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JNANA VARDHINI
SIBSTC MONTHLY NEWSLETTER -COVERING
CONTEMPORARY BANKING RELATED TOPICS
11th Issue
JUNE- 2011
SOUTHERN INDIA BANKS’ STAFF
TRAINING COLLEGE
No.531, Faiz Avenue, 11th Main, 32nd Cross
IV Block, Jayanagar, BANGALORE-560 011
Website: www.sibstc.edu.in
Email:
[email protected]
[email protected]
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MID-QUARTER MONETARY POLICY REVIEW: JUNE
2011- ANNOUNCED BY RBI GOVERNOR ON 16.06.2011
Highlights
Global Economy
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The global economy weakened in Q2 of 2011.
Uncertainty about the resolution of the sovereign debt problem in the euro area
has increased.
The current developments increase downside risks to global growth prospects.
Commodity price inflation is still high.
Consequently, headline inflation rose in major advanced economies.
Domestic Economy
Growth
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GDP growth decelerated to 7.8 per cent in Q4 of 2010-11 from 8.3 per cent in the
previous quarter and 9.4 per cent in the corresponding quarter a year ago.
For the year as a whole, GDP growth in 2010-11 was 8.5 per cent.
The trend in industrial production as revealed by the new series suggested the
growth of a little over 8 per cent in both halves of the year.
During April-May 2011, both exports and imports increased sharply and the trade
deficit widened.
The progress of south west monsoon 2011 has so far been satisfactory, which
augurs well for agricultural production.
Overall, there is deceleration in some important sectors.
Recent global macroeconomic developments pose some risks to domestic growth.
Inflation
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The WPI inflation rate was 9.7 per cent in March 2011.
In April 2011, it was 8.7 per cent and rose to 9.1 per cent in May 2011 (April &
May provisional).
The main drivers of WPI inflation in April-May 2011 were non-food primary
articles, fuel group and non-food manufactured products.
Domestic inflation remains high and above the comfort zone of the Reserve Bank
Credit Conditions
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Year-on-year non-food credit growth moderated from 21.3 per cent in March
2011 to 20.6 per cent in early June 2011, but remained above the indicative
projection of 19 per cent.
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The y-o-y deposit growth increased to 18.2 per cent in early June 2011 from 17.0
per cent in March 2011. Consequently, the incremental non-food credit-deposit
ratio moderated to 80.5 per cent (y-o-y) in early June 2011 from 95.3 per cent in
March 2011.
Liquidity Conditions
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During the current fiscal year so far, liquidity conditions have remained consistent
with the anti-inflationary stance of monetary policy.
The Reserve Bank will continue to maintain liquidity conditions such that neither
surplus liquidity dilutes the monetary policy stance nor large deficit chokes off
fund flows to productive sectors of the economy.
Monetary Measures
On the basis of the current macroeconomic assessment, RBI has increased the Repo rate
by 25 basis points from 7.25 per cent to 7.5 per cent with immediate effect.
Consequent the reverse repo rate will stand automatically adjusted to 6.5 per cent and
the marginal standing facility (MSF) rate to 8.5 per cent with immediate effect.
FACTORING SERVICES
Factoring is a financial transaction whereby a business entity sells its account
receivables (i.e., invoices) to a third party (called factor) at a discount in exchange for
immediate money with which it can finance its continued business.
Factoring is a financial option for the management of receivables.
In simple definition, it is the conversion of credit sales into cash.
In factoring, a financial institution (factor) buys the accounts receivable of a company
(Client) and pays up to 80 %( sometimes up to 90%) of the amount immediately on
agreement. Factoring company pays the remaining amount (balance 20%) to the client
when the customer pays the debt.
Collection of debt from the customer is done either by the factor or the client depending
upon the type of factoring.
Factoring differs from a bank loan in three main ways.
1. Under factor financing, the emphasis is on the value of the receivables not the
company’s credit worthiness.
2. Factoring is not a loan. It is the purchase of a financial asset (the receivable).
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3. A bank loan involves two parties whereas factoring involves three parties.
