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Credit Analysis

TOB
Lecturing notes no 4

The Elements of the Credit

the parties of the credit relation

the promise of repayment


the guarantee of the credit

Debtor/ Creditor
Population/ state/ economic agents

Real/ personal

the maturity date


the interest rate

Fixed/ Floating

The Forms of Credit

a. according to the economic nature and the parties of the crediting


relation:
- the commercial credit (business credit, commercial lending)
- the banking credit
- the consumption credit
- the bond credit/promissory credit
- the mortgage credit.
b. according to the debtors position:
- the credit granted to natural persons
- the credit granted to legal persons
c. according to the debtors and the creditors nature:
- the private credit
- the public credit (mainly through bonds)

The Forms of Credit contd.

d. according to the purpose/destination of granting the credit:


- production
- circulation (ex: transportation, storing, inventories)
- consumption (procurement of goods for personal use)
e. according to the nature of the guarantees:
- real credits
- personal credits
f. according to the extent of the creditors rights:
- credits that can be declared exigible before their maturity date
- credits that cannot be declared exigible before their maturity date
- mixed credits

The Forms of Credit contd.

g. according to the maturity date of the credit:


- short-term credits (up to 1 year)
- medium-term credit (1-3 years)
- long-term credits (longer period of time)

Other lending facilities


Overdraft
Project finance
Syndicated loans
Bridge loans

The Romanian Legal Framework


Related to Credit (contd.)
Law 58/1998, art. 3:
the credit represents any payment engagement of
an amount of money in exchange of the right to
repay the amount paid and to pay interest or any
expenses related to this amount or any
prolongation of a debts maturity as well as any
engagement of acquiring a title that includes a
debt or any other right to pay an amount of
money

Monitoring Institutions

National Bank of Romania

Bank Deposit Guarantee Fund

Set up in 1996

TransFond payment and settlement system


The Payments Incidents Bureau

Established in 1880
Independent public institution
Only institution authorized to issue money

Set in 1997
Info centre for payment instruments bank & social

The Credit Information Bureau

Set in 2000

Lecture outline

Objecives of CA
Process of CA
The five Cs
Information sources for CA
Credit application structure - detailed

Credit analysis - objectives

Identify the risks in lending situations


Determine the companys debt service
capability
Make recommendations as to proper type
and structure of the loan

Credit granting process

Application - gather preliminary information

Investigation - verify preliminary information


and gather additional information

Credit decision - consider facts and make


decision to accept or decline

Loan Closure

The five Cs THE BASIC


COMPONENTS

Character
Capacity
Capital
Collateral
Conditions

Risks analysis

Identify the risks


Evaluate the risks
Mitigate the risks

Sources of information

Customer interview
Internal sources
External sources

!! General format of an analysis

Description of the loan


Description of the company
Analysis of the Business/Market/Industry/Economy
Credit history
Financial Analysis of Borrower
Cash Flow and Projected Cash Flow Analysis
Collateral analysis
SWOT analysis
Credit scoring
Risks evaluation
Credit Decision

Description Of The Loan


(Terms and conditions)

Purpose
Amount
Repayment Source
Security (collateral)
Terms (covenants) positive/ negative

Description of the company

General issues (type, history, goal and operations)


Ownership structure
Management description
Production technology
Product analysis
Costing and pricing
Future development and strategy

Analysis of the business/ market/


industry/ economy

Suppliers/ customers/ contracts


Market

market structure
market size
demand for the product

Competition

Industry/economy overview

Rate of industry growth


Life cycle
Industry development and trends
Risks related to the industry
Economic policy
Government action
Trends of inflation, unemployment, purchasing
power

Credit history

Payment information about all types of accounts


Relations with other banks or financial institutions
Checking the Credit Information Bureau Database and Payment
Incident Bureau database
Reports of events such as bankruptcies, judgments, suits etc
Details on late or missed payment
Relationship developed with the customer credit products &
cross-sell
Profitability of the customer with the bank *
Strategy of the bank in regards with that customer

Financial analysis of the borrower

Income statement: Development of revenues, analysis of


profitability, analysis of the companys evolution versus historical
evolution and peers figures. Changes - cause/ effect analysis

Balance sheet: analyze the adequacy of leverage versus


asset base

Cash flow: it is extremely important for credit decision,


specially for companies with a lower scoring ; volatility has to be
analyzed (cause/ effect analysis) and future capital needs have to
be assessed

Financial analysis of the borrower


- contd.

Liquidity ratios - the business will be able to pay its creditors,


expenses, loans falling due at corresponding periods in time

Solvency ratios leverage ratios; increasing amounts of debt

Profitability ratios - earn a satisfactory profit so that the

in a businesss capital structure means that the business is


becoming heavily geared

investors and shareholders will continue to provide capital


Efficiency ratios - control expenses and earn a return on the
resources committed to the business

Projected cash flow analysis

Collateral analysis

Types

Characteristics/Features

Marketable -> quick transfer into money


Ascertainable -> easy to identify
Stable -> not easy to deteriorate
Transferable -> legally available when needed

Valuation

SWOT analysis

Strengths
Weaknesses
Opportunities
Threats

Credit scoring/ credit rating

Qualitative criteria

Quantitative criteria

Credit scoring qualitative criteria


Qualitative criteria

Management quality
Business strategy and environment
Collateral received
Customer transparency and quality of financial
statements presented
Buyers/ suppliers diversification
Technology used
Age/size of the company and track record
Quality and evolution of the competition

Credit scoring quantitative criteria


Quantitative criteria (example)

Current ratio
Solvability
Operating profit margin
Interest cover
Equity ratio

Current ratio

Current ratio = Current assets/Current debts

Criteria
>1,5 x
>1,2 x
>1 x
>= 0,8 x
<0,8 x

Evaluation
1
2
3
4
5

Solvability

Solvability = Total assets/total debts

Criteria
>1,5 x
>1,2 x
>1 x
>= 0,8 x
<0,8 x

Evaluation
1
2
3
4
5

Operating profit margin

Operating profit margin = Operating profit/ sales


x 100

Criteria
>10%
>7%
>3%
>= 0%
< 0(loss)

Evaluation
1
2
3
4
5

Interest cover

Interest Cover = Operating profit/ Interest


expenses

Criteria
>4x
>3 x
>2 x
>= 1x
<1x

Evaluation
1
2
3
4
5

Equity ratio

Equity ratio = Total Equity/ Total Assets

Criteria
>35%
>20%
>10%
>= 0%
< 0%

Evaluation
1
2
3
4
5

Financial performance

Clients mark

1,00-2,00
2,01-3,00
3,01-4,00
4,01-4,50
4,51-5,00

Client rating- financial performance

A (performing credit)
B (credit under supervision)
C (credit under standard)
D (doubtful credit)
E (credit with losses)

Credit classification according to the


risk
Following the valuation of the customers financial performances, the
credits will be included in of the following classes:

Class A - borrowers with profitable activities and solid financial


activities, with no problems in returning the loan
Class B - borrowers with good financial standing at present, but who
cannot maintain it in the next period
Class C - borrowers with satisfactory economic position but with a
tendency of worsening their economic efficiency and financial ratios
Class D - the economic and financial standing is characterized by
inferior ratios and varying activities between satisfactory and
unsatisfactory
Class E - borrowers with unprofitable activity, involving uncertainty in
repaying the loan

Credit scoring - example


Evaluation criteria

Weight

Values

Mark

Evaluation (w*m)

Qualitative criteria
Management quality,
business strategy,
collateral received

21%

Accumulated
experience within he
main firm activity, good
business strategy, well
known company

0.21

4%

Majority owned by
management

0.08

Ownership structure

Quantitative criteria
Current ratio: Current
assets/Current debts

18%

1.1

0.54

Solvability: Total
assets/total debts

18%

2.83

0.18

Operating profit
margin: Operating
profit/ sales x 100

12%

15.5%

0.12

Interest cover:
Operating profit/ Interest
expenses

18%

34.3

0.18

Equity ratio: Equity /


total assets x 100

9%

64.60%

0.09

Client rating- financial


performance

100%

1.4 - A

RISK EVALUATION
KEY RISKS

MITIGATION FACTORS

Business Risk

Market/ Industry Risk

Repayment risk

Foreign exchange risk

liquidity risk

Management risk

Credit Decision

Yes
No
Yes with conditions

CREDIT ANALYSIS
TOB
Lecturing notes no5

Study case 1

Printing

House Company

DESCRIPTION OF THE LOAN

Type, amount, period: investment credit of 180,000 EUR on a period of 3


years.
Objective: acquiring a printing equipment Presse offset Heidelberg
Druckmachine, whose total value is 212,000 EUR
This equipment will be financed in the following way:
- 15% from the equipment price will be paid by the client(10% from the
value has already been paid as advance money )
-85% (180,000EUR) through the requested credit
The credit will be guaranteed with 1st rank mortgage on building and land
in total area of 7800 sqm situated in Bucharest. The accepted value of the
collateral is 196,500 EUR.
Till now all the companys investments were made from its own funds and
had as objective the permanent improvement of the printing equipment.
This led to the increase of the quality of the products and an increase in the
number of customers.
In March 2003 the company acquired a real estate building in Constanta 5.412 bill ROL acquisition price which spent all the internal fund needed for
acquiring the printing equipment.
The reimbursement of the loan will be made monthly in equal installments,
according to a schedule previously decided by both parties
The source of the reimbursement is the monthly cash flow of the company.

