indian banking sector

RESEARCH METHODOLOGY

Introduction

The banking industry has undergone a sea change after the first phase of economic liberalization in 1991 and hence credit management. While the primary function of banks is to lend funds as loans to various sectors such as agriculture, industry, personal loans, housing loans etc., in recent times the banks have become very cautious in extending loans. The reason being mounting non-performing assets (NPAs). An NPA is defined as a loan asset, which has ceased to generate any income for a bank whether in the form of interest or principal repayment. As per the prudential norms suggested by the Reserve Bank of India (RBI), a bank cannot book interest on an NPA on accrual basis. In other words, such interests can be booked only when it has been actually received.

Therefore, an NPA account not only reduces profitability of banks by provisioning in the profit and loss account, but their carrying cost is also increased which results in excess & avoidable management attention. Apart from this, a high level of NPA also puts strain on a banks net worth because banks are under pressure to maintain a desired level of Capital Adequacy and in the absence of comfortable profit level, banks eventually look towards their internal financial strength to fulfill the norms thereby slowly eroding the net worth.

Literature Review

When a borrower, who is under a liability to pay to secured creditors, makes any default in repayment of secured debt or any installment thereof, the account of borrower is classified as nonperforming assets (NPA) .NPAs cannot be used for any productive purposes because they reflect the application of scarce capital and credit funds. Continued growth in NPA threatens the repayment capacity of the banks and erodes the confidence reposed by them in the banks. In fact high level of NPAs has an adverse impact on the financial strength of the banks who in the present era of globalization, are required to conform to stringent International

Standards. Non Performing Asset means an asset or account of a borrower, which has been classified by bank or financial institution as substandard, doubtful or loan asset. After nationalization and globalization the initial directive that banks were given was to expand

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their branch network, increase the saving rate and extent credits to rural, urban and the most important SSI sectors. No doubt this mandate has been achieved admirably under the regulation of economic reforms initiated in 1991 by the then Finance Minister and present Prime minister Dr. Manmohan Singh. No doubt it would have been incomplete without the overhaul of Indian Banking System. Then all of a sudden focus shifted towards improving quality of assets and better risk management. The Narasimhan committee reports (First report) recommendations are the basis for initiation of the process, which is still continuing. The committee has recommended the enactment of a new legislation for securitization and empowering banks and financial institution to take possession of the securities and do sell them without the intervention of the court. The Narasimham Committee Report is without doubt a major path- breaking piece of work and deserves the support of all who yearn for a more rational and effective banking system in this country. In order to have the proper understanding of NPA menace, it is important to have a brief idea of growth and structural changes that have taken place in the banking sector. The growth of the banking system can be assessed in five phases:- 1) Preliminary Phase(series of birth and death of banks) 2) Business Phase(period between 1949- 19 69) 3) Branching Out Phase(period when commercial banks got nationalized) 4) Consolidated phase(weaknesses and defects were identified) 5) Reforms and Strengthening Phase(1991 to till date) Indian Banking Industry Saddled with High NPAs: Reasons The liberalization policies launched in 1991 opened the doors to the entrepreneurs to setup industries and business, which are largely financed by loans from the Indian banking systems. Business firms and companies fail to pay the principal amount as well as the interest amount (Bad Loan) . In the global economy prevailing today, the vulnerability of Indian businesses has increased. A culture change is crept in where repayment of bank loans is no longer assured. A constant follow up action and vigil are to be exercised by the operating staff. Diversion of funds and willful default has become more common. As per a study published in the RBI bulletin in July 1999, diversion of funds and willful default are found to be the major contributing factors for NPAs in public and private sector banks. Today, the situation looks optimistic with the industry succeeding in overcoming the hurdles faced earlier. The timely restructuring and rehabilitation measures have helped to overcome setbacks and hiccups without seriously jeopardizing their future. The greater transparency and stricter corporate governance methods have significantly raise


the credibility of the corporate sector. The attrition rate in corporate sector has come down. The challenges before the banks in India today are the raising NPAs in the retail sector, propelled by high consumerism and lowering of moral standards. Other Factors: The problem that India faces is not lack of prudential norms but the legal impediments and time consuming nature of asset disposal process , postponement of the problem in order to report high earnings and to some extent manipulation of by the debtor using political influence. Most of the banks in India are into this malpractices and fraudulent acts. In the process of earning high returns on their investment by the above stated method, the banks become bankrupt or penniless. A vicious effect of the slow legal process is that banks are shying away from risks by investing a greater than required proportion of their assets in the form of sovereign debt paper. The worst part is that the NPA of a private enterprise is both financially and politically undesirable. Earlier bankruptcy Law favored borrowers and law courts were not reliable vehicles. But the circumstances have changed. Laws were passed allowing the creation of asset management companies, foreign equity participation in securitisation and asset backed securitization. Impact of NPAs on Banking Operations: The efficiency of a bank is not reflected only by the size of its balance sheet but also the level of return on its assets. The NPAs do not generate interest income for banks but at the same time banks are required to provide provisions for NPAs from their current profits. The NPAs have deliterious impact in the interest income on the bank, bank profitability because of the providing of the doubtful debts, return on investment of course. NPAs also disturb the Capital Adequacy Ratio (CAV) and economic value addition (EVR) of the banks. It is due to above factors, the public sector banks are faced with bulging NPAs which results in lower income and higher provisioning for doubtful debts and it will make a dent in their profit margin. In this context of crippling effect on banks operation the slew asset quality is placed as one of the most important parameters in the measurement of banks performance under the

Camels supervisory rating system of RBI. Whether trading of NPA between Banks illegal or not: The word trading here means purchasing or selling of NPAs between banks. So assignment or trading falls under the guidelines of Banking Regulation Act (BRA) which makes it legal . But the Gujarat High court has recently held that the buying and selling of non performing assets is illegal. The court has ruled that such an activity is not a part of

banking activity as contemplated under the Banking Regulation Act, 1949. The court held


that Interest transfer of NPAs by banks is illegal and not a part of banking activity under the BR Act. Trading in debts is a speculative form of transaction that is not permissible activity and thus, cannot be a part of the business of a banking system The ruling had an impact of sending shockwaves through the backbone of Indian economy and came under the greater scrutiny in academic circles too. But the judgment is yet to stand the Supreme test of judiciary scrutiny as the aggrieved Banks and concerned regulatory bodies (RBI and Indian Bank Association) have challenged the decision before the Supreme Court. In the interim, the legality of loan purchases is under cloud till now. I feel the recent pronouncement of the

Gujarat High Court has misinterpreted the term debt from legal as well as accounting point of view. A loan item or the borrower is an asset of a bank and not a debt. Thus, de-facto the assignment of loan (good or bad) amounts to transfer of asset and not debt. Even RBI considers interest NPA assignment between banks to be a significant tool for resolving the issue of Non Performing Assets and in the interest of banking policy .The decision given by the Honorable Courts in the cases that have been cited below (footnote16) was in favor of

assignment of NPAs between banks. Measures to control NPAs menace a lasting solution to the problem of NPAs can be achieved only with proper credit assessment and risk management mechanism. It is necessary that the banking system is equipped with prudential norms to minimize if not completely avoid the problem of credit risk. Effective management of NPA rather than elimination is prudent. All these issues gave the passage of evolution of the Securitization and Reconstruction of Financial Assets and enforcement of Security Interest Act (SARFAESI), 2002. It is a unique piece of legislation which has far reaching consequences. Securitization in India is still in a nascent stage but has potential in areas like mortgage Backed securitization. This act has a overriding power over the other legislation. SARFAESI ACT was promulgated to regulate the financial assets and enforcement of security interest and for matters connected therewith or incidental thereto. The main purpose of this act is to enable the creditors take possession of the secured assets and to deal with them without the intervention of the court. No doubt this Act was challenged in various courts on ground that it was loaded heavily in favour of lenders, giving little chance to the borrowers to explain their views once recovery process is initiated under the legislation. The major problem with the Indian banking system is that they depend largely upon lending and investments. The banks in the developed countries do not depend upon this income whereas