Parties involved in the Factoring are:
1. The Client ( to whom the factor finance is made)
2. The Factor
3. The customer(Debtor) on whom the invoice is made
Customer
Credit sale of
goods
Client
Invoic
eeeeee
eeeeee
Pays the
balance
amount
Pays the amount (In recourse
type customer pays through
client)
Submit invoice
copy
Payment up to
80% initially
Factor
The sale of the receivables essentially transfers ownership of the receivables to the factor,
indicating that the factor obtains all of the rights and risks associated with the receivables.
Accordingly, the factor obtains the right to receive the payments made by the debtor
(customer) for the invoice amount. Usually, the account debtor is notified of the sale of
the receivable, and the factor bills the debtor and makes all collections.
While providing factoring finance to the client, the factor first establishes the
creditworthiness of the potential debtor(s), ascertain about their history of paying bills on
time and only upon satisfaction, he will purchase the invoice.
There are two methods of factoring: recourse and non-recourse.
Recourse factoring: Here, the factor/ client undertake to collect the debts from the
customer. If the customer doesn’t pay the amount on maturity, factor will recover the
amount from the client. This is the most common type of factoring.
In India, we have only recourse factoring
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Non recourse factoring: Under this, the factor assumes the entire credit risk i.e., full
amount of invoice is paid to the client in the event of the debt becoming bad
Characteristics of factoring
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Usually the period for factoring is 90 to 150 days.
Factoring is considered to be a costly source of finance compared to other sources
of short term borrowings.
Factoring receivables is an ideal financial solution for new and emerging firms
without strong financials. This is because credit worthiness is evaluated based on
the financial strength of the customer (debtor). Hence these companies can
leverage on the financial strength of their customers.
Bad debts will not be considered for factoring.
The factoring companies carry out credit risk analysis before entering into the
agreement.
Factoring is a method of off balance sheet financing. Large companies use this
technique without any negative connotations to show cash on their balance sheet
rather than an account receivable entry, money owed from their customers,
particularly when these show payments being due for extended periods of time
beyond the norm of 60 days or less.
History
Factoring was used as an informal mode of financing to the Merchants in England prior
to 1400. Originally the financiers (factors) took physical possession of the goods and
against the same provided cash advances to the producer/supplier. Later on, the concept
was extended to finance the credit extended by the seller to the buyer on the strength of
the buyer.
Like all financial instruments, factoring evolved over centuries driven by changes in the
organization of companies, technology, etc.
By the twentieth century, in the United States, factoring became the predominant form of
financing working capital for the then high growth rate textile industry. In Canada also,
factoring became the dominant form of financing in the Canadian textile industry.
Today factoring's rationale still includes the financial task of advancing funds to smaller
rapidly growing companies who sell to larger more creditworthy organizations. While
almost never taking possession of the goods sold, factors offer various combinations of
money and supportive services when advancing funds.
Factors also provide their clients following services:
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Information on the creditworthiness of their prospective customers domestic and
international.
Maintain the history of payments by customers (i.e., accounts receivable ledger).
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Daily management reports on collections.
Make the actual collection calls.
Factoring companies in India:
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Canbank Factors Ltd
SBI Factors and Commercial services Ltd
The HSBC Ltd
Foremost Factors Ltd
Global Trade Finance Ltd
ECGC
Citibank
Standard Chartered Bank
SIDBI
FOREFAITING
It is a form of financing export receivables. It denotes purchase of trade bills/promissory
notes by a bank/FI without recourse to the seller. The purchase is in the form of
discounting the documents covering the entire risk of non payment in collection. Under
Forefaiting, full value of the bill is considered as against 75 to 80% under factoring.
Forefaiting is always without recourse to the seller.
VENTURE CAPITAL FUND (VCF)
Venture capital (VC) is financial capital provided to early-stage, high-potential, high risk,
high growth start up companies. VC firms invest funds on a professional basis, often
focusing on a limited sector of specialization (eg. IT, Bio Technology, Infrastructure,
Health/ Life sciences, Clean Technology, etc.).
