Origin of banking• The term “BANK” derived from German word

“Bancus”, “Banque” means bench.• Jews were the early bankers• Babylonian developed banking system in 2000BC• In 14th century Royal exchangers did banking on

behalf of kings• Then goldsmith did the job of accepting money• Bank of England was started in 1694• 1708 Act provided the note issue power to them• 1844 Act restricted power of note issue by

private banks.• Lack of increase in circulation of notes led to

need for modern banking1

Banking in IndiaOrigin was in vedic periodIn 3rd century Vedic scholar Manu gave the

idea of accepting deposits& lending moneyHe laid rule for interest chargingDuring Mogul period indigenous bankers lend

moneyMany started this function like Shroof, sheth,

shah, Chettiars etc.

2

Money lenders in India• They transferred money from place to place &

person to person• They used their money for lending• Not accepted deposits from public • They collected money through hundies• Because of high risk high interest was collected• No banks in villages. No alternative for farmers

to get money. So they depend on these people• The English traders also depend on them

3

Banks started by East India CompanyThe Bank of Bengal in 1809The Bank of Bombay in 1840The Bank of Madras in 1843These 3 banks were known as Presidency Bank. The Imperial Bank of India Act was passed in

1920.These 3 banks were amalgamated into one and known as Imperial Bank of India in 1921.This bank was nationalized in 1955 by the State Bank of India Act

4

Banking in the pre independence period:• Lack of development of banking due to the

following reasons:• I and II world war • Partition of the country in 1947• Adversely affected states like Punjab and West

Bengal• Most of the private banks collapsed• Many of the exchange banks owned by Europeans

concentrated to finance on foreign trade• Indian joint stock companies were under

capitalized and lacked the experience and maturity to compete with the Presidency banks and exchange banks.

5

Banking after independence In 1949 the Banking Regulation Act was

enacted which empowered RBI to regulate, control and inspect the banks in India

In 1955 it nationalised the Imperial Bank of India.

State bank of India became the principal agent of RBI to handle banking transactions

In 1960s the banking industry gained momentum in the devt. of the economy

In 1969, 14 major banks were nationalised In 1980, 6 more banks were nationalised

6

Banking system has reached even in the remote villages in India.

Funds were largely given to tradersInsurance cover extended to the deposits creation of regional rural banksLiberalisation, privatisation,globalisationEmergence of private sector banks and foreign

banks

7

To day’s condition… There are 27 public sector banks accounting

for more than 80% commercial banking assets

Banking system in India consists of commercial banks and co operative banks of which the former account for 98% of the banking system assets

8

Reforms introduced in banking sectorThe main intention of reforms is to bring

competitiveness, operational flexibility, efficiency and functional autonomy

banking became market oriented sectorSLR to be brought down to 25% in 5 yearsCRR to be reduced progressivelyInterest rate to be on par with other

market ratesEntry of many private sector banks were

encouraged

9

Features of banking1. Dealing in money2. Agency services3. Credit creation4. Commercial nature5. Withdrawable deposits

10

Dealing in money: They accept deposits from public- savings, current, fixed, recurring etc. They advance money as loans to the needy people – cash credit, term loans, bill discounting overdrafts etc.

Agency: Banks act as agents of the customer. They provide agency services like transfer of money, credit cards, telebanking, cheque clearing, bill collection are some of the services provide by the banks as an agent.

Credit creation: The banks create credit. It is an additional function of the bank. It is the unique function of banks. Every deposit can create credit. 11

Additional money can be created for the purpose of lending. But there is a limit for such credit. The RBI has adopted certain measures to control credit created by the banks.Commercial nature: All banking functions are carried out with the profit motive. They pay interest on deposits and these deposits are advanced to the needy persons at a higher rate of interest. There is a margin of profit in banking operations. It also charge for the services rendered by them.

12

Withdraw able deposits: The deposits made by the public can be withdrawn by cheques, draft or otherwise. The banks issue books to the customers. The customers have an option of withdrawing money by using cheques or withdrawal slips. The deposits are also withdrawal on demand. There are certain restrictions on the number of withdrawals in case of saving deposit. Fixed deposit can be withdrawn at maturity and these deposits can not be withdrawn by cheques by the customers.

13

Concepts of banking• Banking: Banking means accepting for the

purpose of lending or investment of deposits of money from the public repayable on demand otherwise and withdraw able by cheque, draft order or otherwise

• Banker: banker is a person who accept deposits, money on current accounts issue and pay cheques for his customers.

• Customer: He is a person who has an account with the bank, performs at least a transaction of a banking activity nature.

• Banking company : Banking company means a company, which transact the business of banking in India. 14

Evolution of banking

15

1949 Enactment of Banking Regulation

1955 Nationalisation of SBI

1959 Nationalisation of SBI subsidiaries

1961 Insurance cover extended to deposits

1969 Nationalisation of 14 major banks

1975 Creation of regional rural banks

1980 Nationalisation of 6 major banks

1982-83 Establishment of NABARD

1985-86 Introduction of MICR technology,permission to banks to float Mutual funds

1999-00 Introduction of Kisan Credit cards

2000-01 Banks and NBFCs permitted to undertake insurance business

Scope for banking

Banking activity is useful for trade and industry Distributors & protectors of liquid capital Money and precious metals can be kept safe Provides credit facility to customers It encourages the habit of saving It meets the financial needs of small scale business people it also provide payment settlements through cheque, pay orders,

DD, debit and crdeit cards etc Rural banks provide financial support for agriculture, cottage

industries and to buy the rawmaterials etc. Regional rural banks provide credit facilities to small and marginal

farmers, agricultural labourers,artisands and small entrepreneurs

16

Financial assistance in indian money or in foreign currency is available to start any industry

Financial support in the form of loan, equity participation, guarantees, refinance and other forms of credit are available from the banks to the industries .

Scheduled commercial banks and financial institutions get financial assistance from the exim bank against their export-import financing activities.

Corporate sectors also get assistance from banks for many of their acitivities.

17

Main Functions of BankingI Accepting deposits: Current deposits Fixed deposits Savings deposits Recurring deposits

18

To know about…..Customer’s relationship with the bankOpening a new accountClosing of a bank account Nomination Insurance of bank deposits

19

II. Lending money: Banks act as brokers and dealers of society’s money.

Mobilise funds for needy like agriculture, industry etc.

By this banks earn interest, discounts and conversion fees.

Principles of lending : Principle of safety and security Principle of liquidity Principle of profitability

20

Liquidity means ability of the bank to produce cash on demand. Bank must ensure that it get backs the money in time. So its obligation to pay his depositor is not affected.

Safety becoz it is using the money received from the public. To ensure safety he must see the ability and willingness of the borrower.

Profitability to cover the cost of funds, interest and risk cost, some money for its growth’

21

Types of Loan On the basis of time: Short and medium term loan(Less than 1 year) Long term loan (1 to 5 years) Bridge finance Loan syndication On the basis of purpose: Consumption loan(education, medical loan) Composite loan(to buy capital assets, working

capital) On the basis of security Secured loan Unsecured loan

22

Modes of creating chargesTypes of charge

Nature of securities

Lien Goods and securities

Pledge or hypothecation

Movable property

Assignment Book debt

Mortgage Immovable property

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• Lien: right of the debtor to retain goods and securities of debtor until he pays the debt. Bank cannot sell ; cannot transfer the ownership of the goods from customer to bank.

• Pledge: It is a bailment of goods as security for debt. Shares, FD, units of UTI; NSC can be used for security. Transfer of possession is compulsory. Ownership is retained with the customer. Bank can sell if he fails to repay.

• Mortgage: customer gets advance against immovable property. Bank can sell and recover the loan amount if he fails. In case of limited company the charge must be registered with the Registrar of companies within 30days.

24

Differences between Legal and Equitable MortgageLegal Equitable

Legal title can be transferred from customer to bank and vice versa

Legal title cannot be transferred ;only document title can be

It is expensive Not expensive

Reputation of the customer will be affected

Reputation will not be affected

Not risky Highly risky

25

Hypothecation: Charge over a movable property for loan. Neither ownership nor possession is passed on to the bank. Bank can anytime inspect. customer give undertaking to give possession of goods whenever required by the bank. Higher risk of multiple financing

Assignment: Transfer of any existing or future right, property or debt by the borrower to the bank (eg) LIC policy

26

27

Legal framework of bankingThe structure and pattern of banking system in India is based on British banking system. The commercial banks in India were started in the 2nd half 19thCentury.Before 1944 banks were regulated by Indian Companies Act of 1913. It was insufficient and so incorporated in 1949, The Banking Regulation Act of 1949 empowers the RBI to regulate the banking activities in India.

28

DEFINITION OF BANKINGSECTION 5(B) DEFINES BANKING AS

ACCEPTING FOR THE PURPOSE OF LENDING OR INVESTMENT OF DEPOSITS OF MONEY FROM THE PUBLIC, REPAYABLE ON DEMAND OR OTHERWISE AND WITHDRAWABLE BY CHEQUE, DRAFT, ORDER OR OTHERWISE.

29

What is a Banking Company? A banking company is a company which

performs both the functions of accepting deposits and lending or investing. (Section 49)

This prohibits any institution other than banking company to accept deposit of money from public withdrawable by cheques.

Any company which is engaged in the manufacture of goods (trading) accept deposit from the public for its finance cannot be deemed to transact banking business.

The banker can refuse to open an account in the name of a person who is considered as unreliable person like robber, thief, etc.

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Acceptance of deposit should be the main business of a banking company.

The banker cannot refund the deposit to the customer on his own accord even if the period of deposit expires.

The withdrawables can be done only by cheques, pay orders, draft or otherwise.

Demand can be made only by proper instrument in writing and not by verbal order or telephone message.

31

Contents of Section 7Every company doing banking business

should have any one of the word such as bank/banker/banking company in its name.

Any other firm or institute or company should not use these words in its name.

32

Contents of Section 6What other businesses can be undertaken by a banking company?

Borrowing, raising or taking money and lending or advancing money, discounting of bills, granting letter of credit, traveller’s cheque, buying and selling of bullion and species, buying and selling of foreign exchange, providing safe deposit vaults, collection and transmitting money and securities, underwriting and dealing in shares, debentures, bonds and investments of all kinds.

Act as an agent of the government, local authority and can carry on agency business.

33

It may contract for public and private loans and negotiate and issue the same.

It may insure, guarantee, underwrite, participate in managing and carrying out of any issue of state, municipal or other loans or of shares, debentures and may lend money for the purpose of any such issue.

• It may manage, sell and realize any property which may come into its possession in satisfaction of its claims.

34

It may acquire, construct and maintain any building for its own purpose.

It may sell, improve, manage, develop, exchange, lease, mortgage, dispose of or turn into otherwise deal with all or any part of the property and rights of the company.

35

Business prohibited for a banking company

No banking company shall directly or indirectly deal in the buying or selling or bartering of goods, except in connection with the realisation of security given to or held by it, or engage in any trade, or buy, sell or barter goods for others otherwise than in connection with bills of exchange received for collection or negotiation or with such of its business." goods" means every kind of movable property, other than actionable claims, stocks, shares, money, bullion and all instruments .It also prohibits a banking company from holding a immovable property however so acquired except as it is required for its own use only for a period of 7 years from date of acquisition.

Contents of Section 8

36

Property for its own use may be held by a banking company on a permanent basis. When can a banking company form a

subsidiary company?(Section 19)A banking company is permitted to form subsidiary company for the following purposes: For undertaking any business permitted for

a banking company For carrying out banking activity outside

India For undertaking such other business

necessary/useful in the interest of the public.

