1.

1 The Bank The word bank means an organization where people and business can invest or borrow m o n e y; c h a n g e it to foreign currency etc. According to Halsbury A Banker is an individual, Partnership or Corporation whose sole pre-dominant business is banking, that is the receipt of money on current or deposit account, and the payment of cheque drawn and the collection of cheque paid in by a customer. 1.2 The Origin and Use of Banks The Word Bank is derived from the Italian word Banko signifying a bench, which was erected in the market-place, where it was customary to exchange money. The LombardJ e w s w e r e t h e f i r s t t o p r a c t i c e t h i s e x c h a n g e b u s i n e s s , t h e f i r s t bench having beenestablished in Ital y A.D. 808. Some authorities assert that the Lom b a r d m e r c h a n t s commenced the business of money-dealing, employing bills of exchange as remittances, about the beginning of the thirteenth century. About the middle of the twelfth century it became evident, as the advantage of coined money was gradually acknowledged, that there must be some controlling power, some corporation which would undertake to keep the coins that were to bear the royal stamp upto a certain standard of value; as, inde pendently of the sweating which invention may place to the credit of the ingenuity of the Lombard merchants- all coins will, by wear or abrasion, become thinner, and consequently less valuable; and it is of the last importance,n o t o n l y f o r t h e c r e d i t o f a c o u n t r y , b u t f o r t h e e a s i e r r e g u l a t i o n o f c o m m e r c i a l transactions, that the metallic currency be kept as nearly as possible up to the l e g a l s t a n d a r d . M u c h u n n e c e s s a r y t r o u b l e a n d a n n o ya n c e h a s b e e n c a u s e d f o r m e r l y b ynegligence in this respect.The gradual merging of the business of a goldsmith into a bank appears to have been theway in which banking, as we now understand the term, was introduced into England; andit was not until long after the establishment of banks in other countries-for state purposes,the regulation of the coinage, etc. that any large or similar institution was introduced intoEngland. It is only within the last twenty years that printed cheques have been in use in that establishment. First commercial bank was Bank of Venice which was established in1157 in Italy. 1.3 THE BANKING REFORMS In 1991, the Indian economy went through a process of economic liberalization, which was followed up by the initiation of fundamental reforms in the banking sector in 1992.T h e b a n k i n g r e f o r m p a c k a g e w a s b a s e d o n t h e r e c o m m e n d a t i o n s p r o p o s e d b y t h e Narasimhan Committee Report (1991) that advocated a move to a more market oriented banking system, which would operate in an environment of prudential regulation and transparent accounting. One of the primary motives behind this drive was to introduce ane l e m e n t o f m a r k e t d i s c i p l i n e i n t o t h e r e g u l a t o r y p r o c e s s t h a t w o u l d r e i n f o r c e t h e supervisory effort of the Reserve Bank of India (RBI). Market discipline, especially in the financial liberalization phase, reinforces regulatory and supervisory efforts and provides a strong incentive to banks to conduct their business in a prudent and efficient