86 percent of income of Indian banks is accounted from interest and the rest of the income is fee based. The banker can earn sufficient net margin by investing in safer securities though not at high rate of interest. It facilitates for limiting of high level of NPAs gradually. It is possible that average yield on loans and advances net default provisions and services costs do not exceed the average yield on safety securities because of the absence of risk and service cost. The corporate debt restructuring is also one of the methods suggested for the reduction of NPAs. Its objective is to ensure a timely and transparent mechanism for restructure of corporate debts of viable corporate entities affected by the contributing factors outside the purview of DRT and other legal proceedings for the benefit of concerned. The problem of non -performing loans created due to systematic banking crisis world over has become acute. Focused measures to help the banking system to realize its NPAs has resulted into the creation of specialized bodies called Asset Management Companies which in India have been named Asset Reconstruction Companies (ARCs) The main objective of ARCs is to act as 1)

A agent for any bank or financial institution for the purpose of recovering their dues from the borrowers. 2) A manager of the borrowers asset taken over by banks or financial institution. 3) The receiver of properties of any bank or financial institution. 4) There have been instances of banks extending credit to doubtful debtors (who deliberately default on debt) and getting kickbacks for the same. Ineffective Legal mechanisms and inadequate internal control mechanisms have made this problem grow quick action has to be taken on both counts so that both the defaulters and the authorizing officer are punished heavily. Without this, all the mechanisms suggested above may prove to be ineffective. Conclusion The contaminated portfolio is definitely a bane for any bank. It puts severe dent on the liquidity and profitability of the bank where it is out of proportion. It is needless to mention, that a lasting solution to the problem of NPAs can be achieved only with proper credit assessment and risk management mechanism. It is necessary that the banking system is to be equipped with prudential norms to minimize if not completely to avoid the problem of NPAs. The onus for containing the factors leading to NPAs rests with banks themselves. This will necessitates organizational restructuring, improvement in the managerial efficiency and skill up gradation for proper assessment of credit worthiness It is better to avoid NPAs at the nascent stage of credit consideration by putting in place of rigorous and appropriate credit appraisal mechanisms.


Problem statement/Objective of the research To study of the concept of Non Performing Asset in Indian perspective.

To study NPA standard of RBI

To study the Reasons for & Impact of NPAs

To evaluate the efficiency in managing Non Performing Asset of different types of banks (Public, Private & Foreign banks) using NPA ratios & comparing NPA with profits.

To check the proportion of NPA of different types of banks in different categories.

IV.Research Design

The research design that will be use is Descriptive Research.

Involves gathering data that describe events and then organizes, tabulates, depicts, and describes the data. Uses description as a tool to organize data into patterns that emerge during analysis.

Often uses visual aids such as graphs and charts to aid the reader.

Using of hypothesis testing.

Test of Correlation:

H0: There is no significant correlation between profits & NPAs of Public Sector

Banks for last 9 years

H1: There is correlation between profits & NPAs of Public Sector Banks for last 9 years

H0: There is no significant correlation between profits & NPAs of Private Sector

Banks for last 9 years

H1: There is correlation between profits & NPAs of Private Sector Banks for last 9 years

H0: There is no significant correlation between profits & NPAs of Foreign Banks

for last 9 years

H1: There is correlation between profits & NPAs of Foreign Banks for last 9 years


2) ANNOVA Test :

H0: There is no significant difference in NPAs of different types of banks among various sectors.

H1: There is significant difference in NPAs of different types of banks among various sectors.

Data Collection Sources

Secondary Data

Secondary data refers to the data which has already been generated and is available for use. The data about NPAs & its composition, classification of loan assets, profits (net & gross) & advances of different banks is taken from Reserve Bank of India website.

VI.Scope of the studyTo understand the concept of NPA in Indian Banking industry.

To understand the causes & effects of NPA

To analyze the past trends of NPA of Public, Private & Foreign banks in different sector.

VII.Expected contribution of the study

The analysis made as a part of this study may contribute in a way analysis of strength and weakness of the banking sector as whole with regard to Non Performing Asset of banks. Various banks from different categories together may make efforts to overcome limitations for lending money to different sectors like agricultural, SSI, Priority sector, non-priority sector, public sector & others.

VIII.Beneficiaries of the study

The outcomes analyzed from this study would be beneficial to various sections such as:

Banks: This study would definitely benefit the banks in a way that directs them as to which sector should be given priority for lending money.


Further Researchers: The major beneficiaries from the project would be the researchers themselves as this study would enhance their knowledge about the topic. They get an

insight of the present scenario of this industry as this is the emerging industry in the financial sector of the economy.

Student: To get the understanding of NPA concept as a whole.

IX.Limitation

There are some data which are available for just 3 years while the same data for its counterparts were available for 9 years. So exact comparison was not possible.


INDIAN BANKING INDUSTRY

INTRODUCTION:

Banking in India originated in the last decades of the 18th century. The oldest bank in existence in India is the State Bank of India, a government-owned bank that traces its origins back to June 1806 and that is the largest commercial bank in the country. Central banking is the responsibility of the Reserve Bank of India, which in 1935 formally took over these responsibilities from the then Imperial Bank of India, relegating it to commercial banking functions. After India's independence in 1947, the Reserve Bank was nationalized and given broader powers. In 1969 the government nationalized the 14 largest commercial banks; the government nationalized the six next largest in 1980.

Currently, India has 96 scheduled commercial banks (SCBs) - 27 public sector banks (that is with the Government of India holding a stake), 31 private banks (these do not have government stake; they may be publicly listed and traded on stock exchanges) and 38 foreign banks. They have a combined network of over 53,000 branches and 17,000 ATMs. According to a report by ICRA Limited, a rating agency, the public sector banks hold over 75 percent of total assets of the banking industry, with the private and foreign banks holding 18.2% and 6.5% respectively

EARLY HISTORY:

Banking in India originated in the last decades of the 18th century. The first banks were The General Bank of India which started in 1786, and the Bank of Hindustan, both of which are now defunct. The oldest bank in existence in India is the State Bank of India, which originated in the Bank of Calcutta in June 1806, which almost immediately became the Bank of Bengal. This was one of the three presidency banks, the other two being the Bank of Bombay and the Bank of Madras, all three of which were established under charters from the British East India Company. For many years the Presidency banks acted as quasi-central banks, as did their successors. The three banks merged in 1921 to form the Imperial Bank of

India, which, upon India's independence, became the State Bank of India.


Indian merchants in Calcutta established the Union Bank in 1839, but it failed in 1848 as a consequence of the economic crisis of 1848-49. The Allahabad Bank, established in 1865 and still functioning today, is the oldest Joint Stock bank in India. It was not the first though. That honor belongs to the Bank of Upper India, which was established in 1863, and which survived until 1913, when it failed, with some of its assets and liabilities being transferred to the Alliance Bank of Simla.

When the American Civil War stopped the supply of cotton to Lancashire from the Confederate States, promoters opened banks to finance trading in Indian cotton. With large exposure to speculative ventures, most of the banks opened in India during that period failed. The depositors lost money and lost interest in keeping deposits with banks. Subsequently, banking in India remained the exclusive domain of Europeans for next several decades until the beginning of the 20th century.

Foreign banks too started to arrive, particularly in Calcutta, in the 1860s. The Comptoired'Escompte de Paris opened a branch in Calcutta in 1860, and another in Bombay in 1862; branches in Madras and Pondichery, then a French colony, followed. HSBC established itself in Bengal in 1869. Calcutta was the most active trading port in India, mainly due to the trade of the British Empire, and so became a banking center.