37

Minimum paid up capital and ReservesA sound banking company requires adequate

capitalAs per 1962 act minimum amount of paid up

capital required for banking company is Rs.5 lakhsValue here means exchangable value and not

nominal valueSubscribed capital should not be less than half of

its authorised capitalPaid up capital should not be less than half of its

subscribed capitalBanking companies capital may consist of equity

shares or preference shares which were issued prior to 1944

38

Indian BanksA banking company incorporated in India, should have

the minimum capital as follows

If it has in more than 1 state Rs.5 lakhs

If in any place in Mumbai or Kolkatta Rs.10 lakhs

If it is other than Mumbai or Kolkatta

a) If it is in the principal place Rs.1 lakh +

b) If it is situated in district of principal business

Rs. 10,000 +

c) If it is situated elsewhere in the State outside the same district

Rs. 25,000

If it has only one place of business Rs.50,000

If it has all its places of business in one state that too in Mumbai/calcutta

Rs 5 lakhs +

39

Foreign banks: Incase of a company incorporated outside India the value of its paid up capital and reserves shall be less than Rs.15 lakhs and if it has a place of business in the city of Mumbai and kolkatta or both should have Rs20lakhs.

These banks also are required to maintain CRR and SLR with the RBI

The foreign banking company should deposit 20% of its profit annually with the RBI

As per the recommendations of the RBI, the Central Govt. may exempt any banking company to do so if its deposit liabilities are sufficient.

This amount is considered as the asset of the bank and incase of any problem(bankruptcy) creditors of the bank can claim first.

40

Restrictions on AdvancesSection 20 lays down the following

restrictions for issuing loans and advances:A banking company cannot grant loans and

advances against its own sharesThe banking company cannot enter into any

commitment to grant loans and advances to or on behalf of a) any of its directorsb) any firm in which any of its directors is

interested as partner, manager, employee c) any companyd) any individual with whom any of its

director is a partner

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Contents of Section 21The RBI may give directions regarding loans

and advances:1.The purpose for which loans can be given or

not2.The margins to be maintained3.The maximum amount of advance to any

company/person 4.The maximum amount up to which

guarantee can be given by the bank on behalf of any one company

5.The rate of interest, terms and conditions on which loans can be made, etc.

42

Licensing of Banking CompaniesAs per section 22, every bank should hold a license issued by RBI. The RBI issue a license only when it is satisfied with conditions like:The company will be in a position to pay its present and

future depositor in full when they claimThe affairs of the company shouldn’t be a obstacle to the

interest of the depositorsThe company has adequate capital structure and

earning prospectsThe general character of the proposed management of

the company will not be harmful to the public interest or for the interest of the depositors

The grant of a license would not be harmful to the operation and consolidation of the banking system which has monetary stability and economic growth

43

While granting license for a banking company incorporated outside India

Whether the company complies with all the provisions of the Act applicable to such companies

Whether the Govt. or the law of the incorporated company is not discriminating with the companies registered in India

Whether starting a banking company with the other countries will be in the public interest

44

Opening a BranchEvery banking company should take the permission of

the RBI for opening a new branch in India / change the location of the existing place of business / open a branch outside India

Change of location within the city/for a temporary place for a period of a month for the purpose of providing banking facilities in an exhibition, mela etc no such permission is required form RBI

Before giving permission, RBI has to see The financial conditions and history of the company The general character of the company The adequacy of its capital structure and earning

prospects The public interest

45

Maintenance of Liquid AssetsSection 24 of the Banking Regulation Act

1983 says every banking company is required to maintain in India in cash, gold approved securities the amount which is not less than 25% of total of its demand & time liabilities on any particular day. This is known as Statutory liquidity ratio(SLR)RBI can raise this to 40%

The approved securities must be valued at current market price. Approved securities means the securities in which the trustees may invest trust money

46

Apart form SLR, every bank is required to maintain liquid assets including cash

The cash balance to be maintained by each schedule bank with the RBI is known as cash reserve ratio(CRR)

Once in 15 days every bank has to submit its monthly report about its demand and time liabilities

If they fail to maintain the minimum prescribed balance the bank has to pay penal interest of 3% per annum and later up to 9%.

47

Inspection of BanksAs per of the section 35 act, the RBI on its own or as

per the instance of central government can inspect any branch of the banking company and its books of accounts

Every director, officer, employer of the banking company has an obligation to furnish the RBI officer books, accounts and other documents in his custody and information relating to day to day working of the company

If the central government finds that the banking company is conducting a banking business detriment to the interest of the public then it can prohibit the bank from receiving fresh deposits, asked the RB to windup the banking company

48

Powers of RBICall for a meeting of board of directors to

discuss the matterCan call an officer of the banking company to

discuss with the officer of the RBI about that matter

Can appoint an officer to observe the manner in which the affairs of the banking company

To make the changes in the management specified a per the RBI’s guidelines.

49

Management of Banking CompaniesBoard of Directors: Every b.company should have BOD in

such a way not < 51% of the total no. of members should satisfy the following conditions:

1.1. They should have special knowledge or practical experience about any subjects like accountancy, agriculture, economics, finance, law, small scale industries etc.

1.2. Out of total no. of directors at least 2 should have special knowledge or practical experience about agriculture, rural economy, co operation and small scale industry.

2.1. They do not have substantial interest in any company or firm which carries on trade, commerce, industry

2.2. They should not be employee or manager of a firm/company

2.3. They should not be owner of any company

50

The above conditions won’t be applicable for the persons who are owners of small scale industry or company regulated under 25 of company Act of 1956

Meaning of substantial interest:In case of a company it means the BOD’s wife

or children solely or jointly should not have shares worth more than Rs.5lakhs or 10% of the paid up capital of the same company (whichever is less)

In case of a firm the BOD’s wife or children should not hold solely or jointly 10% of the total capital subscribed by all partners.

51

If the above conditions are not fulfilled then the RBI has the power to direct the banking company to reconstitute the Board and if it is not done within 2 months, the RBI can remove the director and appoint a suitable person.

A director can hold office not more than 8 years

He is not eligible for reappointment for the same post for 4 years

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Appointment of ChairmanHe will be one among the BODWill be guided by the BODTerm – 5 years full timeEligible for reselection / reappointmentShould have knowledge of economics,

agricultureGround for Disqualification • Director of a company other than subsidiary

company registered under Section 25 of Company Act 1956

• If has any interest in any other company / firm• Director/Manager/Partner/Proprietor of any other

company• If engaged in any other business

53

Control over Top ManagementEvery banking company should get prior

permission for appointment, reappointment, or termination of the Director/chairman

Approval of RBI is necessary for amending the provisions relating to do the above

RBI can remove the top managerial personnel if it is necessary in the interest of public/for preventing the affairs of the company

Types of Loans offered by Banks to Customers

Term loansCash creditOverdraftBill discounting

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1. Term loansShort termTerm loans (Medium & long term)Bridge Finance: There is a time gap

between the date of sanctioning and its disbursement by the financial institution to the borrowing company. To bridge the gap company takes this loan. Delay in the project can be reduced

Loan syndication:2 or more banks agree to finance a particular project. The borrower can directly meet the lead bank and it will get in touch with the other banks.

55

• 2.Cash credit: Most favorable type of loan. Banker fixes cash limit on an annual basis. The customer can withdraw any amount as and when he likes. Interest is only on the amount withdrawn.

• 3 Overdraft: Given to current account holder. Can withdraw more than what is there in his account. Maximum limit is there for amount and time. collateral security. Interest is only on the amount withdrawn.

• 4 Bill discounting: This is for working capital by discounting and purchasing of bills. when customer provides a bill of exchange as security banker deducts a certain amount from the value of the bill and advances the rest of the amount to the customer.

56

Secondary Functions of Commercial BanksMerchant bankingLeasingMutual fundsMoney transfersfactoringHousing financescredit cards ATMTelebankingInternet bankingPortfolio management

57

58

Reserve Bank of

India

Commercial Banks

Public Sector Banks

State Bank Group

State Bank of India

Subsidiary Bank

Nationalised Banks

Private Sector Banks

Indian

Old Banks

New Banks

Local Area Banks

Foreign

Regional Rural Banks

Co,Op. Banks

State Co.Op. Banks

Central / District Co.op. Banks

Primary Credit

Societies

59

Reserve Bank of IndiaEstablished in 1935 as per RBI Act of 1934Till Jan 1949,it was a private shareholders institutionOldest central bankAs the apex bank, it guides, monitors, regulates &

promotes the destiny of the Indian financial systemObjectives of RBIIssue notes, keep reserves to secure monetary stability in

the countryPlays lead role in the devt. of a sound financial systemEnsures safe and efficient execution of financial

transactionsIn developing counties it plays additional role-

developmental and promotional functions

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Functions of RBINote Issue:

sole right to issue currency notes1Re &coins by the Finance Secretary to Govt. of India They are unlimited legal tender throughout India Its responsibility is not only circulation/withdraw but also exchange notes and coins of 1 denomination into another as demanded by public.

61

Currency Management

What is the role of the Reserve Bank in currency management? The Reserve Bank manages currency in India. The Government, on the advice of the Reserve Bank, decides on the various denominations. The Reserve Bank also co-ordinates with the Government in the designing of bank notes, including the security features. The Reserve Bank estimates the quantity of notes that are likely to be needed denomination-wise and places the indent with the various presses through the Government of India. The notes received from the presses are issued and a reserve stock maintained. Notes received from banks and currency chests are examined. Notes fit for circulation are reissued and the others (soiled and mutilated) are destroyed so as to maintain the quality of notes in circulation. The Reserve Bank derives its role in currency management on the basis of the Reserve Bank of India Act, 1934.

What is the role of Government of India? The responsibility for coinage vests with Government of India on the basis of the Coinage Act, 1906 as amended from time to time. The designing and minting of coins in various denominations is also attended to by the Government of India.

62

Who decides on the volume and value of bank notes to be printed and on what basis? The Reserve Bank decides upon the volume and value of bank notes to be printed. The quantum of bank notes that needs to be printed broadly depends on the annual increase in bank notes required for circulation purposes, replacement of soiled notes and reserve requirements.

Who decides on the quantity of coins to be minted? The Government of India decides upon the quantity of coins to be minted.

How does the Reserve Bank estimate the demand for bank notes? The Reserve Bank estimates the demand for bank notes on the basis of the growth rate of the economy, the replacement demand and reserve requirements by using statistical models.

How does the Reserve Bank reach the currency to people? The Reserve Bank manages the currency operations through its offices located at various places. These offices receive fresh notes from the note presses. Similarly, the Reserve Bank offices located at Kolkata, Hyderabad, Mumbai and New Delhi initially receive the coins from the mints. These offices then send them to the other offices of the Reserve Bank. The notes and rupee coins are stocked at the currency chests and small coins at the small coin depots. The bank branches receive the bank notes and coins from the currency chests and small coin depots for further distribution among the public.

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What is a currency chest? These are actually storehouses where bank notes and rupee coins are stocked on behalf of the Reserve Bank. The currency chest branches are expected to distribute notes and rupee coins to other bank branches in their area of operation.

What is a small coin depot? Some bank branches are also authorised to establish small coin depots to stock small coins.. The small coin depots also distribute small coins to other bank branches in their area of operation.

What happens when the notes and coins return from circulation? Notes and coins returned from circulation are deposited at the offices of the Reserve Bank. The Reserve Bank then separates the notes that are fit for reissue and those which are not fit for reissue. The notes which are fit for reissue are sent back in circulation and those which are unfit for reissue are destroyed after processing shredded. The same is the case with coins. The coins withdrawn are sent to the Mints for melting.

From where can the general public obtain bank notes and coins? Bank notes and coins can be obtained at any of the offices of the Reserve Bank and at all branches of banks maintaining currency chests and small coin depots.

64

Banker to the Govt.Banker to Central and State Govts. It provides all banking services-

acceptance, withdrawal of deposits, making & collecting money on behalf of the Govt, transfer of funds & management of public debt

It does not receive any remuneration for this business Can charger commission for managing public debt

It is authorized to make ways & means advances (Repayable in 3 months)

65

Banker’s Bank:It controls volume of reserves of commercial, co

operative and regional & rural banksIt determines the deposit/credit creating ability of the

banksBanks have to maintain CRR with the RBI against their

demand & time liabilitiesThe banks can borrow funds from RBI in case of need.Exchange management and control :It has to maintain the stability of external value of rupeeAll f.exchange reserves including gold, foreign assets,

govt. balances held abroad are centralized with the RBI It has to buy & sell currencies of all members of the IMFFERA Act of 1973 empowers it to exercise control over

foreign securities, foreign payments & transfer of currency ,bullion, securities to foreign nationals.

