Indian Financial System – Bharati V.Pathak Merchant Banking: Nature & Scope (Chapter 1), Merchant Banking , Principles & Practice. – H.R. Machiraju Non-Banking Financial Companies (Chapter 1), Financial Services, M.Y.Khan Presented by Anita Singhal 2 The Indian Financial System Regulators Ministry of Finance Entire financial sector SEBI – Securities Exchange Board of India Capital markets The RBI Banking and financial services sectors IRDA – Insurance Regulatory & Development Authority The insurance sector
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The Indian Financial System Financial Institutions (Intermediaries)- Banking Institutions Scheduled Commercial Banks Public Sector Banks Private Sector Banks Foreign Banks in India Regional Rural Banks Scheduled Co-operative Banks
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The Indian Financial System Financial Institutions (Intermediaries)- Non-Banking Institutions Non-Banking Finance Companies Development Financial Institutions All India Financial Institutions IFCI, IDBI, IIBI, SIDBI, IDFC,NABARD, EXIM Bank, NHB State Level Institutions SFCs, SIDCs Other Institutions ECGC, DICGC Presented by Anita Singhal 5 The Indian Financial System Financial Institutions (Intermediaries) Mutual Funds Public sector Private sector Insurance companies Govt. Insurance Cos. Pvt. Sector Housing Finance Companies
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The Indian Financial System Financial Markets Capital Market Equity Market Primary Market Public Issues Private Placement Secondary Market NSE BSE OTCEI Regional Stock Exchanges
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The Indian Financial System Financial Markets Capital Market Debt Market Private Corporate Debt PSU Bond Market Government Securities Market Primary Segment Secondary Segment
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The Indian Financial System Financial Markets Money Market Treasury Bills Call money market Commercial bills Commercial Papers Certificates of Deposit
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Glossary Treasury Bills Short term securities issued by the Govt. Tenure – less than a year All other characteristics similar to G- Secs. Rates are the lowest for T-Bills
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Glossary Call Money Market Banks are the primary participants To fulfill CRR requirements, banks have to show 4.25% of deposits as reserves in specified securities Call money market functions to take care of any shortages
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Glossary Commercial Bills Bills raised by corporates Discounted by banks Commercial Paper Short term paper issued by Corporates Usually top ranked Companies Tenure 6 months to a year Subscribed to by banks and financial institutions
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Glossary Certificates of Deposits Short term instruments Issued by banks For their fund requirements Generally, market is between banks and FIs
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The Indian Financial System Financial Services Depositories Custodial Credit Rating Merchant Banking Leasing Hire Purchase Portfolio Management Underwriting
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Glossary Merchant Banking Advisory role in capital market New issues Private placement Mergers and acquisitions Other Corporate Advisory/ management Consultancy role
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Glossary Leasing Financing of equipment NBFCs /Banks major players Based on EMIs Hire Purchase Also financing of assets Difference – ownership of the asset passes on to the hirer at the end of the tenure
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Glossary Portfolio Management Investment advisory services Personalized service for high net worth clients Underwriting Safety net for IPOs In cases of under-subscription, merchant bankers subscribe to the balance. In cases of complete subscription from public – merchant bankers get commission for the risk exposure accepted.
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Origin of Merchant Banking Italy 17th and 18th centuries Entrepreneur Added banking activities to merchant activities to become merchant banker
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Merchant banks in UK 18th & 19th century Industrial revolution Started from bill discounting activities Acceptance of trade bills and their discounting Baring Brothers – oldest merchant bank
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Prominent contributions Granted long term loans to sovereign Govts. Financed British Govt. to purchase shares of the Suez Canal Helped America purchase the state of Louisiana from Napoleon by raising loans from money market in London Lazard Brothers lent to Govt. of India for Durgapur steel plant Presented by Anita Singhal 20 Merchant Banking in India Banking Commission Report, 1972 In favor of merchant banks Grindlays was the first Followed by Citibank Indian banks like SBI Central Bank of India, BoI, BoB etc ICICI, IDBI and IFCI
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Services rendered Organizing and extending finance for projects Assistance in financial management Bill Discounting Raising euro-loans Financing infrastructure projects Lease and hire-purchase M&A Valuation of assets Investment management Presented by Anita Singhal 22 Organizational structure High proportion of professionals A substantial delegation of decision making Short chain of command Rapid decision making Flexible organization structure Innovation High level of financial sophistication Presented by Anita Singhal 23 Investment Banking Sale of security issues to finance projects Incl. Debt and equity Make secondary markets for securities As brokers and dealers
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Non Banking Financial Companies Significant element of the Indian Financial system Broadly involved in two activities – fund based and/or fee based Supervised/regulated by RBI Housing Finance Cos. regulated by NHB Regulated under the provisions of Chapter III-B and Chapter III-C of the RBI Act Presented by Anita Singhal 25 Salient Features of Chapter III- B of the RBI Act Provisions relating to Non-Banking Institutions receiving deposits and FIs. Deposit : Any receipt of money by way of deposit or loan or any other form Exclusions – amt recd. From banks/FIs, amt recd in ordinary course of business etc. Presented by Anita Singhal 26 Salient Features of Chapter III- B of the RBI Act Financial Institutions Financing others’ activities Acquisition of shares & debentures Hire-purchase Any class of insurance, stock-broking Chit funds Collection of money and disbursement of the same.
