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Sir please help me with this assignment questions. 1. Before extending credit, ascertaining and analyzing the credit worthiness of customers is an important and difficult task. Comment your views.     2. A branch or bussiness segment that shows negative operating income should be shutdown. Do you agree or not? Justify your views for and against.    thank u

1. Before extending credit, ascertaining and analyzing the credit worthiness of customers is an important and difficult task. Comment your views
‘Ascertaining and analyzing the credit worthiness of customers, before extending credit, is an important and difficult task’, comment?

The  SYSTEM  is designed to automate the entire lending process in a bank and provide credit portfolio managers with tools and reporting to assist them in decision-making. Banks offers different types of credit facilities to the eligible borrowers. For this, there are several procedures, controls and guidelines laid out. Credit Appraisal, Sanctions, Monitoring and Asset Recovery Management comprise the entire gamut of activities in the lending process of a bank.
The Software solution enables a bank to standardize the proceedings across banks and enables installing certain financial uniformity amongst the borrowers.

Salient Features
Data Download/Upload - Ensures prompt & accurate data entry in business borrower application (Profile & CMA) through floppy or web interface.
Pre-appraisal stage - Eliminates costly errors and ensures complete and correct (input check procedures) of uploaded borrower profile, and CMA data in required parameterisable format.
Verification - Verification of previously rejected borrowers reapplying for loans through defaulter lists of the Reserve Bank of India (RBI), Export Credit Guarantee Corporation (ECGC) and the bank itself.
Appraisal Methodology

Working Capital Computations:
1. CMA based
2. Cash Budgeting (especially for Seasonal business lines)
3. Turnover Method

Term Loans
Non Banking Financial Companies
Infrastructure handling
Appraisal Tools
Sensitivity analysis & projections for Working capital and Term loans
Comparison of previous CMAs, industry and peer group comparisons, linkage to financial database of service providers such as CRISIL, CMIE and C-Online
Credit risk rating incorporation
Term loans - Interest workouts, Moratoriums, Repayment schedules, Sensitivity
Computation of MPBF, Facility-wise maximum limits
Proposal preparation
Post-appraisal stage
Ensures the sanctions are adequately covered by the policy guided Terms and Conditions
Accepted securities and documents linked to various facilities
Accepted terms and conditions linked to various facilities
Sanctions and follow-up methodologies, compliance of terms and conditions as Charging of Securities completed and sanctioning facilities as per set authority
Auto generation of sanction letter with facility wise limits, terms & conditions
Timely and standard review of credit extended
1. Terms and conditions compliance; Security Documents compliance
2. Securities charging compliance
3. Review Proposals
4. Audit Queries
5. Stock Statements
Figure in congruencies through early warning signals to avoid Non-Performing Asset (NPA) formation
1. Linkage of bank statements received from Borrower, Branches, etc
Recovery Procedures
Recovery Procedures & NPA management - Compromise Proposal, BIFR, Legal Actions, and Write-offs
Various statements - Prompt and timely monitoring of activities to monitor Document movement, Appraisal, Monitoring Recoveries and so on.
Credit evaluation should be based on the assessment of the borrower’s
ability to repay from normal sources of income. The description of each of the
credit grades is as follows:-
Pass: To indicate that timely repayment of the outstanding credit facility is not
in doubt.
• The credit facility is satisfactorily conducted and does not exhibit any
possibility of loss or potential weaknesses in repayment capability,
business, cash flow or financial position of the borrower.
Special Mention: To indicate that the credit facility exhibits potential
weaknesses that, if not corrected in a timely manner, may adversely affect
repayment at a future date, and warrant close attention by the finance
company's management.
• Characteristics of special mention credit facilities include, but are not
limited to, the following:-
- Any declining trend in the borrower's operations that signal a
potential weakness in the financial position of the borrower, but not
to the point that repayment is jeopardised.
- Economic and market conditions that may unfavourably affect the
borrower’s profitability and business in the future.
Substandard: To indicate that the credit facility exhibits definable
weaknesses, either in respect of the borrower's business, cash flow or
financial position, that may jeopardise repayment on existing terms.
• Characteristics of substandard credit facilities include, but are not
limited to, the following:-
- Inability of the borrower to meet contractual repayment terms of the
credit facility.
- Unfavourable economic and market conditions or operating problems
that would affect the borrower’s profitability and business in the
- Weak financial figures (eg losses, negative net worth) or the inability
of the borrower to generate sufficient cash flow to service the
- Difficulty experienced by the borrower in repaying other credit
facilities granted by the same finance company, or by other financial
institutions (where such information is available).
- Breach of any key financial covenants by the borrower.
Doubtful: To indicate that the outstanding credit facility exhibits more severe
weaknesses than those in a “substandard” credit facility, such that the
prospects of full recovery of the outstanding credit facility are questionable
and the prospects of a loss are high, but the exact amount remains
undeterminable as yet
Loss: To indicate that the outstanding credit facility is uncollectible, and little
or nothing can be done to recover the outstanding amount from any collateral
or from the borrower's assets generally.