66

Supervising authority:

It has vast powers to supervise & control the commercial and co operative banks in the country It includes:

To issue licenses for new banks/new branches1. To inspect the working of banks in India &

abroad2. To prescribe minimum requirements for paid

up capital, reserves, transfer to reserve fund, maintenance of CRR etc

3. To control methods of operation of banks4. To appoint, reappoint, terminate Directors,

Chairman and Chief Executive officers to private sector banks

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Credit control: Most important function Can use all quantitative and qualitative

methods of credit control It has to regulate the volume, cost &

direction of bank loans2 Types of credit control:

Qualitative & quantitative Qualitative tools:

Margin requirements Issuing directions Regulation of consumer credit

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Qualitatitve tools: Bank rate (BR) Open market operations (OMO) Varying reserve requirements (VRR )Export finance: Main objective is free export sector from

restriction of domestic credit Exports should not suffer due to scarcity of

financeIt has following schemes for this purpose:

1. Export bill credit scheme, 2. Pre shipment credit scheme,3. Export credit Interest subsidy scheme4. Concessional rate of exchange, interest,

discount

69

Development and PromotionDevelopment of institutional agricultural

credit is an important function of RBIIt has established NABARD in 1962It has started ARDC in 1963It has also started various institutions like

IDBI, IFCI

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Commercial BanksOldest and fastest growing bank in IndiaIt is a unique system in the worldTheir objective is to make profitProfitability, liquidity, safety and social welfare are

their major principlesIt has grown enormously in 40 years interms of bank

branches, deposits etcThey developed innovative approaches like single

window, participatory lending and consortiumA loan in which one or more lenders share, or

participate, with the originating bank in advancing funds to a borrower. A participation loan is useful when the amount of the loan is too large for any single lender.

71

Achievements : Massive quantitative expansionQuick, reliable, better customer serviceDiversified services like merchant banking,

mutual funds, venture capital, equipment leasing, housing finance, hire purchase credit etc

Drawbacks/problems: Bad debtsLow efficiencyOverduesLow productivityDefaults

72

Major changes brought by LPG: Expansion and devt. of branch banking system Opening branches in rural and semi urban

areas Share of priority sector increased in total

bank credit RBI controls these banks through SLR& CRR Debt-Recovery Tribunals were set up to

expedite recovery of overdue These banks were facing problems of non-

performing assets. This adversely affect the profitability of these banks.

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Importance of Commercial Banks1. Increase productivity2. Development of trade & industry3. Optimum use of funds4. Capital formation in the country5. To achieve economic development6. To generate employment opportunities7. To reduce regional disparities8. To cultivate the habit of saving9. Creation of credit in the economy10.Expansion of business

74

Co operative banksThey are part of set of institutions financing

for rural and agricultural development.It is a small scale banking carried on a no

profit no loss basis for mutual co operation and help

started in India in 1904Its structure is federal in nature with 3 tier

linkages between State, district and village level

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Co.Operative Credit Banks

Urban Co.Op.Banks

Rural Co.Op.Banks

Short Term

State Co.Op. Banks

Central Co.Op. Banks

Primary Agril. Credit

Societies

Long Term

State Co.Op. Agril. & Rural Devt. Banks

Primary Co.Op. Agril. & Rural Devt. Banks

76

Features of co operative banks They are govt, sponsored, supported & subsidized financial

agencies Managed by BOD on the principles of cooperation, self help, &

mutual help Their rule is one -member one- vote Their aim is not profit maximization Perform all banking functions .but their range of services is

narrower . Their geographic coverage is the widest Most of these are non-scheduled banks They have a federal structure of 3 tier linkages and vertical

integration They are only financial intermediaries They can take part in money as well as capital markets They face stiff competition from commercial banks & other

financial instituions

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Weaknesses

Too much dependence on RBI, NABARD, and the govt.

To much officialistion and politicizationQuality of loan assets and their recovery are poorPrimary agricultural co operative societies are small

in size, very weak and are dormantMany urban co operative banks have failed or are in

the process of liquidationThey ace stiff competition from commercial banks,

LIC, UTI, savings organizationsSuffer from multiple regulations and control

authorities

78

Commercial Banks Co.Op. Banks

Function for profit Work on the principles of self-help and mutual cooperation for member’s benefit

Organised on Unitary basis

3 tier setup organisation

Governed by all sections of the Banking Regulation Act 1949

Only some sections are applicable to them

Most commercial banks are scheduled banks

Mostly non-scheduled

Traditionally Urban oriented; now finance rural sector also

Basically rural oriented – financing agriculture & allied sector

Wide branch network – within and outside the country

Operation restricted to particular district / state

79

Regional Rural BanksThey are set up by govt of India under the Regional

Rural Banks Act of 1976Its main objective is to provide credit and other

facilities to small and marginal farmers, agricultural labourers, artisans and small entrepreneurs in rural areas

It is jointly set up by Govt. of India/the state Govt and the sponsor commercial bank

Each RRB operates within specified local limits Initially they started with a capital of Rs 1crIn this ,50% is by central Govt,15% by state govt.,&

35% by the sponsor bankSponsoring com. banks also help in managerial

assistance, recruitment,& training of personnel in the initial period.

Distinguish between

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Public sector banks

Private sector banks

At least 51% ownership is with govt.

Majority shareholding lies with the general public

Branches are more Branches are Comparatively less

Number of employees is much more

Less number of personnel

They have organised trade union

Unions do not pose a problem

They have old set up, so capital asset is more

They have lower capital base

Are less technology savvy

Use technology which helps for faster growth, with less investment

Govt. control is more

Comparatively more freedom to operate

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Development BanksThey are set up during the planning period.Dominate the financial system in IndiaCannot be classified as banksCannot be considered as financial

intermediaries –mobilizes resources from the Govt. and RBI & not from savers

Some are set up by Govt. while others are by private sector participation in the ownership & functioning of the institution

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How it came into existence?The scenario of India was characterized by:Savings of the country was lowDominated by public sectorPrivate sector was not developedCapital market was at its infancy stageIndustries had to depend on their own

profitsUnable to reconstruct the war affected

nationDevelopment process was very slow No individual bank was ready to cater to

the growing & diversified needs of different sectors

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Functioning of development banksThey were permitted to issue bonds of

their own either with or without the guarantees from the govt. They did not face any competition in using their funds

Transformation: As a result of LPG, and as per the recommendations of Narashimhan committee the Devt. Finance institutions were converted into Banks. It also insisted that there should be only two intermediaries -–banking and non banking finance companies

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Need for devt. banksTo reconstruct the war affected countryTo speed up /accelerate the rate of devt. to take up promotional activitiesTo accelerate the pace of industrializationTo promote certain key industriesTo meet the capital needs To help small and medium size industriesThus in India and in many developing

countries in Asia Devt. Banks came into existence with some goals

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Types of development banksIndustrial finance corporation of India

(IFCI) First term lending institution set up in 1948 Objective-to provide medium & long term loan

finance to large industries in private sector Provides direct rupee & foreign currency

loans for setting up new industrial projects, expansion, diversification ,renovation & modernization of existing units.

It raises its resource from RBI, issue of bonds, loans from Govts and lines of credit from foreign agencies & international capital markets

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Management:

It is managed by BOD consisting of a chairman & 12 Directors. The chairman is appointed by Central govt. 2 directors are nominated by central govt. 4 are by IDBI & 6 by elected shareholders It can subscribe to debentures, underwrite, guarantee for companies for the loans sanctioned by commercial banks

Objectives: Financial assistance to corporate sector Grant loans repayable within 25 years Financial assistance to start a new business,

expansion or diversification of existing business Playing an important role in the devt. Of the country

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Industrial credit & investment corporation of India (ICICI)

First institution providing foreign currency loansSet up in 1955 as a public limited company under the

sponsorship of world bankEncourage & provide assistance to the corporate sector in

IndiaAlso provides assistance to private sector in the following

ways:1. For creation, expansion , modernization of industrial

organizations2. Encouraging private ownership3. Long term and medium term loans4. Sanctioning loans to import machinery5. Technical and management services to corporate sectors6. Expanding the investment market7. Underwriting services for the issue of shares and

debentures

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Working: It raises resources in the form of share capital, loans from govt., advancing foreign currency from the world bank, borrowings from RBI issue of bonds etc. Its major shareholders –LIC,UTI, GIC It is managed by BOD consisting of 15 directors, 2 are by shareholders in Up & the remaining are nominated by Govt. of India & USA ObjectivesFinancial assistance to industrial projects for foreign currencyEncourages and promotes industries in the private sector

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Recent developments:It has become a privately owned companyIt’s share capital is partly owned by pvt.

sector & partly by foreign institutionsIt has developed merchant banking, lease

finance and installment salesIt is converted into ICICI BankIt is the largest private sector bankIt is the 1st universal bank; 2nd largest bank

in terms of assetsIt is the largest retail financial supermarketIts ATM network accepts Master card, Visa card

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Industrial development bank of India (IDBI)It was set up in 1964 as a wholly owned

subsidiary of RBIApex in the field of industrial finance It is an independent entity owned by govt.It is co coordinating, supplementing,&

monitoring the operations other long term lending institutions in the country.

It provides indirect assistance in the form of discounting re discounting long term bills & promissory notes.

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I institution promoting industrial growth in the country

It is actively involved in planning, promoting and developing industries

Objectives: To provide excellent service to new enterprisesTo provide technical and administrative

assistance for expansion, to co ordinate, guide & monitor the entire range of credit facilities offered by other institutions to small scale industries

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Management:

It is managed by 22 BOD including a chairman. The chairman is appointed by RBIIt provides term loans for new projects as well as for expansion, modernization & renovation of existing unitsIt extends financial support to medium & large scale projects by public limited companyIt pays special attention to mega projects & sophisticated technology promoted by technocrats located in backward areas & exploring new technology unitsIt provides foreign currency loans to projects for the purchase of fixed assets

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Recent developmentIDBI introduced a scheme for “no industries

districts” by which it provides training, financial technical & administrative assistance to potential entrepreneurs in these districts

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National bank for agricultural & rural development (NABARD)

It is a central Institute for financing agricultural & rural sectors

It is set up by the central govt. & RBI in 1982 Entire rural credit is taken from RBIIt act as co coordinating agency for agricultural

& Rural devt.It provides credit for devt. of agriculture, SSI,

cottage industries, handicrafts and rural & other related activities.

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It acts as a Refinancing agency to state co operatives banks, commercial banks, regional rural banks.

The loans are refinanced for short term for various purposes like production, trading, marketing, storage and packing

Also provides long term loans for 20 to 25 years

It raises its resources from RBI, Central govt., world bank, sale of bonds and accepting deposits

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Present statusIt is the premier institution in the field of rural

credit. It looks after the financing functions of

production, marketing and investment activities relating to rural devt., SSI, village industries and handicrafts

The lending rates and deposit rates changes from time to time

It sanctions medium and long term loans to agriculture

It charges less rate of interest for agriculture than other purposes

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Investment BanksDefinition :A financial intermediary that performs a variety of services. This includes underwriting, acting as an intermediary between an issuer of securities and the investing public, facilitating mergers and other corporate reorganizations, and also acting as a broker for institutional clients.

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An investment bank is a financial institution that assists individuals, corporations and governments in raising capital by underwriting and/or acting as the client's agent in the issuance of securities. They invest funds in shares or bonds of the companies.

Unlike commercial banks and retail banks, investment banks do not take deposits.