The Bank of Bengal, which later became the State Bank of India.

The first entirely Indian joint stock bank was the Oudh Commercial Bank, established in 1881 in Faizabad. It failed in 1958. The next was the Punjab National Bank, established in


Lahore in 1895, which has survived to the present and is now one of the largest banks in India.

Around the turn of the 20th Century, the Indian economy was passing through a relative period of stability. Around five decades had elapsed since the Indian Mutiny, and the social, industrial and other infrastructure had improved. Indians had established small banks, most of which served particular ethnic and religious communities.

The presidency banks dominated banking in India but there were also some exchange banks and a number of Indian joint stock banks. All these banks operated in different segments of the economy. The exchange banks, mostly owned by Europeans, concentrated on financing foreign trade. Indian joint stock banks were generally undercapitalized and lacked the experience and maturity to compete with the presidency and exchange banks. This segmentation let Lord Curzon to observe, "In respect of banking it seems we are behind the times. We are like some old fashioned sailing ship, divided by solid wooden bulkheads into separate and cumbersome compartments."

The period between 1906 and 1911, saw the establishment of banks inspired by the Swedish movement. The Swedish movement inspired local businessmen and political figures to found banks of and for the Indian community. A number of banks established then have survived to the present such as Bank of India, Corporation Bank, Indian Bank, Bank of Baroda, Canara Bank and Central Bank of India.

The fervor of Swedish movement lead to establishing of many private banks in Dakshina Kannada and Udupi district which were unified earlier and known by the name South Canara ( South Kanara ) district. Four nationalised banks started in this district and also a leading private sector bank. Hence undivided Dakshina Kannada district is known as "Cradle of Indian Banking".


FROM WORLD WAR I TO INDEPENDENCE:

The period during the First World War (1914-1918) through the end of the Second World War (1939-1945), and two years thereafter until the independence of India were challenging for Indian banking. The years of the First World War were turbulent, and it took its toll with banks simply collapsing despite the Indian economy gaining indirect boost due to war-related economic activities. At least 94 banks in India failed between 1913 and 1918 as indicated in the following table:

Years

Number of banks

Authorised capital

Paid-up Capital

that failed

(Rs. Lakhs)

(Rs. Lakhs)

1913

12

274

35

1914

42

710

109

1915

11

56

5

1916

13

231

4

1917

9

76

25

1918

7

209

1

Post-independence

The partition of India in 1947 adversely impacted the economies of Punjab and West Bengal, paralyzing banking activities for months. India's independence marked the end of a regime of the Laissez-faire for the Indian banking. The Government of India initiated measures to play an active role in the economic life of the nation, and the Industrial Policy Resolution adopted by the government in 1948 envisaged a mixed economy. This resulted into greater involvement of the state in different segments of the economy

including banking and finance.

The major steps to regulate banking included:

In 1948, the Reserve Bank of India, India's central bankingauthority, wasnationalized, and it became an institution owned by the Government of India.

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In 1949, the Banking Regulation Act was enacted which empowered the Reserve Bank of India (RBI) "to regulate, control, and inspect the banks in India." The Banking Regulation Act also provided that no new bank or branch of an

existing bank could be opened without a license from the RBI, and no two banks could have common directors.

However, despite these provisions, control and regulations, banks in India except the State Bank of India, continued to be owned and operated by private persons. This changed with the nationalization of major banks in India on 19 July 1969.

Nationalization

By the 1960s, the Indian banking industry had become an important tool to facilitate the development of the Indian economy. At the same time, it had emerged as a large employer, and a debate had ensued about the possibility to nationalise the banking industry. Indira Gandhi, the-then Prime Minister of India expressed the intention of the GOI in the annual conference of the All India Congress Meeting in a paper entitled "Stray thoughts on Bank Nationalisation." The paper was received with positive enthusiasm. Thereafter, her move was swift and sudden, and the GOI issued an ordinance and nationalised the 14 largest commercial banks with effect from the midnight of July 19, 1969. Jayaprakash Narayan, a national leader of India, described the step as a "masterstroke of political sagacity." Within two weeks of the issue of the ordinance, the Parliament passed the Banking Companies (Acquisition and Transfer of Undertaking) Bill, and it received the presidential approval on 9 August 1969.

A second dose of nationalization of 6 more commercial banks followed in 1980. The stated reason for the nationalization was to give the government more control of credit delivery. With the second dose of nationalization, the GOI controlled around 91% of the banking business of India. Later on, in the year 1993, the government merged New Bank of India with Punjab National Bank. It was the only merger between nationalized banks and resulted in the reduction of the number of nationalised banks from 20 to 19. After this, until the 1990s, the nationalised banks grew at a pace of around 4%, closer to the


average growth rate of the Indian economy. The nationalised banks were credited by some, including Home minister P. Chidambaram, to have helped the Indian economy withstand the global financial crisis of 2007-2009.

Liberalisation

In the early 1990s, the then NarsimhaRao government embarked on a policy of liberalization, licensing a small number of private banks. These came to be known as New Generation tech-savvy banks, and included Global Trust Bank (the first of such new generation banks to be set up), which later amalgamated with Oriental Bank of Commerce, Axis Bank(earlier as UTI Bank), ICICI Bank and HDFC Bank. This move, along with the rapid growth in the economy of India, revitalized the banking sector in India, which has seen rapid growth with strong contribution from all the three sectors of banks, namely, government banks, private banks and foreign banks.

The next stage for the Indian banking has been setup with the proposed relaxation in the norms for Foreign Direct Investment, where all Foreign Investors in banks may be given voting rights which could exceed the present cap of 10%,at present it has gone up to 74% with some restrictions.

The new policy shook the Banking sector in India completely. Bankers, till this time, were used to the 4-6-4 method (Borrow at 4%;Lend at 6%;Go home at 4) of functioning. The new wave ushered in a modern outlook and tech-savvy methods of working for traditional banks.All this led to the retail boom in India. People not just demanded more from their banks but also received more.

Currently (2007), banking in India is generally fairly mature in terms of supply, product range and reach-even though reach in rural India still remains a challenge for the private sector and foreign banks. In terms of quality of assets and capital adequacy, Indian banks are considered to have clean, strong and transparent balance sheets relative to other banks in comparable economies in its region. The Reserve Bank of India is an autonomous body, with minimal pressure from the government. The stated policy of the Bank on the


Indian Rupee is to manage volatility but without any fixed exchange rate-and this has mostly been true. With the growth in the Indian economy expected to be strong for quite some time-especially in its services sector-the demand for banking services, especially retail banking, mortgages and investment services are expected to be strong. One may also expect M&As, takeovers, and asset sales.

In March 2006, the Reserve Bank of India allowed Warburg Pincus to increase its stake in Kotak Mahindra Bank (a private sector bank) to 10%. This is the first time an investor has been allowed to hold more than 5% in a private sector bank since the RBI announced norms in 2005 that any stake exceeding 5% in the private sector banks would need to be vetted by them.

In recent years critics have charged that the non-government owned banks are too aggressive in their loan recovery efforts in connection with housing, vehicle and personal loans. There are press reports that the banks' loan recovery efforts have driven defaulting borrowers to suicide.


RECENT HISTORY OF INDIAN BANKING

Indian banking system, over the years has gone through various phases after establishment of Reserve Bank of India in 1935 during the British rule, to function as Central Bank of the country. Earlier to creation of RBI, the central bank functions were being looked after by the Imperial Bank of India. With the 5-year plan having acquired an important place after the independence, the Govt. felt that the private banks may not extend the kind of cooperation in providing credit support, the economy may need. In 1954 the All India Rural Credit Survey Committee submitted its report recommending creation of a strong, integrated, State-sponsored, State-partnered commercial banking institution with an effective machinery of branches spread all over the country. The recommendations of this committee led to establishment of first Public Sector Bank in the name of State Bank of India on July 01, 1955 by acquiring the substantial part of share capital by RBI, of the then Imperial Bank of India. Similarly during 1956-59, as a result of re-organisation of princely States, the associate banks came into fold of public sector banking.

