DCB Bank Ltd Credit department.

A STUDY ON CREDIT APPRAISAL PROCESS & OPERATIONAL RISK

Final report

ICFAI Business School, Hyderabad.

2016
 A REPORT

ON

A STUDY ON CREDIT APPRAISAL PROCESS & OPERATIONAL RISK

BY

JAYESH TULSIYANI

15BSPHH010459

IBS HYDERBAD

DCB BANK LTD.

SURAT

2|Page
 A

REPORT ON

A STUDY ON CREDIT APPRAISAL PROCESS & OPERATIONAL RISK

By

JAYESH TULSIYANI

15BSPHH010459

A report submitted in partial fulfillment of the requirements of MBA Program of the IBS, Hyderabad

SUBMITTED TO:

Mr. PRAVEEN SRIVASTVA (Faculty guide)

And

Mr. VISHAL KUMAR BANSAL (Company Guide)

Date of Submission: 8th May 2016

3|Page
 AUTHORIZATION

This is to certify that the project report titled “A study on Credit Appraisal Process & Operational Risk in
DCB Bank Ltd.” is submitted in partial fulfillment of the requirement of MBA program of ICFAI Business
School and is a record of the bonafide work carried out by Jayesh Tulsiyani of IBS Hyderabad at DCB
Bank Ltd.

This report has been formally submitted to Mr. Praveen Srivastava -Faculty, IBS Hyderabad

- Jayesh Tulsiyani

4|Page
ACKNOWLEDGEMENT

5|Page
 EXECUTIVE SUMMARY

6|Page
 LIST O CONTENTS

7|Page
 TABLE OF CONTENTS

S.no PARTICULARS PAGE

NO

1. Abstract 3-5

2 Introduction 6-7

2.1 About the bank 6

2.2 Key personnel 6

2.4 Overall 7

3. Main text 8-25

3.1 All about loans 8-9

3.2 Main products and programs 10-17

3.3 Credit appraisal process 18-21

3.4 Operational risk 22

3.5 Types of operational risk 23

3.6 Operational risk and credit appraisal process 24-25

8|Page
  ABSTRACT OF WORK DONE TILL DATE:-

The Project has been started with a brief understanding of different

products/programmes available with the Bank/Financial Institutions for
advancing loans via:
 Net profit
 Gross profit
 Banking statement analysis 1
 Banking statement analysis 2
 CA assessment
 EMI multiplier

For apprising any proposal under any of abovementioned programs require

following basic procedures and documentations
 Receipt of documents (KYC, Financials, Property documents, government’s
registrations etc.)
 Drawing Individual and/or corporate CIBIL
 Checking Deduplication at CIBIL defaulter, RBI defaulter’s list and internal
Deduce data
 Legal report (title clearance)
 Technical report (Valuations of the property).
 Preparation of the financial data for comprehensive study of financial health
of proposed borrower
 Personal visits by the credit manager to assess and understand business and
repayment capabilities of applicant
 Sanction and approval of proposal by appropriate sanctioning authority as
per internal approval matrix
 Disbursement of the loan

9|Page
  Operational query.

Right from the commencement of the project, I learnt that every financial
institution appraises the proposal basis financial, legal, and technical aspects
Furthermore, I went for field visit which helped me to understand the
significance of technical appraisal, I learnt the basics of appraisal techniques
as well as generally adopted traditional appraisal techniques which are
reasonably significant as it assures that the project would yield sufficient
returns and provide reasonable comfort that the amount funded would be
repaid on the time.
While understanding the credit appraisal process, I faced certain difficulties
which can be termed as Operational risk, which is the risk of loss resulting
from inadequate or failed internal process, people and system or from
external events.
Some operational risk that I could identify are

 Internal and external misrepresentations/frauds

 Executions and process management errors
 Damage to physical assets
 System failures
 Products and business practices
 Govt. Policies

On the coming days I would be working on number of cases where I am supposed

to apply all these basic, traditional and modern appraisal techniques to check the
viability of the proposal, along with which I would try and find solutions for the
OPERATIONAL RISK associated with the same

 INTRODUCTION
10 | P a g e
 
 Banking industry at a glance:
 Bank is the main confluence that maintains and controls the “flow of
money” to make the commerce of the land possible. Government uses it to
control the flow of money by managing Cash Reserve Ratio (CRR) and
thereby influencing the interest rates.
 2.1 Definition of a Bank:

 In India, definition of banking has been given in the Banking Regulation Act
(BR Act), 1949. According to Sec 5(c) of the BR Act, „A banking company
is a company which transacts the business of banking in India‟. Further Sec
5(b) of the BR act defines banking as, „accepting for the purpose of lending
or withdrawal, by cheque, draft and order or otherwise‟.
 The functions of bank include accepting deposits from the public and other
institutions and then to direct them as loans and advances to parties mainly
for growth and development of industries. It extends loans for the purpose of
education, housing etc. and as a part of social duty towards agricultural
sector as decided by the RBI. The bank takes the deposit at lower level of
interest rate and gives loans at higher rates of interest. The difference in
these transactions constitutes Punjab National Bank main source of income.
 Banking in India has undergone startling changes in terms of growth and
structure. Organized banking was prevalent in India since the establishment
of The General Bank of India in 1786. The Reserve Bank of India (RBI) was
established as the central bank in 1955. RBI undertook an exercise to reduce
the fragmentation in the Indian Banking Industry post independence by
merging weaker banks with stronger banks. This resulted in the reduction of
the number of banks from 566 in 1951 to 85 in 1969. Page 9 of 82

11 | P a g e
  The economic reforms unleashed by the government in early nineties
included banking sector too. Entry of new private banks was permitted by
RBI under specific guidelines. A number of liberalization and deregulation
measures like efficiency, asset quality, capital adequacy and profitability
have been introduced by the RBI to bring Indian banks in line with
International best practices. With a view of giving State owned banks
operational flexibility and functional autonomy, partial privatization has
been authorized as a first step, enabling them to reduce the stake of the
government to 51%.
 Recently, the banking system emerged relatively unscathed from the global
economic downturn of 2008-09. While credit growth slowed down, banks
were able to control the level of non performing assets (NPAs), thanks partly
to the Reserve Bank of India allowing one time restructuring of accounts.
The government has been supporting the growth of public sector banks by
infusing capital as per requirement. The government is expected to continue
its support for the banking industry, while simultaneously imposing stringent
prudential norms to ensure its orderly growth.
 Presently, the Indian banking sector consists of 26 public sector banks, 20
private sector banks and 43 foreign banks along with 61 regional banks rural
banks and more than 90,000 credit cooperatives.

 About the bank

DCB Bank Ltd. is a private sector scheduled commercial bank in India. It has a
network of 176 branches and over 400 ATMs in the country.
The Development Credit Bank was founded in the 1930, in Mumbai from a series
of Co-operative bank mergers with the Ismailia Co-operative Bank Limited and the
Masalawala Co-operative Bank respectively. These 2 banks later merged to form
Development Co-operative Bank that changed to Development Credit Bank after it
was granted the scheduled bank license by the Reserve Bank of India in May 1995.
Its promoter and promoter group the Aga Fund for Economic Development
(AKFED) & Platinum Jubilee Investment Ltd holds over16.41% stake. AKFED is
an international development enterprise.
Development Credit Bank Ltd. went on to successfully offer shares to the public
by an Initial Public Offering (IPO) in 2006. DCB Bank Limited is the new name
of the Bank, changed with due regulatory approval in January 2014.

12 | P a g e
DCB Bank’s business segments are Retail, micro-SME, mid-Corporate,
Agriculture, Commodities, Government, Public sectors, Indian Bank’s, Co-
operatives and Non-Banking Finance Companies (NBFC).
 key personnel
o Currently the chairman is Mr. Naseer Munjee, and CEO & M.D
Mr. Murli M Natrajan.

 overall
Type Public company
Industry Banking (financial services)
Founded 1930
Head-quarters Mumbai, Maharashtra
Key people Naseer Munjee (chairman)
Murli m. Natrajan (MD & CEO)
Products SME banking
Retail banking
Agri & Inclusive banking
Wealth Management
Home loans & Loans against
Propety

13 | P a g e
  MAIN TEXT.

 All about loans

Primary activities of a bank is acceptance of deposits and disbursement of
loans.
Generally, a loan is lending of money from one individual, organization or
entity to another individual, organization or entity. In a loan the borrower
initially receives or borrows fund, referred to as the principal, from the
lender and is obligated to pay back either in lump sum or in piecemeal the
amount of money together with interest to the lender at or within stipulated
time. The loan is generally provided at a cost, referred to as interest rate on
the debt which provides an incentive for the lender to engage in the loan.

The reason or purpose for loan application could be any of the following:
 Purchase
 Construction
 Improvement
 Balance transfer
 Top-up’s

Working capital loans

14 | P a g e
 Working capital refers to the current asset holding of the firm. Net working
capital is the difference between Current Asset & Current Liabilities. Working
capital requirements depend on various business specific internal factors like
operating efficiency, technology employed and the level of quality control.

And ways to provide the working capital are as follow:

It can be classified into two broad categories: Fund Based and Non Fund
Based lending.