Business organisati

ons

Investment Banks

Investors

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FEATURESi. Invest funds in the shares & bonds of the

companiesii. They act as middlemen between business

organization & investorsiii.They act as agent & undertake the public

issues.iv.Perform highly useful service to the business

world by providing necessary capital for long term needs of the companies

v. They are called as:―ORIGINATORS,―UNDERWRITERS,―RETAILERS.

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ORIGINATORS:They bring out new issues of the securities to individuals & institutional investors.

UNDERWRITERS/RETAIILORS:They provide best opportunity of investment to small savers & investors. The purpose is to provide the investors the combined efforts of low risk, steady return & capital appreciation through diversification & expert management.

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Provision Of Financial AdviceInvestment Banking advice relates to corporate action rather than product or organizational matters.An investment banker needs to have an understanding of all these things because they too will have an impact on share holder valueIB helps the commercial company by advising them for: .

Increasing the range of products Increasing the business geographical footprint Protecting a position

Also advice Industrialist sector team. Raising profitability & therefore the share price Increasing in size Financial growth Shifting the business towards sectors more

favorably viewed by the market

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CAPITAL RAISINGInvestment banks advice on the raising of capital

―IN WHAT FORM?―HOW MUCH?―FROM WHOM?

Investment Bank may charges a fee for arranging the financing or for “UNDERWRITING” i.e. for advising & provision, service provided There are many way in which IB raise its capital

―PUBLIC OFFERING―RIGHT OFFERING―PRIVATE PLACEMENT

They purchase new shares or securities of the companies or government corporations and reissue them for public subscription at a higher price

They also act as agents and undertake the public issues.

They are known as originators (For new companies)underwriters (for well established companies)

Thus it perform highly useful service to the business world by providing long term needs of the companies

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Investment banking +commercial banking

Mixed bankingCommercial banks ==liquidity === riskInvestment banks====longer investment riskInvestment banks include: Banks & non bank

financial institutionsInvestment trusts, loan and finance companies

nidhis, chit funds, which give loan to commerce, trade, & for consumption.UTI, Mutual funds, LIC

Their coverage is narrow & specialized

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Investment banks can be close ended or open ended

Close ended- authorized capital & issued capital is fixed (Investment Trusts)provide useful services by conserving & managing property of public who cannot manage their own funds, give expert advice & on lucrative investment channels

Open ended –can go increasing its resources by selling units (UTI)

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Role of an Investment Bank

The major work of investment banks includes a lot of consulting. For instance, they offer advices on mergers and acquisitions to companies. The other arena where they give advice are tracking the market and determining when should a company come out with a public offering and what is the best possible way to manage the public assets of businesses. The role that an investment bank plays sometimes gets overlapped with that of a private brokerage house. The usual advice of buying and selling is also given by investment banks.

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Largest full-service investment banksThe following are the largest full-service global

investment banks; Full-service investment banks usually provides both advisory and financing banking services, as well as the sales, market making, and research on a broad array of financial products including equities, credit, rates, currency, commodities, and their derivatives:

Bank of America Goldman SachsJPMorgan ChaseMorgan StanleyNomura SecuritiesUBSWells Fargo Securities

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MERCHANT BANKING INVESTMENT BANKING

Expands in securities & underwritings

Trade financing activities

Participated only in selling with general public

Raise funds for business & government

No dealing with general public

Facilitates mergers & acquisition through share sales.

Perform international activities focus on small scale companies

Focus on IPOs & large public

Offers trade financing products

Rarely offers trade financing products

Focus on small scale companies

Focus on IPOs & large public

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Many investment banks offer both buy side & sell side services. The sell side typically refers to selling shares of newly issued IPOs, placing new bond issues, engaging in market making services, or helping clients facilitate transactions. The buy side, in contrast, worked with pension funds, mutual funds, hedge funds, &the investing public to help when maximize their returns when trading or investing in securities such as stocks & bonds.

FINANCIAL AND OTHER SERVICES

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Merchant BankingOrganization – underwrites securities for

companiesMerchant Banker – Engaged in the business

of issue mangt. Either by making arrangements regarding selling, buying or subscribing to securities or acting as manager/consultant/adviser/rendering corporate advisory services – he has certificate granted by SEBI

Merchant Banks – financial institutions providing services – acceptance of bills of exchange, corporate finance, portfolio management and other services

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Banks provide services to businessman – finance, management consultancy, preparation of project report, feasibility study, technical consultancy, managing public issues, underwriting, loan syndication by coordinating with other banks, etc.Banks have separate divisions, appoint experienced managers to carry out these finances

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Mutual Funds

They are new subsidiaries floated by banks to mobilize savings of general public and invest them in stock market and money markets.

Unit Trust was the first one to be started in India in 1964.

There are > 63 mutual funds in operation in the country.

These are open or close ended schemes – i.e. the investor can invest or exit at any point of time or there is a lock in period of 3 – 5 years.

Important schemes – Growth schemes, Income schemes, Balance schemes, Tax saving schemes

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They are managed by financial and professional experts.

The mutual funds are relatively secured hence they are profitable for the small investors in particular

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Money TransfersBanks help individuals , society to transfer money from place to place and from person to person

DD, pay orders, telegraphic transfer, mail transfer, credit cards are used.

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Housing FinanceBank’s subsidiaries undertake housing finance as a specialized business.

Now a days all banks are permitted to provide housing finance to the people at a reasonable rate of interest.

To buy a new home, home improvement, extension, land purchase, bridge loans and balance transfer loans etc are provided

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CREDIT CARDS They are small plastic cards issued by banks that

allow the card holders to buy goods and services on credit and pay at fixed intervals through the card issuing bank.

This could also be used for obtaining cash from the branches of the same bank which has issued it or form other specified banks .

There is an annual charge for this card. There is no need to have an account with the bank

and no money is needed to be paid in advance Card holders are given 30 – 40 days credit at a

certain rate of interest.

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ATM This is one of the service provided by the bank

through Automated Teller Machine (ATM) There is a unique Personal Identification

Number (PIN) on the card, and also a magnetic strip with the account number of the card holder.

Money withdrawn is immediately debited in the card holder’s account and an SMS is sent to the holder of the card.

PIN number is very important in this and has to be maintained secretly by the card holder to avoid frauds and robberies.

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LeasingBanks started funding the fixed assets

through leasing i.e renting out of immovable property by the banks to the businessmen on a specified period rent fro a specific period which is mutually agreed upon.

Written agreement is madeBanks now have subsidiaries to

transact equipment leasing business with the permission of RBI.

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Tele-Banking This is a service provided through the phone. Each customer is given a specific Telephone

PIM (T-PIN) Customer can call the exclusive tele-banking

numbers, provide details to identify himself to the automated voice

When the respective number match the computerized system, the customer is given access to his account to query or transact on his account.

Cash delivery to the customer is not there except for certain class of customers.

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Internet Banking This service is similar to that of the ATM.

Here also the customers can request the ban to provide them with this service.

Customers are given a PIN number, Login id (which he can change) and also a Transaction password (which he has to change)

Using internet the customer can log on to his account and carry out any transaction.

Here also there is a need to change the passwords now and then and keep them safely

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FactoringIt is an arrangement in which receivables arising out lf sale of goods are sold by a firm to the factor as a result of which the title to the goods passes to the factor.

The factor becomes responsible for all credit control, sales accounting, and debt collection from the buyers.

In case of insolvency or inability of the debtor the factor has to absorbs the losses.

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The factor provide services of -finance, maintenance of accounts, collections of debts, protection against credit risk

Realization of credit is the main function of factoring services

In case bank undertakes collect and manage clients debts and also finances the clients either by lending against account receivables or purchasing or discounting them outright for a charge which is called as discount

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Portfolio ManagementIt is a process of investment in securitiesIt involves a proper investment decision

making.It involves proper money managementObjective-to help investors with the expertise

of professionalsIt involves construction of portfolio based on

the investor’s objectives, constraints, preferences and tax liability

It should be reviewed from time to time in tune with the market conditions

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Portfolio manager is an important person who holds the dreams of millions of investors.

This scheme floated by many banks and financial institutions

They do for a fee. They should get a SEBI certificate to do. It frames certain rules and regulations Violating the this is an offence and punishable

Banks extend services for managing surplus funds of their corporate customers either directly or through this

It provides safety, liquidity and maximum yield to the customers

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Insurance

Defining Insurance Insurance in broad terms may be described as a method of

sharing financial losses of few from a common fund who are equally exposed to the same loss.

Insurance is defined as the equitable transfer of the risk of a loss, from one entity to another, in exchange for a premium, and can be thought of a guaranteed small loss to prevent a large, possibly devastating loss.

An insurer is a company selling the insurance. The insurance rate is a factor used to determine the amount, called the premium, to be charged for a certain amount of insurance coverage.

Concept of risk

Massive risk with high magnitude

Day to day risk of lesser magnitude

Defining RiskA variation in the possible outcomeThe degree of uncertainty associated with a particular lossGreater the accuracy with which the outcome can be predicted the

lower is the risk. Risk is the possibility of an unfortunate occurrenceRisk is the possibility of lossThe combination of hazardsUncertainty of lossThe tendency that actual results may differ from predicted results

Basic TerminologyPeril : Cause of a risk and losses. E.g. Earthquake, flood , fire,

criminal activities etc.

Basic TerminologyHazard : Condition that increases the frequency or severity of loss.

E.g. absence of proper security or fencing , poorly maintained fire alarm system etc.

Basic TerminologyMoral Hazard: It refers to the dishonesty of the insured person

leading to increase probability of loss from given risk exposure. E.g. setting fire to your own house.

Morale Hazard: This refers to attitude of indifference to losses that results out of a known fact that the said losses were insured.

Catastrophic loss: It is a potential loss that is unpredictable such as flood, but is capable of producing an extra ordinary large amount of damage related to assets held in insurance pool. These are generally natural disasters like earthquake flood etc.

Requirements of Insurable RiskShould be a Pure risk

Involves a chance of loss or no loss

Large number of exposure units to predict average loss

Accidental and unintentional loss to control moral hazard to assure randomness

Determinable and measurable loss to facilitate loss adjustment

Requirements of Insurable RiskNo catastrophic loss

to allow the pooling technique to work

Probability of loss must not be very high to determine the premium need

Economically feasible premium so people can afford to buy

Concept of Insurance

Basic Characteristics of InsurancePooling of losses

Spreading losses incurred by the few over the entire groupRisk reduction based on the Law of Large Numbers

Payment of fortuitous losses Insurance pays for losses that are unforeseen, unexpected,

and occur as a result of chanceRisk transfer

A pure risk is transferred from the insured to the insurer, who typically is in a stronger financial position

IndemnificationThe insured is restored to his or her approximate financial

position prior to the occurrence of the loss

ExampleSay 1000 motor cars valued @ 300000/- are observed over a

period of five years. On an average say per year two are total loss by accident. Then the total annual loss would be Rs.600000. If the loss is to shared by all the thousand owners then they have to contribute Rs.600/-

The loss experience will be established by taking the past experience, geographical area in which the vehicles are used and density of traffic.

Basic terms Insurer : The party to an insurance arrangement who undertakes

to indemnify for losses. Insured: A person whose interests are protected by an insurance

policy.Premium: Financial cost of obtaining an insurance cover, paid as a

lump sum or in installments during the duration of the policy.Policy: Written contract or certificate of insuranceExposure to Loss: In insurance, areas in which the risk of loss

exists. Four loss risk areas are: (1) property; (2) income; (3) legal vulnerability; and (4) key personnel in an organization

Basic terms Life annuity: A life annuity is a financial contract in the form of an

insurance product according to which a seller (issuer) — typically a financial institution such as a life insurance company — makes a series of future payments to a buyer (annuitant) in exchange for the immediate payment of a lump sum (single-payment annuity) or a series of regular payments (regular-payment annuity), prior to the onset of the annuity.

Nomination: It is the right of the policy holder on his/ her own life to designate a living person to receive the policy proceeds in the event of him predeceasing the nominee before the maturity of the policy.

