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Commodities Backed Finance Project Report
Commodities Backed Finance Project Report
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Chapter 1
INTRODUCTION
• An Introduction
INTRODUCTION
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• Healthy environment
• Smooth channels for transfer of commodities
• Physical infrastructure for marketing activities
• Cash support to commodity producers
Even though the reaping, harvesting and storing of crops is seasonal, the
consumption of the commodities is perpetual, as well as variable in nature.
The market value of the commodities is the lowest at the time of harvesting,
primarily due to an abundant supply. Also, the consumption requirement is
periodic, and not in a bulk at a time. This naturally gives a rise to need of
storing the commodities, thus giving a way to requirement of strong storage
facilities for the producers, in order to hold a portion of the produce. This
would facilitate him to meet his requirements such as fertilizers, seed, etc. by
selling the stored surplus commodities in the market, whenever the market
price is favourable. A need for storage facilities also comes into picture when
there is an inadequacy or unavailability of the transport facilities.
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Chapter 2
WAREHOUSE
WAREHOUSE
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Warehouses are the scientific storage structures that are specially constructed
to facilitate the preservation as well as the protection of the commodities. As
far as India is concerned, the Warehousing scheme is an integrated scheme of
scientific storage, rural credit price stabilization and market intelligence.
Overall, the scheme is intended to supplement the efforts of the co-operative
institution.
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The warehouses are classified into various types, based on the following two
parameters:
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GENERAL REFRIGERATED
Storage of fertilizers, cotton, tobacco, Warehouses in which temperature is
food grains, wool, petroleum, etc. maintained as per requirement. Meant
Generally no specific requirements. for perishable commodities such as
Storage items with a longer life span. Vegetables, fruits, fish, beefs and Meat.
The temperature in these Warehouses is
maintained below 3 to 5 degrees.
A very good example of the active warehousing and Cold storaging can
be found in Maharashtra. The Maharashtra Warehousing Co-
operation Act provides for the setting up of the Warehouse to
aid the farmers to store their agriculture produce. Besides, the
warehousing Corporation, the agriculture co-operative societies
provide for the storage facilities to members under provisions of
National Grid of Godowns and Schemes. The scheme also
includes financial assistance up to 50% of the cost of the storage
facilities by the Central and the State Government. This
assistance is rendered in the form of the subsidy.
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sector. The main aim was to promote the export of fresh fruits and vegetables
from the state. Under the guidance of the Maharashtra State Agricultural
Marketing Board today, Maharashtra is the main exporter of the fresh grapes
from the country and exports nearly 70% of all the vegetables exported from
the country.
The number of cold storages financed by the Bank is less than the actual
number of units present in the region. But it is found that there is a significant
growth, mainly due to the implementation of the Capital Investment Subsidy
Scheme (CIS) and Interest Subsidy Scheme.
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Chapter 3
RURAL GODOWNS
RURAL GODOWNS
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1. The size of the Godown varies from a capacity of 200 tonnes to 1000
tonnes depending upon the produce expected for storage in the village.
2. The cost of construction of the rural godowns is subsidized to the
extent of 50% to be shared equally by the Central and State
Governments. The remaining 50% of the capital is arranged by
implementing agencies such as co-operative marketing society in the
form of a loan from the commercial banks.
3. The State Warehousing Corporation provides all the technical
guidance. Its also provides supervision to the implementing agencies in
the maintenance and management of the rural godowns.
4. The receipt that is issued by the manager of the rural godown on the
basis of stocks is a negotiable instrument. On the basis of the receipt,
the farmers can get a loan from a commercial bank, up to the extent of
the 80% of the value of the produce stored.
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In spite of being self sufficient in production of the food grains, the farmers
obtains low prices for their produce. The main reason for this being a lack of
sufficient storage facilities forcing the farmers to sell the produce in the peak
of the harvest season. The farmers can expect a pledge loan of around 70 to
75% of the stored produce.
A future target of 500 godowns has been fixed with the resulting calculated
amount of subsidy coming out to be around 99 lacs.
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The Agriculture Produce Market Committees create the infrastructure for the
agricultural markets in the operational areas at the main markets. Presently,
Maharashtra alone has about 256 Agriculture Produce Market Committees ad
572-sub yards.
The APMC market in Navi Mumbai has a total capacity of 6500 MT godown
of which 1500 MT is utilized for various commodities. The godown at the
auction hall has been leased out by the Agriculture Produce Market (APM) to
the Maharashtra State Warehousing Corporation (MSWC).