Cash Credit

Packing
Credit

Fund based Overdraft &

Demand
Loan

Term Loan

Credit Bill Finance

facilities
Revocable &
Irrevocable
Letter of
credit
Revolving L/C
Non-Fund
Based
Performance
Letter of
Guarantee
Financial

 Fund Based Lending is a direct form of lending in which a loan with an

actual cash outflow is given to the borrower by the bank. In most cases such

15 | P a g e
 a loan is backed by primary and/or collateral security. The loan can be
provided for financing capital goods and/or working capital requirements.
o Overdraft:
When a customer is maintain a current account is allowed by the bank
to draw more than the Credit balance in the account, such facility is
called a overdraft facility at the request and requirement of cutomer
temporary overdraft are allowed. However against certain securities,
regular OD limits are sanctioned.
Salient features of this type of account are:
OD accounts are maintained in current account ledger. Depending
upon business requirements, for regular OD limits either some folio in
current account ledger are reserved or separate ledger in maintained.
All rules are applicable to current account are applicable to OD
account. OD is a running account and hence debits and credits are
freely allowed.

o Cash-credit:
A cash-credit is an arrangement to extend short term working capital
facility under which the bank establishes a credit limit and allows the
customer to borrow money up to a certain limit. Under the system,
bank sanctions a limit called the cash-credit limit to each borrower up
to which he is allowed to borrow against the security of stipulated
tangible assets i.e. stocks, books of debt, etc. the customer need not
draw at once the whole of the credit limit sanctioned and deposits the
surplus cash/funds proceeds of safe etc. into the account.
o Inland bills:

16 | P a g e
 In this case, the bank sanctioned a limit to the customer and the client
can discount those bills and will pay the money to the borrower and
the bank will take the money from the debtor of the borrower on due
date of the bill.
o Packing credit:
In case of packing credit, the borrower wants the money to purchase
the Raw Material when when the borrower has to export good, n=but
the borrower don’t have money to purchase raw material and then
manufacturer and then the export the goods, in that case the borrower
approaches to the bank for getting the credit for pre-shipment purpose
then bank will provide the credit after confirming that the borrower
has actually to export and goods after getting the guarantee from the
buyer that he will pay the money on the getting the goods

In Non Fund Based Lending the banks make no fund outlay. However,
such arrangements may be converted to fund based advances if the client
fails to fulfill the terms of his contract with the counterparty. Such facilities
are known as contingent liabilities of the bank. Facilities such as “Letter Of
Credit” and “Guarantees” fall under the category of non-fund based credit

o Letter of credit:
A binding document that a buyer can request from his bank in order to
guarantee that the payment for goods will be transferred to the seller.
Basically, a letter of credit gives the seller reassurance that he will receive
the payment for the goods.
Modern banks facilitate trade and commerce by rendering valuable services
to the business community. Apart from providing appropriate mechanism for
making payments arising out of trade transactions, the banks gear the
machinery of commerce, especially in useful like between the buyer and the
seller who are often too far away from and too unfamiliar with cash other.

17 | P a g e
 Opening or issuing letter of credit is one of the important services provided
by the banks for these purpose. The foundation of the banking business is
the confidence reposed in the banking institutions by the people in general
and the mercantile community in particular. The standing, reputation and
goodwill earned by a banking institution enables it to issue instruments,
known as letter of credit, in favors of traders and banks to meet the needs of
their customer.

Working capital financing guidelines:

1. Tendon Committee Recommendation

A committee headed by, Shri P.L Tandon, the ex-chairman of PNB was
constitutes with view to suggest improvement in existing cash credit
system. It suggested three methods lending.
1.1. First method of lending:
According to this method, banks would finance up to a
maximum of 75% of working capital gap (WCG), which is
the difference between the current assets and current
liabilities excluding bank borrowing and the balance 25%
was considered as a margin which would be bought
through long term funds.
1.2. Second method of lending:
As per this method, bank would finance maximum 75% of
the total current asset(TCS) and borrowers have to provide
a minimum of 25% of TCA as margin out of lijng term
uses. This will give a minimum current ratio of 1.33.
MPBF: 75% total current asset – other current liability
1.3. Third method of lending:
Under this method, the borrower’s contribution from long
term funds will be to the extent of the entire CORE
CURRENT ASSET, which has been defined by the study
group as representing the absolute minimum level of raw
material, process stock, finished goods and stores which
are in the pipeline to ensure continuity of production and

18 | P a g e
 minimum of 25% of the balance current asset should be
financed out of the long term funds plus term borrowings.
MPBF: 75% (total current asset – core curent asset) – other
current liability
2. Chore Committee Recommendations
The RBI constituted, in 1979, a working group under the chairmanship of
Mr.K.B Chore, to review the cash credit system with particular reference to the
gap between sanctioned limit and the extent of their utilization. It was also
asked to suggest alternative types of credit facilities which would ensure
greater flexibility.

3. Nayak Committee Recommendation.

This method is also known as simplified turnover method and it focuses on
small scale Industries and other tiny industries having an aggregate fund based
working capital limits up to Rs 5 cores.
For such companies, the working capital requirement is calculated solely on
the basis of their sales turnover. The sanctioning authority may satisfy
themselves about the reasonableness of the projected turnover of the company
based on their annual statements and assumptions. These units would require
bringing in 5% of turnover as the margin. In other words, according to Nayak
committee recommendations 25 % of the projected turnover would be the
working capital requirements of the company, of which 4/5 th would be
financed by the bank and the remaining 1/5 th has to be brought by the owner as
margin.

Different types of loans options available in DCB Bank Ltd are as follow:

1.>Personal
 Smart credit
 Gold loans.
 Home loans.
2.>Business
 Business loans
 Commercial vehicle
 Working capital
19 | P a g e
  Term loan
 Trade finance
3.>Agriculture
 Warehouse receipt funding
 Farmer loan
 Micro finance loan
 Sme/Msme working capital
 Warehouse construction

 Hereby presenting glimpse of method of eligibility calculation

under multiple programs available for advancing loans at DCB
Bank Ltd are:

1.>Net profit program.

 Loan amount range: 3.00 lakhs to 1000 lakhs.
 Maximum tenor: home loan- 240 months & business loan- 180
months.
 Financial benchmarks: should be profitable in last 2 years and drop in
cash/turnover should not exceed 25%.
 CALCULATIONS: Last year’s NET PROFIT should not be more
than 50% of the net profit of last 2 years.
o In case the jump is >50% then, average of last 2 years NP, is
considered.
o Interest, Salaries paid to the partners should be added back to
income.
o DEPRECIATION: last year depreciation, as per the P&L
provided the increase in depreciation is not >50% in last 2
years. Otherwise take and average of last 2 years depreciation
 DBR (Debt Burden Ratio):

Annual income DBR

Rs. 2.50 lakhs – 8 lakhs 65%
>Rs 8lakhs < = 12 lakhs 70%

20 | P a g e
 >Rs 12 lakhs 75%
 Loan To Value (LTV):
o Home Loan :

Market value LTV

<= 20 Lakhs 90%
Rs.20 lakhs – 75 lakhs 80%
>Rs 75lakhs 75%
o Business loan:

Property type Max. LTV

Self-occupied residential property 70%
Rented residential property 55%
Self-occupied commercial 60%
property
Rented commercial property 50%
Vacant residential 50%
Multi tenanted 45%

2.>Gross profits.
Loan range: 3 lakhs to 1000 lakhs
Maximum tenor: home loans – 240 months & business loan – 180 months.
Financial benchmark: should be profitable in last 2 years & net worth should
be positive.
Calculation: if there is a dip in G.P, lower value to be taken.
If there is a jump in G.P, then average to be taken.
Last year turnover to be taken, max 20% of GP to turnover.
DBR (Debt Burden Ratio):

21 | P a g e
 Annual income DBR
Rs. 2.50 lakhs – 8 lakhs 65%
>Rs 8lakhs < = 12 lakhs 70%
>Rs 12 lakhs 75%

Loan to Value (LTV):

Home loan:
Market value LTV
<= 20 Lakhs 90%
Rs.20 lakhs – 75 lakhs 80%
>Rs 75lakhs 75%

Business loan:
Property type Max. LTV
Self-occupied residential property 70%
Rented residential property 55%
Self-occupied commercial 60%
property
Rented commercial property 50%
Vacant residential 50%
Multi tenanted 45%

3.>Banking statement analysis 1:

 A Loan range: up to 200 lakhs.
 Maximum tenor: 15 years (180 months)
 Eligibility: 12 months bank statements to be analysed.

22 | P a g e
 o For loans > 100 lakhs, 2 bank amounts are considered in
deriving ABB.
o 1 current and 1 savings account is required.
o ITR for last 2 years with minimum gap of 6 months.
o Minimum 3 business transactions per month, ion last 2 years.
o Banking credits should be 5 times of the proposed EMI per
annum.
o Property to be SORP or SOCP only.
 Average Banking Criteria:

Property type ABB norms

Residential 2x
Commercial 3x
ABB of 2 banking accounts. ‘X’ means number of times to the
proposed EMI.
 Financial are not mandatory up to Rs.100 lakhs exposure.
 Loan To Value(LTV):
Home loan:
Market value LTV
<= 20 Lakhs 90%
Rs.20 lakhs – 75 lakhs 80%
>Rs 75lakhs 75%
Business loan:
Property type Max. LTV
Self-occupied residential property 65%
Self-occupied commercial 55%
property
Rented commercial property 45%
Rented residential 50%

23 | P a g e
 Multi tenanted 45%

4.>CA assessment program:

 A Loan range: up to 200 lakhs.
 Maximum tenor: 180 months.
 Banking norms: 12 months & 2 years ITR with a 6 months gap.
ABB should be >= 1x of the proposed EMI for loans >1 cr only.
 Income Calculation: lower of,
PBT + partners remuneration
Or
PBT + partner’s remuneration + depreciation.
Loan eligibility calculation- income declared in ITR’s should be
considered as NP program.
 DBR(Debt Burden Ratio): 75%
 Loan To Value(LTV):
Home loan:
Market value LTV
<= 20 Lakhs 90%
Rs.20 lakhs – 75 lakhs 80%
>Rs 75lakhs 75%
Business loan:
Property type Max. LTV
Self-occupied residential property 65%
Self-occupied commercial 55%
property
Rented commercial property 45%
Rented residential 50%

24 | P a g e
 Multi tenanted 45%

5.>Emi multiplier program:

 Loan range: up to 200 lakhs.
 Maximum tenor: 180 months
 Banking norms: 12 months under current and savings accounts
 ITR’s: 2 years, with a gap of 6 months showing cash profits.
 EMI calculation multipliers:
o DCB EMI =
 >= 12 months MOB – 1.2*emi
 >=18 months MOB – 1.5*emi
 >=30 months MOB – 2.0*emi
o The loans of which multiplier is being applied will either
needed to closed or the EMI will be deducted in workings
except where the EMI <= 9.
o For loans >Rs 100 lakhs,
 Minimum loan should be vintage of 12 months.
 Current account must be maintained by applicant
 Property to be SOP or SOCP.

6.>Balance transfer program:

 Balance transfer (without cash out):
o Minimum vintage of 6 months.
o One time 30 dpd, and 2 bounces including the instance of the
30 dpd in last 12 months.
o Income verification for all loans.
 Balance transfer (with cash out):
o Minimum vintage of 6 months.
o Income verification for loans irrespective of vintages.
o LTV on BT portion to be as per HL norms, LT for cash out
portion to be worked out on balance residual market value post
considering the MV utilized for BT portion.
 Vintage computation: to compute the total vintage of the loan being
serviced to be considered.