Nominee: Nominee should not be a stranger because its against the objective of insurance which in most cases is family protection.

Basic termsAssignment: An agreement under which one party–the assignor–

transfers some or all of his ownership rights in a particular property, such as a life insurance policy or an annuity contract, to another party–the assignee.

Assignor: A property owner who transfers some or all of the ownership rights in a particular property to another party by means of an assignment.

Assignee: A person or party to whom a property owner transfers some or all of the property owner's rights in a particular property by means of an assignment.

IRDAThe Insurance Regulatory and Development Authority (IRDA) is a national agency of the Government of India, based in Hyderabad. It was formed by an act of Indian Parliament known as IRDA Act 1999, which was amended in 2002 to incorporate some emerging requirements.

Mission"to protect the interests of the policyholders, to regulate, promote and ensure orderly growth of the insurance industry and for matters connected therewith or incidental thereto."

Benefits of Insurance to an IndividualPeace of mindAversion of riskProtects mortgaged propertiesProvides self dependencyTool of savingsTool of investmentSatisfies various needs

Benefits of Insurance to BusinessReduced reserve requirementsCapital freed for investment IndemnificationReduction of uncertaintyReduced cost of capitalReduced credit risk Loss control activitiesBusiness and social stability

Benefits of Insurance to SocietyProtects wealth of the country

Helps in economic growth

Control inflation

Cost of InsuranceOperating ExpenseDistribution costUnderwriting costPolicy Administration CostReserve costMoral Hazard resulting in extra costExaggerated LossesBenefit-cost Tradeoff

Insurance Classification

Insurance

Life Insurance General Insurance

Fire Marine Health Auto

Players in the IndustryLife Insurance General Insurance Life Insurance Corporation of India. General Insurance Corporation of India.

1. Oriental Insurance Company Ltd. 2. New India Assurance Company Ltd. 3. National Insurance Company Ltd. 4. United India Insurance Company Ltd.

New Entrants

ICICI Prudential Life Insurance Ltd. Bajaj Alliaz General Insurance Company Ltd.

Tata AIG Life Insurance Corporation Ltd. Reliance General Insurance Company Ltd.

ING Vysya Life Insurance Corporation Ltd. Tata AIG General Insurance Company Ltd.

Kotak Mahindra Life Insurance Corporation Ltd.

Royal Sundaram Alliance Insurance Company Ltd.

Concept of General Insurance

Defining General InsuranceGeneral insurance or non-life insurance policies, including

automobile and homeowners policies, provide payments depending on the loss from a particular financial event.

General insurance typically comprises any insurance that is not determined to be life insurance.

It is called property and casualty insurance in the U.S. and Non-Life Insurance in Continental Europe.

ClassificationCommercial lines: products are usually designed for relatively

small legal entities. These would include workers' comp (employers liability), public liability, product liability, commercial fleet and other general insurance products sold in a relatively standard fashion to many organizations. There are many companies that supply comprehensive commercial insurance packages for a wide range of different industries, including shops, restaurants and hotels.

Personal lines: products are designed to be sold in large quantities. This would include autos (private car), homeowners (household), pet insurance, creditor insurance and others.

Principles of InsuranceUtmost Good Faith

Insurable Interest

Principle of Indemnity

Principle of Contribution

Principle of Subrogation

Principle of loss Minimization

Principle of ‘CAUSA PROXIMA’

Utmost Good FaithBoth the parties i.e. the insured and the insurer should a good

faith towards each other.

The insurer must provide the insured complete ,correct and clear information of subject matter.

The insurer must provide the insured complete ,correct and clear information regarding terms and conditions of the contract.

This principle is applicable to all contracts of insurance i.e. life, fire and marine insurance.

Insurable InterestThe insured must have insurable interest in the subject matter of

insurance.

In life insurance it refers to the life insured.

In marine insurance it is enough if the insurable interest exits only at the time of occurrence of the loss

In fire and general insurance it must be present at the time of taking policy and also at the time of the occurrence of loss.

The owner of the party is said to have insurable interest as long as he is the owner of the it.

It is applicable to all contracts of insurance.

Principle of Indemnity Indemnity means a guarantee or assurance to put the insured in

the same position in which he was immediately prior to the happening of the uncertain event. The insurer undertakes to make good the loss.

It is applicable to fire ,marine and other general insurance.

Under this the insurer agrees to compensate the insured for the actual loss suffered.

Principle of ContributionThe principle is a corollary of the principle of indemnity.

It is applicable to all contracts of indemnity.

Under this principle the insured can claim the compensation only to the extent of actual loss either from any one insurer or all the insurers.

Principle of SubrogationAs per this principle after the insured is compensated for the loss

due to damage to property insured , then the right of ownership of such property passes on to the insurer.

This principle is corollary of the principle of indemnity and is applicable to all contracts of indemnity

Principle of Loss of MinimizationUnder this principle it is the duty of the insured to take all possible steps to minimize the loss to the insured property on the happening of uncertain event.

Principle of ‘Causa Proximal’The loss of insured property can be caused by more than one

cause in succession to another.

The property may be insured against some causes and not against all causes.

In such an instance, the proximate cause or nearest cause of loss is to be found out.

If the proximate cause is the one which is insured against ,the insurance company is bound to pay the compensation and vice versa.

General Rules Mis-description

Reasonable care

Fraud

Basic principles Insurable interest Utmost good faith Subrogation Contribution Indemnity

Risk of loss not covered

Types of General InsuranceMain types of general insurance are:

Fire

Health

Marine

Motor Vehicle

Fire Insurance

Fire InsuranceFire insurance is a form of property insurance which protects people from the costs incurred by fires. When a structure is covered by fire insurance, the insurance policy will pay out in the event that the structure is damaged or destroyed by fire.

Types of Fire Insurance PoliciesSpecific policy: In this type of policy, the insurance company is

liable to pay a sum, which may be less than the property’s real value. The insured is called to bear a part of the loss, as the actual value of the property is not considered in deciding the amount of indemnity.

Comprehensive policy: Known as “all-in-one” policy, the insurance company indemnifies the policyholder for loss arising out of fire, burglary, theft and third party risks. In this type of policy, the policyholder also gets paid for loss of profits incurred, due to fire, till the time the business remains shut.

Valued policy: In this type of policy, the value of the commodity is already set and actual loss is not taken into consideration. The policy follows a standard contract of indemnity, wherein the policyholder gets paid a specific amount of indemnity, without considering the actual loss.

Types of Fire Insurance PoliciesFloating policy: This type of policy is subject to average clause and

the extent of coverage expands to different properties, belonging to the policyholder, under the same contract and one premium. The floating policy also provides protection of goods kept at two different stores.

Replacement or Re-instatement policy: As per replacement or re-instatement policy, the insurance company instead of paying the policyholder the amount of indemnity in cash, replaces the damaged property/commodity with a new one.

Fire Insurance Claim Procedure

Individuals/corporate must inform insurer as early as possible , in no case later than 24 hours.

Provide relevant information to the surveyor/claim representative appointed by the insurer.

The surveyor then analyzes the extent/ value of loss or damage.

The claim process takes anywhere between one to three weeks.

Documents Required

True copy of the policy along with schedule

Report of fire brigade

Claim Form

Photographs

Past claims experience

Need of Fire InsuranceFire insurance is important because a disaster can occur at any time. There could be many factors behind a fire, for example arson, natural elements, faulty wiring, etc. Some facts that stress the importance of fire insurance include:

Fire contributes to the maximum number of deaths occurring in America due to natural disasters.

Eight out of ten fire deaths take place at home.

A residential fire takes place after every 77 seconds.

The major reason for a residential fire is unattended cooking.

Fire Insurance in IndiaFire insurance business in India is governed by the All India Fire Tariff that lays down the terms of coverage, the premium rates and the conditions of the Fire Policy. The fire insurance policy has been renamed as Standard Fire and Special Perils Policy. The risks covered are as follows:Dwellings, Offices, Shops, Hospitals (Located outside the compounds of industrial/manufacturing risks) Industrial / Manufacturing Risks Utilities located outside industrial/manufacturing risks Machinery and Accessories Storage Risks outside the compound of industrial risks Tank farms / Gas holders located outside the compound of industrial risks

Fire Insurance in IndiaPerils Covered: Cause of Loss Fire Lightning Explosion/Implosion

Aircraft damage Riot, Strike Terrorism Storm, Flood, inundation Impact damage Subsidence, landslide Bursting or overflowing of tanks Missile Testing Operations Bush fire etc.

Exclusions: Loss or damage caused by war, civil war and kindered perils Loss or damage caused by nuclear activity Loss or damage to the stocks in cold storage caused by change in

temperature Loss or damage due to over-running of electric and/ or electronic

machinesClaims: In the event of a fire loss covered under the fire insurance

policy, the Insured shall immediately give notice there of to the insurance company. Within 15 days of the occurrence of such loss the Insured should submit a claim in writing giving the details of damages and their estimated values. Details of other insurances on the same property should also be declared.

Indian Companies Offering FI

ICICI Lombard General Insurance (Pvt.)

United India Insurance (Govt.)

New India Insurance (Govt.)

Bajaj Allianz Insurance (Pvt.)

Oriental Insurance (Govt.)

Tata-AIG General Insurance (Pvt.)

Health Insurance

What is Health Insurance?Health insurance, like other forms of insurance, is a form of collectivism by means of which people collectively pool their risk, in this case the risk of incurring medical expenses.

Importance of Health

Rising medical costs

Sharing of health related risk

uncertain hospital bills

Expensive/quality health care services

Money value – Sick Vs Healthy

Family health insurance

Tax benefit

Productivity of workforce

Removes some of the burden from the state

Keeping pace with the customer needs while achieving profitability

How to improve the access to health care and financial protection of the poor?

Answer

The most obvious solution will be to improve the health insurance penetration.

How to Improve Health Insurance Penetration?

Regulator/Government Enhance customer awareness Enhance client confidence - real value benefits in the event of a claim Effective supervision Compulsory percentage of total business towards health Compulsory savings towards health Tax incentives to employers for promoting group health coverage

Insurer Clients confidence - warrantable claim will be paid out in a reasonable

time frame New clients have to be reached Value for money Design products as per clients needs Product transparency Cost efficiency affordability Wellness programmes

Initiatives of IRDA

Committee to formulate regulations

Pure health insurance products

Allowing the formation of an stand alone health insurance company

Standalone health insurance companies

Renewability

Senior citizens

Impediments in Health Insurance

Lack of Data

Moral Hazard/Adverse Selection

Complex nature of the product

Medical Inflation

New treatments

Unnecessary treatments

Difficulty in pricing

Government provision of health care

Long term nature

Changing life style

Mis-selling/fraud

Mitigation of Impediments

InsurerDesigning a less complex productsTransparency in the product featuresClarity in policy terms, conditions & exclusionsEfficient back-office support for underwriting and claims

processingHigher ReinsuranceNeed for quicker services. E.g. Toll free numbers, cashless,

quick responseExpense analysis on a regular basisProduct innovationEfficient training of sales force

Mitigation of Impediments

PolicyholderPay attention to policy conditionsRead the exclusions and limitations very carefullyCompare premium costs, deductibles, co-paymentsTake an informed decision

TPAProper infrastructure Speedy claim settlement processLess paper work

Mitigation of Impediments

Regulator/GovernmentCome out with health insurance regulationsCentralized data base for health insurance experience statisticsProvider ratingCap on renewal premiumsEnsure that a decent portfolio of health coverage represent

the rural sectorGuard against ill effects of privatizationFurther tax incentivesCompulsory savings towards health care

Types of Health Insurance Plans Individual health plan

Family floater plan

Senior Citizens’ plan

Critical illness plan

Daily hospital cash and

Unit-linked health plan (ULHP).

Individual Health Plans Largely, an individual health insurance plan (IHIP), or ‘mediclaim’,

would cover expenses if you are hospitalised for at least 24 hours.