In spite of all such available facilities, it has been found that there is a low
utilization of Cold Storages and a slothful progress in the field of
Warehousing. The following reasons can be attributed to this:
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8) High interest rates for the loan amount and a comparatively shorter
period of repayment of these loans.
10) The fact that the financial bank generally does not meet the
working capital requirement adequately.
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Chapter 4
COMMODITY BACKED FINANCING
• Existing scenario
• The crux of the situation
• Changing face of Commodity Backed
Financing
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It is found that the farmers often sell their produce to square off their debts
soon after harvesting. Large price spreads and low price realization due to
imperfections and weak linkages in commodity markets have been
dominating the Indian agriculture over a substantial period.
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There have been radical changes in the agricultural sector in the past decade
such as the recasting of important laws governing the sector, the rise in
commodities trading volumes, the setting up of new warehouses, and the
growing share of the organized food retail.
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The Indian farmer usually carries a huge load of risk on his shoulders. He
plants his crops not knowing what the harvest will be like, or how much it
will fetch in the market. Many things can go wrong between sowing and
harvesting.
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There are steps that have been already taken in this respect. Two years ago
National Commodity and Derivative Exchange (NCDEX) was set up. It is
connected to about 6000 trading terminals in 400 Indian towns. Today, 36
commodities – 33 of them agricultural – are traded everyday on this
exchange. That translates in to a daily turnover of around Rs. 2300 crores.
Till now, most of this turnover comes from companies and speculators. The
companies want to hedge what they buy. Day traders and speculators bet on
how much a commodity like wheat might cost three months later. They look
at the spot price; the cost of warehousing the produce, followed by the cost of
capital, and accordingly trades on the futures of these products.
The first thing that this will do is that it will improve that way in which the
farmer decided what to grow. Today he does it on the basis of the past year’s
price. If a particular crop yields good prices, everyone sows it the next year.
The result is that, at the harvest time, there is a glut in the market, resulting in
the price crash of the commodity.
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Thus the exchanges will fix the mandis, not by competing for procurement
but by helping the farmer to time his visits to the Mandi better.
A major hurdle today is that how to get the real time prices across to the
Indian farmer. Today, there are about 10000 – odd information kiosks in the
country. Even if each of them would reach out to five villages, it would cover
about 50000 villages. But India has over 600000 villages. The kiosk
infrastructure will have to be increased by 8 to 9 times to give an adequate
reach.
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Also, before anything is traded, it has to be graded and valued. But there is
no grading infrastructure in the country. Another issue is the cost of
warehousing. Farmers often need money from their harvests immediately to
finance their next crop.
At present, NCMSL has about 100 warehouses across all over the India. By
the end of the year 2007, it has a target of setting about 1000 warehouses.
NCMSL has aggressively being going ahead in this respect, with their higher
authorities themselves touring various states in India, talking personally to
the various warehouse owners and persuading them to sign up with NCMSL,
thus converting their warehouses into NCDEX – accredited warehouses.
NCMSL intends to have a NCDEX – accredited warehouse after every 40
kilometers, all over the country.
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One more important factor is that there has been a radical change in the
consumption pattern of the Indian. Indians today are consuming fewer
cereals, and more vegetables, fruits, meat, fish, eggs and milk. Indian
agriculture is undergoing a change accordingly.
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Thus Social Justice demands that some rebalancing needs to be done so that
all factors of production are adequately compensated for their efforts.
Even though the reaping, harvesting and storing of crops is seasonal, the
consumption of the commodities is perpetual, as well as variable in nature.
The market value of the commodities is the lowest at the time of harvesting,
primarily due to an abundant supply. Also, the consumption requirement is
periodic, and not in a bulk at a time. This naturally gives a rise to need of
storing the commodities, thus giving a way to requirement of strong storage
facilities for the producers, in order to hold a portion of the produce. This
would facilitate the farmer to meet his requirements such as fertilizers, seed,
etc. by selling the stored surplus commodities in the market, whenever the
market price is favourable. A need for storage facilities also comes into
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Similarly most of the steps taken by the Government had “Food Security” or
supporting the farmer through minimum support price as the primary
objective, which resulted in greater emphasis to schemes such as PDS, and
the benefits of the other constituents of the value chain are still largely
unaddressed.Also in the case of financing agricultural activities, local
institutions still dominate the scene while institutional finance is perceived to
be something very difficult to be availed off. Thus the only substantial
measure of the Government seems to be the setting up of the “Minimum
Support Price” mechanism, which ensures the bare minimum returns to the
producers, however this alone wont be enough to revitalize the agricultural
sector and an easy availability of Institutional finance for improvement in
infrastructure and marketing facilities is urgently needed.