25 | P a g e
  Track record norm: no bounces in last 6 months due to financial
reasons – exceptions can be approved under L3- Head Credit
Mortgages.
 Linkages of loans: these are following scenarios wherein linkages of
multiple accounts is possible under retail assets.
o Wherein both/all the loans are hosted in FinnOne against single
contract.
 Multiple loans in FinnOne can b tagged and in case the
customer wants to close any one loan, an exception is
thrown by the system and there are negligible chance of
error in this scenario.
7.>Salaried program:
 Salaried employee of –
o DCB employee, PSU employee, Gov. Employee, central and
state govt employee.
o For applicant working in private ltd / unlisted companies,
following things are required :
 Salary verification.
 Tele verification with employer.
 No cash salary.
 ITR to be collected & verifies for income.
 Experience norm:
o 2 years for MBA.
o 3 years for other and 5 years for loan above Rs. 50 lakhs.
o For mariners 3 years’ experience.
 Loan range: 3. Lakhs to 1000 lakhs.
 Maximum tenor: home loan – 240 months & business loan – 180
months.
 Income norms:
o Net monthly income as per latest salary slip/ certificates
(except one time receipts of income tax, P.F deduction etc.) are
considered 100%.
o Annual performance bonus to be considered 50%.
o Bank statement showing regular salary credits.
 DBR norms:

26 | P a g e
 Annual income DBR
Rs. 2.50 lakhs – 8 lakhs 65%
>Rs 8lakhs < = 12 lakhs 70%
>Rs 12 lakhs 75%
 Loan To Value (LTV):
Home loan:
Market value LTV
<= 20 Lakhs 90%
Rs.20 lakhs – 75 lakhs 80%
>Rs 75lakhs 75%
Banking loan:
Property type Max. LTV
Self-occupied residential property 65%
Self-occupied commercial 55%
property
Rented commercial property 45%
Rented residential 50%
Multi tenanted 45%

 PROCESSING OF A SME (SMALL MEDIUM ENTERPRISE) FILE:

Step 1. In –principle approval request stage:
 RM to submit following documents to credit – soft and hard copy
o Application form
o Copy of PAN card and address proof of applicant, proprietor,
partner, directors and guarantors

27 | P a g e
 o RM report part 1 and photographs of the unit.
Step 2. In principle approval stage:
Credit Analyst
 Initiates internal/external checks
 Generates commercial and individual CIBIL
o If CIBIL and other check are satisfactory, principle sanction
letter is mailed to RM, if not case is rejected or allowed to be
logged in with complete documentation and justification.
Step 3. Preparing for log-in:
RM hands over documents to credit
 Financial so last 2 years and ITR
o Provisional financial or projected financials (for CC)
 Bank statements of 6 to 12 months
 Sales achieved since date of last balance sheet
 RM report part2
 Copy of property papers
 Copy of applicable license
 Copy for existing banker sanction letter
 Balance LYC documents
 Upfront log-in fee (rs.5000/per property + S.tax)

Step 4. Valuation &legal:

RM request CAD to:
 Initiate valuation
 Initiate title clearance
 Initiate 13 year search
Step 5. Login & credit assessment:
Credit analyst
 Initiate RCU

28 | P a g e
  Analysis financial – non surrogate (b/s, p&l, trading a/c, itr)
 Analysis bank statement – surrogate
 Conducts personal discussion- up to Rs.30 lakhs can be done by BOM
 Completes CAM – received one pager formats
 Fills customer selection criteria sheet
 Completes rating of customer
 Seeks approval from sanction authority
 Receives RCU report
 If approved, prepares and shares final sanction letter with RM &CAD
Step 6. Post sanction stage:
 Vendor shares soft copy of legal opinion with RM for submission of
property docs
 Vendor shares soft copy of valuation report to RM & credit

RELATIONSHIP MANAGER
o Receives sanction letter and gets customer acceptance
o Collects and deposits processing fees in PF A/c
o Collects stamping amount – credit stamp a/c
o Obtains clients signature on loan document- only booklet to be used
o Complies other sanction terms/specific covenants, if any
o Collects original property documents & hands over to CAD
o Collects NOC from builder
o Collects stock insurance premium, if applicable
o In case of takeover- obtain O/s letter from present banker
CAD (Credit administrative department)
o Receives original property document from RM
o Receives 13 year search report from lawyer
o Vets original property document though empanelled lawyer
o Stamps and fills up security docs
o Initiates RCU for NOC from builder
o Initiates property CIBIL
RM

29 | P a g e
 Registration of equitable mortgages at sub-registrar in Gujarat, TN, MP.
CAD
o Opens loan account
o Updates MIS code
o Disburses loan amount

 THE CREDIT APPRAISAL PROCESS (MORTGAGES)

To ensure that the bank gets its money back it follows a defined credit
appraisal process to judge and rationalize repayment capability of proposed
borrower
Credit appraisal is the process through which a bank eliminate a borrower
with an inherent weakness. It is one of the most critical ingredient in
functioning in lending industry
The task ranging from acceptance of loan proposals to sanctioning and till
disbursement of loan is carried out by the Credit Division of a bank. The
banking industry plays a pivot role in economic and industrial growth of a
country and thus supply of good credit becomes imperative. Consequently,
there arises necessity of defined credit processes and procedures to build
quality portfolio as well
Processes/Documentation involving Credit Appraisal

 Collecting the file with following basic documents

 KYC
 Adhar card
 Voters id
 Salary Slip for months with bank credit, (in case applicant is
salaried)
 ITR with Computation of income, P&L and Balance sheet,
Form 26AS, Bank Statement for last 12 months (in case
applicant is self-employed)
 Property documents for initiation of legal and technical
verification reports

30 | P a g e
  Generating CIBIL report
CIBIL (credit Information Bureau India Limited) was established in August
2000, it is India’s first Credit Information Company and is the central
recorder of the credit information of all the borrowers.
To approve a loan, the credit lending organization must gather your credit
score and repayment history which may be spread over at various institution.
CIBIL collects and organizes your data and provides same to all the banks
and financial institution, which by default are their members. The bank uses
collective history to determine where here the loan should be approved or
not. Thus Credit Information Report (CIR) provides an idea on a person’s
credit and payment history. Every time a lender seeks a CIR of an individual
from CIBIL, a unique 9 digit control number is generated which the CIBIL
uses to track an individuals from its database.
CIBIL does not mark an individual as a defaulter, but it just mentions a
particular score on one’s CIR. It is entirely dependent on the respective bank
who considers a person as a defaulter. The CIR score on the Trans sheet
ranges from 300-900.
In DCB Bank Ltd, commonly if applicant/applicant’s CIBIL score is 650+,
proposal is taken for consideration basis other credit parameters

 Legal and technical reports

o Legal Report is procured for establishing current ownership of
collateral offered
o Technical report is procured for getting Market value of
collateral offered

 Preparations of CAM (Credit Appraisal Memorandum) and Banking

Analysis

The process of analysis of the financial statements of any financial

institution, corporate body to examine the financial position and involves
deriving various financial rations to use as oscillators to judge financial
health of the individual/Firm or the company. Basic ratios calculated are:

31 | P a g e
 i. Liquidity Ratios
o Current Ratio
o Quick Ratio
o Cash ratio or quick ratio
o Interval measure
ii. Leverage Ratios
o Debt Equity Ratio
o Debt Asset Ratio
iii. Profitability Ratios.
o Interest Coverage Ratio
o Dividend Coverage Ratio
o Fixed Charges Coverage’s Ratio (FSCR)
o Debt Service Coverage Ratio (DSCR)
(The difference between FSCR &DSCR is in terms of TAX)
iv. Turnover Ratios
o Inventory Turnover Ratio
o Debtor Turnover Ratio
o Creditors Turnover Ratio
o Asset Turnover Ratio
o Fixed asset Turnover Ratio
o Cogs coverage Ratio

 Personal visit by the Credit manager himself

o Visit to customer’s business/ office premises is done by credit
manager for understanding customer’s profile, business,
profitability and other details relating to business
o Detail in person discussion with applicant and co-applicants is
accomplished to derive worth, repayment capability and
creditworthiness of proposed borrower

 Sanction and approval of the proposal by the appropriate sanctioning

authority.

32 | P a g e
 Post personal discussion, the loan proposal is decisional considering
financials, legal and technical aspects of loan proposal. The proposal is
approved as per defined credit approval matrix

 Disbursement of the loan.

Once the proposal is approved, disbursement process is initiated
Disbursement process involves submission of all other relevant documents
including signing of loan agreement by customer
 Operational query
The operations department makes sure there is no query in the case and that
all the necessary document are in place, and the original documents of the
applicant are sound and genuine
Property documents, loan agreements and other important documents are
kept with operations department which are later sent to centralized storage of
the bank

CASE STUDY

CASE 1:

Application no: APPL00571195

Source: Referral [DSA]

Customer name: Mr. “N”

Loan amount: Rs. 80, 00,000

Product: Business loan

Sub product: retail

Program: EMI Multiplier

Location: Surat

The case.

Customer: Mr. “N”

33 | P a g e
Firm: ABC

Partners Details:

Partner Name PSR%

“N” 50
“V” 25
“X” 25

Business: Trading of cement

Requirement: Balance Transfer of Rs. 50, 00,000 from HDB Ltd and also TOP-UP of Rs.25, 00,000.

End Use of Funds: Customer requires fund for expansion of business by taking dealership of other
cement company

DAY 1: DSA provided the documents of the customer, which were prima facie scrutinized for login file
into system

The following things should be present:

Documents Yes/no
1. Identity of firm as well as the partner (Pan card & Adhar card) and residential Yes
proof of the partners (Adhar card and electricity bill)
2. Business continuity proof ( Gujarat sales tax statement of 2002) Yes
3. IT returns of last 3 years of the firm as well as the partners. no
4. Computation of income of last 2 years Yes
5. Profit & loss a/c of last 2 years and balance sheet of last 1 year Yes
6. TAX AUDIT report Yes
7. Form 26 no
8. Sanction letter of previous or current loans Yes
9. Latest partnership deed and supplement deed for any changes in constitution yes
with stamp
10. Noc letter from HDB Bank, for balance transfer No
11. VAT returns No
12. Property paper No
13. LIC paper No
14. FATCA form No
Informed the customer to bring in all the required document

DAY 2:

 All above mentioned documents are provided by the customer.

