

(4) Loss Assets

(1) Standard Assets:

Standard assets are the ones in which the bank is receiving interest as well as the principal
amount of the loan regularly from the customer. Here it is also very important that in this case
the arrears of interest and the principal amount of loan do not exceed 90 days at the end of
financial year. If asset fails to be in category of standard asset that is amount due more than
90 days then it is NPA and NPAs are further need to classify in sub categories.

(2) Sub-standard Assets:

With effect from 31 March 2005, a substandard asset would be one, which has remained
NPA for a period less than or equal to 12 month. The following features are exhibited by
substandard assets: the current net worth of the borrowers / guarantor or the current market
value of the security charged is not enough to ensure recovery of the dues to the banks in full;
and the asset has well-defined credit weaknesses that jeopardise the liquidation of the debt
and are characterised by the distinct possibility that the banks will sustain some loss, if
deficiencies are not corrected.
47


(3) Doubtful Assets:

A loan classified as doubtful has all the weaknesses inherent in assets that were classified as
sub-standard, with the added characteristic that the weaknesses make collection or liquidation
in full, – on the basis of currently known facts, conditions and values – highly questionable
and improbable.
With effect from March 31, 2005, an asset would be classified as doubtful if it remained in
the sub-standard category for 12 months.

(4) Loss Assets:

A loss asset is one which considered uncollectible and of such little value that its continuance
as a bankable asset is not warranted- although there may be some salvage or recovery value.
Also, these assets would have been identified as „loss assets‟ by the bank or internal or
external auditors or the RBI inspection but the amount would not have been written-off
wholly.

3.9 IMPACT OF EXCESS LIQUIDITY:

One should also not forget that the banks are faced with the problem of increasing liquidity in
the system. Further, Reserve Bank of India (RBI) is increasing the liquidity in the system
through various rate cuts. Banks can get rid of its excess liquidity by increasing its lending
but, often shy away from such an option due to the high risk of default. In order to promote
certain prudential norms for healthy banking practices, most of the developed economies
require all banks to maintain minimum liquid and cash reserves broadly classified into Cash
Reserve Ratio (CRR) and the Statutory Liquidity Ratio (SLR).

Cash Reserve Ratio (CRR) is the reserve which the banks have to maintain with itself in the
form of cash reserves or by way of current account with the Reserve Bank of India (RBI),
computed as a certain percentage of its demand and time liabilities. The objective is to ensure
the safety and liquidity of the deposits with the banks.

48


On the other hand, Statutory Liquidity Ratio (SLR) is the one which every banking company
shall maintain in India in the form of cash, gold or unencumbered approved securities, an
amount which shall not, at the close of business on any day be less than such percentage of
the total of its demand and time liabilities in India as on the last Friday of the second
preceding fortnight, as the Reserve Bank of India (RBI) may specify from time to time.

A rate cut (for instance, decrease in CRR) results into lesser funds to be locked up in RBI's
vaults and further infuses greater funds into a system. However, almost all the banks are
facing the problem of bad loans, burgeoning non-performing assets, thinning margins, etc. as
a result of which, banks are little reluctant in granting loans to corporate.

As such, though in its monetary policy RBI announces rate cut but, such news are no longer
warmly greeted by the bankers.

3.10 HIGH COST OF FUNDS DUE TO NPAs:

Quite often genuine borrowers face the difficulties in raising funds from banks due to
mounting NPA‟s. Either the bank is reluctant in providing the requisite funds to the genuine
borrowers or if the funds are provided, they come at a very high cost to compensate the
lender‟s losses caused due to high level of NPA‟s. Therefore, quite often corporate prefer to
raise funds through commercial papers (CPs) where the interest rate on working capital
charged by banks is higher.

With the enactment of the Securitization and Reconstruction of Financial Assets and
Enforcement of Security Interest Act, 2002, banks can issue notices to the defaulters to pay
up the dues and the borrowers will have to clear their dues within 60 days. Once the borrower
receives a notice from the concerned bank and the financial institution, the secured assets
mentioned in the notice cannot be sold or transferred without the consent of the lenders.

49


The main purpose of this notice is to inform the borrower that either the sum due to the bank
or financial institution be paid by the borrower or else the former will take action by way of
taking over the possession of assets. Besides assets, banks can also takeover the management
of the company. Thus the bankers under the aforementioned Act will have the much needed
authority to either sell the assets of the defaulting companies or change their management.

But the protection under the said Act only provides a partial solution. What banks should
ensure is that they should move with speed and charged with momentum in disposing off the
assets. This is because as uncertainty increases with the passage of time, there is all
possibility that the recoverable value of asset also reduces and it cannot fetch good price. If
faced with such a situation than the very purpose of getting protection under the
Securitization Act, 2002 would be defeated and the hope of seeing a must have growing
banking sector can easily vanish.

3.11 Provisioning Norms

General:

 In order to narrow down the divergences and ensure adequate provisioning by banks,
it was suggested that a bank's statutory auditors, if they so desire, could have a
dialogue with RBI's Regional Office/ inspectors who carried out the bank's inspection
during the previous year with regard to the accounts contributing to the difference.