4.3 Changing face of Commodity Backed Financing.
SBI has been active in Commodity Backed Financing for a long time now,
however most of the products are not in tune with the current market trends
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and are hence losing market share. Also there has been recent developments
such as the setting up of the Commodity Exchanges like Multi Commodity
Exchange (MCX) and National Commodity Derivatives Exchange of India
(NCDEX), which has given rise to newer business opportunities for SBI in
this arena.
Also there has been structural changes in the area of Warehousing with
Warehouse receipts been made negotiable, thereby resulting in better
marketability of warehouse receipts.
Due to these developments the Trade and Services Wing of the SME
department decided to have a revisit their Commodity Backed Financing
Business Portfolio.
The Study
The SBI thus conducted a study analyzing the commodity backed financing
business of the bank. The study included a visit to the Gwalior (Morena) area
in Madhya Pradesh along with several visits to the APMC Navi Mumbai to
understand the ground realities related to this business.
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Given below are the recommendations on the various product offerings of the
bank in the commodity backed financing arena along with new potential for
business in these areas. These recommendations are based on the above study
as well as an analysis of the current product offerings of the bank vis-à-vis that
offered by other banks and also takes the current trends in the industry into
account. The recommendations considers the recent directives from the
regulatory authorities and also the new measures taken by other departments
of the bank which also deal in commodity backed financing area namely,
Agriculture. This will ensure that the recommendations suggested below will
not conflict with the measures taken by the other departments.
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Chapter 5
WAREHOUSE RECEIPT FINANCING
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All the major Public as well as Private sector banks have already brought this
business into focus, and have started taking aggressive steps in this direction.
Other Banks with a substantial presence in Morena area of Madhya Pradesh
where a detailed study was conducted are UCO Bank, ICICI Bank, Oriental
Bank of Commerce, Central Bank of India, State Bank of Indore etc.,
SBI currently has a portfolio of around Rs.17 crores in this area. However the
terms at which other banks are extending finance are very much liberal. We
can improve our portfolio if we modify the terms and conditions of our
product and make it more tuned to the current industry trends. Such
modifications will require change in the margin requirements, Rate of
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Interest, Cap on the amount of loan and the period of credit currently offered.
(The detailed terms and conditions are detailed in Annexure 1).
2) Max period
of 12 months
2 Processing Charges
3 Margin 40% 30%
The detailed terms and conditions are detailed in Annexure 1
Risk Assessment and Mitigation:
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warehouse.
• In case of Private warehouses, a warehouse will
be linked to a particular branch. Only through
this branch Advances will be made to avoid
duplication and difficulties in co-ordination.
Risk Associated with volatility in The security margin that would be initially charged
price movement of the underlying at 30% should be sufficient for mitigating these
commodity risks.
Default on interest and/or principal The Security Margin of 20-30% should be good
payment (Credit Risk) enough to cover for the probabilities of Credit Risk
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As we can see from above that NBHC only arranges for Bank Finance for
Warehouse Construction and also for financing against the warehouse
receipts and does not provide any financial assistance for the same, with the
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The Bank can develop a customized product in which it will not only finance
the construction of such warehouses but also facilitate easy availability of
finance against warehouse receipts issued by them.
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(3) Indemnity/ Guarantee to be obtained from the owner against the losses
the bank may suffer on A/c of management / genuinity of receipts/ Quantity/
Quality / Insurance etc.
(4) This may also be topped up with personal guarantee from proprietor.
The risks that we apprehend in lending to such WR’s are in lending mainly
from the credibility of the owners/ managers, systems and procedures, checks
and balances, safety and safeguard in holding of the stocks.
Depending on the above parameters, the branch will appraise and sanction a
credit limit for advances against receipts of these warehouses and the
warehouses will be assigned to particular branches.
The farmers / traders should not suffer for want of adequate capacity of
Public Sector Warehouse capacity. Till such time at least till the accredited
W.R. capacity increases we may consider financing against private W.R.
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receipts to traders also subject to a cap of Rs. 100 Lacs as is in Agri Business.
Similar safeguards will be taken against fraudulent use/ mischief.
After the above process, the said branch will accept and approve requests for
advances against warehouse receipts of these Private Warehouses.
The new terms and conditions proposed based on the current industry
trends are detailed in Annexure 2
Uses Sources
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The subsidy is “Back-ended” and the banks’ finance even this portion until
the owner/promoter receives the subsidy.
Other banks are funding the entire subsidy portion, whereas we are funding
just 80% of it making the Warehouse owner to bear the remaining thereby
increasing the quantum of his contribution by another 5%.