 Sorted all the documents and prepared the file
 File logged in the system – NEO. (Where in all the details of the customer, loan amount,
property details, references feeded)

34 | P a g e
  Pulled the CIBIL of applicants and observed following
o Applicants were credit tested i.e. track record of previous loans observed
o CIBIL score of 842, 841 & 817 ( three partners)
o Decent repayment track noticed
 Considering requirement of customer the file logged under proper eligibility programme
(considering Gross Profit product and EMI Multiplier).
o GROSS PROFIT PROGRAMM:
 Eligibility:

Minimum gross profit should be Rs. 300000/- Yes

Jump in turnover should not be more than 50%, if No jump
there consider 150% of G.P of previous year
Gross profit should be 20% or less than that of turn yes
over
 The Gross profit is rs.1343443, to calculate the approx. loan amount that can be
disbursed is,
 Step 1: we divide G.P by 12 (1343443/12 = 111953)
 Step 2: Then multiply the result with the applicable DBR i.e. Debt
Burden Ratio (111953*.65=72769) and subtract if any loan obligation is
present to get the approx. EMI we can provide.
 Step 3: calculate EMI per lakh ( 100000*12/100 = 12000)
 Step 4: now answer from step3 divided by answer from step 4
(72769/12000= 60.64) this states that we can provide a loan amount of
Rs. 60 lakhs only whereas the customer requires a loan amount of Rs. 75
lakhs.
 Thus we will not consider The Gross Profit Program.
o EMI Multiplier Program.
 The program is only applicable is there is a B.T Balance Transfer from another
bank.

 If the loan is 12 months old 1.2x

 If the loan is 18 months old 1.5x
 If the loan is 30 months old 2x
 Here, we consider the current existing loan and its EMI i.e. 77633 and as the
loan started on 4-11-2013 which states that the loan is vintage of 30 months
and “2x” can be used
 Step 1: The existing EMI multiplied by 2 (77633*2= 155266)
 Step 2:Now we calculate the emi per lakh (100000*12/100 = 12000)
 Step 3: now we divide the answer from step1 by answer 2
(155266/12000 = 129.1) which, means the maximum loan amount that
can be disbursed is 1 cr 29 lakhs.
 And thus we consider EMI Multiplier Program for this case, as under this
program the bank can disburse the loan amount of Rs.75 lakhs.

35 | P a g e
DAY 3:

 OSV (Original, Seen and Verified) done for all the documents.
 Made the sanction login and check-list
 Shifted the file to Credit Department
o First collect the Processing fee cheque.
o RCU requested.
o Mail the request for the F.I (forensic investigation) of the residence of the customer, by
an outsourcing firm.
o Fire legal and technical report of the property, but as the property to be kept in
mortgage is in Ahmedabad, the Ahmedabad DCB branch will investigate that and send
back the report.
o Preparation of banking ( using Bank of Baroda & Surat Cooperative bank’s account) and
financials( using profit & loss a/c , balance sheets) to know the average bank balance,
ABB = 1,35,167 and financials made to check some ratios.

DAY 4:

 Queries from the credit department:

o FATCA form
o Form 26
o VAT returns
o Income statements to be CA verified
o SOA of HDB bank’s existing loan
 P.D (personal discussion) with the customer at his office premises done by the Credit
Department, to know all the minute details of the case brief description of which is hereunder

Applicant and co-applicants are engaged into business of wholesale and retail trading of cement from
self-owned commercial premises located at Kim, Surat. Business is run as partnership firm under style “
M/S ABC”. The said business is in operation for last 30 years and this is second generation accelerating
the business

Applicant is having dealership of ultratech cement, Sanghi cement, ACC Cement and operating in Surat
city only. Major clientele includes builders and private contractors. As said, his yearly accounted and
unaccounted sales turnover is around Rs. 350.00 Lacks with profit margin of around 6% with two staffs
to support the business

Applicant is having one self-occupied residential property at Surat, Self-occupied commercial property at
Kim, rented residential property at Ahmedabad as asset base

Normal Business activity and average inventory observed during visit

36 | P a g e
  Legal papers received from Ahmedabad, and found that there were two allotment letter for the
same property issued in 2001 & 2007 respectively, which is not legal, and thus there are high
chances of customer fraudulent.
 Thus the case was rejected considering above fact.

CASE 2:
Application no:

Source: Referral [DSA]

Customer name: “R.K”

37 | P a g e
Loan amount: Rs. 3.9 Cr

Product: Home loan

Sub product: Retail Mortgages

Program: Gross Profit Programme

Location: Surat

Brief case snapshot:

Customer: “R.K”

Firm: “MNO”, started in 1972.

Partners & Profit Sharing Ratio:-

Partner Name PSR%

“R.K” 50
“T.K” 50

Work: Applicant’s father and uncle started the business in 1972, since then the business is going good
and the applicant is engaged in wholesale & retail trading of all kind of shutting and shirting’s dress
material’s, school uniforms, towels light weight woolen blankets, bed sheets, bathroom designer
accessories like door and bathroom mats and curtains. Applicant is having distributorship of Mafatlal,
Birla century, Bombay dyeing for entire of south Gujarat region.

End Use: Applicant requires funds for purchase of bungalow at one of the prime location of Surat

DAY 1: DSA provided the documents of the customer, which have to be scrutinized carefully.

The following things should be present:

Documents Yes/no
15. Identity of firm as well as the partner (Pan card, Adhar card & passport) and Yes
residential proof of the partners (Adhar card and electricity bill)
16. Business continuity proof (shop establishment document 2002) Yes
17. IT returns of last 3 years of the firm as well as the partners. No
18. Computation of income of last 2 years No
19. Profit & loss a/c of last 2 years and balance sheet of last 1 year Yes
20. TAX AUDIT report No
21. Form 26 No
22. Sanction letter of previous or current loans No
23. Latest partnership deed and supplement deed for any changes in constitution No
with stamp

38 | P a g e
 24. Noc letter or CC renewable letter No
25. VAT returns No
26. Property paper No
27. LIC paper No
28. Fatca form No
29. Property papers (satta khat, master files) No

DAY 2:

 Application form filled and duly signed by customer.

 Office premises & property visit by RM (relationship manager).
 File logged into the NEO system.
 Generated CIBIL for individuals:
o Finding: score: 840
o 16 loans till now, 10 loans closed.
o One enquiry in last one month.
 FATCA form filled
 Log-in check list completed (all above mentioned documents were almost submitted)

DAY 3: File moved to CREDIT department

 F.I (Field Investigation) report for residence fired

 Processing fees cheque moved to bank (Rs.5725 i.e. Rs.5000=processing fees & Rs.725 towards
service tax)
 RCU (Risk Containment Unit) Initiated
 Title search and technical valuation request initiated to vendors
 Banking (of CC account) & Financial prepared (to be abreast about the financial aspect of the
firm and to fulfill some ratios requirement
 Queries generated in credit department:
o Welcome letter of consumer & home loan required
o ITR for of F.Y.13-14 & F.Y.14-15
o Form 26AS & VAT returns

DAY 4 & DAY 5: Bank Holiday

DAY 6:

 Received technical Report of subject property (Value of the property by the agency is stated at
Rs. 14.77 Cr.
 Considering Gross Profit Program:
o Eligibility:

39 | P a g e
 Minimum gross profit should be Rs. 300000 Yes
Jump in turnover should not be more than 50%, if No jump
there consider 150% of G.P of previous year
Gross profit should be 20% or less than that of turn Yes
over
o The gross profit is : Rs. 1,16,93,445 Cr. Now, to calculate the approx. loan we can
disburse to this customer is as follow:,
 Step 1: we divide the G.P by 12 to know the G.P per/month (11693445/12
=974481.
 Step 2: we multiply the G.P per/month by the D.B.R (Debt Burden Ratio), which
in this case is 75%, to know the approx. EMI that the customer can pay
in ,accordance with his existing gross profit. (974481/75 = 7,30,860)
 Step 3: now we divide the approx. EMI with EMI per lakh i.e. 1200
(7,3,860/1200= 609.05) this means we can provide a loan up to Rs. 6.09 Cr.
 Thus we would choose Gross Profit Program in this case.
 The reason we consider a surrogate program is because it would not fit under the normal
income norms.
 Due to the unavailability of Credit Manager the Personal Discussion is delayed by a day.

DAY 7:

 Personal discussion by credit manager with customer:

o Enquire about 3 big entries from the bank statements.
o Discussed about the life of the property to be mortgaged.
o An increase in the Direct Expenses from 11.3% to 38%, was questionable
o A sudden increase in cutting & repair expenses from 1.6 lakhs to 3.6 lakh in one year.
o A sudden increase in Incentive Income.
 Crucial problem with the case:
o Seller CIBIL damaged.
o The earning/ NET profit of the business is as low as 1-2%, according to which it will be
difficult for the customer to pay the EMI’s of the new loan, in accordance with his
required, loan amount.
o Further queries: current work orders, sale’s CIBIL, TDS paid receipt.

DAY 8:

 RCU received, Negative as there was a mismatch in the ITR file ( there was a difference in the
income of Rs. 1,67590/-)
o The actual error was from the IT department as the considered the customer’s income
as Rs. 7,92,700/- instead of Rs. 6,25,110/- under the act 143(1).

40 | P a g e
 oAs a result the customer filed a complaint for the alteration for the same and the IT
department corrected and the final income is considered as Rs.6,25,110/- u/s 154 of
Income Tax Act
o In such a situation, it is important to inform higher authorities and thus a mail regarding
the same was sent to the RCU (Risk Control Unit) and Mr. Ram (Head Credit Manager,
DCB Bank ltd)
 Received another technical for the mortgage property this time the value of the property by the
valuer is Rs. 15 Cr. (as it a high value, generating two technical for the same property is
mandatory)
o An as there is a difference in both the values, we considered an average of both of
them.

DAY 9: queries from Personal Discussion fulfilled.

 Received a clearance mail and Sanction letter from Mr. Ram (credit head manager, DCB
Bank Ltd, Chennai)
 Final log-in into the system, where obligations of CC and Home-Loan are taken
o Document Value of Property of Rs.3.90 Cr. entered as per satakhat (Agreement
to sale)
o The 3 C’s
o Collateral :
 Key strengths:
 Property situated in posh area holding handsome marketability
and better growth perspectives
 Weakness:
 Residual age of property is only 26 years
 Not maintained properly
 Generated Seller CIBIL and found default in existing loan track
with enquiries.
o Capability:
 Key strengths:
 Good repayment records of Home loan & Business loan.
 Decent transactions in banking
 Weakness:
 Applicant has repayment history of small business loans of 10
lakhs & business loan of 37 lakhs only.
 Cash flow is not justifiable, as his net profit on books as
reported PAT is just 8.2 lakhs.
o Character:
 Key strengths:
 Family business has a vintage of 40 years
 Operating from a G+4 building
 Decent goodwill in the market

41 | P a g e
  Final loan amount is lower of 100% of the property value (i.e. Rs.3.90 Cr.) or 75% of
Market Value (i.e. 11.25 Cr.) which comes to Rs.3.90 cr.
 Loan tenure : 180 months
 Interest rate : 11%
 EMI per month: Rs. 4, 43,273/-

42 | P a g e
CASE 3:
SME
Source: Referral [DSA]

Customer name: XYZ Company

Loan amount: Rs. 90 lakhs

Product: Working Capital requirement

Sub product: retail

Program: Financials

Location: Surat

The case:

Strength of the case:

 Client is in this business since more than 10 years.