These plans are indemnity policies, that is, they reimburse the actual expenses incurred up to the amount of the cover that you buy.

Some of the expenses that are covered are room rent, doctor’s fees, anaesthetist’s fees, cost of blood and oxygen, and operation theatre charges.

Family Floater PlansThis is a fairly new entrant in the health insurance firmament.

It takes advantage of the fact that the possibility of all members of a family falling ill at the same time or within the same year is low.

Under a family floater (FF) health plan, the entire sum insured can be availed by any or all members and is not restricted to one individual only as is the case in an individual health plan.

Let’s look at an example. Say, a family of four has individual covers of Rs 1 lakh each. If the cost of treating one person crosses Rs 1 lakh, then the rest has to be borne by the family out of its own money. If, however, the entire family is insured for Rs 4 lakh through a floater policy, then any of the members will be covered for that amount in any year. To the extent of the annual cover, any number of members can avail the money.

Senior Citizens’ Plans Insurance is considered a form of long-term savings for senior

citizens. This money provides financial stability and also helps them in times of need. Medical insurance enables senior citizens to pay for health checkups, emergency medical costs and long-term treatment. The income tax benefit on insurance premiums is up to Rs. 15,000 under Section 80 D of the Income Tax Act, as on March 31, 2007. Medical insurance is provided through several private insurance companies and four public sector general insurance companies. These are:National Insurance CompanyOriental Insurance CompanyNew India AssuranceUnited India Insurance Company

Senior Citizens’ PlansThe National Insurance Company offers the Varistha Mediclaim

Policy for senior citizens. This policy covers hospitalization and domiciliary hospitalization expenses under Section I as well as expenses for treatment of critical illnesses, if opted for, under Section II. Diseases covered under critical illnesses are coronary artery surgery, cancer, renal failure, stroke, multiple sclerosis and major organ transplants. Paralysis and blindness are covered at extra premium.

Oriental Insurance Company provides a Comprehensive Health Insurance Scheme, a Group Insurance and an Individual Mediclaim Policy. These policies pay for hospitalization or domiciliary hospitalization of the insured in case of a sudden illness, an accident or surgery. These conditions should have arisen during the policy period.

Critical Illness PlansA Critical Illness plan means to insure against the risk of serious

illness. It will give the same security of knowing that a guaranteed cash sum will be paid if the unexpected happens and one is diagnosed with a critical illness.

The purpose of a critical illness plan is to let you put aside a small regular amount now, as an insurance against all this happening.

Bajaj Allianz, in its efforts to provide a customer centric solution is

offering an insurance policy to cover to some of these critical illnesses like Cancer Coronary Artery bypass surgery First Heart attack Kidney Failure Multiple sclerosis Major organ transplant Stroke Arota graft surgery Paralysis Primary Pulmonary Arterial Hypertension.

Daily Hospital CashExpense benefit is paid on per day basis after hospitalization (most

plans mandate at least 48 hours of hospitalization).

The pre-decided daily benefit amount is paid in full, irrespective of the actual expenses.

For example, a person buys a DHC plan with a limit of Rs 2,000 per day. He gets hospitalised for 7 days and the total bill is Rs 35,000. He would be reimbursed Rs 14,000 (2,000x7). If the bill is Rs 8,000, he would still be reimbursed Rs 14,000.

Unit-linked health plan (ULHP)All ULHPs offer one or more combination of the other benefits (for

which risk premium is deducted from fund value). Also, charges such as premium allocation charge and policy administration charge are deducted from the fund value.

LIC has launched Health Plus plan, a unique long term health insurance plan that combines health insurance covers for the entire family (husband, wife and the children) – Hospital Cash Benefit (HCB) and Major Surgical Benefit (MSB) along with a ULIP component (investment in the form of Units) that is specifically designed to meet domiciliary treatment (DTB) related expenses for the insured members.

Health Insurance in IndiaThe health insurance market in India is very limited covering about 10% of the total population. The existing schemes can be categorized as:Voluntary health insurance schemes or private-for-profit schemes;

Mandatory health insurance schemes or government run schemes (namely ESIS, CGHS).

Insurance offered by NGOs / community based health insurance, and

Employer-based schemes

Voluntary health insurance schemes In private insurance, buyers are willing to pay premium to an insurance company that pools similar risks and insures them for health related expenses.

The main distinction is that the premiums are set at a level, which are based on assessment of risk status of the consumer (or of the group of employees) and the level of benefits provided, rather than as a proportion of consumer’s income.

In the public sector, the General Insurance Corporation (GIC) and its four subsidiary companies (National Insurance Corporation, New India Assurance Company, Oriental Insurance Company and United Insurance Company) provide voluntary insurance schemes.

Voluntary health insurance schemesThe most popular health insurance cover offered by GIC is

Mediclaim policy.

Mediclaim policy: It was introduced in 1986. It reimburses the hospitalization expenses owing to illness or injury suffered by the insured, whether the hospitalization is domiciliary or otherwise.

Some of the various other voluntary health insurance schemes available in the market are :- Asha deep plan II , Jeevan Asha plan II, Jan Arogya policy, Raja Rajeswari policy, Overseas Mediclaim policy, Cancer Insurance policy, Bhavishya Arogya policy, Dreaded disease policy, Health Guard, Critical illness policy, Group Health insurance policy, Shakti Shield etc.

Mandatory health insurance schemesEmployer State Insurance Scheme (ESI)Enacted in 1948, the employers’ state insurance (ESI) Act was the

first major legislation on social security in India.

The scheme applies to power using factories employing 10 persons or more and non-power & other specified establishments employing 20 persons or more.

It covers employees and the dependents against loss of wages due to sickness, maternity, disability and death due to employment injury. It also covers funeral expenses and rehabilitation allowance. Medical care comprises outpatient care, hospitalization, medicines and specialist care.

These services are provided through network of ESIS facilities, public care centers, non-governmental organizations (NGOs) and empanelled private practitioners.

Mandatory health insurance schemesCentral Government Health Insurance Scheme (CGHS)Established in 1954, the CGHS covers employees and retirees of

the central government and certain autonomous and semi autonomous and semi-government organizations.

It also covers Members of Parliament, Governors, accredited journalists and members of general public in some specified areas.

Benefits under the scheme include medical care, home visits/care, free medicines and diagnostic services.

These services are provided through public facilities with some specialized treatment (with reimbursement ceilings) being permissible at private facilities.

Most of the expenditure is met by the central government as only 12% is the share of contribution.

Mandatory health insurance schemesUniversal Health Insurance Scheme (UHIS)For providing financial risk protection to the poor, the government

announced UHIS in 2003. Under this scheme, for a premium of Rs. 165 per year per person,

Rs.248 for a family of five and Rs.330 for a family of seven , health care for sum assured of Rs. 30000/- was provided.

This scheme has been made eligible for below poverty line families only. T

o make the scheme more saleable, the insurance companies provided for a floater clause that made any member of family eligible as against mediclaim policy which is for an individual member.

Insurance offered by NGOs Insurance offered by NGOs/Community based schemes are typically

targeted at poorer population living in communities. Such schemes are generally run by charitable trusts or non-governmental organizations (NGOs).

In these schemes the members prepay a set amount each year for specified services. The premia are usually flat rate (not income related) and therefore not progressive.

The benefits offered are mainly in terms of preventive care, though ambulatory and inpatient care is also covered.

Such schemes tend to be financed through patient collection, government grants and donations.

Some of the popular Community Based Health Insurance schemes are: - Self-Employed Women’s Association (SEWA), Tribuvandas Foundation (TF), The Mullur Milk Co-operative, Sewagram, Action for Community Organization, Rehabilitation and Development (ACCORD), Voluntary Health Services (VHS) etc.

Employer based schemesEmployers in both public and private sector offers employer based

insurance schemes through their own employer.

These facilities are by way of lump sum payments, reimbursement of employees’ health expenditure for out patient care and hospitalization, fixed medical allowance or covering them under the group health insurance schemes.

The Railways, Defense and Security forces, Plantation sector and Mining sector run their own health services for employees and their families.

Marine Insurance

Defining Marine InsuranceMarine Insurance covers the loss or damage of ships, cargo, terminals, and any transport or cargo by which property is transferred, acquired, or held between the points of origin and final destination.

Two Broad CategoriesOcean marine insurance

Inland marine insurance

Ocean Marine InsuranceHull

Cargo

Freight

Protection and indemnity insurance

Inland Marine InsuranceExtension of Ocean marine insurance

Domestic goods in transit

Property held by Bailees

Mobile equipment and property

Block Policies- “all-risks” basis

Means of transport and communication

RisksTwo types of risks are covered by ocean marine insurance.

The first type is the perils of the sea that include both natural calamities and fortuitous accidents.

The second type of risks covered is extraneous risks. These risks include ordinary risks such as theft, pilferage, rain damage, shortage, breakage, etc and special risks such as strike, war, failure to deliver, etc.

Covered PerilsPerils of the sea, such as loss due to bad weather, high waves,

collision, and other navigable waters

Fire, enemies, pirates, thieves, jettison

Barratry, or fraud by crew members

All risks

Further CoverPollution Hazard

War and strikes clause

Bursting boilers or breaking shafts

Accident or negligence of a third party

Common Exclusions Loss, damage or expenses attributable to willful misconduct of the

assuredOrdinary or inevitable losses Loss, damage or expense caused by inherent vice or nature of the

subject matter insured Loss/damage due to insufficient, unsuitable or defective packing

(including storage) Loss/damage or expenses proximately caused by delay even if the

delay is caused by a peril insured against Loss damage or expenses arising from insolvency of the owners,

managers, operators of the vessel. Loss damage due to un seaworthiness of the vessel or craft,

container, lift van employed for carrying the insured matter.Wars, strikes and civil commotions unless covered under separate

endorsements.

Hull InsuranceCovers physical damage to ship or vessel

Always written with a deductible

Contains collision liability clause

Covers owner’s legal liability

Cargo InsuranceCovers the loss to the shipper if the goods are damaged or lost

Policy can be single or open cargo policy

Salvage loss Follows forced sale of badly damaged cargo

Cargo Partial LossWhere goods delivered damage measure of indemnity is

Proportion of sum fixed by policy

equal to the gross sound value less damaged value at place of delivery

Freight Insurance Insures the profit made by a ship owners out of ships used to carry

cargo, both their own and others

Loss occurs when cargo is not deliverable

Liability InsuranceCovers the property damage or bodily injury to third party

Damage caused by the ship to docks, harbor installation, fines, penalties, injury to crew members, etc

Major Types of PolicyTime policy

Voyage policy

Mixed policy

Open policy

Time PolicyA time policy is one that runs for a period of time usually not

exceeding 12 months.

In using a time policy, the most important question is whether the loss occurred at a time in which the policy was running because sometimes it is difficult to prove in case where it is alleged that the conditions giving rise to the loss (e.g. a hole in the ship) occurred during the policy, although the final consequence (the foundering of the vessel) occurred afterwards.

Voyage PolicyThis is a policy that operates for the period of the voyage.

For cargo, the cover is from warehouse to warehouse.

The policy will not apply if the actual voyage and/or ports are different from those in the policy.

Mixed PolicyThis is a policy that covers the subject matter for the voyage within

a time period.

It is used to cover the cargo from warehouse to warehouse with a time limit.

The cargo has to be warehoused within 60 days after discharge or the policy will no longer cover the cargo.

Open PolicyThis is an arrangement in which terms such as types of risks to be

covered, validity of the insurance contract, rate, premium, maximum value of each shipment and geographical limits, etc are worked out when the contract is signed.

Each shipment is covered once the assured declares the details. The assured may be authorized to issue against payment a pre-printed insurance certificate which is valid after completion of shipment details and his signature for documentation purposes.

The insurance certificate is pre signed by the insurer. If the contract is effective only for a specified period, a clause of termination should be included.