manner and to maintain adequate capital as a cushion against risk exposures. Recognizing that the success of economic reforms was contingent on the success of financial sector reform as well, the government initiated a fundamental banking sector reform package in 1992. Banking sector, the world over, is known for the adoption of multidimensional strategies from time to time with varying degrees of success. Banks are very important for the smooth functioning of financial markets as they serve as repositories of vital financiali n f o r m a t i o n a n d c a n p o t e n t i a l l y a l l e v i a t e t h e p r o b l e m s c r e a t e d b y i n f o r m a t i o n asymmetries. From a central banks perspective, such high-quality disclosures help the e a r l y d e t e c t i o n o f p r o b l e m s f a c e d b y b a n k s i n t h e m a r k e t a n d r e d u c e t h e s e v e r i t y o f market disruptions. Consequently, the RBI as part and parcel of the financial sector deregulation, attempted to enhance the transparency of the annual reports of Indian banks by, among other things, introducing stricter income recognition and asset classification rules, enhancing the capital adequacy norms, and by requiring a number of additional disclosures sought by investors to make better cash flow and risk assessments. During the pre-economic reforms period, commercial banks & development financial institutions were functioning distinctly, the former specializing in short & medium term financing, while the latter on long term lending & project financing. Commercial banks were accessing short term low cost funds thru savings investments like current accounts,s a v i n g s b a n k a c c o u n t s & s h o r t d u r a t i o n f i x e d d e p o s i t s , b e s i d e s c o l l e c t i o n f l o a t . Development Financial Institutions (DFIs) on the other hand, were essentially depending o n b u d g e t a l l o c a t i o n s f o r l o n g t e r m l e n d i n g a t a c o n c e s s i o n a r y r a t e o f i n t e r e s t . T h e scenario has changed radically during the post reforms period, with the resolve of the government not to fund the DFIs through budget allocations. DFIs like IDBI, IFCI &I C I C I h a d p o s t e d d i s m a l f i n a n c i a l r e s u l t s . I n f e c t , t h e i r v e r y v i a b i l i t y has become a question mark. Now, they have taken the route of reverse m e r g e r w i t h I D B I b a n k & ICICI bank thus converting them into the universal banking system. 1.4 BASEL II ACCORD Bank capital framework sponsored by the world's central banks designed to promoteu n i f o r m i t y, m a k e r e g u l a t o r y c a p i t a l m o r e r i s k s e n s i t i v e , a n d p r o m o t e e n h a n c e d r i s k management among large, internationally active banking organizations. The InternationalCapital Accord, as it is called, will be fully effective by January 2008 for banks active ininternational markets. Other banks can choose to "opt in," or they can continue to followt h e m i n i m u m c a p i t a l g u i d e l i n e s i n t h e o r i g i n a l B a s e l A c c o r d , f i n a l i z e d i n 1 9 8 8 . T h e revised accord (Basel II) completely overhauls the 1988 Basel Accord and is based onthree mutually supporting concepts, or "pillars," of capital adequacy. The first of these pillars is an explicitly defined regulatory capital requirement, a minimum capital-to-assetratio equal to at least 8% of risk-weighted assets. Second, bank supervisory agencies,s u c h a s t h e C o m p t r o l l e r o f t h e C u r r e n c y,

h a v e a u t h o r i t y t o a d j u s t c a p i t a l l e v e l s f o r individual banks above the 8% minimum when necessary. The third supporting pillar calls upon market discipline to supplement reviews by banking agencies. Basel II is the second of the Basel Accords, which are recommendations on banking lawsand regulations issued by the Basel Committee on Banking Supervision. The purpose of Basel II, which was initially published in June 2004, is to create an international standardthat banking regulators can use when creating regulations about how much capital banksneed to put aside to guard against the types of financial and operational risks banks face.Advocates of Basel II believe that such an international standard can help protect the international financial system from the types of problems that might arise should a major bank or a series of banks collapse. In practice, Basel II attempts to accomplish this bysetting up rigorous risk and capital management requirements designed to ensure that a bank holds capital reserves appropriate to the risk the bank expo ses itself to through itslending and investment practices. Generally speaking, these rules mean that the greater risk to which the bank is exposed, the greater the amount of capital the bank needs tohold to safeguard its solvency and overall economic stability. Main Aim: 1. Ensuring that capital allocation is more risk sensitive;2. Separating operational risk from credit risk, and quantifying both;3. Attempting to align economic and regulatory capital more closely to reduce the scopefor regulatory arbitrage.Basel II has largely left unchanged the question of how to actually define bank capital,which diverges from accounting equity in important respects. The Basel I definition, as modified up to the present, remains in place.