DESCRIPTION OF THE COMPANY


Company History

Printing House joint stock company was set up in 1993 and has as main activity: printing, coping.
Its Social capital is 2 126 000 000 ROL.
Ownership and management structure Main shareholders: Costel Mihai holds 58%, Diaconu
Raluca holds 33%, Radulescu Cosmin holds 5%, Popescu Dan holds 2%, Damian Andrei holds
2%

Printing House has a dynamic management team composed of highly qualified professionals with
strong capabilities in their filed of activity. Three of the shareholders are also in management
positions.

The market strategy of Printing House Joint Stock Companys highlights the quality of the
products. The company has also a price strategy by offering discounts (cash discounts, quantity
discounts)
Description of the companys activity and technological process

The main activity of the company is printing. The company is a full service printer including all the
phases of the production: pre-press, printing and finishing. It prints all kind of materials such as
newspapers, magazines, books, brochures, labels, forms, packages, business cards, calendars
etc.

The technological procedures are complex and have the following stages:

1. Typing: graphical conception, paging, correction, film listing.

2. Editing of the imagines and coping them on aluminum slate

3. Printing with special equipment: 10,000 pages/hour, automotive ink

4. Sorting, cutting, biding, counting and wrapping.


The company has a team of 123 employees.
Subsidiaries and Related Business

On January 2004 set up a new branch in Sibiu. The company from Sibiu has the same activity but
is independent from the one in Bucharest.

CREDIT HISTORY
Banking Relationships
Till now Printing House hasnt had any relation with Raiffeisen Bank.
The banks the company is working with are:
BCR
Current account
2,168,418
BRD
Current account
1,680,748
ALPHA BANK
Current account
159,353
History of the Clients Loans
Printing House Joint Stock Company doesnt have any long-term loan, all the companys debts and
investments being made from its internal sources.
It has only 2 leasing contracts:
Financial Leasing Monthly Payment Date
Maturity Date
Balance
Audi A4 full options 1028 EUR
February 2003
January 2005
26,298 EUR
Renault magnum
590 EUR
June 2002
April 2005
12,011 EUR
Credit Information Bureau Database
According to the Credit Information Bureau statement, Printing House Joint Stock Company is not
present in database with any unpaid loans.
Payment Incident Bureau Database
According to the Payment Incident Bureau statement, Printing House Joint Stock Company is not
present in database with any incident.
Taxes, Social Insurance to State Budget
Printing House Joint Stock Company has paid all its debts to the state budget.

Analysis of the market/industry

The Romanian printing industry has been one of the most dynamic sectors of the economy in the
last decade. Until 1989 in Romania there was only a printing house, the former Tipografia Casa
Scanteii, over 1000 companies which have as main object the activity of printing.

STRUCTURE OF THE ROMANIAN PRINTING MARKET


2003

Others(fiscal
forms,lables,
packaging)
24%
Advertising
materials
29%

Newspapers
16%
Magazines
18%
Books
13%

Main competitors
Infopress
Mega Press Holding
Libedi Printing,
Fed Print
Imprimeriile Media Pro - IMP

Companys suppliers
Product

DormanSRL
SC.RTC S.A
ImobConstanta
Kubera SA
ArhiDesignSRL
PrintManSRL
SilverInkSA
EuropapierSA
Others

% in total
suppliers

Services
Paper
Assets
Paper
Consumables
Utilities
Ink
Paper
Others

4.16
15.7
23.5
7.12
10.3
2.65
8.93
11.66
15.98

Payment
term (days)

Payment
method

Acquisition
frequency

30
Payment order
monthly
45
Payment order
monthly
Payment order
60
Payment order once to months
45
Payment order
monthly
45
Payment order
monthly
30
Payment order
monthly
45
Payment order once to 3-4months
30-60 Payment order
seldom

Main customers
Customer

1.Humanitas
2.Adevarul
3. SNCFR

4. Metro SA
5. Elite SA
Romania

Product

Payment
term (days)

School books
newspaper
Booklets, folders,
train schedule
promotional materials
promotional materials
labels

60
15
30

Payment
method

Payment order
Payment order
Payment order

Acquisition
frequency

monthly
monthly
monthly

30
45

Payment order/Cash
Payment order/Cash

6. Editura Niculescu
Books
7. Ioana, Mama
magazines

60
45

Payment order
Payment order

monthly
monthly

8. Petrom SA

30

Payment order

monthly

envelops
labels,
packages

monthly
monthly

Companys Market Position

Due to the quality of the products and seriousness to its clients, the company
succeeded in becoming a well-known company on printing market.

STRUCTURE OF PRINTING HOUSE JOINT STOCK


COMPANY'S TUROVER

Books
26%

Magazines
32%

Advertising
materials
Others(fiscal
28%
forms,lables,
packaging)
5%
Newspapers
9%

Financial analysis of the borrower.


Evolution of the turnover

In terms of turnover, 2003 was good year for the company, the increase representing about 21,9%
as compared to 2002. There is a seasonally in the turnover in the second half of the year due to
the selling of schoolbooks. Only a small part of the turnover is due to the exports. The decrease of
the turnover during the 2002 compared to 2001 is due to the repair of old equipment, which
implied both expenses and activity stagnation due to non-working machines.

Evolution of the Turnover 2003


ROL 6,000,000
ROL 5,000,000
ROL 4,000,000
ROL 3,000,000
ROL 2,000,000
ROL 1,000,000
ROL 0
thd.ROL

Jan

Feb

Mar

Apr

May

Jun

Jul

Aug

Sep

Oct

Nov

Dec

Main Financial Ratios

Year

TURNOVER
EBIT
NET PROFIT
EQUITY
TOTAL DEBT RATIO
CURRENT RATIO
OPERATING PROFIT
MARGIN

2001
24.696 bill ROL
4.713 bill ROL
3.477 bill ROL
7.478 bill ROL
0.31
2.1
19.7%

2002
23.658 bill ROL
1.262 bill ROL
786 bill ROL
7.555 bill ROL
0.50
1.4
1.8%

2003
28.837 bill ROL
4.393 bill ROL
3.242 bill ROL
11.424 bill ROL
0.35
1.1
15.5%

Financial performance

Clients mark

1,00-2,00
2,01-3,00
3,01-4,00
4,01-4,50
4,51-5,00

Client rating- financial performance

A
B
C
D
E

Current ratio

Current ratio = Current assets/Current debts


Criteria
Evaluation
>1,5 x
1
>1,2 x
2
>1 x
3
>= 0,8 x
4
<0,8 x
5

Solvability
Solvability = Total assets/total debts
Criteria
Evaluation
>1,5 x
1
>1,2 x
2
>1 x
3
>= 0,8 x
4
<0,8 x
5

Operating profit margin

Operating profit margin = Operating profit/


sales x 100
Criteria
Evaluation
>10%
1
>7%
2
>3%
3
>= 0%
4
< 0(loss)
5

Interest cover

Interest Cover = Operating profit/ Interest


expenses
Criteria
Evaluation
>4x
1
>3 x
2
>2 x
3
>= 1x
4
<1x
5

Equity ratio
Equity ratio = Total Equity/ Total Assets
Criteria
Evaluation
>35%
1
>20%
2
>10%
3
>= 0%
4
< 0%
5

COLLATERAL ANALYSIS

The credit will be guaranteed with 1st rank mortgage on real estate building and land in total area of 7800 sq. situated in Bucharest. The
assets are owned by the Printing House Joint Stock Company.
The market value of the collateral is 262,000 EUR. To this value the
bank applies a risk coefficient of 25% resulting the accepted value of
the collateral of 196,5000 EUR
The value of the collateral cover the amount of the total loan
agreement (the loan amount, the amount of interest rate payable in
the course of the 1st year), and the expenses related to the
collateral enforcement .