Natural Persons– Occupation, Employer, Salary/Income, Financial
position/net worth and any other relevant information.
Others– Constitution (proprietorship, partnership, private company,
public company, society, club, co-operative, statutory
board), Business background and history, Organisation
structure, Management team/Directors,
Shareholders/proprietor/partners, Financial position and
performance, and any other relevant information.

Description of facility type
Purpose of facility
Terms of facility – limits, interest rates, repayment schedules, expiry dates
Collateral – types, valuation amount, valuation date and where applicable,
valuer name
Guarantors – names, financial position and net worth

(Certain information would not be applicable for borrowers who are natural
Assessment and recommendations of account officer/manager
Approval and basis of approval by management/credit committee
Qualitative analyses based on:-
Borrower Information
History of relationship with customer
Information on the relationship of other related groups of the borrower with
the finance company
Information obtained on the borrower from other institutions and sources,
including related offices of the finance company
Analysis of industry and business risk
Single customer concentration (if appropriate)
Quantitative analyses based on:-
Financial position and performance (previous, current and projected)
Business plans, sources and cash flow forecast for meeting repayment
Capital resources
Other commitments
Collateral appraisal and value

(Certain information would not be applicable for borrowers who are natural
Assessment and recommendations of credit review officer, including:-
Credit grading/rating accorded
Provision for losses
Suspension of interest
Approval and basis of approval by management/credit committee
Current account information:-
Outstanding facilities utilised, including contingent liabilities, commitments
and other off-balance sheet transactions
Conduct and servicing of account
Correspondences and call reports from meetings with borrowers and site
Current qualitative analyses based on latest updated information on borrower,
including review comments from internal and external auditors
Current quantitative analyses based on latest updated financial information,
appraisals and valuations
Information on the account conduct of other related groups of the borrower
Analysis of industry and business risk
. 2. A branch or business segment that shows negative operating income should be shutdown. Do you agree or not? Justify your views for and against.
In economics, a firm will choose to implement a shutdown of production when the revenue received from the sale of the goods or services produced cannot even cover thevariable costs of production. In that situation, the firm will experience a higher loss when it produces, compared to not producing at all.
Technically, shutdown occurs if marginal revenue is below average variable cost at the profit-maximizing output. Producing anything would not generate returns significant enough to offset the associated variable costs; producing some output would add losses (additional costs in excess of revenues) to the costs inevitably being incurred (the fixed costs). By not producing, the firm loses only the fixed costs.
The goal of a firm is to maximize profits or minimize losses. The firm can achieve this goal by following two rules. First, the firm should operate, if at all, at the level of output where marginal revenue equals marginal cost. Second, the firm should shut down rather than operate if it can reduce losses by doing so.
The shutdown rule[
In the short run, a firm operating at a loss R < TC (revenue less than total cost) or equivalently P < AVC (price < average variable cost) must decide whether to continue to operate or temporarily shutdown.[  Conventionally stated the shutdown rule is “in the short run a firm should continue to operate if price exceeds average variable costs.”[ Restated, the rule is that to produce in the short run a firm must earn sufficient revenue to cover its variable costs.[] The rationale for the rule is straightforward. By shutting down a firm avoids all variable costs.[  However, the firm must still pay fixed costs.[  Because fixed cost must be paid regardless of whether a firm operates they should not be considered in deciding whether to produce or shut down.
Thus in determining whether to shut down a firm should compare total revenue to total variable costs (VC) rather than total costs (FC (fixed costs) + VC). If the revenue the firm is receiving is greater than its variable cost (R > VC) then the firm is covering all variable cost plus there is additional revenue which partially or entirely offsets fixed costs.[  (The size of the fixed costs is irrelevant as it is a sunk cost. The same consideration is used whether fixed costs are one dollar or one million dollars.) On the other hand if VC > R then the firm is not even covering its production costs and it should immediately shut down. The rule is conventionally stated in terms of price (average revenue) and average variable costs. The rules are equivalent—if one divides both sides of inequality TR > VC (total revenue exceeds variable costs) by the output quantity Q one obtains P > AVC (price exceeds average variable cost)). If the firm decides to operate it will produce where marginal revenue equals marginal costs because these conditions insure profit maximization (or equivalently, when profit is negative, loss minimization).]