The Accord in operation Basel II uses a "three pillars" concept (1) Minimum capital requirements (addressing risk), (2) supervisory review and (3) market discipline to promote greater stability in the financial system. The Three Pillars of Basel II T h e B a s e l I accord dealt with only parts of each of these pillars. For e x a m p l e : w i t h respect to the first Basel II pillar, only one risk, credit risk, was dealt with in a simple manner while market risk was an afterthought; operational risk was not dealt with at all. The First Pillar The first pillar deals with maintenance of regulatory capital calculated for three major components of risk that a bank faces: credit risk, operational risk and market risk. Other risks are not considered fully quantifiable at this stage. The credit risk component can be calculated in three different ways of varying degree of sophisti c a t i o n , n a m e l y standardized approach, Foundation IRB and Advanced IRB. IRB stands for "Internal Rating-Based Approach". For operational risk, there are three different approaches basic indicator approach or BIA, standardized approach or TSA, and advanced measurement approach or AMA. For market risk the preferred approach is VAR (value at risk). As the B a s e l 2 r e c o m m e n d a t i o n s a r e p h a s e d i n by the banking industry it will move fromstandardized requirements to more refined and specific requiremen t s t h a t h a v e b e e n developed for each risk category by each individual bank. The upside for banks that do develop their own bespoke risk measurement systems is that they will be rewarded with potentially lower risk capital requirements. In future there will be closer links between the concepts of economic profit and regulatory capital. Credit Risk can be calculated by using one of three approaches 1. Standardized Approach2. Foundation IRB (Internal Ratings Based) Approach3. Advanced IRB Approach The standardized approach sets out specific risk weights for certain types of credit risk.The standard risk weight cate gories are used under Basel 1 and are 0% for short termgovernment bonds, 20% for exposures to OECD Banks, 50% for residential mortgagesand 100% weighting on commercial loans. A new 150% rating comes in for borrowersw i t h p o o r c r e d i t r a t i n g s . T h e m i n i m u m c a p i t a l r e q u i r e m e n t ( t h e p e r c e n t a g e o f r i s k weighted assets to be held as capital) remains at 8%. For those Banks that decide to adoptthe standardized ratings approach they will be forced to rely on the ratings generated byexternal agencies. Certain Banks are developing the IRB approach as a result. The Second Pillar The second pillar deals with the regulatory response to the first pillar, giving regulatorsm u c h improved 'tools' over those available to them under Basel I. It also p r o v i d e s a framework for dealing with all the other risks a bank may face, such as systemic risk, pension risk, concentration risk, strategic risk, reputation risk, liquidity risk and legal risk,w h i c h t h e a c c o r d c o m b i n e s u n d e r t h e t i t l e o f r e s i d u a l r i s k . I t g i v e s b a n k s a p o w e r t o review their risk management system. The Third Pillar The third pillar greatly increases the disclosures that the bank must ma k e . T h i s i s designed to allow the market to have a better picture of the overall

risk position of the bank and to allow the counterparties of the bank to price and deal appropriately. The newBasel Accord has its foundation on three mutually reinforcing pillars that allow banks and b a n k s u p e r v i s o r s t o e v a l u a t e p r o p e r l y t h e v a r i o u s r i s k s t h a t b a n k s f a c e a n d r e a l i g n regulatory capital more closely with underlying risks. The first pillar is compatible with the credit risk, market risk and operational risk. The regulatory capital will be focused onthese three risks. The second pillar gives the bank responsibility to exercise the best waysto manage the risk specific to that bank. Concurrently, it also casts responsibility on thesupervisors to review and validate banks risk measurement models. The third pillar onmarket discipline is used to leverage the influence that other market players can bring.This is aimed at improving the transparency in banks and improves reporting. 1.5 CAMEL RATING SYSTEM The CAMEL rating system is based upon an evaluation of five critical elements of acredit union's operations: Capital Adequacy, Asset Quality, Management, Earnings andAsset/Liability Management. This rating system is designed to take into account andreflect all significant financial and operational factors examiners assess in their evaluationof a credit union's performance. Credit unions are rated using a combination of financialratios and examiner judgment.Since the composite CAMEL rating is an indicator of the viability of a credit union, it isimportant that examiners rate credit unions based on their performance in absolute termsrather than against peer averages or predetermined benchmarks. The examiner must use p r o f e s s i o n a l j u d g m e n t a n d c o n s i d e r b o t h q u a l i t a t i v e a n d q u a n t i t a t i v e f a c t o r s w h e n analyzing a credit union's performance. Since numbers are often lagging indicators of acredit union's condition, the examiner must also conduct a qualitative analysis of currentand projected operations when assigning CAMEL ratings.Although the CAMEL composite rating should normally bear a close relationship to thec o m p o n e n t r a t i n g s , t h e e x a m i n e r s h o u l d n o t d e r i v e t h e c o m p o s i t e r a t i ng solely bycomputing an arithmetic average of the component ratings. F o l l o w i n g a r e g e n e r a l definitions the examiner should use for assigning the credit union's CAMEL compositerating: 1.6 NEED OF CAMEL RATING SYSTEM IN BANKS In 1979, the bank regulatory agencies created the Uniform Financial Institutions RatingS ys t e m ( U F I R S ) . U n d e r t h e o r i g i n a l U F I R S a b a n k w a s a s s i g n e d r a t i n g s b a s e d o n performance in five areas: the adequacy of Capital, the quality of Assets, the capability of M a n a g e m e n t , t h e q u a l i t y a n d l e v e l o f E a r n i n g s a n d t h e a d e q u a c y o f L i q u i d i t y. B a n k supervisors assigned a 1 through 5 rating for each of these components and a compositer a t i n g f o r t h e bank. This 1 through 5 composite rating was known primarily by t h e acronym CAMEL.A bank that received a CAMEL of 1 was considered sound in every respect and generallyhad component ratings of 1 or 2 while a bank with a CAMEL of 5 exhibited unsafe andunsound practices or conditions, critically deficient performance and was of the greatestsupervisory concern. While the CAMEL rating normally bore close relation to the fivec o m p o n e n t r a t i n g s , i t w a s n o t t h e r e s u l t o f a v e r a g i n g t h o s e f i v e g r a d e s . R a t h e r , supervisors consider each institution's specific sit u a t i o n w h e n w e i g h i n g c o m p o n e n t ratings and, more generally, review all relevant