 Operates from own office setup.
 Satisfactory banking, financials and PD.

Perceived Risk/Weakness of the case

 Business completely dependent on the applicant.

Deviations (to be taken from customer selection criteria)

Parameter As per policy As per case Justification Authority

RCU To be positive Refer to credit Applicant has two surname; so we had
due to two to check the PAN details in this case on
CIBILS. One in alternate name & observed that there
name of Vinod existed PAN in other name with same
Modi which is date of bith. CIBIL was hence
satisfactory generated on boith names with
while the other different PAN. CIBIL as per Vinod Modi
in name of shows excellent repayments in all his
Vinod Agrawal housing & business loan.
(client has
provided CIBIL in name of Vinod Agrawal shoes
affidavit) that high level of default. The address,
his surname is middle name & contact number in
also Agarwal both the CIBIL were not matching
showed many hence we also visited one of the
credit cards address observed in the CIBIL of Vinod

43 | P a g e
 defaults. Agrawal at kunal estate, bhatena,
Surat.

We met the owner of that premises, as

per him th owner rented the property
to Vinod Agrwal in 2015 but had since
made Mr. Vindo Agrwal vacate the
premise due to non payments of
rentals.

We showed the photo & ID proof of

our applicant to the owner who
confirmed that Vinod Modi ( ouw
client who also has a same surname
Agrwal) was not the person to whom
he had rented his premise. This
established that CIBIL in the name of
Mr. Vinod Agrwal was of different
person than our applicant.

Visit was jointly done by RSM of

Gujarat.
Additionally as Client is in the business of trading of
per documents plastic packaging material mainly used
submitted to us in textile industry. He started business
the client’s around 15 years ago. He was earlier
official address operating from rented premise at
appears to be in sagar textile market & has shifted to
sagar textile some other shop in same market since
market, ring more than 4 years. The office from
road, Surat. But where he operates Is his own but yet
RCU did found has not shifted his business proof. The
this place locked client has applied in VAT department
and no for change of address but still there
confirmation of has been no responses from the
this person from department. At time of visit good level
neighbors. of stock was observed which as per
client was of amount 10- 12 lakhs.
Delinquenc Nil 30 p in one This is the insurance top up for the L2
y housing loan of main loan availed by client. While all
Rs. 50000 with the EMI’s have been regularly cleared
outstanding of in the month of April 2015 while the
526 rs. other EMI’s of higher value for the
main housing loan & its top-up from
ICICI got cleared on the same date. The
client was unaware of the same and as
per client ICICI has not called him for

44 | P a g e
 the same. Cash receipt of the
insurance EMI will be submitted by
client.
Ownership Property to be Property owned One of the properties is currently L3
owned by by brother of occupied and owned by brother of Mr.
close family client. Vinod Modi (owner of XYZ
members COMPLANY). This property has been
provided to Indian Bank as collateral
and is part of takeover.
TOL/NOF 6:1 6.6:1 This is mainly due to one debtor >1 L3
Considering the years with value of Rs.11.17 lakhs.
entire USL Client is into this business and has limit
with Indian Bank since more than 5
years and has been enhanced limits to
Rs.75 lakhs in2013 from 52.50 lakhs.
Additionally client will be infusing
capital of Rs. 3.25 lakhs to ensure
TOL/NOF works out to 6:1 prior to
disbursement of limits.

Limits recommendation – Rs. In Lakhs

facility Product Amount Margin Interest rate Repayment

DLOD SME flexi 1 90.00 95% SORP & 14.00% On
70% in Rented demand/120
residential months

Prime security:-

1. A flat at Indraprasht complex, Surat. Owned by Vinod kumara mangilal Modi (self-occupied)
2. A flat at Vatika Township, south Zone, Surat. Owned by Babita Vinod kumara Modi. (rented)
3. A flat at Neelkanth heights, Surat. Owned by brother of Vinod Kumar Modi.

Collateral security: - Stock and book debts.

Guarantors:-

 Mrs. Babita Vinod Kumar Modi

 Mr. Pramod Mngilal Modi

Specific conditions:

 Processing charges @ 1.00% + ST to be recovered.

 CA certification of position of statutory dues to be submitted before disbursement.

45 | P a g e
  Legal (title + search report) of the properties to be obtained from DCB’s Bank’s panel lawyer and
all the documents as suggested by them to be obtained.
 Capital of Rs. 3.25 lakhs to be infused prior to disbursement of limits and capital of Rs. 44.28
lakhs to be at least maintained at current levels during the banks finance.
 Initially limit with Indian Bank will be taken over. Only on receipt of NOC and all documents as
per banks legal opinion along with REM will the balance limits be disbursed.
 Current account with oriental bank of commerce to be closed within 30 days of initial
disbursement. Of the balance to be released post creation of REM Rs. 10 lakhs to be kept on
hold till closure of the account with OBC.
 Copy of lease deed to be submitted and letter from lessee to hand over peacefully possession to
be obtained prior to disbursement of limit for the leased out properties.
 Proof proprietors KYC should have updated address of the shop in Sagar Textile Market, Ring
road, Surat prior to disbursement of limit.

Sr.No Name of Schedule Attached

Y/N
1. Banking analysis Y
2. Personal discussion report Y
3. CIBIL and other Internal/External checks Y
4. Details of group exposure ( if any) Y
5. Assessment of non-funded limits (if any) Y
6. Credit ratings Y
7. Customer selection criteria y
8. Financials analysis y
9. Applicable eligibility sheet (SME Flexi 1/2/3/4/5 CC) Y
10. Property details valuation report Y
11. Title clearance report Pending

Schedule 1 – Banking Analysis

Account conduct: from 01.07.2015 to 231.12.2015

Net sales in above period – Rs. 159.26

Amount % to net sales

Churning in the Current account with OBC 41.12 25.82%
Churning in the CC account with Indian Bank 116.60 73.21%
Total 157.72 99.03%

Reason for high or low churning Churning is in line with overall sales
Are there cash transaction high Very few cash transaction
Are there transfer from other account of the party? No

46 | P a g e
 Are there large/ regular group transfer No
Any Non business credit seen (capital/USL/& others) No
Are there transactions of round amounts Yes but few & same are cash transactions
Are there any transaction of large value 1 of Rs.20 Lakhs of debit trf on 30 & credit trf
on 1st of next month is internal in nature.
Any LC development, BG invocation observed Nil
Inward return No
Outward return No
Interest serving on existing CC/OD Regular
EMI repayment on existing loans Regular in all cases of loan availed from ICICI
except in one instance of one loan of Rs.
5000 (for which deviation is proposed)

Break-up of churning in different account

Bank name Type of accopunt % of turnover Proposed to be closed/

continued
OBC Current 25.8% To be continued as his
EMI’s are beinmg
serviced from his
account
Indian Bank CC 73.21% Will be closed

Schedule 2- personal discussion / credit visit report

Name of the applicant XYZ company

Date of visit 03/04/2016
Place of visit Office and go down
Distance from nearest branch 3 kms
Person met Owner
Cooment on condition of the unit Normall office set-up observed with some stock
at office.
Comment on levl of business activity Visit was at morning when level of activity was
average.

Verifications

Ha there a loss of key client or supplier of R.M NO

Is there a risk of concentration No has sufficient client base
Has there been significant addition or sale of 1 car purchased for his children
fixed asset recently?
Has there been any diversion of funds to real No
estate or unrelated activity?

47 | P a g e
 Has the applicant loss any key personal No
Is the applicant planning for a expansion Incremental business plan
Has the customer indicated that they are not able No
to pay any interest or any other obligation
Any loan taken by the customer post last 1 car loan
available balance shet date from banks / Fi

Discussion

Nature of business (vintage, products, suppliers,  Applicant started his business 15 years
customers, industry , competitors, sales trend , ago.
future potential etc.  Client is in the business of trading of
plastic packaging material mainly used in
textiles industry. Main clients are from
Gujarat.
 He purchases material from
manufacturer & large whole sellers
depending on type of requirement.
Credit period is around 60 days & he also
extends similar credit.
 Has 3 employee under him. His children
have not yet joined his business.
 The office from where he operates is his
own but yet has not shifted his business
proof. The client has applied in VAT
department for change of address but
still there has been no responses from
the department.
 And a good amount of stock of Rs. 10 –
12 lakhs observed.
End use of funds For takeover of account and further funds to
increase turnover in existing business.
Reason for switching banks, Enhancement in limits

Remarks/ specific observation  Applicant has 2 surnames; we checked

for PAN details in this case on alternate
name & observed that there existed PAN
in other name with the same date of
birth. CIBIL as per Vinod Modi shows
excellent repayments in all his loans
including housing and business loans.
 CIBIL in name of Vinod Agrwal shows high
level of default. The addresses & contact
nu,ber in CIBIL was different from
applicants, CIBIL hence visited one of the
addressed observed in the CIBIL of Vinod

48 | P a g e
 Agrwal at Kuna lest, Bhatena, Suart.
 We met the owner of this particular
premise and as per the owner, he has
rented the premise to Mr. Vinod Agrwal
in 2015 but had since Mr. Vinod Agrwal
vacate the premise due to non paymemt
of rentals.
 We showed the photo & ID proof of our
applicant to the owner who confirmed
that Mr. Vinod Modi ( our client who also
has the surname Agrwal) was not the
person to whom he had rented his
premise. This established that the CIBIL in
the name of Mr. Vinod Agrwal was of
different person than our applicant.
 Visit by RSM for Gujarat.