Another way to state the rule is that a firm should compare the profits from operating to those realized if it shut down, and select the option that produces the greater profit (positive or negative). A firm that is shut down is generating zero revenue and incurring no variable costs. However the firm still incurs fixed cost.[  So the firm’s profit equals the negative of fixed costs or (- FC). An operating firm is generating revenue, incurring variable costs and paying fixed costs. The operating firm's profit is R - VC - FC . The firm should continue to operate if R - VC - FC ≥ - FC which simplified is R ≥ VC. The difference between revenue, R, and variable costs, VC, is the contribution toward offsetting fixed costs, and any positive contribution is better than none. Thus, if R ≥ VC then the firm should operate. If R < VC the firm should shut down.
Sunk costs[
An implicit assumption of the above rules is that all fixed costs are sunk costs. When some costs are sunk and some are not sunk,[ total fixed costs (TFC) equal sunk fixed costs (SFC) plus non-sunk fixed costs (NSFC) or TFC = SFC + NSFC. When some fixed costs are non-sunk, the shutdown rule must be modified. As Besanko notes, to illustrate the new rule it is necessary to define a new cost curve, the average non-sunk cost curve, or ANSC. The ANSC equals the average variable costs plus the average non-sunk fixed cost or ANSC = AVC + ANFC. The new rule then becomes: if the price is greater than the minimum average costs, produce; if the price is between minimum average costs and minimum ANSC produce, and if the price is less than minimum ANSC for all levels of production, shut down.[  If all fixed costs are non-sunk, then (a competitive) firm would shut down if the price were below average total costs.
Short-run shutdown compared to long-run exit[
A decision to shut down means that the firm is temporarily suspending production. It does not mean that the firm is going out of business (exiting the industry). If market conditions improve, due to prices increasing or production costs falling, the firm can resume production. Shutting down is a short-run decision. A firm that has shut down is not producing, but it still retains its capital assets; however, the firm cannot leave the industry or avoid its fixed costs in the short run.
However, a firm will not choose to incur losses indefinitely. In the long run, the firm will have to decide whether to continue in business or to leave the industry and pursue profits elsewhere. Exit is a long-term decision. A firm that has exited an industry has avoided all commitments and freed all capital for use in more profitable enterprises.[  A firm that exits an industry earns no revenue but it incurs no costs, fixed or variable.[
The long-run decision is based on the relationship of the price P and long-run average costs LRAC.[  If P ≥ LRAC then the firm will not exit the industry. If P < LRAC, then the firm will exit the industry. These comparisons will be made after the firm has made the necessary and feasible long-term adjustments.[
In the long run a firm operates where marginal revenue equals long-run marginal costs, but only if it decides to remain in the industry.[  Thus the firm's long-run supply curve is the long run marginal cost curve above the minimum point of the long run average cost curve.[
Monopolist Shutdown Rule[
A monopolist should shut down when price (average revenue) is less than average variable cost for every output level;[  in other words, it should shut down if the demand curve is entirely below the average variable cost curve.[  Under these circumstances, even at the profit-maximizing level of output (where MR = MC, marginal revenue equals marginal cost) average revenue would be lower than average variable costs and the monopolist would be better off shutting down in the short run.[
Calculating the shutdown point[
The short run shutdown point for a competitive firm is the output level at the minimum of the average variable cost curve. Assume that a firm's total cost function is TC = Q3 -5Q2+60Q +125. Then its variable cost function is Q3 -5Q2 +60Q, and its average variable cost function is (Q3 -5Q2 +60Q)/Q= Q2 -5Q + 60. The slope of the average variable cost curve is the derivative of the latter, namely 2Q - 5. Equating this to zero to find the minimum gives Q = 2.5, at which level of output average variable cost is 53.75. Thus if the market price of the product drops below 53.75, the firm will choose to shut down production.
The long run shutdown point for a competitive firm is the output level at the minimum of the average total cost curve. Assume that a firm's total cost function is the same as above example. To find the shut down point in the long run, first take the derivative of ATC and then set it to zero and solve for Q. After getting Q plug it into the MC to get the price.


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