factors when assigning ratings.CAMEL ratings reflect the excellent banking conditions and performance over the lastseveral years. There is a need for bank employees to have sufficient knowledge of the rating system, in order to guide the banking growth rate in the positive direction. Lack of knowledge among employees regarding banking performance indicators affects banks negatively as these are the basis for any banking action. 2.1 CAPITAL Capital base of financial institutions facilitates depositors in forming their risk perceptionabout the institutions. Also, it is the key parameter for financial managers to maintainadequate levels of capitalization. Moreover, besides absorbing unanticipated shocks, itsignals that the institution will continue to honor its obligations. The most widely used indicator of capital adequacy is capital to risk-weighted assets ratio (CRWA). Accordingt o B a n k S u p e r v i s i o n R e g u l a t i o n C o m m i t t e e ( T h e B a s l e C o m m i t t e e ) o f B a n k f o r International Settlements, a minimum 8 percent CRWA is required. Capital adequacyu l t i m a t e l y d e t e r m i n e s h o w w e l l f i n a n c i a l i n s t i t u t i o n s c a n c o p e w i t h s h o c k s t o t h e i r balance sheets. Thus, it is useful to track capital-adequacy ratios that take into account themost important financial risks foreign exchange, credit, and interest rate risks byassigning risk weightings to the institutions assets.Capital cushions fluctuations in earnings so that credit unions can continue to operate in periods of loss or negligible earnings. It also provides a measure of reassurance to themembers that the organization will continue to provide financial services. It serves tosupport growth as a free source of funds and provides protection against insolvency.W h i l e m e e t i n g s t a t u t o r y c a p i t a l r e q u i r e m e n t s i s a k e y f a c t o r i n d e t e r m i n i n g c a p i t a l adequacy, the credit unions operations and risk position may warrant additional capital beyond the statutory requirements. Maintaining an adequate level of capital is a criticalelement.Determining the adequacy of a credit union's capital begins with a qualitative evaluationof critical variables that directly bear on the institution's overall financial condition. Theexaminer should also consider the interrelationships with the other areas: Capital level and trend analysis; Compliance with earnings transfers requirements and riskb a s e d n e t w o r t h requirements; Composition of capital; Interest and dividend policies and practices; Adequacy of the Allowance for Loan and Lease Losses account; Quality, type,liquidity and diversification of assets, with particular reference to classified assets; Loan and investment concentrations; Growth plans; Ability of management to control and monitor risk, including credit and interestrate risk; Earnings: G o o d h i s t o r i c a l a n d c u r r e n t e a r n i n g s p e r f o r m a n c e e n a b l e s a creditunion to fund its g r o w t h , r e m a i n c o m p e t i t i v e , a n d m a i n t a i n a s t r o n g c a p i t a l position; Liquidity and funds management; Economic Environment

PARTICULAR Capital adequacy ratio Debt equity ratio Advance to assets ratio Securities to total investment ratio