Another evaluation of the banking in India was undertaken during 1966 as the private banks were still not extending the required support in the form of credit disbursal, more particularly to the unorganised sector. Each leading industrial house in the country at that time was closely associated with the promotion and control of one or more banking companies. The bulk of the deposits collected, were being deployed in organised sectors of industry and trade, while the farmers, small entrepreneurs, transporters , professionals and self-employed had to depend on money lenders who used to exploit them by charging higher interest rates. In February 1966, a Scheme of Social Control was set-up whose main function was to periodically assess the demand for bank credit from various sectors of the economy to determine the priorities for grant of loans and advances so as to ensure optimum and efficient utilisation of resources. The scheme however, did not provide any remedy. Though a no. of branches were opened in rural area but the lending activities of the private banks were not oriented towards meeting the credit requirements of the priority/weaker sectors.

On July 19, 1969, the Govt. promulgated Banking Companies (Acquisition and Transfer of Undertakings) Ordinance 1969 to acquire 14 bigger commercial bank with paid up capital ofN.R. INSTITUTE OF BUSINESS MANAGEMENT16

Rs.28.50 cr, deposits of Rs.2629 cr, loans of Rs.1813 cr and with 4134 branches accounting for 80% of advances. Subsequently in 1980, 6 more banks were nationalised which brought 91% of the deposits and 84% of the advances in Public Sector Banking. During December 1969, RBI introduced the Lead Bank Scheme on the recommendations of FK Nariman Committee.

Meanwhile, during 1962 Deposit Insurance Corporation was established to provide insurance cover to the depositors.

In the post-nationalization period, there was substantial increase in the no. of branches opened in rural/semi-urban centres bringing down the population per bank branch to 12000 appx. During 1976, RRBs were established (on the recommendations of M. Narasimham Committee report) under the sponsorship and support of public sector banks as the 3rd component of multi-agency credit system for agriculture and rural development. The Service Area Approach was introduced during 1989.

While the 1970s and 1980s saw the high growth rate of branch banking net-work, the consolidation phase started in late 80s and more particularly during early 90s, with the submission of report by the Narasimham Committee on Reforms in Financial Services Sector during 1991.

In these five decades since independence, banking in India has evolved through four distinct

phases:

Foundation phase can be considered to cover 1950s and 1960s till the nationalization of banks in 1969. The focus during this period was to lay the foundation for a sound banking system in the country. As a result the phase witnessed the development of necessary legislative framework for facilitating re-organization and consolidation of the banking system, for meeting the requirement of Indian economy. A major development was transformation of Imperial Bank of India into State Bank of India in 1955 and nationalization of 14 major private banks during 1969.


Expansion phase had begun in mid-60s but gained momentum after nationalization of banks and continued till 1984. A determined effort was made to make banking facilities available to the masses. Branch network of the banks was widened at a very fast pace covering the rural and semi-urban population, which had no access to banking hitherto. Most importantly, credit flows were guided towards the priority sectors. However this weakened the lines of supervision and affected the quality of assets of banks and pressurized their profitability and brought competitive efficiency of the system at a low ebb.

Consolidation phase: The phase started in 1985 when a series of policy initiatives were taken by RBI which saw marked slowdown in the branch expansion. Attention was paid to improving house-keeping, customer service, credit management, staff productivity and profitability of banks. Measures were also taken to reduce the structural constraints that obstructed the growth of money market.

Reforms phase: The macro-economic crisis faced by the country in 1991 paved the way for extensive financial sector reforms which brought deregulation of interest rates, more competition, technological changes, prudential guidelines on asset classification and income recognition, capital adequacy, autonomy packages etc.


Indian Banking: Key Developments

1969Government 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- 1980Unprecedented 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

1981- 1990Regulator (read RBI) led IT introduction in Banks

Product level automation on standalone PCs at branches (ALPMs)

In-house EDP infrastructure with Unix boxes, batch processing in Cobol

for MIS.

Mainframes in corporate office

1991-1995Expansion 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 from the start


1996-2000New 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

2000-2003Alternate 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

(Source: M.Y.KHAN, INDIAN FINANCIAL SYSYEM,3rd edition Publication by TATA

McGraw hill)


BANKING IN INDIA: 2009-10

The Indian banking system is financially stable and resilient to the shocks that may arise due to higher non-performing assets (NPAs) and the global economic crisis, according to a stress test done by the Reserve Bank of India (RBI).

Significantly, the RBI has the tenth largest gold reserves in the world after spending US$ 6.7 billion towards the purchase of 200 metric tons of gold from the International Monetary Fund (IMF) in November 2009. The purchase has increased the country's share of gold holdings in its foreign exchange reserves from approximately 4 per cent to about 6 per cent.

Following the financial crisis, new deposits have gravitated towards public sector banks. According to RBI's 'Quarterly Statistics on Deposits and Credit of Scheduled Commercial Banks: September 2009', nationalized banks, as a group, accounted for 50.5 per cent of the aggregate deposits, while State Bank of India (SBI) and its associates accounted for 23.8 per cent. The share of other scheduled commercial banks, foreign banks and regional rural banks in aggregate deposits were 17.8 per cent, 5.6 per cent and 3.0 per cent, respectively.

With respect to gross bank credit also, nationalized banks hold the highest share of 50.5 per cent in the total bank credit, with SBI and its associates at 23.7 per cent and other scheduled commercial banks at 17.8 per cent. Foreign banks and regional rural banks had a share of 5.5 per cent and 2.5 per cent respectively in the total bank credit.

The report also found that scheduled commercial banks served 34,709 banked centres. Of these centres, 28,095 were single office centres and 64 centres had 100 or more bank offices. The confidence of non-resident Indians (NRIs) in the Indian economy is reviving again. NRI fund inflows increased since April 2009 and touched US$ 45.5 billion on July 2009, as per the RBI's February bulletin. Most of this has come through Foreign Currency Non-resident (FCNR) accounts and Non-resident External Rupee Accounts. India's foreign exchange reserves rose to US$ 284.26 billion as on January 8, 2010, according to the RBI's February bulletin.


Major Developments

The State Bank of India (SBI) has posted a net profit of US$ 1.56 billion for the nine months ended December 2009, up 14.43 per cent from US$ 175.4 million posted in the nine months ended December 2008.

The SBI is adding 23 new branches abroad bringing its foreign-branch network number to 160 by March 2010. This will cement its leading position as the bank with the largest global presence among local peers.

Amongst the private banks, Axis Bank's net profit surged by 32 per cent to US$ 115.4 million on 21.2 per cent rise in total income to US$ 852.16 million in the second quarter of 2009-10, over the corresponding period last year. HDFC Bank has posted a 32 per cent rise in its net profit at US$ 175.4 million for the quarter ended December 31, 2009 over the figure of US$ 128.05 million for the same quarter in the previous year.

Government Initiatives

In its platinum jubilee year, the RBI, the central bank of the country, in a notification issued on June 25, 2009, said that banks should link more branches to the National Electronic Clearing Service (NECS). Ideally, all core-banking-enabled branches should be part of NECS. NECS was introduced in September 2008 for centralized processing of repetitive and bulk payment instructions. Currently, a little over 26,000 branches of 114 banks are enabled to participate in NECS.

In the Third Quarter Review of Monetary Policy for 2009-10, the RBI observed that the Indian economy showed a degree of resilience as it recorded a better-than-expected growth of 7.9 per cent during the second quarter of 2009-10.