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Given below in the table are the various risks associated with the product and
the proposed mechanism to mitigate them.
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Chapter 6
• About MCX
• Banking requirements of MCX members
• Clearing and settlement account for MCX
members
• Bank guarantee for Margin requirements
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COMMODITY QUANTITY
Gold 397 kgs
Silver 14790 kgs.
Chana 630 tonnes. 6.1.1 Delivery Mechanism
Urad 75 tonnes. at MCX
Pepper 10 tonnes.
MCX has three types of
delivery contracts:
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• Sellers Option: Only seller has the option to decide about delivery
• Compulsory Delivery: Gold and Silver
• Both options (Cash Settled)
MCX contracts are launched on 16th of every month and expire on 15th of
next month. The delivery period starts from 1st of every month. During this
period the seller or buyer can give his / her intention to give or take delivery.
MCX will match the intentions to arrive to design the delivery positions.
Once the delivery is assigned to a buyer he cannot square off his position
The delivery is assigned on the first come first basis and also in following
order:
1. Same city
2. Near by City
3. Far away City
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In both the cases the settlement will happen on cash basis. There will be a
penalty of 1-3% of contract price depending on the commodity for the
defaulting party. This penalty will be distributed between defaulted party and
the exchange in the ratio of 90:10. Exchange feels that this will be sufficient
to compensate for any loss that has occurred to defaulted party.
6.1.4 Warehousing
The exchange has accredited warehouses in various states depending on the
availability of the commodity. Hence for Rubber Kochin is the center while
for soyabean its Indore. The delivery takes place through the warehouse. The
seller will deposit the commodity with the warehouse on or before the pay-in
date. The warehouse will check it for the quality specification. If it found the
specification to the mark it will accept the material and issue a warehousing
receipt. The warehousing receipt will be transferred in the name of buyer
once buyer pays the money. The buyer will then collect the material on the
production of same receipt.
6.1.5 Quality
In case the buyer has doubts about the quality there will be recertification of
commodity. There will be three samples taken – for exchange, seller and
buyer. The buyer’s sample is tested. If buyer is still not happy then
exchange’s sample is tested. That certification will be final and then buyer
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has to take delivery. In case the buyer is right the seller has to bear the
charges of recertification and also take back the commodity. In case the
buyer is wrong the certification charges are born by buyer and he has to
accept the delivery.
6.1.6 Quantity
If the quantity of material varies from prescribed in the contract then the
buyer will pay more or less as per the excess or deficit. The excess or deficit
will be priced as:
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For the purpose of effecting delivery of gold and silver, every member will
be entitled to appoint a maximum number of two Clearing Agents, who will
be entitled to receive and deliver precious metals on behalf of such member
6.1.12 Delivery
The seller will be required to deliver gold at Group 4 securities facilities at
specified centers. Such specified centers are Mumbai and Ahmedabad. The
seller has to submit the delivery along with bill made in favor of individual
buyers.
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The price of gold is on the basis of 995 purity. In case a seller delivers 999
purity, he would get a premium. In such case, the sale proceeds will be
calculated by way of delivery order rate * 999/ 995.
Though the SBI group has around 30% stake in MCX only 3% of the MCX
members bank with SBI, the main reasons for this is that SBI has not
developed any product keeping the requirements of MCX members into
focus. Thus the 3% of the members that currently bank with us are basically
using Bank’s existing products to meet their requirements.
Also the terms and conditions offered by SBI is completely out of sync with
the current trends and hence do not attract more MCX members towards
Banking with us.
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We have identified many of the existing members and their sub brokers who
are banking with other banks wish to migrate to our Bank for their
transactions with MCX. There is a good scope for attracting current accounts
and other related new businesses from these Members / Sub brokers.
MCX has appointed our Mumbai Main Branch, M.S. Marg, as their Clearing
Bankers. The clearing arrangement envisages opening of principal account
titled MCX Settlement Account at Mumbai Main Branch. The members’
accounts are opened at different up country branches and their settlement
account is opened at Mumbai Main branch through which MCX and
members settle their trade.
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Members of the Exchange can deposit initial margin in cash or may furnish
Fixed deposit or bank guarantees or such other instruments as may be
specified by the Exchange from time to time to fulfill the initial margin
requirement in respect of open positions. Variation margin shall be paid only
in cash or cheque, or by electronically debiting the account of the member of
the exchange with the designated Clearing bank of the Exchange.
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This level of business opportunity is big enough for us to venture into this
business, since the current exposure to this business is a paltry Rs. 2 crore.
