It covers every concept you need to score high in the Principles and Practices of Banking (PPB) paper – Module B: Functions of Banks.
🎬 Part 1: Principles of Lending – JAIIB PPB Full Explanation
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1. Principles of Lending – Safety, Liquidity & Profitability
The three fundamental principles guiding bank lending decisions are Safety, Liquidity, and Profitability.
- Safety: Ensures that the borrower has the ability and intention to repay, supported by adequate collateral or guarantees.
- Liquidity: Ensures funds can be recovered quickly without locking them in long-term assets.
- Profitability: Ensures that the loan yields sufficient income to cover costs and risks while adding to the bank’s profit.
Before sanctioning any loan, bankers must ask — Is the loan safe? Is it liquid? Is it profitable?
2. Types of Credit Facilities – Fund Based & Non-Fund Based
Credit facilities can be broadly categorized as Fund-Based and Non-Fund-Based facilities.
- Fund-Based Facilities: Cash Credit, Term Loans, Overdrafts, etc.
- Non-Fund-Based Facilities: Bank Guarantees (BGs) and Letters of Credit (LCs).
Bank Guarantees involve contingent liability – the bank promises payment if the customer fails to meet obligations.
Letters of Credit are commitments to pay sellers upon submission of required documents, widely used in trade finance.
3. Major Committee Methods – Nayak, Tandon & Kannan
These committees provided structured methods for Working Capital Assessment:
- Nayak Committee Method: Focuses on small borrowers based on turnover and profit after tax (PAT).
- Tandon Committee Methods: Suggests methods for margin and bank finance based on current assets and liabilities.
- Kannan Committee – Cash Budget Method: Used for seasonal industries and service sectors using a cash flow-based approach.
4. Working Capital Gap & MPBF Calculations
Working Capital Gap = Current Assets – Current Liabilities (excluding bank borrowings).
MPBF (Maximum Permissible Bank Finance) is the permissible amount of finance the bank can extend based on the borrower’s margin and requirements.
5. MCLR – Components & Benchmarking
The Marginal Cost of Funds-based Lending Rate (MCLR) includes components such as cost of funds, negative carry on CRR, operating cost, and tenor premium.
It helps determine loan pricing and benchmarking for borrowers.
6. Net Working Capital (NWC) Concepts
Net Working Capital (NWC) = Current Assets – Current Liabilities. It indicates a firm’s short-term financial health and its ability to meet obligations.
Positive NWC shows financial stability, while negative NWC indicates a need for external finance.
7. Bank Guarantees – Roles & Liability
A Bank Guarantee is a non-fund-based facility where the bank undertakes to pay on behalf of its customer in case of default.
The bank’s liability arises when the guarantee is invoked as per its terms.
8. Greenfield Project Cost (Treatment of Expenses)
For Greenfield Projects, banks assess costs including land, plant, machinery, pre-operative and preliminary expenses.
These influence project viability and repayment capacity under credit appraisal.
🎬 Part 2: Working Capital & Committee Methods – Tandon, Nayak & Kannan
9. Willful Default (Diversion of Funds)
Willful Default occurs when a borrower intentionally avoids repayment despite having capacity, or diverts funds to non-permitted uses.
Identifying willful defaulters is crucial in risk assessment and credit appraisal.
10. Letter of Credit – Bank’s Primary Obligation
A Letter of Credit (LC) is a primary payment undertaking by a bank to pay the beneficiary upon fulfilling document requirements.
The process involves issuing, advising, negotiating, and reimbursing banks following UCPDC 600 guidelines.
11. Credit Appraisal – A Crucial Skill
Credit Appraisal is the process of evaluating the borrower’s creditworthiness.
It includes analyzing purpose, repayment source, collateral, and risk factors before sanctioning any loan.
- Borrower’s capacity and character
- Business cash flows and DSCR
- Collateral and security adequacy
- Credit Risk Rating impact on loan decision
12. IT Company Loan Facilities (Term Loan vs CC)
For IT companies, Term Loans fund infrastructure and equipment, while Cash Credit handles working capital.
Credit appraisal evaluates revenue model, project pipeline, and client dependency before approving facilities.
13. CMA Data & Form 6 Explanation
CMA Data projects a firm’s future financials—turnover, costs, working capital, and profit estimates.
It’s essential for calculating MPBF and ensuring feasibility under Tandon Committee norms.
14. Process of Letter of Credit
- Applicant requests issuing bank for LC.
- Issuing bank sends LC to advising bank.
- Beneficiary ships goods and presents documents.
- Negotiating bank examines and forwards documents.
- Issuing bank reimburses payment after verification.
15. Project Cost – Preliminary & Pre-Operative Expenses
While appraising term loans, banks account for preliminary expenses like legal fees and pre-operative expenses such as training and interest during construction.
These affect the project’s total cost and repayment schedule.
🎬 Part 3: Credit Appraisal & Non-Fund Based Facilities (BGs, LCs)
16. Credit Management Policy & Operational Lending Decision
A bank’s Credit Management Policy defines its lending culture, exposure limits, and risk appetite.
It ensures all lending decisions follow consistent approval, documentation, and review processes.
17. Topics Covered in Summary
- Principles of Lending (Safety, Liquidity, Profitability)
- Types of Borrowers & Credit Facilities
- Non-Fund Based Facilities (BGs, LCs)
- Nayak, Tandon & Kannan Committee Methods
- Working Capital Gap & MPBF
- MCLR Benchmarking
- NWC Concepts
- Greenfield Project Cost
- Willful Default & Diversion of Funds
- Credit Appraisal Techniques & Credit Risk Rating
- CMA Data & Form 6
- Letter of Credit Process
- Project Cost Components
- Credit Management Policy
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