SWOT ANALYSIS

Strength
management experience and teams of professionals
good position on the market
long term relationships with the suppliers
ability to pay debts on time
Weaknesses
negative cash flow in 2003
the company doesnt have as activity publishing
Opportunities
increase and consolidation of the market share by the new investment
development of the printing sector in Romania
development of the school books following the new regulations of the Education Ministry
Threats
legislative changes
strong competition in the field
appearance on the market of new printing houses with improved technology

RISK EVALUATION

KEY RISKS
Business Risk

Market Risk

Repayment risk

Foreign exchange risk

MITIGATION FACTORS
Companys management has experience in
this domain, and the company extended its
activity quickly.
The general economic growth will determine
also the development of printing activity. By
renewing the printing equipment, the company
will adapt quicker to market needs and will
succeed in maintaining its position on the
market
Good financials, good reputation, ability to pay
debts on time
The profit margin obtained by the company will
cover the unfavorable differences of the foreign
exchange.

Credit scoring
Evaluation criteria

Weight

Values

Mark

Evaluation

Qualitative criteria
Management quality,
business
strategy,collateral
received

21%

Accumulated
experience within he
main firm activity, good
business strategy, well
known company

0.21

4%

Majority owned by
management

0.08

Ownership structure

Quantitative criteria
Current ratio: Current
assets/Current debts

18%

1.1

0.54

Solvability: Total
assets/total debts

18%

2.83

0.18

Operating profit
margin: Operating
profit/ sales x 100

12%

15.5%

0.12

Interest cover:
Operating profit/ Interest
expenses

18%

34.3

0.18

Equity ratio: Equity /


total assets x 100

9%

64.60%

0.09

Client rating- financial


performance

100%

1.4 - A

CREDIT COMMISSION DECISION

Credit Commission approved the investment credit in the following conditions:


Credit type: investment credit
Purpose: acquisition of printing equipment Presse offset Heidelberg Druckmachine
Amount: 180,000 EUR
Interest: 8.2%
Collateral: 1st rank mortgage on building and land;
Contracts date: March 2004
Maturity date: February 2007
Other conditions:
-The company wont apply for other credits without the written approval of
Raiffeisen Bank
-The company will carry on at least 75% of the payments through Raiffeisen
Bank
-The company wont pay dividends and the shareholders wont withdraw
moneys without the written approval of Raiffeisen bank.
In the case the company doesnt fulfill one of the above conditions, Raiffeisen Bank
has the right to increase the interest with 2% or to consider the contract null and to
demand the payment in advance for the obligations.

Case study 2
Borrower Miconstruct S.R.L.
Loan motive acquisition of a XB245
concrete pouring machine
Requested amount 20.000 euros
Lender X Bank

Credit analysis

2 types of factors are analyzed


Factors 60%
Subjective Factors 40%
Objective

Each of them is graded and the average


score is calculated for each type of factor

Credit analysis

After analyzing the financial situation of the


company, the score determines the credit grade :
A:
B:
C:
D:
E:

4.20-5.00
3.40-4.19
2.60-3.39
1.80-2.59
1.00-1.79

Documents requested
Annual Balance Sheet and Profit and
Loss Account for the last 3 years of
operation
Company's Overview
Description of the current activity
Project description
Management presentation
Personal financial statement

MICONSTRUCT S.R.L
Form: limited liability company
Social capital: 2,000,000 ROL
Trade register number: J/15/371/1998
Fiscal code: 11575640
Number of employees: 12

FINANCIAL RATIOS
Liquidity
Solvency
Risk
Profitability
Sales Trend

Analysis of liquidity

Current Ratio = Current Assets / Current Liabilities

Current Ratio2001 = 2.39 times


Current Ratio2002 = 2.41 times
Current Ratio2003 = 2.92 times

Acid Test = (Current assets - Inventory)/Current Liabilities

Acid test Ratio2001 =1.94 times


Acid test Ratio2002 = 2.14 times
Acid test Ratio2003 = 2.8 times

Analysis of solvency

Total debt ratio = (Total assets-Total equity)/Total assets

Total debt ratio2001 = 0.8 times

Total debt ratio2002 =0.53 times

Total debt ratio2003 =0.4 times

Equity ratio = Shareholders Equity / Total Assets

Equity ratio2001 = 21.2%

Equity ratio2002 = 45.66%

Equity ratio2003 = 61.27%

Analysis of risk

Financial debts coverage = Sales / Financial liabilities

Financial debts coverage2001 = 3.71

Financial debts coverage2002 = 7.76

Financial debts coverage2003 = 10.15

Analysis of profitability

Return on assets = Net Income / Total Assets

ROA2001 = 66.71%
ROA2002 = 37.46%
ROA2003 = 48.17%

Return on Equity = Net Income / Shareholders Equity

ROE 2001 = 31.7%


ROE 2002 = 81.2%
ROE 2003 =78.7%

Trend of sales

Trend of sales = Sales/Sales(-1)

Trend of sales 2002/2001 = 2.22


Trend of sales 2003/2002 = 1.57
evolution of sales and profits
7000000
6000000
5000000
4000000

sales rev

3000000

profit

2000000
1000000
0
2001

2002

2003

Scoring of objectives factors


SECTION ELEMENTS

Element
Value

Score

Element
Weight

Section
Score

Section
Weight

1. Liquidity
A. Current Ratio
B. Quick Ratio

2.92
2.8

4
4

67%
33%

12%

2. Solvency:
A. Equity Ratio
B. Debt to Assets

61.27%
40%

4.5
4.3

60%
40%

4.42

3. Risk:
B.
Financial
Coverage

10.15

100%

Debts

Obj.
Score

2.68
1.32

12%

2.7
1.72
12%

4. Profitability:
A. ROA
B. ROE

48.17
78.7

5
5

50%
50%

5. Trend:
Trend of Sales

157%

4.8

100%

4.8

12%

2.5
2.5
4.8

12%

2.7864

Subjective factors
Industry Characteristic :
4
Company Characteristics:
3
Shareholders& Management: 4
Planning and Prospects:
5

Credit analysis results


Objective factors scoring:

2.7864
Subjective factors scoring: 1.500

Total Scoring:
4.2864
Credit classification:
A
Result: the credit will be granted

Improving the Credit Score

pay the companys bills on time


update old accounts (accounts reporting a
balance may have been paid down to zero)
don't max out the companys credit lines
limit the number of times the company
applies for credits
maintain the companys accounts for a long
period of time, and
STAY AWAY FROM FINANCE
COMPANIES

Thank you!

ECB and ESCB


Revision

TOB
Lecture no 7

Process of euro adoption


1 Jan 1999- 1 Jan 2002: transition period
1 Jan 2002- 1 July 2002: free exchange of euro,
parallel circulation of 12 currencies +euro
2002: euro coins and notes in circulation
today (17=12 + 5NMS) out of (27) EU countries
(Slovenia in 2007 and Malta and Cyprus in 2008,
Slovakia in 2009, Estonia in 2011)
derogation (except for UK and Denmark with opt-out
clauses, Sweden) obligatory euro introduction

European System of Central


Banks
EUROSYSTEM
GOVERNING COUNCIL
(Decision-making Body)
Executive Board
President
Vice President
Members

Formulates
monetary policy

1
1
4
6

Governors of NCBs

16

Total

22

National Central Banks implement


monetary policy in the Euro Area

NCB1

1
1

Total

29

27

NCB2

NCB16

National Central Banks that


have not adopted the euro

GENERAL COUNCIL
(Advisory Body)
President
Vice President
Governors of NCBs
of all countries

EUROPEAN CENTRAL BANK (ECB)


Frankfurt, Germany

NCB13

NCB24

NCB27

Objectives of the Eurosystem


Objectives:
Maintain price stability in the euro area
(primary objective)
Protecting the purchasing power of the euro
Support the general economic policies in the
European Community (but without prejudice
to the primary objective)

Independence of the
Eurosystem
Institutional Independence:

The ECB, the NCBs in the Eurosystem and the


decision making bodies of the Eurosystem enjoy full
independence

Neither ECB nor members of its decision-making


bodies shall seek or take instructions from
Community institutions and governments from any
member state

Independence of the Eurosystem


(contd)
Financial Independence:
The Eurosystem may not grant any loans to community
bodies or national government entities
ECB has its own budget (subscribed and paid up by NCBs)

Capital Subscription to the ECB:


Euro area NCBs have fully paid up their subscriptions to the
ECBs capital
Non-euro area NCBs paid 5% of the subscription which
would we payable if these countries participated in the
Monetary Union

Maastricht Criteria

Price stability
Public finances
Exchange rate
Long term interest rate

Maastricht criteria
The criterion on price stability
the achievement of a high degree of price
stability;
this will be apparent from a rate of inflation
which is
close to that of, at most, the three best
performing
Member States in terms of price stability
Reference value: average HICP inflation
rate of, at most, three best performing EU
Member States + 1.5 percentage points.