In its Third Quarter Review of Monetary Policy for 2009-10, the RBI hiked the Cash Reserve Ratio (CRR) by 75 basis points (bps) to 5.75 per cent, while keeping repo and reverse repo rates unchanged.


According to the RBI, the stance of monetary policy for the remaining period of 2009-10 will be to:

Anchor inflation expectations and keep a vigil on inflation trends and respond swiftly through policy adjustments

Actively manage liquidity to ensure credit demands of productive sectors are met adequately Maintain an interest rate environment consistent with financial stability and price

stability

The money supply (M3) growth on a year-on-year basis at 18.9 per cent as on October 9, 2009, remained above the indicative projection of 18.0 per cent set out in the First Quarter Review of July 2009. The main source of M3 expansion was bank credit to the government, reflecting large market borrowings of the Government.

Meanwhile, outstanding bank credit in the 15 days up to January 29 2010 rose by US$ 4.32 billion, pointing to a revival in credit growth. This is the highest year-on-year growth recorded since August 14, 2009.


INDUSTRY ANALYSIS

S.W.O.T. ANALYSIS OF INDIAN BANKING INDUSTRY

STRENGTH

Indian banks have compared favourably on growth, asset quality and profitability with other regional banks over the last few years. The banking index has grown at a

compounded annual rate of over 51 per cent since April 2001 as compared to a 27 percent growth in the market index for the same period.

Policy makers have made some notable changes in policy and regulation to help strengthen the sector. These changes include strengthening prudential norms,

enhancing the payments system and integrating regulations between commercial and co-operative banks.

Bank lending has been a significant driver of GDP growth and employment.

The vast networking & growing number of branches & ATMs. Indian banking system has reached even to the remote corners of the country.

The government's regular policy for Indian bank since 1969 has paid rich dividends with the nationalization of 14 major private banks of India.

In terms of quality of assets and capital adequacy, Indian banks are considered to have clean, strong and transparent balance sheets relative to other banks in

comparable economies in its region.

India has 88 scheduled commercial banks (SCBs) - 27 public sector banks (that is with the Government of India holding a stake)after merger of New Bank of India in

Punjab National Bank in 1993, 29 private banks (these do not have government stake; they may be publicly listed and traded on stock exchanges) and 31 foreign banks. N.R. INSTITUTE OF BUSINESS MANAGEMENT24

They have a combined network of over 53,000 branches and 17,000 ATMs. According to a report by ICRA Limited, a rating agency, the public sector banks hold over 75 percent of total assets of the banking industry, with the private and foreign banks holding 18.2% and 6.5% respectively.

Foreign banks will have the opportunity to own up to 74 per cent of Indian private sector banks and 20 per cent of government owned banks.


WEAKNESS

PSBs need to fundamentally strengthen institutional skill levels especially in sales and marketing, service operations, risk management and the overall organizational

performance ethic & strengthen human capital.

Old private sector banks also have the need to fundamentally strengthen skill levels.

The cost of intermediation remains high and bank penetration is limited to only a few customer segments and geographies.

Structural weaknesses such as a fragmented industry structure, restrictions on capital availability and deployment, lack of institutional support infrastructure, restrictive

labour laws, weak corporate governance and ineffective regulations beyond Scheduled Commercial Banks (SCBs), unless industry utilities and service bureaus.

Refusal to dilute stake in PSU banks: The government has refused to dilute its stake in PSU banks below 51% thus choking the headroom available to these banks for

raining equity capital.

Impediments in sectoral reforms: Opposition from Left and resultant cautious approach from the North Block in terms of approving merger of PSU banks may

hamper their growth prospects in the medium term.


OPPORTUNITY

The market is seeing discontinuous growth driven by new products and services that include opportunities in credit cards, consumer finance and wealth management on

the retail side, and in fee-based income and investment banking on the wholesale banking side. These require new skills in sales & marketing, credit and operations.

Banks will no longer enjoy windfall treasury gains that the decade-long secular decline in interest rates provided. This will expose the weaker banks.

With increased interest in India, competition from foreign banks will only intensify.

Given the demographic shifts resulting from changes in age profile and household income, consumers will increasingly demand enhanced institutional capabilities and

service levels from banks.

New private banks could reach the next level of their growth in the Indian banking sector by continuing to innovate and develop differentiated business models to

profitably serve segments like the rural/low income and affluent/HNI segments; actively adopting acquisitions as a means to grow and reaching the next level of performance in their service platforms. Attracting, developing and retaining more leadership capacity

Foreign banks committed to making a play in India will need to adopt alternative approaches to win the race for the customer and build a value-creating customer

franchise in advance of regulations potentially opening up post 2009. At the same time, they should stay in the game for potential acquisition opportunities as and when they appear in the near term. Maintaining a fundamentally long-term value-creation mindset.

Reach in rural India for the private sector and foreign banks.


With the growth in the Indian economy expected to be strong for quite some time especially in its services sector-the demand for banking services, especially retail

banking, mortgages and investment services are expected to be strong.

The Reserve Bank of India (RBI) has approved a proposal from the government to amend the Banking Regulation Act to permit banks to trade in commodities and

commodity derivatives.

Liberalization of ECB norms: The government also liberalized the ECB norms to permit financial sector entities engaged in infrastructure funding to raise ECBs. This

enabled banks and financial institutions, which were earlier not permitted to raise such funds, explore this route for raising cheaper funds in the overseas markets.

In an attempt to relieve banks of their capital crunch, the RBI has allowed them to raise perpetual bonds and other hybrid capital securities to shore up their capital. If

the new instruments find takers, it would help PSU banks, left with little headroom for raising equity. Significantly, FII and NRI investment limits in these securities have been fixed at 49%, compared to 20% foreign equity holding allowed in PSU banks.


THREATS

Threat of stability of the system: failure of some weak banks has often threatened the stability of the system.

Rise in inflation figures which would lead to increase in interest rates.

Increase in the number of foreign players would pose a threat to the PSB as well as the private players.


PEST ANALYSIS OF INDIAN BANKING INDUSTRY:

PEST analysis of any industry investigates the important factors that affect the industry and influence the companies operating in the sector. PEST stands for Political, Economic, Social and Technological analysis. The PEST Analysis is a tool to analyze the forces that drive the industry and how those factors can influence the industry.


POLITICAL FACTORS

Government and RBI policies affect the banking sector. Sometimes looking into the political advantage of a particular party, the Government declares some measures to their benefits like waiver of short-term agricultural loans, to attract the farmers votes. By doing so the profits of the bank get affected. Various banks in the cooperative sector are open and run by the politicians. They exploit these banks for their benefits. Sometimes the government appoints various chairmen of the banks.

Various policies are framed by the RBI looking at the present situation of the country for better control over the banks.

FOCUS ON REGULATIONS OF GOVERNMENT

Banking is least affected as compare to other developed economy which is attributed to Reserve Bank of India for its robust policy framework, stricter prudential regulations with respect to capital and liquidity. This gives India an advantage in terms of credibility over other countries.

Government affects the performance of banking sector most by legislature and framing policy government through its budget affects the banking activities securitization act has given more power to banking sector against defaulting borrowers.

MONETARY POLICY Monetary Policy 2009-2010

Bank Rate: The Bank Rate has been retained unchanged at 6.0%.

Repo Rate It has been reduced under the Liquidity Adjustment Facility (LAF) by 25 basis points from 5.0% to 4.75% with immediate effect.

Reverse Repo Rate : It has been reduced under LAF by 25 basis points from 3.5% to 3.25% with immediate effect. RBI has retained the option to conduct overnight or longer term repo/reverse repo under the LAF depending on market conditions and other relevant factors.

Cash Reserve Ratio: CRR has been retained unchanged at 5.0% of NDTL.