Starting and growing a business always require capital. There are a number of alternative
methods to fund growth. These include the owner or proprietor’s own capital, arranging
debt finance, or seeking an equity partner, as is the case with private equity and venture
capital. Finance may be required for the start-up, development/expansion or purchase of a
company. New companies or ventures that have a limited operating history and hence
may find it difficult to raise funds through an equity or debt offering. In such a scenario,
VC investors play a pivot role in investing in unfinanced areas to promote new ventures.
Venture capital is most attractive for new companies with limited operating history that
are too small to raise capital in the public markets and have not reached the point where
they are able to secure a bank loan or complete a debt offering.
VC is a form of "risk capital". In other words, capital that is invested in a project or a
business where there is a substantial element of risk relating to the future creation of
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profits and cash flows. In exchange for the high risk that venture capitalists assume by
investing in smaller and less mature companies, usually, they get significant control over
company decisions, in addition to a significant portion of the company's ownership (and
consequently value).
VC is an investment in the form of equity, quasi-equity and sometimes debt - straight or
conditional, made in new or untried concepts, promoted by a technically or professionally
qualified entrepreneur. VC can also include managerial and technical expertise. Most VC
comes from a group of wealthy investors, investment banks and other financial
institutions that pool such investments or partnerships. This form of raising capital is
popular among new companies or ventures with limited operating history, which cannot
raise funds by issuing debt. Venture capital typically comes from institutional investors
and high net worth individuals and is pooled together by dedicated investment firms
Origin:
Venture capital in the UK originated in the late 18th century, when entrepreneurs found
wealthy individuals to back their projects on an ad hoc basis. This informal method of
financing became an industry in the late 1970s and early 1980s when a number of venture
capital firms were founded. There are many active venture capital firms in the UK, which
provide several billion pounds each year to unquoted companies mostly located in the
UK.
Venture Capital in 20th Century:
With few exceptions, private equity in the first half of the 20th century was the domain of
wealthy individuals and families.
Before World War-II, venture capital investments (originally known as "development
capital") were primarily the domain of wealthy individuals and families. After World
War II, true private equity investments began to emerge marked by the founding of the
first two venture capital firms in 1946:
- American research and Development Corporation
- J H Whitney & Company
During the 1960s and 1970s, venture capital firms focused their investment activity
primarily on starting and expanding companies in electronic, medical or data-processing
technology. As a result, venture capital came to be almost synonymous with technology
finance.
The public successes of the venture capital industry in the 1970s and early 1980s gave
rise to a major proliferation of venture capital investment firms. 90s witnessed world
wide economic progress, wherein new ventures started expanding with that the scope for
VC funds.
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Venture Capital in India
In India, the Venture Capital plays a vital role in the development and growth of
innovative entrepreneurships. Venture Capital activity in the past was done by the
developmental financial institutions like IDBI, ICICI and State Financial Corporations.
These institutions promoted entities in the private sector with debt as an instrument of
funding. With the minimum paid up capital requirements raised for listing at the stock
exchanges, it became difficult for smaller firms with viable projects to raise funds from
public. The need for Venture Capital was recognized in the 7th five year plan and long
term fiscal policy of GOI. VC was recognized with the appointment of Bhatt committee
for development of Small & Medium enterprises.
The 1st VC was started in 1975,viz. Risk Capital Foundation (RFC) set up by Industrial
Finance Corporation of India(IFCI).
VC existence really started in India in 1988 with the formation of Technology
Development and Information Company of India Ltd. (TDICI) - promoted by ICICI and
UTI.
At the same time Gujarat Venture Finance Ltd. and APIDC Venture Capital Ltd. were
started by state level financial institutions.
Types of VC in India
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Development Financial Institutions: Set up by DFIs, viz. IFCI,etc
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State Financial Institutions: Promoted by SFCs.
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Banks: Sponsored by banks viz. SBI, Canara Bank, BOB etc.
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Private funds: Sponsored by private entrepreneurs in collaboration with banks,etc.