Capital Adequacy

Capital Risk Adequacy Ratio: CRAR is a ratio of Capital Fund to Risk Weighted Assets. Reserve B a n k o f I n d i a prescribes Banks to maintain a minimum Capital to risk-weighted Assets Ratio (CRAR)of 9 % with regard to credit risk, market risk and operational risk on an ongoing basis, asagainst 8 % prescribed in Basel documents.Total capital includes tier-I capital and Tier-II capital. Tier-I capital includes paid upequity capital, free reserves, intangible assets etc. Tier-II capital includes long termunsecured loans, loss reserves, hybrid debt capital instruments etc. The higher the CRAR,the stronger is considered a bank, as it ensures high safety against bankruptcy. CRAR = Capital/ Total Risk Weighted Credit Exposure

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2.2 ASSET QUALITY Asset quality determines the robustness of financial institutions against loss of value in the assets. The deteriorating value of assets, being prime source of banking problems, directly pour into other areas, as losses are eventually written-off against capital, which ultimately jeopardizes the earning capa city of the institution. With this backdrop, the asset quality is gauged in relation to the level and severity of non-performing assets, adequacy of provisions, recoveries, distribution of assets etc. Popular indicators include non performing loans to advances, loan default to total advances, and recoveries to loan default ratios.T h e s o l v e n c y o f f i n a n c i a l i n s t i t u t i o n s t yp i c a l l y i s a t r i s k w h e n t h e i r a s s e t s b e c o m e impaired, so it is important to monitor indicators of the quality of their assets in terms of o v e r e x p o s u r e t o s p e c i f i c r i s k s , t r e n d s i n n o n p e r f o r m i n g l o a n s , a n d t h e h e a l t h a n d profitability of bank borrowers especially the corporate sector. Share of bank assets in the aggregate financial sector assets: In most emerging markets, banking sector assets comprise well over 80 per cent of total financial sector assets, whereas these figures are much lower in the developed economies. Furthermore, deposits as a share of total bank liabilities have declined since 1990 in many developed countries, while in dev eloping countries public deposits continue to be dominant in banks. In India, the share of banking assets in total financial sector assets is around 75 per cent, as of end-March 2008.T h e r e i s , n o d o u b t , m e r i t i n r e c o g n i z i n g t h e i m p o r t a n c e o f d i v e r s i f i c a t i o n i n t h e institutional and instrument-specific aspects of financial intermediation in the interests of wider choice, competition and stability. However, the dominant role of banks in financial i n t e r m e d i a t i o n i n e m e r g i n g e c o n o m i e s a n d p a r t i c u l a r l y i n I n d i a w i l l c o n t i n u e i n t h e medium-term; and the banks will continue to be special for a long time. In this regard, it is useful to emphasis the dominance of banks in the developing countries in promoting non-bank financial intermediaries and services including in development of debt-markets. Even where role of banks is apparently diminishing in emerging markets, substantively, they continue to play a leading role in non-banking financing activities, including the development of financial markets. One of the indicators for asset quality is the ratio of non-performing loans to total loans (GNPA). The gross non -performing loans to gross advances ratio is more indicative of the quality of credit decisions made by bankers. Higher GNPA is indicative of poor credit decision-making. NPA: Non-Performing Assets Advances are classified into performing and non-performing advances (NPAs) as per RBI guidelines. NPAs are further classified into sub-standard, doubtful and loss assets basedo n t h e c r i t e r i a s t i p u l a t e d b y R B I . A n a s s e t , i n c l u d i n g a l e a s e d a s s e t , b e c o m e s nonperforming\ when it ceases to generate income for the Bank. An NPA is a loan or an advance where:1.Interest and/or installment of principal remains overdue for a period of more