FDI LIMIT

The move to increase Foreign Direct Investment FDI limits to 49 percent from 20 percent during the first quarter of this fiscal came as a welcome announcement to foreign players wanting to get a foot hold in the Indian Markets by investing in willing Indian partners who are starved of net worth to meet CAR norms. Ceiling for FII investment in companies was also increased from 24.0 percent to 49.0 percent and have been included within the ambit of FDI investment

BUDGET MEASURES Budget Provisions:-

Increase Farm Credit: The FM has further increase the farm credit target for 2009-10 at Rs 325000 crore compared to Rs 287000 crore targeted in 2008-09.

Subvention of 1% to be paid as incentive to farmers: The Budget continued the Interest subvention scheme for short-term crop loans up to Rs 300000 per farmer at

the interest rate of 7% per annum. Also additional subvention of 1% to be paid from this year, as incentive to those farmers who repay short-term crop loans on schedule. Also additional allocation of Rs 411 crore over Interim Budget 2009-10 was made for the same.

Debt Waiver for Farmers: The Union Budget 2009-10 extended the debt waiver scheme by six more months for farmers owing more than 2 hectare of land. The

Union Budget 2008-09 allowed these farmers 25% rebate on loan if they repay 75% of their overdue within stipulated period of 30th June 2009. Currently this facility has been extended from 30th June, 2009 to 31st December, 2009.


Setting up of separate task force for those not covered under the debt waiver scheme: The government also announced that it will set up a task force to examine

the issue of debt taken by a large number of farmers in some regions of Maharashtra from private money lenders who were not covered by the loan waiver scheme announced last year.

OTHER PROVISIONS

The threshold for non-promoter public shareholding for all listed companies to be raised in a phased manner.

To allow scheduled commercial banks setting up off-site ATMs without prior approval subject to reporting.

To provide banking facilities in under-banked/un-banked areas in the next three years. A sub-committee of State level Bankers Committee (SLBC) would identify and

formulate an action plan for the same.

The Ministry has also granted Rs 100 crore of grants in aid to ensure provision of at least one Centre/Point of Sales (POS) for banking services in each of the un-banked

blocks.

BUDGET IMPACT

The Union Budget 2008-09 has focused on farm credit. The agriculture sector has recorded a growth of about 4% per annum with substantial increase in plan allocations and capital formation in the sector. The one-time bank loan waiver of nearly Rs 71000 crore (Rs 710 billion) to cover an estimated 40 million farmers was one of the major highlights of the last Budget. This Union Budget has provided further six months extension of 25% rebate on loan for farmers owing more than 2 hectare of land. With Government bearing this burden, banks would not be affected much. It will only help banks to clear their most stubborn NPA accounts on banks book.

Moreover the emphasize on hiking promoter shareholding in Public sector banks, expanding network with ATM's, opening of banking centre in un-banked blocks are some of the positive moves for the sector.


On the flipside, the spike in government borrowings is set to adversely affect the treasury income of banks in general and public sector banks in particular, through rise in yields on government securities.

OUTLOOK

The Union Budget 2009-10 has not granted much of new grants/stimulus to the banking sector as a whole. However it has increased the Government borrowing to Rs 451093 crore (Rs 4510.93 billion) compared to Rs 361782 crore (Rs 3617.82 billion) targeted in the Interim Budget 2009-10.

This is likely to push the Bond yields high moving forward. Despite ample liquidity in the system, the 10 year benchmark yield has zoomed above 7% levels owing to rise in borrowing target. Hardening of yields is likely to affect treasury profits of banks in general and Public sector banks in particular.


ECONOMIC FACTORS

Banking is as old as authentic history and the modern commercial banking are traceable to ancient times. In India, banking has existed in one form or the other from time to time. The present era in banking may be taken to have commenced with establishment of bank of Bengal in 1809 under the government charter and with government participation in share capital. Allahabad bank was started in the year 1865 and Punjab national bank in 1895, and thus, others followed.

Every year RBI declares its 6 monthly policy and accordingly the various measures and rates are implemented which has an impact on the banking sector. Also the Union budget affects the banking sector to boost the economy by giving certain concessions or facilities. If in the Budget savings are encouraged, then more deposits will be attracted towards the banks and in turn they can lend more money to the agricultural sector and industrial sector, therefore, booming the economy. If the FDI limits are relaxed, then more FDI are brought in India through banking channels

GROWING ECONOMY / GDP

Indian economy has registered a growth of more that 9 per cent for last three year and is expected to maintain robust growth rate as compare to other developed and developing countries. Banking Industry is directly related to the growth of the economy.

The contributions of various sectors in the Indian GDP for 2007-2008 are as follows: Agriculture: 17%

Industry: 29% ServiceSector: 54%

It is great news that today the service sector is contributing more than half of the Indian GDP. It takes India one step closer to the developed economies of the world. Earlier it was agriculture which mainly contributed to the Indian GDP.

The Indian government is still looking up to improve the GDP of the country and so several steps have been taken to boost the economy. Policies of FDI, SEZs and NRI investment have been framed to give a push to the economy and hence the GDP.


LOW INTEREST RATES

Reserve Bank of India controls the Interest rate, which is based on several monetary policies. Recently RBI has reduced the interest rate which stimulates the growth rate of banking industry. As on September 11, 2009 Bank Rate was 6.00 per cent, the same as on the corresponding date of last year. Call money rates (borrowing & lending) were in the range of 1.50/3.47 per cent as compared with 5.25/11.00 per cent on the corresponding date of last year.

INFLATION RATES

Inflation represents a rise in general level of prices of goods and services over a period of time. It leads to an erosion in the purchasing power of money. Resultantly, each unit of currency buys fewer goods and services Different fiscal and monetary policies have curbed the Inflation rate from the high of 12.63 per cent to 3.92 per cent.

To fight against the slowdown of the Economy, Government of India & Reserve Bank of India took many fiscal as well as monetary actions. Clubbed with fiscal & monetary actions, decreasing commodity prices, decreasing crude prices and lowering interest rate, we expect that Indian Economy could again register a robust growth rate in the year 2009-10. Inflation stands at 3.92 per cent on 7th February 2009 against a high of 12.63 per cent on 9th August 2008.


AGRICULTURE CREDIT

Agriculture has been the mainstay of our economy with 60% of our population deriving their sustenance from it. In the recent past, the sector has recorded a growth of about 4% per annum with substantial increase in plan allocations and capital formation in the sector. Agriculture credit flow was Rs 2,87,000 crore in 2008-09. The target for agriculture credit flow for the year 2009-10 is being set at Rs.3,25,000 crore. To achieve this, I propose to continue the interest subvention scheme for short term crop loans to farmers for loans upto Rs.3 lakh per farmer at the interest rate of 7% per annum. For this year, the government shall pay an additional subvention of 1% as an incentive to those farmers who repay their short term crop loans on schedule. Thus, the interest rate for these farmers will come down to 6% per annum. For this, I am making an additional Budget provision of Rs 411 crore over Interim BE.

DEBT RELIEF FOR FARMERS

The one-time bank loan waiver of nearly Rs 71,000 crore to cover an estimated 40 million farmers was one of the major highlights of the last Budget. Under the Agricultural Debt Waiver and Debt Relief Scheme (2008), farmers having more than two hectares of land were given time upto 30th June, 2009 to pay 75% of their overdues. Due to the late arrival of monsoon, I propose to extend this period by six months upto 31st December, 2009.


SOCIO CULTUREAL FACTORS

Socio culture factors also affect the business. They show in which people behave in country. Socio-cultural factors like taboos, customs, traditions, tastes, preferences, buying and consumption habit of people, their language, beliefs and values affect the business. Banking industry is also operates under this social environment and it is also affect by this factor.

These factor are changing continuously peoples life style, their behavior, consumption pattern etc. is changing and also creating opportunities and threat for banking industry. There are some socio-culture factors that affect banking inIndia have been analyzed below.