Auto Insurance

Defining Auto InsuranceAuto insurance (also known as vehicle insurance, car insurance, or motor insurance) is insurance purchased for cars, trucks, and other vehicles. Its primary use is to provide protection against losses incurred as a result of traffic accidents and against liability that could be incurred in an accident.

Auto Insurance CoverageAuto insurance provides property, liability and medical coverage:

Property coverage pays for damage to or theft of the car.

Liability coverage pays for the legal responsibility to others for bodily injury or property damage.

Medical coverage pays for the cost of treating injuries, rehabilitation and sometimes lost wages and funeral expenses

Coverage LevelsVehicle insurance can cover some or all of the following items:The insured partyThe insured vehicleThird parties (car and people)Third party, fire and theft In some jurisdictions coverage for injuries to persons riding in the

insured vehicle is available without regard to fault in the auto accident (No Fault Auto Insurance)

Types of Auto Insurance in IndiaThere are different types of Auto Insurance in India : Private car insurance: It is the fastest growing sector as it is

compulsory for all the new cars. The amount of premium depends on the make and value of the car, state where the car is registered and the year of manufacture.

Two wheeler insurance: It covers accidental insurance for the drivers of the vehicle. The amount of premium depends on the current showroom price multiplied by the depreciation rate fixed by the Tariff Advisory Committee at the time of the beginning of policy period.

Commercial vehicle insurance: It provides cover for all the vehicles which are not used for personal purposes, like the Trucks and HMVs. The amount of premium depends on the showroom price of the vehicle at the commencement of the insurance period, make of the vehicle and the place of registration of the vehicle.

What it covers?

The auto insurance generally includes:

Loss or damage by accident, fire, lightning, self ignition, external explosion, burglary, housebreaking or theft, malicious act.

Liability for third party injury/death, third party property and liability to paid driver.

On payment of appropriate additional premium, loss/damage to electrical/electronic accessories.

Exclusions

Typically, the motor insurance plan does not provide for: Normal wear and tear or general ageing of the vehicle Mechanical/electrical breakdown. Depreciation, wear and tear of consumables like tubes and tires. Damages that occur while a person is driving with invalid driving

license. Damage that occur while a person is under the influence of drugs

or liquor. Damage due to a war, civil war, mutiny, or nuclear risk. Claims arising out of contractual liability. Use of vehicle other than what it is meant for. For example, if a

private car is being used as a taxi and gets involved in an accident, the owner will not be able to claim damages.

Indian Companies Offering AIHSBC India - Auto Secure

Bajaj Allianz - Bajaj Allianz's Motor Insurance

ICICI Lombard - Motor Plans, Two Wheeler Package Policy

United India Insurance Co. - Motor Package and Liability Only Policies

The New India Assurance Co. - Motor Policy

Risk ManagementRisk Management is a scientific approach to deal with pure risk by anticipating possible accidental losses & designing & implementing procedures that minimize the occurrence of loss or financial impact of the losses that do occur

Features of Risk Management Risk management is a scientific approachIt covers the risks of persons or propertyIt helps to evaluate the risk faced by a business enterprise It is a solution to the challenges in dealing with pure risk.It involves decision makingIt helps to create the right business policies & stratergiesIt helps to manage & control men and machines effectivelySelect the suitable technique /mehod to handle the riskAvod expenditure, interruption and misery relating to risksDecide which risks are worth taking/pursuing and which are not

Importance of Risk ManagementTo evaluate the risk of the businessFor effective handling of spreading the risk,

monitoring and insuring againstTo introduce various plans and techniques to

minimize the risksTo give advice and make suggestion for

handling risk To avoid cost, disruption, and unhappiness in

relating to riskTo fix the sum assured under the policy and to

describe on whether to insure or notTo select the appropriate technique /methods

to manage the riskTo create awareness about the risks among the

people

Risk management toolsThe techniques used in Risk Management for dealing with risks are Risk control and Risk FinancingRisk control :Risk control focuses on minimizing the risk of loss to which the firm is exposed and includes the techniques of risk avoidance and risk reductionRisk financing It involves arrangement of funds to meet losses arising from the risk. It is a technique designed to guarantee the availability of funds to meet the losses. It can take the form of risk retention or transfer. Risk retention is an exposure which is not avoided or transferred. They are retained by the company. It is accompanied by specific budgetary allocations to meet the losses and may involve accumulations of funds to meet the deviations from the losses.

Risk Management ProcessDetermination of

objectives

Risk Identification

Risk Analysis

Considering Alternatives

Implementation of the Decision

Evaluation and Review

Risk Management ProcessRisk management process is divided into the following steps: 1. Determination of objectives : It is the process of

deciding precisely about the risk management programme of the management. The objectives can be Pre loss and Post loss

Pre loss : Important objectives before a loss occurs includes economy, reduction of anxiety & meeting legal obligations.

Ist objective : Economy means that the firm should prepare for potential loss in the most economical way

2nd objective reduction of anxiety means certain loss exposure can cause greater worry & fear for the risk manager

3rd objective is To meet any legal obligations (i.e) Government regulations are met for the safety of the workers, disposal of waste etc.

Post loss objectives : Objectives after a loss occurs including survival, continued operation, ability of earnings, continued growth and social responsibility1. After a loss the firm can resume at

partial operation within some time period

2. Continue operating (e.g) public utility, banks etc

3. Earnings of the company has to be maintained

4. A company can grow by developing new products and markets

5. Minimizing the effects that a loss will have on other persons or society

Identification of RiskIt is difficult to generalize about the risk that an organization is likely to face. Because differences in operations and conditions give rise to different risk. Risk management managers use some systematic approaches to the problem of risk identification. Analysis of documents, flow charts, internal communication system etc can be used to identify the risk.

Evaluating RiskIt means using certain rankings according to the importance of risk. In this case the programmes like critical analysis, probability theory and loss unit concept can be used.Considering alternatives: Once the risk is evaluated the next step is to find the best alternative. It is a problem of decision making. Deciding which technique available should be used in dealing with risk. The risk management policy should be chosen in such a way the rules allowed can be followed easily

After risk identification and evaluation, the alternatives have to be considered it is a problem of decision making. It is deciding which technique has to be used in dealing with the risk. The organization's Management policy establishes the criteria to be applied in the choice of techniques outline the rules within which the risk management may happen.

Considering alternatives

Implementation of DecisionThe decision is made to retain the risk in one business. If the fund is accumulated proper administrative procedure should be set up to implement the decision. If loss prevention sis selected to deal with the risk, proper program must be designed and implemented. The decision to transfer the risk through reinsurance, it should be followed by an insurer, negotiations and placement of the insurance

Evaluation and Review

This step permits the manager to review decisions and discover mistakes. He has to reevaluate the programme’s objectives, repeat identification process to ensure that it ha been performed correctly and then evaluate the risk that has been identified and verified how to address.

Risk Management Information system (RMIS)These are software tools designed to assist risk

managers in their functions.Traditional tools emphasizes claim management,

safety monitoring and financing losses.Other tools available are insurance policies,

exposure data and insurance certificates.It helps the enterprise to a greater extentOnce connected to an organization's existing

information system this gathers information from all these various system into one database. It can be analyzed from various angles to get different perspective on the risks the organization faces

Distinguish BetweenCredit card Debit card

It is a pay later product

Credit is granted for maximum period of 50 days

Interest & other charges have to be paid

Opening & maintaining an A/C is not compulsory

No sophisticated telecommunication system is required

It is a pay now productNo credit is allowed (directly

debited from the A/C)No interest charge

It is essentialCommunication network is

required

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In ordinary language Risk means a loss or which cause harm to someone Definitions:Macmillan Dictionary:The possibility that something unpleasant or dangerous might happenE.F Vaughan :A condition in which there is a possibility of an adverse deviation from a desired outcome that is expected or hoped for

Concept of Risk

Occurencnce of an incident

Desired outcome

Undesired outcome/deviatio

ns

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Risk means ….. ?????????????The possibility of unfavorable results following any occurrence.They are due to uncertaintiesUncertainty – a situation where the outcome or result can only be estimated but not predicted with precisionIt is a subjective phenomenonA concept based on an individual’s own perception there by implying different degrees to different individuals.Decisions under these conditions are difficult and depend not only upon an individual’s skill, power of judgment but to a great extent upon luck too.Uncertainty is immeasurable & non insurable

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How uncertainty differs from…….

Uncertainty is a state of mindElement of doubt due to lack of knowledge about what will happen in the future. It is the cause of RiskPerilIt is a serious & immediate danger It is the cause of a loss

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An ExampleFire

Accident/Natural

calamity

Loss of human lives/Damage of assets/building

etc

Peril Loss

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HazardIt refers to the conditions that increase

the severity of loss or the conditions affecting perils

Fall in

Sensex

Loss to the business

Mental breakdown

Fatal heart attack

hazard

peril

hazard

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Classification of Hazards

Physical conditions which aggravate the probability of loss caused by any peril (eg.) Storing of crackers in congested commercial complex

Physical Increase in

severity of loss resulting from dishonesty of a person. (Eg.) A person destroying his own asset to get more through claims

Moral Attitude of people like carelessness towards the cause of loss as the property is insured (eg.) Rash driving, poor maintenance

Morale

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In a Nutshell…..The term peril is used for loss producing events

Hazard is used for an aggravating factor magnifying the impact of loss

Loss is a section of losing something/deterioration of value for which no compensation has been received

Chances of loss is the frequency of occurrence of loss i.e probability of loss

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Business Risk Risk is an inherent part of any business

It is this element which differentiates business from other activities.

Business aims at profit, but many a times forced to face loss. Because it has practically no control over several affecting factors like change in customer’s taste, fashion, demand, change in technology, degree of competition, government policies etc

Business risk is a term used to define a factor or factors that may have a negative impact on the profitability or success of a company. A business risk could stem from external factors that a business may have little control over, or issues within the company itself.

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Factors -Major business risks

Factors that bring variation in cash flows and business value are:

Price risk: It refers to uncertainty over the magnitude of cash flows due to possible change in output and input prices Output risk –what u can demand from customers, input price-what is give factor owners raw materials etc.

Price risk may be due to Commodity price risk ; Exchange rate risk; Interest

rate riskInterest rate risk

Price risk

Commodity price risk

Exchange rate risk

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Credit risk: A firm’s customers and the parties to whom it has lent money will delay /fail to make payments This will be more in financial institutions as they frequently lend money Generally firms have to pay more to borrow money as credit risk increases

Pure risk : It is risk of reduction in the value of business assets due to physical damage, theft and fire. It also includes risk due to death, illness, disability of employees etc for which business has agreed to pay compensation

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Degree of RiskIt is related with likelihood of occurrenceIt is measured by probability of a adverse deviationIt case of an individual, it may be measured by what is hoped forIncase of large number it can be measured in terms of likelihood that given number of losses will occur.Predictions can be made on the basis of these estimatesInsurance companies make predictions about losses that are expected to occur and charge a premium based on this predictions.

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Risk for individuals Risk faced by individuals and families can be classified as follows:Earnings risk: It refers to the fluctuations in the family’s earnings The family’s earnings will also be uncertain.Medical expenses risk: Health care cost and liability suits can cause large unexpected expensesPhysical asset risk : A family also faces loss due to physical assets like vehicles, houses etcFinancial asset risk: The value financial asset also subject to fluctuations due to inflation, change in the value of shares, debentures and bonds

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Types of Business RiskPure and Speculative risk

Internal and External risk

Financial and Non-Financial risk

Static and Dynamic risk

Fundamental and Particular risk

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Pure Risk & Speculative Risk

Pure Risk refers to a chance of loss without any possibility of gain to an individual (e.g) a fire breaks out, Similarly when a car is insured the person will get compensation only when accident occurs. otherwise notSpeculation Risk: It is a situation which involves not only the chance of loss but also a possibility of gain as well. (e.g) share market, any innovation in business may result in heavy loss or huge profits

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Classification of Pure Risk

Pure Risk

LiabilityPersonal Property

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Personal Risk : Risk that directly affect the earning capacity of individuals. It includes:

Premature Death

Sickness/Disability

Risk arising out of Failure

Old age,Unemployment

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Property Risk: It includes the possibility of loss of property or income from property. (e.g) immovable property like HOUSE may get damaged due to flood, fire etc. personal assets may be stolen/destroyed due to fire.