than90 days in respect of a term loan.2 . T h e a c c o u n t r e m a i n s " o u t - o f - o r d e r ' ' i n r e s p e c t o f a n O v e r d r a f t o r C a s h C r e d i t (OD/CC).3 . T h e b i l l r e m a i n s overdue for a period of more than 90 days in case of b i l l s purchased and discounted.4 . A l o a n g r a n t e d f o r s h o r t d u r a t i o n c r o p s w i l l b e t r e a t e d a s a n N P A i f t h e installments of principal or interest thereon remain overdue for two crop seasons.5.A loan granted for long duration crops will be treated as an NPA if the installments of principal or interest thereon remain overdue for one crop season The Bank classifies an account as an NPA only if the interest imposed during any quarter is not fully repaid within 90 days from the end of the relevant quarter. This is a key to testability of the banking sector. There should be no hesitation in stating that Indian banks have done a remarkable job in containment of non-performing loans (NPL) considering the overhang issues and overall difficult environment. For 2008, the net NPL ratio for the Indian scheduled commercial banks at 2.9 per cent is ample testimony to the impressive efforts being made by our banking system. In fact, recovery management is also linked to the banks interest margins. The cost and recovery management supported by enabling legal framework hold the key to future health and competitiv eness of the Indian banks. No doubt, improving recovery-management in India is an area requiring expeditious and effective actions in legal, institutional and judicial processes. Asset quality is rated in relation to: The quality of loan underwriting, policies, procedures and practices; The level, distribution and severity of classified assets; The level and composition of nonaccrual and restructured assets; The ability of management to properly administer its assets, including the timely identification and collection of problem assets; The existence of significant growth trends indicating erosion or improvement in asset quality; The existence of high loan concentrations that present undue risk to the credit union; The appropriateness of investment policies and practices; The investment risk factors when compared to capital and earnings structure; andthe effect to fair (market) value of investments vs. book value of investments Total Loans/Total Shares Total Loans/Total Assets Fair (Market) Value / Book value

Gross NPA ratio: This ratio is used to check whether the bank's gross NPAs are i n c r e a s i n g q u a r t e r o n quarter or year on year. If it is, indicating that the bank is adding a fresh stock of bad loans. It would mean the bank is either not exercising enough caution when offering loans or is too lax in terms of following up with borrowers on timely repayments. Net NPA ratio: Net NPAs reflect the performance of banks. A high level of NP A s s u g g e s t s h i g h probability of a large number of credit defaults that affect the

profitability and net-worth of banks and also wear down the value of the asset. Loans and advances usually represent the largest asset of most of the banks. It monitors the quality of the bank loan portfolio. The higher the ratio, the higher the credits risk Page no 26

Business per Employee: Revenue per employee is a measure of how efficiently a particular bank is utilizing itse m p l o ye e s . I d e a l l y, a b a n k w a n t s t h e h i g h e s t b u s i n e s s p e r e m p l o ye e p o s s i b l e , a s i t denotes higher productivity. In general, rising revenue per employee is a positive sign that suggests the bank is finding ways to squeeze more sales/revenues out of each of its employee. Total Income/ No. of Employees Profit per Employee: This ratio shows the surplus earned per employee. It is arrived at by dividing profit after tax earned by the bank by the total number of employee. The higher the ratio shows good efficiency of the management. Profit after Tax/ No. of Employee 2.4 EARNINGS Earnings and profitability, the prime source of increase in capital base, is examined with regards to interest rate policies and adequacy of provisioning. In addition, it also helps to support present and future operations of the institutions. The single best indicator used to gauge earning is the Return on Assets (ROA), which is net income after taxes to total asset ratio.Strong earnings and profitability profile of banks reflects the ability to support presentand future operations. More specifically, this determines the capacity to absorb losses, finance its expansion, pay dividends to its shareholders, and build up an adequate level of capital. Being front line of defense against erosion of capital base from losses, the needfor high earnings and profitability can hardly be overemphasized. Although different indicators are used to serve the purpose, the best and most widely used indicator is Returnon Assets (ROA). However, for in-depth analysis, another indicator Net Interest Margins( N I M ) i s a l s o u s e d . C h r o n i c a l l y u n p r o f i t a b l e f i n a n c i a l i n s t i t u t i o n s r i s k i n s o l v e n c y. Compared with most other indicators, trends in profitability can be more difficult tointerpretfor instance, unusually high profitability can reflect excessive risk taking. Return on Assets (ROA): An indicator of how profitable a company is relative to its total assets. ROA gives an ideaas to how efficient management is at using its assets to generate earnings. Calculated byd i v i d i n g a c o m p a n y ' s a n n u a l e a r n i n g s b y i t s t o t a l a s s e t s , R O A i s d i s p l a y e d a s a percentage. Sometimes this is referred to as "return on investment".The continued viability of a credit union depends on its ability to earn an appropriatereturn on its assets. It enables a credit union to fund expansion, remain competitive, and replenish and/or increase capital. In evaluating and rating earnings, it is not enough to review past and present performance. Future