Schedule 3 – CIBIL and other internal/external checks

Reporting of defaulters status

CIBIL as per – Credit Bureau Policy

Name of report Checked on Full name of Remarks

Borrowed/Director `
Individual CIBIL 09.04.2016 Vinod Modi  Enquiries in
last 6 months:
nil
 Active trade
lines 7
 Trans union
score : 803
 Delinquency: 1
loan of 50000
showing 20
dpd

49 | P a g e
 09.04.2016 Babita modi  Enquiries in
last 6 months:
nil
 Active trade
lines 3
 Trans union
score: 795
 Delinquency: 1
loan of 50000
showing 20
dpd
09.04.2016 Pramod modi  Enquiries in
last 6 months:
nil
 Active trade
lines 0
 Trans union
score: 817
 Delinquency :
nil
Commercial CIBIL 09.04.2016 XYZ company  Asset
classification:
nil
 Willful
defaulters: nil

Internal/external checks sheet to be attached

No match found in below mentioned list

Sr.no List name # of match

record
1. CRAM exit CBBG closed acts 0
2. CRAM stress account existed 0
3. ROC deleted companies 0
4. CA list negative 0
5. TOP 50 BANKS LAON DEFAULTER OWE OF RS 40000 CR 0
6. Commercial vehicles – list of defaulting borrowers 0
7. Director intreseted list of defrauding borrowers 0
8. Exporter cautions list 0
9. NSEL (national stock exchange list) defaulter list 0
10. Proposal reject for SME 0
11. Proposal reject for SME 0
12. Proposal reject for corporate 0
13. RBI defaulter 0
14. Bank loan defaulter top 400 0

50 | P a g e
 15. NPA list 0
16. Director defaulter list 0

SME Credit Rating Model answers

name of the party XYZ company
profile & track max
record . alloted
less than 2 years 0
2yrs and less 5 years 2
business vintage 5 5 11
5 years to 10 years 3
more than 10 years 5
proprietor/individual 0
proprietor/
partnership firm 2
Constitution 5 0 individual business
LLP/OPC 3 man
Company 5
negative score -1
defaults with 30 days 0
CIBIL &other checks 5 5 all reports clear
credit cards defaults 2
all reports clear 5
retail trade 0
service sector 2
wholesale trade 4
Activity
exporters 6
distributors 8
manufacturer 10 10 4 Wholesale
sourcing by connector 0
sourcing by sales 2
Sourcing
recommend by ext. CA 4
existing DCB loan 6 4 2 sourcing by sales
non priority 0
priority classification priority 5 5 5 Priority
sub-total 40 21
max
BANKING
. alloted
less than50% 0
total churning in the 50-60% 4
account 61-80% 6
above 80% 10 10 10 above 80%
interest/ EMI irregular -1 5 5 regular

51 | P a g e
 paid with delay 2
servicing
regular 5
more than 10% -1
5.1% to 10% 0
cheque return
2% to 5 % 3
less than 2% 5 5 5 Less than 2%
sub-total 20 20
max
FINANCIALS . alloted
no growth 0
upto 10%gowth 3
growth in sales
over 10% - 20% growth 6
above 20% growth 10 10 0 0.07%
upt 5% of sales 0
upto 5% to 8% of sales 2
net profit margin
upto 8% to 12% of sales 3
over 12% 5 5 0 1%
below .75 -1
.75 - 1.00 0
current ratio 1.01 - 1.17 3
1.18 - 1.33 6
over 1.33 10 10 6 1.18
Above 8.00 -1
6.01 - 8.00 0
TOL/TNW 4.01 - 6.00 2
2.01 - 4.00 3
less than 2.00 5 5 2 5.12
Above 6.00
4.01 - 6.00
TOL/NOF
2.01 - 4.00
less than 2.00 5 0 5.36
recivables days above 180 days 0
151 days to 180 days 2
91 days to 150 days 3
upto 90 days 5 10 0 108
SUB-TOTAL 40 8
max
Sr.no criteria % . alloted
1 Profile & track record 53% 40 21
2 banking 100% 20 20
3 financials 20% 40 8
total 100 49

52 | P a g e
 final score rating Final rating
86 & Over AAA
76-85 AAA
61-75 A
51-60 BBB
41-50 BBB
40-25 B BB

schedule 1 - SME -flexi customer selection criteria for limits up to 100 lakhs
name of the party XYZ Company
sr.n complie deviation
Criteria attributes actuals
o d s
customer profile & verifications
1 Profile not a negative profile yes L5
max age of proprietor - 65 years on
proprietor age application yes L3
2 geo limit business unit is within 25 kms yes l4
residence
3 stability 3 years yes l2
4 years in business min 2 years yes l2
observation & verification
5 KYC validation company/firms/guarantors yes na
all internal and external checks to be
6 internal/external done yes l5
CIBIL check individual and commercial CIBIL yes l5
refer to
7 RCU RCU to be positive NA credit l4
valid shop est or applicable busi
8 busi licenses license submitted yes l2
9 PD If more than 50 lakhs, by CA YES L4
10 busi unit visit RM to visit the busi unit yes l4
11 property visit RM to visit the property yes l3
12 customer rating min B- internal excel rating sheet yes l3
13 trade reference min 2 reference check to be done yes l2
financial & performance
net churning min 50% yes
interest on CC/.OD to be serviced in
15 days yes
14 track record l3
TL repayment- max 30 dpd in last 12
months yes
ICR- max 10% of cheque issued yes
15 financials capital and NP for last 2 years to be yes l3

53 | P a g e
 positive
TOL/TNW max 8:1 yes
L3
deviatio
TOL/NOF max 6:1 No n
current ratio min 1:1 (for OD) yes
parameter debtor days to be within 180 days yes
debtors >1 years to be reduced from
net worth yes
falls in sales not>10% over last year yes
for TL under SME credit, DSCR to be >1 Na
if WC elsewhere, only TL with PDC/ECS
of entire tenure Na
prime and collateral securities and guarantors
property to be within 50 kms of any
branch yes l4
if rented, lease deed and letter from
lessee yes l3
max age of the owner 70 years for OD
& 80 yrs. -TL yes l4
Property age of Max 50 years yes l4
if loan amount > 50lakhs, 2 valuations
15 primary security to be done, if difference is more than
15%, then lower value + 7.5%
yes l4
if multi rented, max 4 tenements NA l3
if industrial property, then only land
value NA l4
industrial as mix with SORP/CP not
more than 25% NA l5

current asset taken if classified as CRE

16 collateral with+.5% yes l3
17 guarantors all joint property owner taken as
guarantors yes NA
for partnership firms - all partner
taken as guarantor na na
if individual, a lady has to be taken as yes l3
guarantor
if age > 65, all legal heir taken as guar. na
if PL, directors &51% shareholders na
taken as guar.
I public ltd, all promoter director taken na
as guar.

54 | P a g e
 offering and eligibility criteria
funded: min 10 lakhs, max 50/100
18 Amount lakhs yes l5
19 TL/DDOD max 180 months na l5
Tenor
OD up to 50 lakhs 2 years yes l5
exposure not assessed under multiple
20 multiple product products yes l5
eligibility assessment condition stipulated to be
21 computation complied yes l4

Financial ratio

Financial Ratio
2014 2015
Total outside liability 243.16 210.09
tangible net worth (TNW)
(after considering , preliminary reserve, intangible asset, deferred
tax asset, deferred tax liability)
34.45 41.03
less : advance to group 14.1 1.86
total USL 1.66 1.66
add : USL considered as Quasi equity 0 0
Net Owned Fund (NOF) 21.34 39.16
TOL/TNW 6.86 5.12
TOL/NOF 11.39 5.36
TOL/NOF (if book debts> 6 months reduced from TNW) 11.39 7.51
TOL/NOF (if 100% USL considered) 6.51 6.61
current ratio 1.15 1.18
net working capital 31.99 32.56
receivables turnover (in days) 139 108
inventory turnover 35 64
payable turnover 86 65
debtors > 6 months % to Total Debtor 0% 8%

Sme flexi 1 EB

SME flexi 1 (EB)

name of the customer : XYZ company

Particulars Audited
31-03-15
A net sales 431.71
50% of sales 215.86

55 | P a g e
 30% of sales 129.51

profit after tax 11.04

add: provision for tax 0
add: depreciation 0.13
add: interest paid on exposure 8.28
less: int on post balance sheet 0.14
profit before depreciation & tax 19.3
B less: non-operating income 0
add: non-operating expenses 0
for partnership concern

add: salary/interest paid to partners/directors 0

operative Net Profit Before Tax &
Depreciation & interest (pbdit) 19.31
8 times of PBDIT 154.45

LTV Exposure >50 lakhs

DCB bank customer >1 year no
sole banking- all other bank CA to close yes
property type LTV VALUE
SORP/SOCP 0.95 70.45
lease out/ vacant residential 0.7 34
C
industrial gala self-occupied 0.7 0
industrial gala rented 0.6 0
self-occupied industrial 0.5 0
open plots 0.4 0
total value 104.45
eligibility as per LTV 90.73

effective parameters
EB TL 50% of sales 215.86
EB OD 30% of sales 129.51
8 times o PBDIT 154.45
as per property value 90.73
EB TL MPBF - 50% of sales 90.73
EB OD MPBF- 30% of sales 90.73
final eligibility proposed
max OD 90.73 90
max TL 90.73 0
max Exposure 90.73 90

56 | P a g e
 Banking

name of the customer XYZ Company

bank
name OBC Account with Others
xxx-xxx-xxxx- nature of
AC no xxx a/c holder XYZ Company account current account
no.o
10t avg business no.of f
Month 5th h 15th 25th balance no.of credit credit amount ICR OCR
1.0
Jul-15 1.07 9 0.18 0.83 0.79 9 10.3 0 0
Aug- 1.7
15 2.9 9 1.3 1.07 1.76 4 2.82 0 0
1.1
Sep-15 0.37 6 4.53 1.28 1.84 15 13.19 0 0
1.7
Oct-15 5.7 3 2.35 1.17 2.74 5 2.5 0 0
Nov- 0.1
15 0.94 4 0.14 0.14 0.34 4 5.89 0 0
Dec- 0.3
15 0.72 7 2.28 0.11 0.87 6 6.43 0 0
total 0.7 43 41.12

bank
name INDIAN BANK
xx-x- XYZ
A/C no xxx a/c holder company nature of a/c cash credit
no.o
10t avg no.of business no.of f
Month 5th h 15th 25th balance credit credit amount ICR OCR
Jul-15 0 0 0 0 0 56 24.53 0 0
Aug-
15 0 0 0 0 0 35 21.25 0 0
Sep-15 0 0 0 0 0 22 16.19 0 0
Oct-15 0 0 0 0 0 29 20.04 0 0
Nov-
15 0 0 0 0 0 27 20.41 0 0
Dec-
15 0 0 0 0 0 21 14.16 0 0
Total 0 190 116.6

57 | P a g e
 A bank has to face various different type of risk which can be categorized
as :

credit risk

liquidity risk

market risk
risk

business risk

reputational risk

Operational Risk

systematic rsk

One of the most important risk is the risk involved in operations i.e.
operational risk (OR).

 OPERATIONAL RISK
Operational Risk is the risk of loss resulting from inadequate or failed
internal process, people and system or from external events. This definitions
58 | P a g e
 includes legal risk but excludes strategic and reputational risk. It is based on
the underlying causes of operational risk. It seeks to identify why a loss
happened and at the broadest level includes the break down by four causes:
people, process, system, and external factors.