Convergence criteria
The criterion on the government budgetary position

the sustainability of the government financial


positionwill be apparent from having achieved a
budgetary position without a deficit that is
excessive
Reference value: the ratio of the government
deficit to GDP should not exceed 3%.

Reference value: the ratio of government debt


to GDP should not exceed 60%.

Convergence criteria
The exchange rate criterion
The observance of the normal fluctuation margins provided for the
exchangerate mechanism of the EMS, for at least two years,
without devaluing
ECB examines whether a Member State has participated in
ERM II for at least two years prior to the examination
without severe tensions, in particular, without devaluing its
currency against the euro.
Focus is put on the exchange rate being close to the central
rate against the euro, while also taking into account factors
that may have lead to an appreciation.

Convergence criteria

The long-term interest rate criterion


The durability of convergence achieved by the Member State and of
its participation in the exchangerate mechanism of the EMS being
reflected in the long-term interest rate levels
Reference value: average of long-term interest rates in the
three best performing EU Member States in terms of price
stability + 2 percentage points.

Romania and Maastricht criteria


Nominal
convergence

Maastricht criteria

Romania
2006

2007

2008

Rate of inflation

Max. 1,5% +average


of the 3 best
performant states
(cca 3%)

6.6%

4,9%
(6,3)

5,9%

2.6%

5.4%

10.3%

Exchange rate
+/- 15 % per year
Public deficit

Max 3% GDP

2,2%

2,6%

2,9%

Public debt

Max 60% GDP

12,4%

13%

13,6%

Long-term
interest rate

max 6,6 %

7,2 %

7,1%

7.1%

Case: reference rate

CASE (1)

ROBID (Romanian Interbank Bid Rate) and (BUBID!!!)


ROBOR (Romanian Interbank Offered Rate) (BUBOR!!!!)

are the reference interest rates on the Romanian interbank market.

The official calculation is published daily on Reuters


system at 11.00 local time as an ordinary arithmetic
average of daily quotes for eight maturities
provided by ten biggest Romanian banks.

This calculation is published daily at 11.30 on http://www.reuters.ro/.

Case (2)
Interest rate used by the banks is based
on a formula that uses a reference index
(ROBOR for RON, EURIBOR for EUR si
LIBOR for USD si CHF) plus the bank
margin.

Theory of central banking

TOB
lecture no 7

BNR a injectat in piata interbancara 8,38 mld. lei


BNR a realizat o operatiune de tip repo, prin intermediul
careia a injectat in piata interbancara 8,38 miliarde de
lei, la o dobanda de 8,5%, egala cu rata de politica
monetara, imprumuturile fiind scadente peste o
saptamana. In cadrul operatiunii de open-market au
fost imprumutate 19 institutii de credit, iar scadenta va fi
la 14 septembrie. In cadrul operatiunilor de tip repo, BNR
ofera lichiditate bancilor comerciale si preia in schimb
titluri de stat, iar prin operatiunile reverse repo banca
centrala sterilizeaza excesul de lichiditate din piata si
ofera bancilor titluri.
Publicat 08 SEPTEMBER 2009

Content

Core functions of central bank


Main functions of the central bank
Monetary (and economic) policy objectives
Monetary policy instruments
Central bank independence
Regulatory environment

Core functions of central bank


To manage monetary policy with the aim
to achieve price stability
To prevent liquidity crises, situation of
money market disorders and financial
crises
To ensure the smooth functioning of the
payment system

Main functions of the central bank


To control the issue of notes and coins (legal
tender)
To control the amount of credit-money created
by banks (money supply)
To control at some extent non-bank financial
intermediaries
To act as lender of last resort in order to protect
depositors
To act as governments banker
To deal with gold and foreign exchange matters

Tasks of the Federal Reserve System and the European


System of Central Banks
FRS

ESCB

Define and implement monetary policy

yes

yes

Issue banknotes

yes

yes

Conduct foreign exchange operations

yes

yes

Hold and manage official reserves

yes

yes

Act as fiscal agent for the government

yes

NCBs

Promote stability of the financial system

yes

yes

Supervise and regulate banks

yes

Some NCBs

Implement consumer protection laws

yes

Some NCBs

Promote smooth operation of the payment system

yes

yes

Collect statistical information

yes

yes

Participate in international monetary institutions

yes

yes

Monetary policy functions of a


central bank
The most important function of any central
bank is to undertake monetary control
operations
These aim to administer the amount of
money (money supply) in the economy
and differ according to the monetary policy
objectives

Monetary (and economic) policy


objectives

High employment
Price stability
Stable economic growth
Interest rate stability
Financial market stability
Stability in foreign exchange markets

Monetary policy instruments


The indirect instruments used by the central banks in monetary operations:
Open market operations
Discount windows (standing facilities)
Reserve requirements

Instruments or tools
of monetary policy
-Open market operations
-Discount window
-Reserve requirements

Operational targets
- Short term interest rate
- Commercial banks
reserves
- Exchange rates

Intermediate
targets
- long-term
interest rate
- money supply

Price stability
Employment
Growth, etc

Open market operations


and debt securities
Instruments or tools
of monetary policy

1). Open market


operations
-Repo and reverse repo

If the central bank sells


government securities
the money supply decreases
If the central bank buys
government securities
the money supply increases

This will influence the level of liquidity within the financial system and will affect
the level and structure of interest rate

Discount window
(standing facilities)
Instruments or tools
of monetary policy

The higher the discount rate,


the lower the amount of funds
that banks will decide to borrow

2). Discount window

The lower the discount rate,


the higher the amount of funds
that banks will decide to borrow

It is an instrument that allows eligible banking institutions to borrow money from


central banks, usually to meet short-term liquidities. Manipulation of discount
rate can therefore influence short-term rates in the market!

Reserve requirements
Instruments or tools
of monetary policy

3). Reserve
requirements

The higher the required reserve


ratio, the lower the amount of funds
available to the banks
The lower the required reserve
ratio, the higher the amount of funds
available to the banks

Reserve requirements are often refered to as instruments of portofolio


constraint. By changing the fraction of deposits that banks are obliged to keep
as reserves, the central bank can control the money supply and thus the interest
rate level.

Central bank independence


Independence from political influence and
pressures in the conduct of its functions, in
particular monetary policy.
-goal independence (low inflation, high
production levels etc)
-instrument independence (the ability to
independently set the instruments of
monetary policy to achive these goals)

Regulatory environment
Financial sector: one of the most heavily
regulated sectors in the economy
Regulation (specific rules): e.g prudential rules (maximum exposure)
Monitoring (evaluate if the rules are obeyed): e.g. Credit register
Bureau
Supervision (general oversight): new institutions
Rationale:
Financial crisis: failure of regulation systemic risk bank
contagion

Types of regulation
Systemic regulation
-deposit insurance and lender of last resort
function
Prudential regulation
-monitoring of financial institutions (asset
quality and capital adequacy)
Conduct of business regulation

Effects of monetary policy


Restrictive contractionary
monetary policy (inflation)
High minimum reserves, high
official discount rate
Quantity of money decreases
Rate of interest increase
Level of investment decreases
Demand decreases
Inflation decreases

Expansionary monetary
policy (unemployment and
recession)
Low minimum reserves and
low official rate of discount
Quantity of money increases
Rate of interest decreases
Investments increase
Demand increases
Real GDP increases

NBR monetary policy


Minimum reserves: NOW: 15% for ROL and 20% for FC
(20% for lei, 40% for foreign currency)
Ref. interest rate (6,25%)
Credit restriction for banking and non- banking institutions
(Norm 22/2006) increased
- Minimum capital requirements for institutions
- Total debt for population - min 40% net income
(including leasing)
Basel II will impose more restrictions

Basel II
Set up in 2003 by the Basel Committee on
Banking Supervision
minimum capital should be related to the
risks
Three types of risks: credit, operational and
market risk
Compulsory from 2008 (only 4 in 2007)
Costs of infrastructure and expertise: 0.5%

Advantages and disadvantages

High costs vs. Modernization


Security vs higher prices for the credits
Risks will be assesed by rating institutions
More restrictions on debtors
Concentration vs. Elimination of banks

LEASING
A MODERN FINANCING ALTERNATIVE

Lecture No. 8
TOB

CONTENTS
Leasing conceptual approaches

The leasing market in Romania

Leasing versus banking credit

Leasing defined
Method of payment for the use of an asset
Different from renting
A party undertakes to transfer for a
determined period of time to another party
the right to use an asset against a regular
payment
The right of option

Leasing conceptual approaches

Definition:

Parties:
lessor/the financer (locator/finantator/Leasing-Geber)
lessee/the user (locatar/utilizator/Leasing-Nehmer)
supplier (furnizor/Hersteller)
insurance company (companie de asigurari)

Mechanism of leasing
1.
2.
3.
4.