performance is of equal or greater value , including performance under various economic conditions. Examiners should evaluate" c o r e " e a r n i n g s : t h a t i s t h e l o n g run earnings ability of a credit union discounting temporary fluctuations in income and one-time items. A review for the reasonableness of the credit union's budget and underlying assumptions is appropriate for this purpose. Keyfactors to consider when assessing the credit union's earnings are: Level, growth trends, and stability of e arnings, particularly return on averageassets; Quality and composition of earnings; Adequacy of valuation allowances and their effect on earnings; Future earnings prospects under a variety of economic conditions; Net interest margin; Net non-operating income and losses and their effect on earnings; Quality and composition of assets; Net worth level; Sufficiency of earnings for necessary capital formation picture Operating Profit by Average Working Fund: This ratio indicates how much a bank can earn from its operations net of the operating expenses for every rupee spent on working funds. Average working funds are the total resources (total assets or total liabilities) employed by a bank. It is daily average of total assets/ liabilities during a year. The higher the ratio, the better it is. This ratio determines the operating profits generated out of working fund employed. The better utilization of the funds will result in higher operating profits. Thus, this ratio wil l indicate how a bank has employed its working funds in generating profits. Operating Profit/ Average Working Fund Spread: This ratio

Net Profit to Average Asset: Net profit to average asset indicates the efficiency of the banks in utilizing their assetsin generating profits. A higher ratio indicates the better income generating capacity of the assets and better efficiency of management. It is arrived at by dividin g the net profit by average assets, which is the average of total assets in the current year and previous year.Thus, this ratio measures the return on assets employed. Higher ratio indicates better earning potential in the future. Net Profit/ Average Asset Interest Income to Total Income: Interest income is a basic source of revenue for banks. The interest i n c o m e t o t a l income indicates the ability of the bank in generating income from its lending. Inother words, this ratio measures the income from lending operations as a percentageof the total income generated by the bank in a year. Interest income includes incomeon advances, interest on deposits with the RBI, and dividend income. Interest Income/ Total Income Other Income to Total Income: Fee based income account for a major portion of the banks other income. The bank generates higher fee income through innovative products and adapting the technologyfor sustained service levels. The higher ratio indicates increasing

proportion of fee- based income. The ratio is also influenced by gains on government securities, whichfluctuates depending on interest rate movement in the economy. Other Income/ Total Income

2.5 LIQUIDITY An adequate liquidity position refers to a situation, where institution can obtain sufficient funds, either by increasing liabilities or by converting its assets quickly at a reasonablec o s t . I t i s , t h e r e f o r e , g e n e r a l l y a s s e s s e d i n t e r m s o f o v e r a l l a s s e t s a n d l i a b i l i t y management, as mismatching gives rise to liquidity risk. Efficient fund management refers to a situation where a spread between rate sensitive assets (RSA) and rate sensitiveliabilities (RSL) is maintained. The most commonly used tool to evaluate interest rateexposure is the Gap between RSA and RSL, while liquidity is gauged by liquid to total asset ratio.Initially solvent financial institutions may be driven toward closure by poor managemento f s h o r t t e r m l i q u i d i t y. I n d i c a t o r s s h o u l d c o v e r f u n d i n g s o u r c e s a n d c a p t u r e l a r g e maturity mismatches The L of CAMEL r e p r e s e n t s t h e c o n c e p t o f A s s e t / L i a b i l i t y M a n a g e m e n t t h e identification, monitoring and control of: Interest rate risk sensitivity and exposure Liquidity risk and control Technical competence in asset/liability management techniquesCash maintained by the banks and balances with central bank, to total asset ratio (LQD)is an indicator of bank's liquidity. In general, banks with a larger volume of liquid assetsare perceived safe, since these assets would allow banks to meet unexpected withdrawals. picture Liquidity Asset to Total Asset: Liquidity for a bank means the ability to meet its financial obligations as they come due.Bank lending finances investments in relatively illiquid assets, but it fund its loans withmostly short term liabilities. Thus one of the main challenges to a bank i s ensuring itsown liquidity under all reasonable conditions. Liquid assets include cash in hand, balancewith the RBI, balance with other banks (both in India and abroad), and money at call andshort notice. Total asset include the revaluations of all the assets. The proportion of liquidasset to total asset indicates the overall liquidity position of the bank. Liquidity Asset/ Total Asset Government Securities to Total Asset: Government Securities are the most liquid and safe investments. This ratio measures theg o v e r n m e n t s e c u r i t i e s a s a p r o p o r t i o n o f t o t a l a s s e t s . B a n k s i n v e s t i n governmentsecurities primaril y to meet their SLR r e q u i r e m e n t s , w h i c h a r e a r o u n d 2 5 % o f n e t demand and time liabilities. This ratio measures the risk involved in the assets hand by a bank Government Securities/ Total Asset Approved Securities to Total Asset: Approved securities include securities other than government securities . This ratiomeasures the Approved Securities as a proportion of Total A s s e t s . B a n k s i n v e s t i n approved securities primarily after meeting their SLR requirements, which are around25% of net demand and time liabilities. This ratio measures the risk involved in the assets hand by a bank.