VC- Stages of Finance
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Seed Capital
Start up capital
Early stage financing
Follow on financing
Expansion financing
Replacement financing
Turnaround financing
Buyouts
For how long do venture capitalists invest in a business?
Venture capital firms usually look to retain their investment for between three and seven
years or more. The term of the investment is often linked to the growth profile of the
business. Investments in more mature businesses, where the business performance can be
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improved quicker and easier, are often sold sooner than investments in early-stage or
technology companies where it takes time to develop the business model.
Venture capitalists
A venture capitalist is a person or investment firm that makes venture investments, and
these venture capitalists are expected to bring managerial and technical expertise as well
as capital to their investments. The core skill of Venture capitalist is the ability to identify
novel technologies that have the potential to generate high commercial returns at an early
stage. By definition, VCs also take a role in managing entrepreneurial companies at an
early stage, thus adding skills as well as capital and thereby potentially realizing much
higher rates of returns.
Advantages and Disadvantages of Venture Capital:
Advantages
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The primary advantage of venture capital is that they allow entrepreneurs to build
their company with OPM (other people's money). Venture capital can be
visualized as “your ideas and our money” concept of developing business.
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Venture capital is an important source of equity for start-up companies.
Venture capital is money provided by professionals who invest alongside
management in young, rapidly growing companies that have the potential to
develop into significant economic contributors.
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Mentoring - Venture capitalists provide companies with ongoing strategic,
operational and financial advice. They will typically have nominee directors
appointed to the company’s board and often become intimately involved with the
strategic direction of the company.
Venture capitalists not only provide monetary resources but also help the
entrepreneur with guidance in formalizing his ideas into a viable business venture.
The venture capitalist is able to provide practical advice and assistance to the
company based on past experience with other companies which were in similar
situations.
The venture capitalist also has a network of contacts in many areas that can add
value to the company, such as in recruiting key personnel, providing contacts in
international markets, introductions to strategic partners, and if needed coinvestments with other venture capital firms when additional rounds of financing
are required.
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Alliances - Venture capitalists can introduce the company to an extensive
network of strategic partners both domestically and internationally and may also
identify potential acquisition targets for the business and facilitate the acquisition.
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Facilitate exit - Venture capitalists are experienced in the process of preparing a
company for an initial public offering (IPO) of its shares onto the Stock Exchange
both in domestic and international market.
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Equity finance offers the significant advantage of having no interest charges.
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It is "patient" capital that seeks a return through long-term capital gain rather than
immediate and regular interest payments, as in the case of debt financing.
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Venture capitalists are rewarded by business success and the capital gain.
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Research has shown that Venture Capital backed companies grow faster than
other types of companies, employs more people and is more profitable when
benchmarked against their peers.
Disadvantages:
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Pricing - Venture capitalists are typically more sophisticated and may drive a
harder bargain.
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Intrusion - Venture capitalists are more likely inclined to influence the strategic
direction of the company.
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Control - Venture capitalists are more likely to be interested in taking control of
the company if the management is unable to drive the business.
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VC- SEBI Regulations
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SEBI has made regulations for protecting the interest of the investors.
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VCFs regulation was passed in 1996.
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In 2000, Chandrasekar committee was appointed to identify the problems of VC
industry in India and to suggest methods for their growth.
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SEBI regulation is a must to carry on the activities.
ANGEL INVESTORS
An Angel investor or Angel is an affluent individual who provides capital for a business
start ups usually in exchange for convertible debt or equity.
A small but increasing number of angel investors organize themselves into angel groups
or angel networks to share research and pool their investment capital.
Angels typically invest their own funds, unlike venture capitalists, who manage the
pooled money of others in a professionally managed fund.
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Angel capital fills the gap in start-up financing between "friends and family" (sometimes
humorously given the acronym FFF, which stands for "Friends, Family and Fools")
who provide seed funding, and venture capital.
RBI POLICY RATES
SLR
CRR
Bank Rate
Repo
Reverse Repo
24%
6%
6%
7.50%
6.50%
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