A leasing contract is signed between the Lessor and the Lessee


The Lessor pays the purchase price to the Supplier
The equipment is delivered to the Lessee
The Lessee pays lease rentals determined by contract to the Lessor.

Types of lease operations

short term leasing


medium term
long term
direct
indirect
lease-back (sale and lease-back)
buy-back
personnel leasing
experimental
time-sharing

international (external) leasing


internal leasing

LEASING terms

Economic life :
the period along which a certain good is estimated to be economically usable by one
or more users; or
the number of the production units or similar units that are estimated to be obtained
through using the good by one or more users.

leasing rate / royalty :

in case of financial leasing: the due quota of the entry value of the good and of the
leasing interest (the average rate of the bank interest on the Romanian market);

in case of operational leasing the quota for amortization calculated according to


the normative acts in force and a benefit established by the contracting parties
entry value (valoare de intrare)
-is the value at which the good was acquired by the financing party, the cost of acquisition
respectively.
residual value (valoare rezidual)
the value at which, at the expiry date of the leasing contract, the transfer of the right of
property over a good by the user is done.

total value (valoare total)


- the total value of the leasing rates to which the residual value is added.

Advantages of leasing
financial statements are not "loaded" with expenses
(just the monthly royalty)
- credibility
- future financing contracts
ease of scheduling the expenses
easy replacement of depreciated goods
no need for supplementary guarantee
rapidity of the approval of the operation process

Disadvantages
For the lessee

Equipment is not operational under the whole


period of the contract
The cost of the leasing
The ownership of the good

For the lessor


goods can be damaged after the first lease
royality delayed

Comparing leasing and credit


Leasing

Credit

Ensures the investments financing

Ensures the investments financing

No other collateral requested

Supplementary collateral

Financial statements do not include


liabilities to banks

Financial statements include liabilities


to banks

Duty fees are paid at the residual


value

Duty fees are paid at the entire value


of the good

Advance required

Advance payment

Leasing market in Romania - short


history

1994 the first Romanian leasing company


1996 ASLR (Association of leasing companies in Romania)
two conditions imposed by law
-object of the activity leasing
-registered and paid capital of EUR 500,000
331 companies, 213 sent documents to the BNR to be registered as
IFN (after new regulations Norm 28/2006)
100 active , 33 members of ASRL (48% of the market) 38 in 2005

News of Legal Framework

OUG 50/2010 ref. protectia consumatorului/ Gov.Ord. no.50/2010 regarding the CC agreements:
Aplicarea retroactiva / retroactive application:
Extra-costuri ale finantatorilor si ale clientilor / Extra-costs for credit institutions and
consumers
Nerespectarea Constitutiei/textului Directivei si a principiilor dreptului comercial/ No
respect for Constitution, EU Directive and commercial principles
Incurajarea abuzurilor si a unui comportament nesanatos de plata/ Encouraging abuse and
an unhealthy payment behavior
Confera puteri abuzive unei agentii guvernamentale in aria de decizie legala a BNR/ Gives
abusive power to a Governmental agency on Central Banks legal framework
Codul Fiscal/ Fiscal Code
Cresterea costurilor de finantare a achizitiei prin aplicarea TVA marit / Higher financing costs
due to an increased VAT

Scaderea capacitatii de plata prin cresterea TVA/ Lower payment capacity due to an
increased taxation

News of Legal Framework

Constitutional Court Decision no. 458/2009


regarding the consent for the forced execution
Increased

number of contracts waiting for consent of


forced execution (9000 files)
Higher provision costs
Increased operational costs for the lenders
Encouraging fraud and an unhealthy payment
behavior

Leasing versus bank credit

comparison between the acquisition of a good


through leasing and through bank credit

object: Dacia Logan Laureate


price: 6,785.73 Euro (without VAT)

institutions: BCR (Banca Comercial Romn) and


BCR Leasing

Comparison tables: leasing versus credit


Period of the leasing contract
months

48

Period of the credit contract


months

48

Currency

Euro

Currency

Euro

Price (no VAT)

6,785.73

Price (no VAT)

6,785.73

Advance (15-50% of the price


no VAT ) -20%

1,357.15

Advance- 25% of the total value


of the car

2,041

Financed value

5,428.58

Bank loan (75%* total value)

6,123

Interest rate

10.50 %

Interest rate

12%

Residual value

139.02

Residual value

Leasing installment (no VAT)

138.99

Credit installment

161

Management commission

135.71

Management commission

169.62

Value of the contract

8,164.41

Value of the contract

Total cost

9,479.49

Total cost

7 668

9,878.62

Thank you for


your attention!

Factoring
TOB
Lecture no 9

Definitions (I)
A factoring operation consists in the transfer of
commercial receivables of the owner to a factor,
which assumes the obligation to cash them in, even
in the case of temporary or permanent incapacity
of the debtor. The factor can pay in advance all, or
only a part of the total amount of the transferred
receivables.
-- Bank of France

Definitions (II)
Factoring is the operation through which a
company sells its Clients accounts to a
factor.
-- Bank of Britain

Factoring Contract: Purpose


Standardised by the International Institute
for the Unification of Private Law (1988,
Ottawa)
Purposes
Delegate all or part of the administrative work
on the clients account
Obtain a protection against the risk of nonpayment
Obtain, if needed, an advance payment of
receivables

Factoring Contract
Interested parties
Factor
Adherent (client)
Debtor (s)

Factor substitutes clients in their relation


with the debtor

Factoring Contract:
Mechanism
Sale of accounts
receivable

Provider of goods
or services
(Adherent)

Factoring contract

Cash payment
(% of credit sales)

Bank or
specialised
institution

FACTORING IN ROMANIA: BRD


INTERNAL FACTORING

Your
company

1
2

BRD

Your
clients

1. Choose the factoring solution


2. Deliver the commodities and the
accompanying invoices
3. Transfer your receivables the bank
(copies of the documents that
prove the delivery)
4. According to the agreement, BRD
finances you with the necessary
amounts
5. The client will pay the due amounts
on the basis of the invoices issued
by BRD at maturity
6. BRD keeps you informed on the
development of the operations
undertaken by your company

FACTORING
HOW IT WORKS

The factor fully manages your sales ledger and provides you
with credit control and collection services of all your
outstanding debts.

The invoices a company issues upon a sale are sent to the


factor who typically advances up to 80 to 90% of the invoice
amount to the company.

The balance, less charges, is paid when the customer makes


payment directly to the factor.

The service is disclosed to the customer who typically


receives a letter from the factor, or attached note to your
invoice, containing payment instructions to the factor.

Factoring Contract: Factor duties


accept the documents related to the object of the
contract
Collect information regarding the financial status of the
debtor
Determine the credit limit for each debtor and notify the
client
guarantee the receivables up to the established limits
pay the receivables immediately after receiving the
invoices
Cash in the receivables
keep the necessary evidences of the debtors
Send the client periodic evaluations of the debtors and
payments
Start lawsuit against bad debtors

Factoring Contract: Roles


Clients duties
send the factoring company the invoices issued
for his debtors and any other documents related
at the agreed dates in the contract
notify to the debtors of the factoring contract,
when applicable
pay the factors remuneration etc.
pay all the fiscal charges related to the execution
of the contract and the factoring commissions

Factoring Services: Functions


Four functions of factoring
Finance for the supplier
Maintenance of the receivables account
Collection of receivables
Protection against the payment default

Full Service factoring offers all functions


Other types of factoring usually offer all but
one

FACTORING
TYPES
Recourse factoring

Non- recourse factoring

Risk of bad debts remains


with you

Against customers who


fail to pay

Factoring Services: Types


Full Service (all functions)
With Recourse (no protection from default)
Invoice factoring (no maintenance)
Maturity factoring (no financing)
International

Export FACTORING

Exporter

Importer

1
5

4
6

Export
factor

Import factor

1. Exporter receives purchase order


2. Exporter sends importers
information for credit approval
3. Export factors checks the
importers credit worthiness
through FCI partner
4. Importer factor evaluates the
importer and approves a credit
limit
5. Exporter makes shipment to
importer
6. Exporter factor makes cash
advance up to 80% of factored
invoice
7. Collections are carried out by
the import factor
8. Import factor renits funds to
exporter factor
Export factor remits 20%
remaining balance to exporters
account less any charges