Cause Risk Events (what goes wrong) Impact

Fraud

Human error in processing Costumer’s claim

transactions. Near misses
Internal
System failures. Foregone revenue
(People,
process, Vandalism from an To purchase of stuff
system) employee.
Fine from authority.
Not compliance in with law
and regulatory requirement.

The Basel committee has noted that the most important type of operational
risk involves breakdown in internal control and corporate governance. Such
breakdowns can lead to financial losses through error, fraud or failure to
performs within accepted time-lines or cause the interest of the bank to be
compromised in some other way, for example by its dealer lending officers
or other staff exceeding their authority or conducting business in an
unethical or risky manner. Other aspects of operational risk include major
failure of information technology system events such as major fires or other
disaster.

59 | P a g e
 Contrary to other risk, operational risk are usually not willingly incurred nor
are they revenue driven. Moreover, they are not diversifiable and cannot be
laid off, meaning that as long as people, system, and process remain
imperfect, operational risk cannot be fully eliminated.
The identification and measurement of operational risk is a real and live
issue for modern-day banks, particularly since the decision by the Basel
Committee in Banking Supervision (BCBS) to introduce a capital charge for
this risk as a part of the new capital adequacy framework (BASEL III)

 TYPE OF OPERATIONAL RISK

The Basel Committee identifies the following types of operational risk
events as having the potential to result in substantial losses:-
 Internal fraud: example, intentional misrepresentation of position,
employee theft, and insider trading on an employee’s own account.
 External fraud: example, robbery, cheque kiting, and damage from
computer hacking.
 Employment practices & workplace safety: example, workers
compensation claims, violation of employees health and safety rules,
organized labor
 activities, discrimination claims, and general liability.
 Products and business practices: example, fiduciary breaches, misuse of
confidential customer information, improper trading activities on the bank’s
account, money laundering and sale of unauthorized products.
 Damage to physical assets: example, terrorism, vandalism, earthquakes,
fires, flood etc.
 Business disruption & system failures: example, hardware and software
failures, telecommunication problems, and utility outages.
 Execution and process management: example, data entry offers, collateral
management failures, incomplete legal documentation, and unauthorized
access given to client accounts, non-client counterparty mis-performance,
and vendor disputes.

 HOW TO MEASURE OPERATIONAL RISK:

60 | P a g e
  Basic indicator approach:
o Base II requires banks to set aside capital for operational risk.
o Basic approach is the simpler as compared to all other approaches,
and thus is recommended for banks without significant international
operations
o According to basic indicator approach, a bank must hold capital for
operational risk equal to the average over the previous three years of a
fixed percentage of positive annual gross income. Figure for any year
in which annual gross income is negative or zero should be excluded
from both the numerator and denominator when calculating the
average.
o The fixed percentage ‘alpha’ is typically 15 percent of annual gross
income.
o Average of last 3 year GI * (155)

 Standard approach:
o Under this the banks activity are divided into eight business line, with
each business line gross income is a broad indicator that serves as a
proxy for the scale of business operations and this the likely scale of
operational risk exposure with each case of these business line
o The capital charge of each business line is calculated by multi [plying
gross income by a factor (denoted as BETA) assigned to that business
line. Beta serves as a proxy for the industry wide relationship between
the operational risk loss exposure for a given business line and the
aggregate level of gross income for that business line
Business line Beta factor
o Corporate finance o 18%
o Trading and sales o 18%
o Retail banking o 12%
o Commercial banking o 15%
o Agency services o 18%
o Asset management o 12%
o Retail brokerage o 12%
o The total capital charge is calculated as the average of the simple
summation of the regulatory charges across each of the business line

61 | P a g e
 in each year. If in any given year negative capital charges in any
business line may offset positive capital charges in other business line
without limit.
o Standardized approach was modified in 2014 as Standardized
Measurement Approach.
 Advanced Measurement Approach:
o Under AMA three banks are allowed to develop their own empirical
model to quantify required capital for operational risk. Banks can use
this approach only subject to approval from their local regulators.
Once a bank has been approved to adopt AMA, it cannot revert to a
simpler approach without supervisory approval.
o The Four Data Elements:
 According to BCBS supervisory guidelines, an AMA
framework must include the use of four data elements
 1.> internal loss data
 2.> external data
 3.> scenario analysis
 4.> business environment and internal control factors
o Loss Distribution Approach:
 Here, a bank first segments operational losses into
homogeneous segments, called units of measure. For each unit
of measure, the bank then materialize in one year horizon.
Given that data sufficiency is a major challenge for the
industry, annual loss distribution cannot be built directly using
annual loss figures, instead, a bank will develop a frequency
distribution that describes the loss amount of a single loss
event. The frequency and severity distribution are assumed to
be independent. The convolution of these two distributions then
give rise to the annual loss distribution.

Operational risk management process:

62 | P a g e
 risk policy

risk mangement risk

& reporting identification

risk reporting risk assesment

1.> Risk policy

Advanced measurement
approach AMA

Regulatory Capital = Internal statistical

model - capital charge is equal to the
unexpected losses (UL) with 1 year of S
horizon time and 99.9% of confidence O
level; effect of insurance up to 20% can
be taken it t
P
H
 develop a risk management I
Standard approach framework: methods to
S
identify, assess, monitor and
control; T
SA
I
 Collect internal loss data;
C
Regulatory capital = =  GI *BL  use external losses; perform A
scenario analysis and review T
(Between 12% and %) business environment and I
Basic indicator approach internal control factors;
BIA O
 board of directors and senior management actively involved; N
REQUIRED CAPITAL =  clear role and responsibilities assigned;
AVERAGE OF LAST 3 YEAR
 systematic collection of operational risk data, integrated into
G.I *  (15%) the processes;

63 | P a g e
 2.> Risk identification:
a. The detection of any event which potentially triggers a material
business impact, or which represent a modification of the risk profile,
must be done as early as possible and could be initiated by:
i. Claims form customers or incidents
ii. Key risk indicators breaches
iii. External losses
iv. Change of business
v. New regulatory requirement
vi. Internal/external audit finding
vii. New product/project
viii. Scenario analysis
b. All the risk as well as root cause of losses are identifies and mapped to
the banks risk classification ( Basel II event type) and the potentiall
impact estimated (how, where, how much)

c. The type of events are as follow:

Internal fraud: example, intentional misrepresentation of position,
employee theft, and insider trading on an employee’s own account.
External fraud: example, robbery, cheque kiting, and damage from
computer hacking.
Employment practices & workplace safety: example, workers
compensation claims, violation of employees health and safety rules,
organized labor activities, discrimination claims, and general liability.
Products and business practices: example, fiduciary breaches,
misuse of confidential customer information, improper trading
activities on the bank’s account, money laundering and sale of
unauthorized products.
Damage to physical assets: example, terrorism, vandalism,
earthquakes, fires, flood etc.
Business disruption & system failures: example, hardware and
software failures, telecommunication problems, and utility outages.
Execution and process management: example, data entry offers,
collateral management failures, incomplete legal documentation, and
64 | P a g e
 unauthorized access given to client accounts, non-client counterparty
mis-performance, and vendor disputes.

The instrument usually used in order to identify ex ante, and then monitor and
calculate the exposure to operational risk are:

Business environment
Internal loss data KRI

External loss data Control factors Scenario analysis

BACK-ward looking PRESENT- looking FUTURE- looking

Internal loss data:

Collection of Operational Losses (Financial/Non-financial impacts including
Penalties) in business processes and projects, structured by risk categories, such as
technology, human resources, organization, external factor.
 Following things are kept in mind while finding Internal Loss Data:
o Gross loss amount: The loss amount before any recoveries from
insurance.
o Date of event: institution have recorded one or a combination of
the date the loss occurred, the discovery date or the accounting
date.
o Descriptive information: manual enrichment by business units
adds valuable qualitative information, such as the case of the loss
and failed controls.
o The classification of the loss: once the data is collected institution
have had to classify the loss into one of the Basel BU/risk type
combition.

65 | P a g e
 o The nature of the loss: credit risk and market risk related losses
should be flagged to ensure correct treatment in capital calculation.
o loss amount should be in Euro currency.
o Event type
The minimum requirements to report operational risk loss event are:
 Comply to the “Coverage, Completeness, Correctness”
o Coverage: all business units in the countries are able to report
loss data
o Completeness: all events and all loss amounts are reported
o Correctness: all information per event is accurate and complete
Three methods of recognizing internal loss data
Method 1.> an employee discovers an event that leads to financial loss.
Method 2.> derived from general ledger input: accounting staff assess accounting
entries and recognizes operational risk loss events
Method 3.> derived from general ledger output: the operational risk management
can refine operational risk loss data from general ledger posting by using some
kind of pre-defined logic.

External data:
A banks operational risk measurement system must use relevant external data
(either public data or pooled industry data), especially when there is no reason to
believe that the bank is exposed to infrequent, yet potentially severe losses. These
data should include data on:
 actual loss mounts,
 information on the scale of business operations where the event
occurred
 Information on the cause and circumstances of the loss events,
 other information
External data can be collected from:

66 | P a g e
  Public data can be obtained from reports in the media and magazines
on losses of over $1 million.
 Data provided by insurance brokers have to do with losses claimed by
financial institution. The major advantage of this source is its
reliability.
 Non-public data obtained by compiling internal data from banks,
which have agreed to share their information, thus constituting a
consortium, ORX (operational Risk data Exchange Association).
However, given the confidentiality of the information shared, only the
statistics and analyses pertaining to the losses are available to
participants.
External data loss should contain the following:

 Type of event & description of event
 Loss amount
 Date of the event
 Country where loss occurred
 Information on the institution where the loss occurred: total asset,
total equity, total deposits, total revenue, number of employees.
Key risk indicators:
An operational risk indicator is a metric that provides information on the level of
exposure to a given operational risk that the organization is experiencing at any
time. These KRI provides an insight into a bank’s position. These should be
reviewed timely
Effective KRI should be:
 Measurable – metrics should be quantifiable (eg: number, count, percentage)
 Predictable – provide early warning signals
 Comparable – track over a period of time (trends)
 Informational – measure the status of the risk and control
Types of KRI:
 Leading KRI: these are considered predictive in nature. They are derived
from metrics that can help to forecast future occurrences.