TRADITIONAL MAHAJAN PRATHA

Before the birth of the banks, people of India were used to borrow money local moneylenders, shahukars, shroffs. They were used to charge higher interest and also mortgage land and house. Farmers were exploited by these shahukars. But farmers need money. So, they did not have any choice other than going to shahukar and borrowing money from them in spite of exploitation by these people. But after emergence of banks attitude of people was changed. Traditional mahajan pratha still exist in India specially in rural areas. This affects the banking sector. Rural people afraid to go to bank to borrow money instead they prefer to borrow from shahukar whith whom they have relationships from the time of their fore fathers. Banking infrastructure is also week in some interior areas of India. So, this is reason it still exist.

SHIFT TOWARDS NUCLEAR FAMILY

Attitude of people of India is changing. Now, younger generation wants to remain separate from their parents after they get married. Joint families are breaking up. There are many reasons behind that. But banking sector is positively affected by this trend. A family need home consumer durables likefreeze, washing machine, television, bike, car, etc.. so, they demand for these products and borrow from banks. Recently there is boost


in housing finance and vehicle loans. As they do not have money they go for

installments. So, banks satisfy nuclear families wants.

CHANGE IN LIFE STYLE

Life style of India is changing rapidly. They are demanding high class products. They have become more advanced. People want everything car, mobile, etc.. what their fore father had dreamed for. Now teenagers also have mobile and vehicle. Even middle class people also want to have well furnished home, television, mobile, vehicle and this has opened opportunities for banking secter to tap this change. Every thing is available so it has become easy to purchase anything if you do not have lump sum.

POPULATION

Increase in population is one of he important factor, which affect the private sector banks. Banks would open their branches after looking into thepopulation demographics of the area. Percentage of deposit in any branches of banks depends upon the population demographic of that area. The population of India is about 102.90 is expected to reach about 119.70 cores in 2011. About 70% of population is below 35years of age. They are in the prime earning stage and this increase the earning of the banks. Total Deposits mobilized by the Private Sector Banks increased from Rs, 2,52,335 crore as on 31st March 2004 to Rs. 3,12,645 crore as on 31st March 2005. Deposits showed a subdued growth during 2004-05.Income distributions also affects the operations and overall business of private sector banks.

LITERACY RATE

Literacy rate in India is very low compared to developed countries. Illiterate people hesitate to transact with banks. So, this impacts negatively on banks. But there is positive side of this as well i.e. illiterate people trust more on banks to deposit their money, they do not have market information. Opportunities in stocks or mutual funds. So, they look bank as their sole and safe alternative.


TECHNOLOGICAL FACTORS

TECHNOLOGY IN BANKS

Technology plays a very important role in banks internal controlmechanisms as well as services offered by them. It has in fact given new dimensions to the banks as well as services that they cater to and the banks are enthusiastically adopting new technological innovations for devising new products and services.

ATM

The latest developments in terms of technology in computer and telecommunication have encouraged the bankers to change the concept of branch banking to anywhere banking. The use of ATM and Internet banking has allowed anytime, anywhere banking facilities.

Automatic voice recorders now answer simple queries, currency accounting machines makes the job easier and self-service counters are now encouraged.

Credit card facility has encouraged an era of cashless society. Today MasterCard and Visa card are the two most popular cards used world over. The banks have now started issuing smartcards or debit cards to be used for making payments. These are also called as electronic purse. Some of the banks have also started home banking through telecommunication facilities and computer technology by using terminals installed at customers home and they can make the balance inquiry, get the statement of accounts, give instructions for fund transfers, etc. Through ECS we can receive the dividends and interest directly to our account avoiding the delay or chance of loosing the post.

IT SERVICES & MOBILE BANKING

Today banks are also using SMS and Internet as major tool of promotions and giving great utility to its customers. For example SMS functions through simple text messages sent from your mobile. The messages are then recognized by the bank to provide you

with the required information. All these technological changes have forced the bankers to adopt customer-based approach instead of product-based approach Technology


advancement has changed the face of traditional banking systems. Technology

advancement has offer 24X7 banking even giving faster and secured service.

CORE BANKING SOLUTIONS

It is the buzzword today and every bank is trying to adopt it is the centralize banking platform through which a bank can control its entire operation the adoption of core banking solution will help bank to roll out new product and services.


INTRODUCTION TO NPA

MEANING OF NPA:

Non Performing Asset means an asset or account of borrower, which has been classified by a bank or financial institution as sub-standard, doubtful or loss asset, in accordance with the directions or guidelines relating to asset classification issued by RBI.

An amount due under any credit facility is treated as "past due" when it has not been paid within 30 days from the due date. Due to the improvement in the payment and settlement systems, recovery climate, up gradation of technology in the banking system, etc., it was decided to dispense with 'past due' concept, with effect from March 31, 2001. Accordingly, as from that date, a Non performing asset (NPA) shell be an advance where

Interest and /or installment of principal remain overdue for a period of more than 180 days in respect of a Term Loan,

The account remains 'out of order' for a period of more than 180 days, in respect of an overdraft/ cash Credit(OD/CC),

The bill remains overdue for a period of more than 180 days in the case of bills purchased and discounted,

Interest and/ or installment 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 purpose, and

Any amount to be received remains overdue for a period of more than 180 days in

respect of other accounts.

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) shell be a loan or an advance where;

Interest and /or installment 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 installment 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 purpose, and

Any amount to be received remains overdue for a period of more than 90 days in respect of other accounts.


ASSET CLASSIFICATION:

Assets are classified into following four categories:Standard Assets:

Sub-standard Assets

Doubtful Assets

Loss Assets

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.

Provisioning Norms:

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. The provisions on standard assets should not be reckoned for arriving at 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.

Banks are required to classify non-performing assets further into the following three categories based on the period for which the asset has remained non-performing and the reasonability of the dues:

Sub-standard Assets

Doubtful Assets

Loss Assets


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 jeopardize the liquidation of the debt and are characterized by the distinct possibility that the banks will sustain some loss, if deficiencies are not corrected.

Provisioning Norms:

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

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.

Provisioning Norms:

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:


Period for which the advance has been

Provision

considered as doubtful

requirement (%)

Up to one year20

One to three years30

More than three years:

60% with effect from March

(1) Outstanding stock of NPAs as on31, 2005.

March 31, 2004.

75% effect from March 31,

(2) Advances classified as doubtful2006.

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.

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.

Provisioning Norms:

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.


TYPES OF NPA:

Gross NPA

Net NPA

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 nonstandard 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

Net NPA:

Net NPAs are those type of NPAs in which the bank has deducted the provision regarding NPAs. Net NPA shows the actual burdenof 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:

Net NPAs = Gross NPAs Provisions

Gross Advances - Provisions


REASONS FOR AN ACCOUNT BECOMING NPA:

Internal factors

External factors

Internal factors:

Funds borrowed for a particular purpose but not use for the said purpose.

Project not completed in time.

Poor recovery of receivables.

Excess capacities created on non-economic costs.

In-ability of the corporate to raise capital through the issue of equity or other debt instrument from capital markets.

Business failures.

Diversion of funds for expansion\modernization\setting up new projects\ helping or promoting sister concerns.

Willful defaults, siphoning of funds, fraud, disputes, management disputes, mis-appropriation etc.

Deficiencies on the part of the banks viz. in credit appraisal, monitoring and follow-ups, delaying settlement of payments\ subsidiaries by government bodies etc.,

External factors:

Sluggish legal system Long legal tangles

Changes that had taken place in labour laws

Lack of sincere effort.

Scarcity of raw material, power and other resources.

Industrial recession.

Shortage of raw material, raw material\input price escalation, power shortage, industrial recession, excess capacity, natural calamities like floods, accidents.