FACTORING
COSTS INVOLVED
Service charge determined mainly by the annual
turnover, no of customers and invoices
Interest charge typically comparable to normal
secured bank overdraft rates

Two parts
Financing: Financing commission (e.g. 20%)
Servicing - Factoring commission (e.g. 0.85%)

These and other all commissions included in the


so called agio

FACTORING
WHY?
Companies have a
better understanding
of the services and
benefits factoring can
provide
Constant innovation,
the guarantor of
varied services which
are regularly updated
to
suit
company
needs

The boom in the


outsourcing
of
accounts
receivable
management
A growth in factoring
at international level

Factoring: Benefits
Establish solid business foundation
Healthy credit history
Healthy payroll and tax payments
Retain customers and employees

Maximise profitability
Cheaper supply
Faster-paying customers
Pay-down debts
Retain equity and business control
Countinuos source of operating capital

Capture growth opportunities


Operations at full capacity, may fulfil larger orders
Extra capital for key activities like Marketing, R&D
Improve business planning

Factoring: Shortcomings
Cost is high
The higher the invoice value, the higher the fee
The longer the invoice period, the higher the rate

Customer relations issues


Factors collection methods may upset clientele

Company image distortions


Factoring may signal the market that the company is in a
bad financial situation

Factors restrict freedom of business methods choice


-pre-approval of adherents customers

Factoring vs. forfeiting


Short term financing
Short-term receivables
(up to 180 days)

Medium and long-term


financing
Medium and long-term
receivables (180 days-1years)

Large percentage of
business

One-time basis

Consumer-goods

Capital goods, commodities


and large projects

Case Study: Key Players


Key players
Acerline computer hardware manufacturer
KTech main client of Acerline
Romanian Commercial Bank factor

KTech has contracted $1 million worth of supplies


from Acerline per month
payment due in 30 days from invoice
0.5% of amount due/day penalty for delays
Acerline, BCR sign a full recourse factoring contract

Case Study: Contract


Factoring contract concluded
for 1 year
only for one debtor, KTech

Acerline
sells invoices to BCR
must notify KTech of factoring operation

BCR has the right of full recourse

Case Study: Financial Details


Financing commission: 20% interest for
financing period
Factoring commission: 0.5% of invoice value
Client financing: 80% of invoice value
Estimated invoiced amount for one year:
ROL420 billion
Factor established exposure limit: ROL25
billion

Case Study:
Two invoices
ROL 300,924,956, due on 05 Nov, 2004
ROL 652,484,021, due on 12 Nov, 2004
Totalling ROL 953,408,977

BCR pays 80% x ROL 953,408,977 = ROL


762,727,182 on 26 Oct, 2004
Factoring commission is 0.5% x ROL 953,408,977 =
ROL 4,767,045
Financing commission: ROL 6,267,324, computed
for the two financing periods with 20% interest.
Agio: ROL 11,034,369, 1.44% of the financing sum.

Case Study: Real Figures


INVOICE 1:
Value (V1): ROL 300,924,956
Due date: 05 Nov, 2004
Remaining duration (D1): 10 days

INVOICE 2:
Value (V2): ROL 652,484,021
Due date: 12 Nov, 2004
Remaining duration (D2): 17 days

Total value (V1+V2): ROL 953,408,977


Initial cash payment on 26 Oct, 2004: 80% x ROL 953,408,977 = ROL 762,727,182
Factoring commission: 0.5% x ROL 953,408,977 = ROL 4,767,045
Financing commission: 20% x 80% x[D1/360 x V1 + D2/360 x V2] = ROL 6,267,324
Agio: ROL 11,034,369, 1.44% of the financing sum

Case Study
Documents
Adherent
Information about
adherent
Adherents field of
activity
Information about
adherents clients

Invoices accepted by factor

Factoring in Romania: Legal


framework
Legal framework: OUG no.10/1997
Art.2, paragraph (2).b states:

factoring este un contract


ncheiat ntre o parte, denumit aderent, furnizoare de
mrfuri sau prestatoare de servicii, i
o societate bancar sau o instituie financiar specializat,
denumit factor,
prin care aceasta din urm asigur finanarea, urmrirea
creanelor i protecia riscurilor de credit,
iar aderentul cedeaz factorului, cu titlu de vnzare sau
de gaj, creanele nscute din vanzarea de bunuri sau
prestarea de servicii pentru teri.

Factoring in Romania: Brief


History
Factoring entered Romania in 1994, when
BRD joined Factors Chain Intl. as an
associate-member
Romanian FCI members:
2009: BCR, BRD, BancPost, Unicredit Tiriac
Group, Compania de factoring IFN SA, ING
Commercial Finance IFN SA
Romanian market in 2006: BRD (27%), BCR
(23%), Raiffeisen (19%), UniCredit (19%) si ABN
Amro (12%).

Factoring in Romania: FCI


Statistics
FCI recognises 14 factors in Romania (2011)
Factoring turnover (2004, 2007)
domestic: 220 million, 1000 million
international: 200 million, 300 mil

Average growth index over the last four


years: cca 200% (2004-2007)
2011: 1400 mil euro

Factoring in Romania:
Factors
BCR (Romanian
Commercial Bank)
BRD Groupe Socit
Gnrale
Unicredit
Banc Post
Alpha Bank
Eximbank
Raiffeisen Bank

Abn-Amro Romania
Daewoo Bank
Libra Bank
Volksbank Romania
HVB Bank
Egnatia Bank
Emporiki Bank

Factoring in Romania (mil euro)

FACTORING
FACTORING MARKET
Almost a thousand
companies currently
offer factoring services
(1768), of which 624
are in Europe (Sources:
Factor Chain
International)

FACTORING (2007)
FACTORING IN EUROPE (mil Eur)
United Kingdom
Italy
France
Germany
Spain
Netherlands
Ireland
Sweden
Turkey
Belgium
Norway
Portugal
Russia
Finland
Denmark
Poland
Greece

286 496
122 800
121 660
89 000
83 699
31 820
22 919
21 700
19 625
19 200
17 000
16 888
13 100
12 650
8 474
7 900
7 420

Austria
Czech Republic
Hungary
Cyprus
Lithuania
Slovakia
Estonia
Romania
Latvia
Ukraine
Slovenia
Bulgaria
Serbia
Malta
Iceland
Switzerland

5 219
4 780
3 100
2 985
2 960
1 380
1 300
1 300
1 160
890
455
300
226
25
5
0

FACTORING
FACTORING THROUGHOUT
THE WORLD (IN MIL EURO)
EUROPE: 929,756 (624)
AMERICAS: 150,210 (961)
ASIA : 174,667 (139)

AFRICA: 10,705 (17)


OCEANIA: 33,780 (27)
TOTAL: 1,299,127 (1768)

http://www.factors-chain.com/?p=video&lang=en&type=export
http://www.factors-chain.com/?p=video&lang=en&type=import

Payment instruments
TOB lecture no 10

LEARNING OBJECTIVES
Define payments instruments and discounting
operations
Analyze the main types of payment instrument.
Compare and contrast the payment instruments
Calculate the interest, nominal value, discount,
actual value of the commercial papers.

Payment system

The payment system = series of arrangements


regarding the discounting of the obligations assumed by the
economic agents every time they acquire real or financial
resources.

The economic agents give instructions to


intermediaries, usually banks, to transfer funds from one
account holder payer- to another holder beneficiary,
(there is usually a time difference between the issuance of
the instruction and the completion of the transfer).

If the payer and beneficiary have the account in the same


or different banks- Interbank and intra-bank transfers

Types of payment instruments


Payment instruments for operation in ROL are also
classified in:

Debit payment instruments (cheque, promissory


note, draft ), which represent instruments that circulate
from the beneficiarys bank to the payers bank, having as
effect the debiting of the payers account and crediting the
beneficiarys account.

Payments instruments of credit (the simple payment


order, the treasury payment order), which represent
instruments that circulate from the payers bank to the
beneficiarys bank and having as effect the debiting of the
payers account and the crediting of the beneficiarys
account.

1. The cheque

is a payment instrument
connects during the process of its creation 3
persons: the drawer, the drawee (bank) and
the beneficiary.
is created by the drawer, whom, based on an
available amount deposited previously at a bank,
gives an unconditioned order to the latter, which
is in the position of the drawee, to pay at the
presentation moment a fixed amount to a third
person, being in the position of beneficiary.