67 | P a g e
  Lagging KRI: these are based on historical data. These help to identify
trends in the firm.
KRI roadmap:

 LRI identification:
o Identify existing metrics.
o Assess gaps and improve metrics
o Identify KRI’s via risk control self-assessment(RSCA)-
interview business unit
o Concentrate on significant risk and their causes and
consider forward looking and historical indicators.
o Data should be collected on a systematic and consistent
basis in order to be meaningful, example: monthly.
 KRI selection:
o Select the KRI that are Measurable, Meaningful, and
predictive
o Gather a good mix of leading and lagging indicators for
effective risk management.
o Don’t select KRI’s that are difficult to track or might
become unmanageable.
 KRI tracking and reporting:
68 | P a g e
 o Periodic tracking of KRI’s
o KRI should be reported regularly and escalation
procedures should be in a place to ensure timely
reporting to management and board.
o Reporting KRI to head if business unit by KRI owners.
Head of business unit then reports into the risk
management. Risk management reports to risk board and
when applicable, the full board
 Risk mitigation plan:
o Risk mitigation plan should be set for High risk items.
o Items with high severity or high frequency of occurrence
need to have RMPs (risk mitigation plan) to mitigate risk
and enhance controls.
o Determine what high risk is by assessing control levels.
o Track RMP’s to ensure that controls are enhanced and
risk is mitigated. Report on RMPs to management and set
target completion dates.
Basel loss type KRI KRI type
Execution, delivery and Number of accounts Lagging
failure opened with incomplete
documents
Execution, delivery and Number of customer with Lagging
failure multiple accounts under
different names
Execution, delivery and Number if reported Lagging
failure instances where Term
Deposits received as
collateral were not lein
marked
Execution, delivery and Number of customer Lagging
failure request processed after
cut off dates
Execution, delivery and Number of days when Leading
failure Branches are not manned
Internal fraud Number of reported Lagging
instances of theft/losses

69 | P a g e
 of secured stationery
Internal fraud Number of reported Lagging
instances of misuse of
Bank’s letterhead
Execution, delivery and Number of branches Lagging
failure operating without CCTV

Control Factors:
These are the means by which the management can mitigate inherent risk
exposure. Specially, the internal control implemented by management will shape
the businesses OR profile by defending the residual risk profile under which the
bank operates on a daily basis.
 These can be classified as
o Preventative:
These are those which are already in place before an operational event
occurs. They can operate from:
 Before an event, to prevent that event from occurring
 After an event, by preventing that event from causing a
loss, even if the event has not been detected.

EVENT OCCURS LOSS BEGINS

PREVENT EVENT PREVENT LOSS

Example: a probity check on new employees is a preventative control
that mitigates the frequency of internal fraud
o Detective:
These operate automatically to provide a warning signal to the bank.
They can:
 Detect and signal an event, before a loss emerges, thus
providing an opportunity for the bank to avoid incurring a loss;

70 | P a g e
  Detect and signal emerging losses, thus providing an
opportunity for the bank to mitigate the severity of the losses
from the event;
 Detect loss after the final loss has emerged, and inform the
bank staff who can deal with the situation.
Example: Independent reconciliations are a detective control that can
reduce both the frequency and severity of internal frauds: their very
existence can deter potential fraudsters from committing the act, thus
reducing the frequency of internal frauds; and the detection of a fraud
can alert management of the event, allowing remedial action to be
taken, thus reducing the severity of the fraud.

o Remedial:
They do not operate automatically; they must be consciously
implemented, after it is known that an event or loss has occurred.
Remedial control can be implemented:
 After an event has been detected, to remedy the situation before
a loss emerges;
 When emerging losses have been detected, to remedy the
situation before further losses can occur;
 After the total loss is know, in an attempt to recover some or all
of the loss suffered.
Measuring the Internal Control Factors:
 These can assessed using subjective expert opinion of their qualities, or
objective data reflecting their effectiveness. One difficulty faced when trying
to measure the effectiveness of a preventive control is that its effectiveness
of a preventive control is that its success and failure rates, mangers need to
know both the number of times that a control failed and the number pf times
it succeeded in preventing an OR event, over a chosen time horizon. Control
failures resulting in OR events are typically observable, but certain OR
events may pass by unnoticed for some time, or even indefinitely.
 Further, iti is not always observable when a control is successful in
preventing an OR event( for example, when the presence of a security
camera prevented am act of vandalism, or a robust segregation of duties

71 | P a g e
 structure deterred a staff member from attempting to execute unauthorized
trade). Banks should appreciate the existence of control success and failure
that are unobservable, and that evaluating control effectiveness involves
assumptions, estimation and uncertainty.
Scenario analysis:
Scenario analysis is the process of estimating the expected value of a portfolio after
a given period of time, assuming specific changes in the value of the portfolio’s
securities or key factors that would affe3ct security values, such as changes in the
interest rate.
It is commonly focuses on estimating what a portfolio’s value would decreases to
if an unfavorable event, or the “worst-case scenario”, were realized. Derived
reasoned assessments of likelihood and impact of plausible operational losses,
consistent with regulatory soundness standard.
An example of Scenario analysis:
Max
single
event
loss (in
event type estimated no.of events In a year $ mm)
$20k - $100k - $1m - $10m - >$10
$100k $1m $10m $100m 0m
exceution,
delivery &
maintaince 51 20 2 .03 0 50
fraud, theft,
unauthorised
events 50 3 1 0.25 0.1 100
clients,
products &
business
practises 20 5 1 0.5 0.1 150
employment
practises &
workplace
safety 5 1 0.1 0 0 10

72 | P a g e
 damage to
physical assets 10 5 2 0.05 0 100

73 | P a g e
 3.> RISK ASSESMENT:
The Operational Risk Function assesses the risk exposure both in qualitative and
quantitative term.
The assessment of an incident or a potential risk aims at quantifying the risk in
financial terms using either simple or sophisticated methodologies like simulation
using Monte Carlo approach
.
Assesment with LDA (Loss Distribution Approach)

Example of internal module simulation

We consider an insurance company with following characteristics:
 50 weeks old
 Historical loss data well documented:
* 3 fraud events Losses in the range 100 000 € - 1 000 000 €
* 5 lawsuit actions Losses in the range 50 000 € - 200 000 €
* 2 vandalism Losses in the range 10 000 € - 150 000 €
* 7 damages to physical assets Losses in the range 40 000 € - 800 000 €
Step 1: input
Convert those events into scenarios:
Range of loss severity Frequency (weeks)
74 | P a g e
 Scenario 1 100000 – 1000000 3/50
Scenario 2 50000 – 200000 5/50 = 1/10
Scenario 3 10000 – 150000 2/50 = 1/25
Scenario 4 40000 – 800000 7/50

As the number of losses may remain as insufficient basis, one more scenario
deemed relevant can be added: *Terrorism attack
Scenario 5 500000 – 10000000 1/200

Step 2:
we translate the severity into scale distribution of severity and we fit the best
parametric distribution

After this, as severity and frequency are two independent random variables and we
simulate them independently.
Monte carlo stimulation

75 | P a g e
 4.> Risk reporting:
Enhance senior management awareness of operational risk: it is put on the
agenda

The BOD and senior management are timely and soundly informed about
material risk and change of the actual risk profile of the bank, covering
causes, potential early mitigation measures, assessment and
recommendation, in order to take the appropriate action.

BOD – Senior Management

Operational Risk Management Function

Unit A Unit B unit C

76 | P a g e
Benefit of having in place a timely reporting and escalation process:
INTERNAL VIEW:
 Enhance awareness of risk.
 More informed decisions making
 Clearly defined procedure for action and remedial steps in the event of
material breaches
EXTERNAL VIEW:
 Increase reputation versus competitors
 Reduce exposure to reputational risk through timely management of
operational incidents
 Improve communication and disclosure to external stakeholders like:
o Supervisor
o Auditors
o Rating agency
o Clients
o Shareholders
5.> Risk management & monitoring:
The operational risk management function should support the BOD in taking
the most appropriate mitigation action based on the reported information.

Transfer
S
E
V
E Avoid
R
I
T
Y

Accept Mitigate
FREQUENCY
77 | P a g e
 TRANSFER:
 Insurance policies & self-insurance
 Derivatives hedging (cat options and cat bonds)
AVOID:
 Limitation or stop of product/project
 Change investment type
MITIGATE:
 Enhancements of internal controls
 Business continuity planning (system, supplier, staff and
workspace)

 How operational risk is associated with credit appraisal process:

How operational risk is associated with credit appraisal process:
1. Collection of document:
 Operational risk at this stage can cause delay in collection of
the documents which in turn delays the whole loan sanctioning
process. It can be due to employee work practice or even from
the customer’s part.
 Other aspect affecting here might be, when the customer
misrepresents his identity, provides false identity proofs which
in turn results in disapproving of the loan application or causes
delay in the process on bank’s part.
2. Generating CIBIL report:
 Operational risk here can be in the form of technical system
error, as in if the system is down as a result the request for
generating CIBIL report cannot be entered, causing a delay in
the whole process
 If there is a technical glitch in the system due to which there is
a small error in the CIBIL report an as a result, an loan

78 | P a g e
 application which could have been approved, gets rejected and
bank has to face the loss of income and reputations
 There is also a possibility of human error, as the employee
might enter wrong data while generating the CIBIL, as a result
an application which ideally should have been rejected gets
approved and then the bank has to face the consequences in the
form of NPA.
3. Legal and technical reports
 As legal and technical reports are generated from an out-
sourced vendor, the non-encumbrance report and search report
might not always be conclusive. There always prevails
possibility of deficiency in service from vendor’s part which
could lead the financing institution bear tangible losses
 Technical report relates to valuation of property prevailing at
adjacent and nearby areas. Technical appraisal of any property
is subjective since there always be possibility of dissimilar
valuations by different values.
4. Preparation of CAM:
 While preparing the financial reports, there are high chances of
data entry error while feeding the data. Also, System failures
will also affect the preparation process, and manipulation from
the internal sources, faulty data provided by the vendors or the
customers himself add to multiple risks involved under this
process
5. Personal visit by the credit manager.
 Operational risk here will be in the from the credit mangers
point of view, as credit manager might be bias and he/she may
even approve an indecent proposal and vice-versa
6. Sanctioning from higher authority
 Operational risk here can be a system failure or a technical
glitch or some external factors that may affect the surroundings
of the senior from whom the sanctioning has to be approved.
7. Disbursement of loan
 Execution process, a system failure or an internal/ external
fraud will act as operational risk here.
8. Operational query

79 | P a g e
  Physical damage to property due to vandalism or an external
factor will affect here as the might be theft of the important
documents.
Further details explanation and solution of these issues will be described in the
next report and it will also contain the real case study.
SOLUTIONS WILL BE PROVIDED FOR THIS PROBLEMS:

80 | P a g e