Loss due to this risk may be

DIRECT-DAMAGE TO THE PROPERTY

INDIRECT-FINANCIAL LOSS(INCOME FROM THE P

INDIRECT-FINANCIAL

LOSS

DIRECT –DAMAGE TO

THE PROPERTY

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Liability Risk: It arise due to intentional or unintentional damage to a property/injury to a person, due to invasion of rights of other person, loots for which one is liable to pay damage or compensation. It arises from the legal provision. Workman’s compensation Act, Labour law are examples of this.

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Distinguish Pure Risk Speculative Risk

Inherent in business - they cannot be avoided – can only be minimized

They are the cause of losses but never cause gains

These risks are insured for.

Entrepreneur may avoid insurance or ignore it

Deliberately assumed by entrepreneur with the hope of making profit

An element of gain is inherent in some business; they may cause either gain or loss.

These risks cannot be insured for

Possible to avoid or shift the risk to others

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Internal Risk & External RiskInternal risk It is caused by internal events

amounted with the working of a business enterprise (e.g) worker’s strike, breakdown of machinery, dishonesty of employee, disharmony of worker & management – adversely affect the working of an enterprise and likely to cause losses It can be controlled to a greater extent through efficient handling

External risk: Forces belonging to the external environment affecting particular business enterprise (e.g) changes in market conditions, production technology, political environment, natural calamity etc affect its profit capacity

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Static and Dynamic riskStatic risk: It would occur irrespective of any

change in the economy. It results in destruction of an asset or change in its possession (e.g) natural calamities. It cannot be a source of gain to the society. These are more or less predictable as they occur at regular intervals of time; it can be insured for.

Dynamic risk: It is the result of changes in the economic environment .These are less predictable; as they do not have a defined pattern of occurrence. changes in price level, consumer taste, technological changes, etc., They cannot be insured for; They are the result of adjustments to misallocation of resources & brings gains to the society in the long run

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Fundamental Risk and Particular RiskFundamental risk: General/Group risks which

affects the economy as a whole at the macro level; they are consequences of factors beyond the control of individuals who suffer from losses; it affects the society & not individuals. They are impersonal in origin & are not caused by fault of any particular individual but by economic, social, cultural and natural factors. (e.g) earth quake. Flood, war, inflation, unemployment, etc. Particular Risk: These are personal in origin. They are caused by the fault of particular individuals. They causes loss only to a few individuals. (e.g) burning of a house, factory, burglary, theft, murder of a manager, etc.

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Financial and Non Financial RiskFinancial risk: These are risky situations

likely to cause financial losses. There is some element of risk in every aspect of human endeavor and many of these risks have no financial consequences. However insurance involves only financial risks

Non financial: when the possibility of a financial loss does not exist then it is called non financial risk

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Insurable & Non-insurable Risk

Insurable Risk: These are pure risks which can be predicted, and the chances of their occurrence can be determined. It can be shifted through various types of insurance policies covering the risk (e.g) Life Insurance, Marine insurance, Fire insurance automobile insurance etc.

Non-Insurable risks: These cannot be covered or shifted through insurance. The likelihood of these risks cannot be determined. These cannot be predicted with any degree of accuracy. They are speculative in nature. They can’t be forecasted, cannot be insured(e.g) change in demand, change in fashion, price fluctuations etc.

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Essential requisites of insurable risk….

1. The risk to be insurable must be accidental/occur by chance & not by artificially

2. The risk must be a common one ( a large no. of units are facing this risk)

3. There must be an element of uncertainty regarding the time & chance of occurrence of risk

4. The loss caused by the risk must be predictable and measurable with a fair degree of accuracy

5. The risk must be capable of causing substantial loss or damage and not through attack by enemies

6. The party must have genuine interest in the avoidance of risk

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Burden of RiskRisk cannot be eliminated completely.But sensible handling of risk can minimize the negative consequences of business risks. The negligence of someone may result in injury to a person or damage to property or financial loss.. It can be handled by adopting any of the following methods:

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Methods of Handling riskPrevention of risk or Avoiding riskReduction of riskShifting of risk Acceptance of riskSpreading of risk

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1. Avoiding or Prevention of risk: One can avoid risk by avoiding the cause of risk. It is like a preventive measure. An organizer may avoid getting involved in the action that may give rise to risks particularly when the potential results or gains are not considered to be worthy of the risk.

(e.g)losses from theft can be minimized by giving effective training to the employees of the firm.

Loss from fire can be completely avoided by conscious constructing a fire proof building for stocking products

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2. Reduction of risk: many risks are neither transferable nor avoidable. But business risks are reduced by concentrated effort of risk management.

e.g. loss due to market change can be minimized by market research, fashion changes by stock clearance sale at a discount rate etc

3. Shifting/transferring of risk: business people do not want to bear certain risk which bring losses to the firm. so they want to transfer them many such risks can be avoided through insurance.

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Insurance companies cover such risks for a amount known as premium

E.g marine insurance, health insurance. fire insurance etc A businessman can easily transfer the risk to the insurer Insurance is a contract event by which the assurer in consideration of the payment of a sum (premium) agrees to pay a specified sum to the insured on the happening of a certain event

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4. Acceptance of risks: Because the element of risk is incidental to life and cannot usually be avoided it may be accepted in following ways:

Some risks are accepted in ignoranceSome risks are accepted inadvertently -a family

fails to make adequate provision for his family in the event of premature death/or disability through accident

Some risks are accepted intentionallyMany such risks are can be accepted by the

professional insurance companies like LIC, Bajaj Allianz Life insurance company, Birla Sun Life insurance company etc.

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5.Spreading of risks: It involves the combination of the risks of many individuals who band together. It does not reduce the aggregate amount of potential loss but it does achieve a reduction of uncertainty and it spreads the burden for those who are thus banded together.

E.g entering into a business where many country people are involved

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Risk ManagementRisk Management is a scientific approach to deal with pure risk by anticipating possible accidental losses & designing & implementing procedures that minimize the occurrence of loss or financial impact of the losses that do occur.

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Principles of Insurance

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Seven Principles of Insurance

•Principle of Uberrimae fidei (Utmost Good Faith),•Principle of Insurable Interest,•Principle of Indemnity,•Principle of Contribution,•Principle of Subrogation,•Principle of Loss Minimization, and•Principle of Cause Proximal (Nearest Cause).

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Principle of Insurable InterestThe principle of insurable interest states that the

person getting insured must have insurable interest in the object of insurance. A person has an insurable interest when the physical existence of the insured object gives him some gain but its non-existence will give him a loss. In simple words, the insured person must suffer some financial loss by the damage of the insured object.

Contd.

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Principle of Uberrimae fidei (Utmost Good Faith)

Principle of Uberrimae fidei (a Latin phrase), or in simple english words, the

Principle of Utmost Good Faith, is a very basic and first primary principle of

insurance. According to this principle, the insurance contract must be signed

by both parties (i.e insurer and insured) in an absolute good faith or belief or

trust.

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Principle of Uberrimae fidei (Utmost Good Faith

The person getting insured must willingly disclose and surrender to the insurer his complete true information regarding the subject matter of insurance. The insurer's liability gets void (i.e legally revoked or cancelled) if any facts, about the subject matter of insurance are either omitted, hidden, falsified or presented in a wrong manner by the insured.The principle of Uberrimae fidei applies to all types of insurance contracts.

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Principle of Uberrimae fidei (Utmost Good FaithFor example :- The owner of a taxicab has

insurable interest in the taxicab because he is getting income from it. But, if he sells it, he will not have an insurable interest left in that taxicab.

From above example, we can conclude that, ownership plays a very crucial role in evaluating insurable interest.

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Principle of IndemnityIndemnity means security, protection and

compensation given against damage, loss or injury.

According to the principle of indemnity, an insurance contract is signed only for getting protection against unpredicted financial losses arising due to future uncertainties. Insurance contract is not made for making profit else its sole purpose is to give compensation in case of any damage or loss.

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Principle of ContributionPrinciple of Contribution is a corollary of the

principle of indemnity. It applies to all contracts of indemnity, if the insured has taken out more than one policy on the same subject matter. According to this principle, the insured can claim the compensation only to the extent of actual loss either from all insurers or from any one insurer. If one insurer pays full compensation then that insurer can claim proportionate claim from the other insurers.

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Principle of ContributionFor example :- Mr. John insures his property

worth $ 100,000 with two insurers "AIG Ltd." for $ 90,000 and "MetLife Ltd." for $ 60,000. John's actual property destroyed is worth $ 60,000, then Mr. John can claim the full loss of $ 60,000 either from AIG Ltd. or MetLife Ltd., or he can claim $ 36,000 from AIG Ltd. and $ 24,000 from Metlife Ltd.

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Principle of ContributionSo, if the insured claims full amount of

compensation from one insurer then he cannot claim the same compensation from other insurer and make a profit. Secondly, if one insurance company pays the full compensation then it can recover the proportionate contribution from the other insurance company.

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Principle of Subrogation

Subrogation means substituting one creditor for another.

Principle of Subrogation is an extension and another corollary of the principle of indemnity. It also applies to all contracts of indemnity.

According to the principle of subrogation, when the insured is compensated for the losses due to damage to his insured property, then the ownership right of such property shifts to the insurer.

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Principle of SubrogationThis principle is applicable only when the

damaged property has any value after the event causing the damage. The insurer can benefit out of subrogation rights only to the extent of the amount he has paid to the insured as compensation.

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Principle of SubrogationFor example :- Mr. John insures his house for $ 1

million. The house is totally destroyed by the negligence of his neighbour Mr.Tom. The insurance company shall settle the claim of Mr. John for $ 1 million. At the same time, it can file a law suit against Mr.Tom for $ 1.2 million, the market value of the house. If insurance company wins the case and collects $ 1.2 million from Mr. Tom, then the insurance company will retain $ 1 million (which it has already paid to Mr. John) plus other expenses such as court fees. The balance amount, if any will be given to Mr. John, the insured.

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Principle of Loss MinimizationAccording to the Principle of Loss Minimization,

insured must always try his level best to minimize the loss of his insured property, in case of uncertain events like a fire outbreak or blast, etc. The insured must take all possible measures and necessary steps to control and reduce the losses in such a scenario. The insured must not neglect and behave irresponsibly during such events just because the property is insured. Hence it is a responsibility of the insured to protect his insured property and avoid further losses.

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Principle of Loss MinimizationFor example :- Assume, Mr. John's house is

set on fire due to an electric short-circuit. In this tragic scenario, Mr. John must try his level best to stop fire by all possible means, like first calling nearest fire department office, asking neighbors for emergency fire extinguishers, etc. He must not remain inactive and watch his house burning hoping, "Why should I worry? I've insured my house."

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Principle of Cause Proximal (Nearest Cause)

means when a loss is caused by more than one causes, the proximate or the nearest or the closest cause should be taken into consideration to decide the liability of the insurer.

The principle states that to find out whether the insurer is liable for the loss or not, the proximate (closest) and not the remote (farest) must be looked into.

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Principle of Cause Proximal (Nearest Cause)

For example :- A cargo ship's base was punctured due to rats and so sea water entered and cargo was damaged. Here there are two causes for the damage of the cargo ship - (i) The cargo ship getting punctured beacuse of rats, and (ii) The sea water entering ship through puncture. The risk of sea water is insured but the first cause is not. The nearest cause of damage is sea water which is insured and therefore the insurer must pay the compensation.

However, in case of life insurance, the principle of Cause Proximal does not apply. Whatever may be the reason of death (whether a natural death or an unnatural death) the insurer is liable to pay the amount of insurance.