Elements of the cheque:


Elements of the cheque:
the name cheque written
in the text of the title;
the unconditioned order to
pay a certain amount of
money;
the name of the one that
has to pay (drawee);
the place where the
payment has to be made;
the date and place of
issuance;
the signature of the issuer
(drawer)

The cheque circuit

2. The draft
- negotiable credit titles and paying
instruments which prove the obligation took on
by the debtor to pay at sight or at a fixed
maturity, to the beneficiary or at his order, a
certain amount of money.
- credit title, under private signature, which
connects in the process of its creation 3
persons: the drawer, the drawee and the
beneficiary.
- is created by the drawer as a creditor which
gives an order to its debtor, called drawee, to
pay a fixed sum of money at a certain date in
time, either the beneficiary or at his order.

The elements of a draft

The name draft written in


the title
The unconditioned order to
pay a fixed sum of money
The name of the one which
has to make the payment
The maturity
The place where payment has
to be done
The name of the person to
whom or at whos order the
payment has to be done
The date and the place of
issuance
Signature of the issuer of the
draft

Circulation of a Bill of Exchange

On May 30th 2003, Co. Omega delivered to Co. Car some equipment with the
value of 14 millions lei. The due date is 1st of July 2003.

Co. Omega must pay the last reimbursement of a credit with the value of 14
millions; the due date is on the 1st of July 2003, too.

Co Omega issues a bill of exchange that must be paid by Co. Car to Bank X.
Starting with the moment the bill of exchange was filled in, Co. Omega is the
drawer, Co Car is the drawee, and the beneficiary of the bill of exchange is Bank
X.
Co. Omega delivers the bill of exchange to Bank X.
On the 1St of July 2003, Bank X cashes the amount written in the bill of exchange
from Co. Car.
In this way the credit granted by Bank X to Co. Omega is reimbursed and the debt
of Co. Car is paid also.

3. Promissory note

is a credit title, under private signature,


which connects in the process of its
creation 2 persons: the issuer and the
beneficiary.

The title is created by the issuer as a


debtor (promisor) which obliges himself to
pay a fixed sum of money, at a certain
time from or at presentation to another
person, called beneficiary (promisee)
which is the creditor.

Compulsory mentions for the


promissory note

The on demand clause or


the promissory note
formula must be inserted
in the notes text
The pure undertaking to
pay a certain sum
Due date
Place of payment
Date and place where the
note was created
Signature of the issuer.

Circulation of a Promissory Note


.
1. A contract is signed

Co. A
-Issuer-

2. The promissory note is issued.

3. The promissory note is presented.


4. At the due date the sum is paid.
The debt is liquidated.

Co. B
-Beneficiary-

4. Payment order
is a credit instrument which circulates from the bank of the
payer to the bank of the beneficiary.

Its effects :- debiting of the account of the paying client;


crediting of the account of the beneficiary client.

an unconditioned order given by the issuer to a bank to


put at the disposal of a beneficiary a sum of money, the
respective order is considered a payment order, only if the
bank has the funds represented by the specified amount,

The compulsory mentions on a


payment order

the unconditioned order to


pay a certain amount;
name of the beneficiary and,
if necessary, the number of
its account opened at the
addressee bank;
name of the payer, the
number of its account opened
at the initiating bank;
name of the initiating bank;
name of the receiving bank;
elements that allow the
authentification of the issuer
by the initiating bank;
issuing date of the payment
order.

The payment order circuit

The transmission of the payment


instruments

Endorsement
Ordinary cession: if not an order
Simple remission: at bearer
Endorsement = act through which
the owner of the payment instrument,
called endorser, transfers to another
person, called endorsee, all the rights
arising from the payment instruments
through a written and subscribed
statement on the instrument in the
moment of its handing over.
-in blank
in full: the sinature of the endorser,
the one of the endorsee, the date of
endorsement

Guarantee
Avalizarea
A personal guarantee through which a
person, called Guarantor (avalist),
guarantees the obligation assumed by one
of the persons obliged through the
payment instrument, called Guarantee
(avalizat), for the amount mentioned on
the draft/cheque/PN or for a part of it.
Important:
- Aval = guarantee in case of nonpayment
- Endorsement = transmission of the
payment right.

Payment
period
Maturiy = the date when the payment instrument has to be paid
The
At
At
At
At

draft and the promissory note are paid:


sight
a certain time from sight
a certain time from the issuance date
a fixed date

The cheque is payable only at sight (at presentation).


The terms for presenting the cheque are:
In 8 days if it is payable in the city where it was issued
In 15 days in the other cases

! In the case of the draft and the promissory note, the drawer
can stipulate that the amount shall produce interest only
for the draft or the promissory note payable at sight or in a
certain time from sight.

Discounting
The discounting of the title at the
bank represents the process through
which the owner of the draft or of the
promissory note can obtain through
endorsement money, previous to the
maturity.

For the commercial papers that are


accepted at discounting moment, the
amount written on titles less the discount
tax are received by the beneficiary

Discounting

Establishing the discount. The discount is equal to the interest computed on the
basis of the nominal value for the period of time between negotiation of commercial
titles and their maturity.

A * d * ts
S
360 * 100

a A S; a A

A * d * ts
d * ts

; a A * 1

360 *100
360 *100

A the final value of the commercial title


d the period of time in days from negotiation to maturity
ts the discount rate in annual percentage
S the discount
a actual value of the title after deducting the discount from the nominal value of
the title

Discounting
A
I= 1 oct

a=A-S
D=10 oct

A
M=20 oct

A = A + S1+ S2+S3++Sn-1+ Sn

A
E=30 oct

Discounting
S1

A * d * ts
d * ts
A*

36000
36000

S * d * ts
d * ts
d * ts d * ts
S2 1
A*
, orS2 A *

*
36000
36000
36000 36000

S * d * ts
d * ts d * ts d * ts
d * ts
, orS3 A *
*
*
A*
S3 2

36000
36000 36000 36000
36000
S * d * ts
d * ts
Sn n1
A*

36000
36000

If we note

d * ts
36000

, it means that

Sn A * K n

The initial formula becomes:


A = A + A*K + A*K2 + A*K3 + .. + A*Kn
A = A(1 + K + K2 + K3 + .. + Kn).

Discounting

(1 + X + X2 + X3 + .. + Xn) =

A
A'
d * ts
1
36000

1
1 X

Exemple
We

consider a bill of exchange with


nominal value of 400,000 dollars. Its
maturity is extended with 96 days,
its discount rate is 7,5% .

Solution
.

96 7,5

400000

400000 0,02 8000$


S1
36000

8000 96 7,5
160$
36000

160 96 7,5
3,2$
36000

A 400000 8000 160 3,2 0,064 408163,264


1

A
d ts
1
36000

400000
408163,264$
1 0,2

references
Dima,

M.A.et al. (2012). Banking for


business administration, Ed ASE

Methods of Payment
in International Transactions

Lecture no 11
TOB

Methods of Payment:

Advance Payment
Open Account
Documentary collections/ Bill of collection
Documentary letter of credit

... Commercial Solutions


PrePayment
Confirmed
Letter of Credit

Unconfirmed Letter of Credit

Documentary
Collection
Payment after receipt of goods

Advance Payment

Definition:
The importer pays the goods to the exporter
before the latter delivers them.

Feature: partial payment in advance.

Parties involved : exporter & importer.

Risk of exporter: specialized goods.

Advance Payment

Risks of importer:

3.

incorrect documents
non-delivery of goods
delay in delivery

Advantages of importer:

1.
2.

1.
2.
3.

controls time settlement and funds.


inspects goods before payment.
few arrangements due.

Open Account

Definition:
The seller will dispatch the goods to the buyer with
an invoice requesting payment.

The simplest, the riskiest method of payment.

Parties involved : Exporter & Importer.

Open Account
Exporter
Advantages

less constraints on documentation


no charges for the exporter

Disadvantages

no guarantee of payment or control for goods lost


exposure to country risks

Open Account
Importer
Advantages

controls settlement timing


can inspect the goods in advance

Disadvantages

little control over shipment details


no control over the quality of goods

Documentary collections

Definition:
Documentary collections are commercial documents
that may or may not be accompanied by financial
documents.

Parties involved:

principal (the exporter)


remitting bank (the exporters bank)
collecting bank (the importers bank)
presenting bank

drawer (importer)

Commercial Interests ...


Importer:
Receipt of goods on time in the agreed
quality and quantity

Exporter:
Payment on time in the agreed currency

Documentary collections

Two types of documents involved:

- Financial documents (e.g. bill of exchange)


- Commercial documents (e.g. bill of lading,
insurance document)

The mechanism of
documentary collections
Importer

Order, contract or similar.