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All the MCX members interested in availing of the bank guarantee facility
need to be assessed for their credit worthiness, depending on which
appropriate limits can be sanctioned to each of them.
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These are just few of the points we need to consider for the Risk Rating
Matrix. The development of the Risk Rating Matrix was out of the scope of
this project.
This is yet another new Business opportunity from MCX. Around 3-5% of
the trades on MCX result in Physical Delivery of the commodity on the
expiry of the contracts.
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commodity is upto the specification agreed on, it would accept the material
and issue a warehousing receipt. The warehousing receipt will be transferred
in the name of buyer once buyer pays the money. The buyer will then collect
the material on the production of the receipt.
There can be dispute on the basis of quality and quantity of commodity. Bank
will not be responsible for the
MCX contracts are launched on 16th of every month and expire on 15th of
next month. The delivery period starts from 1st of every month. During this
period the seller or buyer can give his / her intention to give or take delivery.
MCX will match the intentions to arrive at the delivery positions. Once the
delivery is assigned to a buyer he cannot square off his position, otherwise
but through delivery.
In MCX the delivery matching happens before the expiry date. 3-5 days
before expiry the tendering period starts whereby the sellers’ intentions are
matched with the buyers intentions and deliveries are assigned. If a delivery
is allocated to a buyer and he intends to take delivery, he is required to make
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the payment within 2 working days of the allocation of delivery. SBI can
come in here and finance the payment requirements of the buyer.
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Incase the MCX Member defaults SBI can make good of the loss by selling
the commodity backed by the warehouse receipt in the open market.
MCX in turn will agree to endorse the Warehouse receipts financed by SBI
in favour of SBI and deliver it to SBI.
In addition to this MCX will also facilitate the liquidation of the warehouse
receipt in case of defaults.
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6.8 Potential
COMMODITY QUANTITY
Gold 397 kgs
Silver 14790 kgs.
Chana 630 tonnes.
Urad 75 tonnes.
Pepper 10 tonnes.
Given the above size of delivery there is good scope for our Bank to enter
this arena.
Also the bank is waiting for approval from the RBI for entering into
propriety positions in the commodities derivatives market.
As and when the product rolls out and the RBI grants approval for entering
into propriety positions by the banks, the Commodities desk at the
Treasury department should be ready to take up the responsibility
of recovering any principal that will be at risk due to defaults by
the bank’s customers.
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Thereby resulting in better price recovery of the goods and resulting smaller
losses on account of NPA.
Chapter 7
CONCLUSION
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CONCLUSION
Key Recommendations
Based on my study of the various products I recommend the following
changes
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To summarize it all, I can be certain enough to say that the steps taken by
State Bank of India would have a substantial impact of the future
Agricultural as well as economic progress of India
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Annexure 1
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Nil
Processing charges
Comprehensive Insurance
Insurance cost to be borne by the warehouse receipt
Insurance
owner.
Security
Charge over the deposited warehouse receipt, being
a) Primary endorsed in favour of the bank.
None
b) Collateral
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Other terms and 3) The branch should verify the authenticity of the
conditions warehouse receipt and get its lien noted with the
warehouse before disbursal of the loan.
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Annexure 2
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None
b) Collateral
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Annexure 3
Warehouse Construction Financing
TERMS & CONDITIONS
To finance construction of warehouses and cold storages.
Purpose
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warehouse.
finance
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None
b) Collateral
Annexure 4
Bank Guarantee for MCX Members
Term & Conditions
To meet different margin requirements for trade at
Purpose
commodity exchange
Members of the Multi Commodity Exchange of India
Eligibility
(MCX)
Eligible Depending on the credit assessment of the borrower
amount of not exceeding Rs 25 crores.
finance
Commission Commission to be charged @1.50%
Margin
At least 25% margin should be secured in cash, and
balance amount by other securities, so as to secure the
exposure However, in case of existing customers with
sound means and good track record, and based on
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Other Terms & a) All the members interested in availing of this service
Conditions need to be assessed for their Credit Standing by the
respective Branches. In this process the following
documents should be asked for and scrutinised and
depending on the scores on these parameters in the
Risk Rating Matrix suitable Credit limit should be
fixed.
The required documents (indicative) are:
1) Provisional financials for the current financial
year - Balance Sheet / P&L Account/all Schedules
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BIBLIOGRAPHY
MAGAZINES REFERRED:
• Capital Market
• Business World
• Dalal Street
• Business India
WEBSITES REFERRED:
• www.statebankofindia.com
• www.mcx.com
• www.cwc.com
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• www.google.com
• www.soople.com
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