Approved Securities/ Total Asset:Liquidity Asset to Demand Deposit: This ratio measures the ability of a bank to meet the demand from deposits in a particular y e a r . D e m a n d d e p o s i t s o f f e r h i g h l i q u i d i t y t o t h e d e p o s i t o r a n d h e n c e b a n k s h a v e t o invest these assets in a highly liquid form. Liquidity Asset/ demand Deposit Liquidity Asset to Total Deposit: This ratio measures the liquidity available to the deposits of a bank. T o t a l d e p o s i t s include demand deposits, savings deposits, term deposits and deposits of other financialinstitutions. Liquid assets include cash in hand, balance with the RBI, balance with other banks (both in India and abroad), and money at call and short notice. Liquidity Asset/ Total Deposit

INTRODUCTION OF BANKS

DIFFERENT RATIOS FOR STATE BANK OF INDIA 1)CAPITAL ADEQUENCY RATIO Ratio(%) 2) DEBT EQUITY RATIO

DEBT=

EQUITY= RATIO= DEBT/EQUITY Ratio(%) 3) ADVANCE TO ASSETS ADVANCES TOTL ASSETS RATIO=ADVANCE/ASSETS Ratio(%) 4) SECURITIES TO TOTAL INVESTMENTS SECURITIES TOTAL INVESTMENTS RATIO=SECURITIES/TOTAL UNVESTMENT Ratio(%)

ASSETS (values in lakhs) 1)GROSS NPA TO NET ADVANCES GROSS NPA NET ADVANCES Ratio(%) 2)NET NPA TO NET ADVANCES NET NPA NET ANVANCES Ratio(%) 3)TOTAL LOANS TO TOTAL SHARES TOTAL LOANS NO. OF SHARES Ratio(%) 4)TOTAL LOANS TO TOTAL ASSETS TOTAL LOANS TOTAL ASSETS Ratio(%) 5) FAIR MARKET VALUE TO BOOK VALUE MARKET VALUE BOOK VALUE Ratio(%)

EARNINGS(values in lakhs)

1.OPERATING PROFIT TO AVERAGE CORKING CAPITAL OPERATING PROFIT AVERAGE WORKING CAPITAL Ratio(%) 2. INTEREST SPREAD INTEREST EARNED INTEREST SPEND INTEREST SPREAD= INTEREST EARNED INTEREST EXPENDITURE Spread 3. NET PROFIT TO AVERAGE ASSETS NET PROFIT AVERAGE ASSETS Ratio(%) 4. INTEREST INCOME TO TOTAL INCOME INTEREST INCOME TOTAL INCOME Ratio(%) 5. NON-INTEREST INCOME TO TOTAL INCOME NON-INTEREST INCOME TOTAL INCOME Ratio(%) 6.OPERATING EXPENSES TO AVERAGE ASSETS OPERATING EXPENSES AVERAGE ASSETS( OPENING ASSETS +CLOSING ASSETS/2) Ratio(%)

LIQUIDITY(Values in lakhs) 1.LIQUID ASSETS TO TOTAL ASSETS LIQUID ASSETS= (CASH WITH RBI+CASH FOR SHORT NOTICE) TOTAL ASSETS Ratio(%) 2.GOVERNMENT SECURITIES TO TOTAL ASSETS GOVERNMENT SECURITIES TOTAL ASSETS Ratio(%) 3. APPROVED SECURITIES TO TOTAL ASSETS APPROVED SECURITIES TOTAL ASSETS Ratio(%) 4. LIQUID ASSETS TO DEMEND DEPOSITS LIQUID ASSETS DEMEND DEPOSITS Ratio(%) 5. LIQUID ASSETS TO TOTAL DEPOSITS LIQUID ASSETS TOTAL DEPOSITS Ratio(%)