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Salient Features of Chapter III- B of the RBI Act NBFC A FI that is a Co. Principal business is receiving deposits and lending Any other business that RBI may notify Registration & Net Owned Funds– Obtain certificate of regstn. from RBI Minimum net owned funds (NOFs) of Rs.25 lacs NOFs – sh.cap+free reserves-inv.in shares/debentures/loans of/to group/other NBFC Cos. Inv. Excluded only when > 10% of sh.holders funds Presented by Anita Singhal 28 Salient Features of Chapter III- B of the RBI Act Maintenance of Assets Reqd. to invest at least 5% or more of their o/s deposits in specified/approved Indian securities Should have it on the books on the last working day of the second preceding quarter. Any contravention, would result in penal int. of bank rate + 3% p.a. If shortfall continues, rate increases to 5% p.a. above bank rate Presented by Anita Singhal 29 Salient Features of Chapter III- B of the RBI Act Powers of : Regulation Call for information Inspection Penalties Reserve Fund Must transfer atleast 20% of its profits to this fund before declaring dividend
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Salient Features of Chapter III- B of the RBI Act
Rules for acceptance of deposits
Min. NOF of Rs. 25 Lacs Min. investment grade credit rating from approved rating agencies every year CRISIL FA- ICRA MA- CARE CARE BBB (FD) FITCH Ind BBB - Presented by Anita Singhal 31 Salient Features of Chapter III- B of the RBI Act Deposit rules : Min. period of 1 year upto 5 yrs Capital adequacy of 15% Max. amt. Of deposits upto 1.5 times its NOF or Rs. 10 Cr. whichever is lower. In event of downgrading of credit rating, to stop new deposits and reduce by 3 years all o/s. Max. interest rate on deposits @ 12.5%
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Salient Features of Chapter III- B of the RBI Act NPAs – classified as one where interest / installment not received for more than 6 months Standard asset – no default Sub-standard asset – NPA for < 18 months, restructured / re-negotiated Doubtful asset – NPA for > 18 months Loss asset – no hope of recovery Presented by Anita Singhal 33 Salient Features of Chapter III- B of the RBI Act Capital Adequacy Requirements Tier I + Tier II Cap. equivalent to 12% of agg. Risk weighted assets & risk adjusted value of off bal. sheet items. Tier II Capital not more than 100% of Tier I Capital Tier I Capital = NOF Tier II Capital = non-convertible Pref. Sh. + Revaluation Res.+ Debt
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Salient Features of Chapter III- B of the RBI Act Risk Weighted Assets Weighted aggregate of funded items Degree of credit risk with each item Weights allotted: Cash & approved securities – 0% incl. 100% of all other assets Off Balance Sheet assets Financial guarantees (100%) Underwriting commitments (50%) Partly paid shares (100%)
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Salient Features of Chapter III- B of the RBI Act Restriction on Credit/Investments : NBFCs cannot lend to any single borrower in excess of 15% of their NOF / group in excess of 25% of their NOF. Same norms for investment in another Company Ceiling on loans & investments together not more than 25% and 40%
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Asset-Liability Management System Complexities of liberalization on financial assets & liabilities Fairly deregulated environment Strategic mgt. of risk Credit risk, interest rate risk, equity risk, liquidity risk and operational risk Address these risks in a structured manner ALM function – to enforce risk management discipline.
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Asset-Liability Management System 3 Pillars of the ALM Process ALM Information systems MIS Info.availability, accuracy, adequacy & expediency ALM Organization Structure and responsibilities Level of top mgt. involvement ALM Process Risk parameters Risk identification Risk measurement Risk management Risk policies andbytolerance Presented Anita Singhal levels 38 Asset-Liability Management System ALM Information system Ensure timeliness of info. Accuracy Where geographical spread of branches is large, the above might not be possible Easier for centralized functions like investments and funds management. Computerization is the key
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Asset-Liability Management System ALM Organisation Board of Directors – overall responsibility Set risk mgt policy Set limits for liquidity, int. rate & equity/price risks ALCO (Asset Liability Committee) to be set up ALCO made of CEO and sr. mgt ALM Support groups – operational staff – analysing and monitoring risk profiles
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Asset-Liability Management System ALM Process Liquidity Risk Management Tracking maturity/cash flow mismatches Currency Risk Interest rate risk Gap analysis Gap between rate sensitive liabilities and gap sensitive assets
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Asset-Liability Management System An asset/liability is gap sensitive if : There is a cash flow in the time period under consideration The interest rate resets contractually during the interval Dependant on the RBI changes in interest rates / bank rate Contractually pre-payable or withdrawn before maturity