Failures, nonpayment\ over dues in other countries, recession in other countries, externalization problems, adverse exchange rates etc.


6) Government policies like excise duty changes, Import duty changes etc.,

The RBI has summarized the finer factors contributing to higher level of NPAs in the Indian banking sector as:

Diversion of funds, which is for expansion, diversification, modernization, undertaking new projects and for helping associate concerns. This is also coupled

with recessionary trends and failures to tap funds in capital and debt markets.

Business failures (such as product, marketing etc.), which are due to inefficient management system, strained labour relations, inappropriate technology/ technical

problems, product obsolescence etc.

Recession, which is due to input/ power shortage, price variation, accidents, natural calamities etc. The externalization problems in other countries also lead to growth of

NPAs in Indian banking sector.

Time/ cost overrun during project implementation stage.

Governmental policies such as changes in excise duties, pollution control orders etc.

Willful defaults, which are because of siphoning-off funds, fraud/ misappropriation, promoters/ directors disputes etc.

Deficiency on the part of banks, viz, delays in release of limits and payments/ subsidies by the Government of India.


IMPACT OF NPA:

Profitability:

NPA means booking of money in terms of bad asset, which occurred due to wrong choice of client. Because of the money getting blocked the prodigality of bank decreases not only by the amount of NPA but NPA lead to opportunity cost also as that much of profit invested in some return earning project/asset. So NPA doesnt affect current profit but also future stream of profit, which may lead to loss of some long-term beneficial opportunity. Another impact of reduction in profitability is low ROI (return on investment), which adversely affect current earning of bank.

Liquidity:

Money is getting blocked, decreased profit lead to lack of enough cash at hand which lead to borrowing money for shortest period of time which lead to additional cost to the company. Difficulty in operating the functions of bank is another cause of NPA due to lack of money. Routine payments and dues.

Involvement of management:

Time and efforts of management is another indirect cost which bank has to bear due to NPA. Time and efforts of management in handling and managing NPA would have diverted to some fruitful activities, which would have given good returns. Now days banks have special employees to deal and handle NPAs, which is additional cost to the bank.

Credit loss:

Bank is facing problem of NPA then it adversely affect the value of bank in terms of market credit. It will lose its goodwill and brand image and credit which have negative impact to the people who are putting their money in the banks.


EARLY SYMPTOMS:

By which one can recognize a performing asset turning in to non-performing

asset

Four categories of early symptoms:-

Financial:

Non-payment of the very first installment in case of term loan.

Bouncing of cheque due to insufficient balance in the accounts.

Irregularity in installment.

Irregularity of operations in the accounts.

Unpaid overdue bills.

Declining Current Ratio.

Payment which does not cover the interest and principal amount of that installment.

While monitoring the accounts it is found that partial amount is diverted to sister concern or parent company.

Operational and Physical:

If information is received that the borrower has either initiated the process of winding up or are not doing the business. Overdue receivables.

Stock statement not submitted on time.

External non-controllable factor like natural calamities in the city where borrower conduct his business. Frequent changes in plan.

Nonpayment of wages.

Attitudinal Changes:

Use for personal comfort, stocks and shares by borrower.N.R. INSTITUTE OF BUSINESS MANAGEMENT52

Avoidance of contact with bank.

Problem between partners.

Others:

Changes in Government policies.

Death of borrower.

Competition in the market.


PREVENTIVE MEASUREMENT FOR NPA:

Early Recognition of the Problem:

Invariably, by the time banks start their efforts to get involved in a revival process, its too late to retrieve the situation- both in terms of rehabilitation of the project and recovery of banks dues. Identification of weakness in the very beginning that is : When the account starts showing first signs of weakness regardless of the fact that it may not have become NPA, is imperative. Assessment of the potential of revival may be done on the basis of a techno-economic viability study. Restructuring should be attempted where, after an objective assessment of the promoters intention, banks are convinced of a turnaround within a scheduled timeframe. In respect of totally unviable units as decided by the bank, it is better to facilitate winding up/ selling of the unit earlier, so as to recover whatever is possible through legal means before the security position becomes worse.

Identifying Borrowers with Genuine Intent:

Identifying borrowers with genuine intent from those who are non- serious with no commitment or stake in revival is a challenge confronting bankers. Here the role of frontline officials at the branch level is paramount as they are the ones who have intelligent inputs with regard to promoters sincerity, and capability to achieve turnaround. Based on this objective assessment, banks should decide as quickly as possible whether it would be worthwhile to commit additional finance.

In this regard banks may consider having Special Investigation of all financial transaction or business transaction, books of account in order to ascertain real factors that contributed to sickness of the borrower. Banks may have penal of technical experts with proven expertise and track record of preparing techno-economic study of the project of the borrowers.

Borrowers having genuine problems due to temporary mismatch in fund flow or sudden requirement of additional fund may be entertained at branch level, and for this purpose a special limit to such type of cases should be decided. This will obviate the need to route the additional funding through the controlling offices in deserving cases, and help avert many accounts slipping into NPA category.


Timeliness and Adequacy of response:

Longer the delay in response, grater the injury to the account and the asset. Time is a crucial element in any restructuring or rehabilitation activity. The response decided on the basis of techno-economic study and promoters commitment, has to be adequate in terms of extend of additional funding and relaxations etc. under the restructuring exercise. The package of assistance may be flexible and bank may look at the exit option.

Focus on Cash Flows:

While financing, at the time of restructuring the banks may not be guided by the conventional fund flow analysis only, which could yield a potentially misleading picture. Appraisal for fresh credit requirements may be done by analyzing funds flow in conjunction with the Cash Flow rather than only on the basis of Funds Flow.

Management Effectiveness:

The general perception among borrower is that it is lack of finance that leads to sickness and NPAs. But this may not be the case all the time. Management effectiveness in tackling adverse business conditions is a very important aspect that affects a borrowing units fortunes. A bank may commit additional finance to an aling unit only after basic viability of the enterprise also in the context of quality of management is examined and confirmed. Where the default is due to deeper malady, viability study or investigative audit should be done it will be useful to have consultant appointed as early as possible to examine this aspect. A proper techno- economic viability study must thus become the basis on which any future action can be considered.

Multiple Financing:

During the exercise for assessment of viability and restructuring, a Pragmatic and unified approach by all the lending banks/ FIs as also sharing of all relevant

information on the borrower would go a long way toward overall success of rehabilitation exercise, given the probability of success/failure.


In some default cases, where the unit is still working, the bank should make sure that it captures the cash flows (there is a tendency on part of the borrowers to switch

bankers once they default, for fear of getting their cash flows forfeited), and ensure that such cash flows are used for working capital purposes. Toward this end, there should be regular flow of information among consortium members. A bank, which is not part of the consortium, may not be allowed to offer credit facilities to such defaulting clients. Current account facilities may also be denied at non-consortium banks to such clients and violation may attract penal action. The Credit Information Bureau of India Ltd.(CIBIL) may be very useful for meaningful information exchange on defaulting borrowers once the setup becomes fully operational.

In a forum of lenders, the priority of each lender will be different. While one set of lenders may be willing to wait for a longer time to recover its dues, another lender

may have a much shorter timeframe in mind. So it is possible that the letter categories of lenders may be willing to exit, even a t a cost by a discounted settlement of the exposure. Therefore, any plan for restructuring/rehabilitation may take this aspect into account.

Corporate Debt Restructuring mechanism has been institutionalized in 2001 to provide a timely and transparent system for restructuring of the corporate debt of Rs.

20 crore and above with the banks and FIs on a voluntary basis and outside the legal framework. Under this system, banks may greatly benefit in terms of restructuring of large standard accounts (potential NPAs) and viable sub-standard accounts with consortium/multiple banking arrangements.

N.R. INSTITUTE OF BUS

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