 Pursuant to this, regional offices were advised to forward a list of individual
advances, where the variance in the provisioning requirements between the RBI and
the bank is above certain cut off levels so that the bank and the statutory auditors take
into account the assessment of the RBI while making provisions for loan loss, etc.

50


 The primary responsibility for making adequate provisions for any diminution in the
value of loan assets, investment or other assets is that of the bank managements and
the statutory auditors. The assessment made by the inspecting officer of the RBI is
furnished to the bank to assist the bank management and the statutory auditors in
taking a decision in regard to making adequate and necessary provisions in terms of
prudential guidelines.

 In conformity with the prudential norms, provisions should be made on the non-
performing assets on the basis of classification of assets into prescribed categories as
detailed in paragraphs 4 supra. Taking into account the time lag between an account
becoming doubtful of recovery, its recognition as such, the realisation of the security
and the erosion over time in the value of security charged to the bank, the banks
should make provision against sub-standard assets, doubtful assets and loss assets as
below:

a. Loss assets:

The entire asset should be written off. If the assets are permitted to remain in the books for
any reason, 100 percent of the outstanding should be provided for.

b. Doubtful assets:

 100 percent of the extent to which the advance is not covered by the realisable value
of the security to which the bank has a valid recourse and the realisable value is
estimated on a realistic basis.

 In regard to the secured portion, provision may be made on the following basis, at the
rates ranging from 20 percent to 50 percent of the secured portion depending upon the
period for which the asset has remained doubtful:
51


Period for which the advance has been Provision
considered as doubtful requirement (%)

Up to one year 20

One to three years 30

More than three years: 60% with effect from March
31,2005.
(1) Outstanding stock of NPAs as on
March 31, 2004. 75% effect from March 31,
(2) Advances classified as „doubtful‟ 2006.
more than three years on or after
100% with effect from March
April 1, 2004.
31, 2007.

 Additional provisioning consequent upon the change in the definition of doubtful
assets effective from March 31, 2003 has to be made in phases as under:

As on31.03.2003, 50 percent of the additional provisioning requirement on the assets
which became doubtful on account of new norm of 18 months for transition from sub-
standard asset to doubtful category.

 As on 31.03.2002, balance of the provisions not made during the previous year, in
addition to the provisions needed, as on 31.03.2002.

 Banks are permitted to phase the additional provisioning consequent upon the
reduction in the transition period from substandard to doubtful asset from 18 to 12
months over a four year period commencing from the year ending March 31, 2005,
with a minimum of 20 % each year.
Note: Valuation of Security for provisioning purposes

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With a view to bringing down divergence arising out of difference in assessment of the value
of security, in cases of NPAs with balance of Rs. 5crore and above stock audit at annual
intervals by external agencies appointed as per the guidelines approved by the Board would
be mandatory in order to enhance the reliability on stock valuation. Values appointed as per
the guidelines approved by the Board of Directors should get collaterals such as immovable
properties charged in favour of the bank valued once in three years.

c. Sub-standard assets:

A general provision of 10 percent on total outstanding should be made without making any
allowance for DICGC/ECGC guarantee cover and securities available.

d. Standard assets:

 From the year ending 31.03.2000, the banks should make a general provision of a
minimum of 0.40 percent on standard assets on global loan portfolio basis.

 Net NPAs.

 The provisions towards Standard Assets need not be netted from gross advances but
shown separately as 'Contingent Provisions against Standard Assets' under 'Other
Liabilities and Provisions - Others' in Schedule 5 of the balance sheet.

3.11.1 Floating provisions:

Some of the banks make a 'floating provision' over and above the specific provisions made in
respect of accounts identified as NPAs. The floating provisions, wherever available, could be
Set-off against provisions required to be made as per above stated provisioning guidelines.
Considering that higher loan loss provisioning Adds to the overall financial strength of the

53


banks and the stability of the financial sector, banks are urged to voluntarily set apart
provisions much above the minimum prudential levels as a desirable practice.

311.2 Provisions on Leased Assets:

Leases are peculiar transactions where the assets are not recorded in the books of the user of
such assets as Assets, whereas they are recorded in the books of the owner even though the
physical existence of the asset is with the user (lessee).
__(AS19 ICAI)

 Doubtful assets :-
100 percent of the extent to which the finance is not secured by the realisable value of the
leased asset. Realisable value to be estimated on a realistic basis. In addition to the above
provision, the following provision on the net book value of the secured portion should be
made, depending upon the period for which asset has been doubtful:

Period %age of provision

Up to one year 20

One to three years 30

More than three years 50

 Loss assets :-
The entire asset should be written-off. If for any reason, an asset is allowed to remain in
books, 100 percent of the sum of the net investment in the lease and the unrealised portion of
finance income net of finance charge component should be provided for. („Net book value')

3.11.3 Guidelines for Provisions under Special Circumstances

Government guaranteed advances:

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