Exporter

Shipment of goods
Payment/
Delivery of
documents
Payment

Collection presentation

Collection
instructions
(presentation of
documents)

Collection order
Payment
Presenting Bank

Remitting Bank

Documentary collections
Exporter

Advantages

control over goods and documents


cheaper method of payment than the documentary
credit

Disadvantages

relies on the importers willingness to pay


control of goods is lost once the bill of exchange was
accepted

Documentary collections
Importer
Advantages

the exporter is normally responsible for the charges


finance may be raised using goods as security

Disadvantages

Payment or acceptance is required on presentation at


the collecting bank upon arrival of the commercial
documents and before the goods arrival
no guarantee that the goods will be received on time
or as ordered

Documentary Letter of Credit

Definition:
A payment undertaking given by a bank (Issuing
bank) on behalf of a buyer (applicant/importer) to
pay a seller (beneficiary/exporter) a given amount of
money, on presentation of specified documents
representing the supply of goods within specified
time limits, these documents conforming to the terms
and conditions set out in the letter of credit the
documents to be presented at a specified place.

Commercial Interests
Importer:
Ensuring receipt of goods/completion of
services in due time and in agreed quality
and quantity

Exporter:

Ensuring payment in due time and in the


agreed currency

Documentary Letter of Credit

Parties involved:

Applicant (importer)
Issuing bank (importers bank)
Advising bank
Beneficiary (exporter)

Functions
The credit has a
Security function:
The issuing bank and the confirming bank,
if any, secure the payment to the
beneficiary against a complying
presentation (presentation of credit conform
documents).
Payment function:
A complying presentation initiates the
payment obligation of the issuing bank and
the confirming bank, if any.
Credit function/Financing function:
The credit is a kind of loan for the applicant
and can serve as a financing instrument for
the beneficiary.

Documentary Letter of Credit

Basic steps for payment by


documentary credit

Issuing
Amending
Utilizing

Documentary Letter of Credit

Issuing

Documentary Letter of Credit

Amending

Documentary Letter of Credit

Utilizing

Documentary Letter of Credit

Typical documents required

Transport documents

Commercial invoice

Consular invoice

Certificate of origin

Bill of exchange

Other

Documentary Letter of Credit

Types of letters of credit


Standard/Special
Revocable/Irrevocable (confirmed/unconfirmed)
Special purpose
Revolving
Red clause
Standby
Transferable
Back to back

Types of Credit
Unconfirmed
Credit

Confirmed
Credit

The issuing bank incurs an irrevocable payment undertaking,


whereas the advising bank incurs no obligation of their own.
UCP 600 Article 9a

The confirming bank incurs an own irrevocable payment


undertaking in addition to the payment undertaking of the
issuing bank by order or by authority of the issuing bank.
UCP 600 Article 2 and 8a

Silent
Confirmed
Credit

At request of the beneficiary and without instruction/knowledge


of the issuing bank the silent confirming bank incurs an own
irrevocable payment undertaking.

Types of Credits
Transferable
Credit

With a transferable credit, the beneficiary (first beneficiary) has


the option of instructing the transferring bank to make the credit
available in whole or in part to one or more other beneficiaries
(second beneficiaries).
UCP 600 Article 38

Back-to-BackCredit

The exporter instructs his bank to open a back-to-back credit


(credit for purchase of goods) in favor of an intermediary
subcontractor. The bank uses the already existing credit issued
in favor of the exporter as security (credit for sale of goods).

Revolving
Credit

A revolving credit is a credit which is automatically replenished


once it has been drawn by the beneficiary, either up to the
maximum amount of the credit or a particular number of
drawings on the credit, specified under the credit terms. Unlike
a non-cumulative revolving credit, any amount not used is
added to the next drawing with a cumulative revolving credit.

Types of Credits
Green ClauseCredit
(Packing Credit)

Red ClauseCredit
(Packing Credit)

Permits an advance payment to the beneficiary prior to shipment


of goods. Using a green clause credit (in contrast to a red clause
credit), an advance payment is made on an unsecured basis, i.e.
simply against an undertaking of the beneficiary to effect shipment
of the goods specified in the credit.
The term green clause derives from its earlier incorporation in
the credit text in green letters.

Permits an advance payment to the beneficiary prior to shipment


of goods. Using a red clause credit (in contrast to a green clause
credit), an advance payment is made on a secured basis, i.e.
against an undertaking of the beneficiary to effect shipment of the
goods specified in the credit and against warehouse storage of
goods in the value of the pre-financed amount at the same time.
The description red clause derives from its earlier incorporation
in the credit text in red letters.

Types of Credits

Distressed Letter
of Credit

Standby Letter
of Credit (SBLC)

A distressed credit can be used by the beneficiary only with the


assistance of the buyer (applicant). Such a credit requires as a rule
a document issued or countersigned by the applicant or a third party
entrusted by the applicant (Example: acceptance certificate, signed
by applicant).

An SBLC is a bank instrument similar to a guarantee, which


resembles a documentary credit in method and appearance, but
which compensates for the financial disadvantages arising due to
non performance of particular contractual undertakings between
third parties.
UCP 600 Article 1

Documentary Letter of Credit

International Trade Risks

Commercial risk factors


Country risks

Documentary Letter of Credit


Exporter

Advantages

dependent on a bank, not on a document


documents (and goods) are not released until
payment is made

Disadvantages

very high attention to detail in documents writing

payment may delay

Documentary Letter of Credit


Importer

Advantages

can negotiate better terms


can control timing and destination

Disadvantages

no protection against poor quality


documentary credits can be expensive
takes on the liability of the credit and remains liable

Documentary Letter of Credit

Fraud

Confirmation from an inexistent bank

Fake goods delivered

Goods with flaws and defects

Fake shipping documents

Summary
The documentary credit is a useful
instrument for the handling, securing
and financing of the international
trade. If it is applied in the right way
it can secure both the importer and
the exporter against certain risks.
Two fundamental principles of
the documentary letter of credit:
Independence of the
documentary credit from the
underlying contract
Strict compliance

Thank You!

Banking Techniques and


Operations for Business
Administration
Lecture 1 - Introduction
Associate prof.
Alina Mihaela Dima

References
Dima.M. A, coordonator (2012). Banking for Business
Adminsitration, Ed ASE (ASE bookshop)
Dima, M.A., (2010), Credit Analysis. Case studies, Ed. Business
Excellence (available at 4210)

Casu, B., Giraradone, C., Molyneux (2006). Introduction to Banking, Prentice Hall

Mishkin, F. (2007). The Economics of Money, Banking and Financial Markets,


Prentice Hall (Ch 2 and ch 8)

Textbook: ASE Publishing House, available in ASE Shop Bastilei

Workbook (applications): Grivita, 4210

Topics discussed at the course


Introduction
Financial intermediaries
Credit. Interest rate
Credit analysis
The structure and evolution of the Romanian banking
system.
Central banking. Risk management in banking
activity
EU central banking.The European Monetary Union
Factoring
Leasing
Payment instruments
Methods of payment
Financial crisis-debate
Guest speaker
Revision

Course assignments
60% final exam (multiple choice questions,
short open questions)
30% seminar (test, project, cases, active
participation)
10% office
100% total
Max 10 points extra (lecture)

WHAT IS EURIBOR?

Euribor is short for Euro Interbank Offered rate. The Euribor rates are based on the
interest rates at which a panel of 57 European banks (banks with the highest volume of
business in the euro zone money market, with a first class standing, high ethical standards and
an excellent reputation) borrow funds from one another. Euribor is determined and published at
11:00 a.m. each day, Central European Time.
When Euribor is being mentioned it is often referred to as THE Euribor, like theres
only 1 Euribor interest rate. This is not correct, since there are in fact 15 different Euribor
interest rates, all with different maturities, from 1 week to 12 months. Euribor was first
published on 30 December 1998 (value 4 January 1999). 1 January 1999 was the day that the
Euro as a currency was introduced. In the years before, a lot of domestic reference rates like
PIBOR (France) and Fibor (Germany existed).
Since the Euribor rates are based upon agreements between many European banks, the
level of the rates is determined by the supply and demand in the first place. However, there are
some external factors, like economic growth and inflation which do influence the level of the
rates as well. The Euribor rates are important because these rates provide the basis for the price
or interest rate of all kinds of financial products, like interest rate swaps, interest rate futures,
savings accounts.
Euribor and LIBOR are comparable base rate. Euribor is the average interbank interest
rate at which European banks are prepared to lend to one another. LIBOR is the average
interbank interest rate at which a selection of banks on the London money market are prepared
to lend one another. Just like Euribor, LIBOR comes in 15 different maturities. The main
difference is that LIBOR rates come in 10 different currencies.
Eonia is short for Euro OverNight Index Average. The Eonia rate is the 1-day interbank
interest rate for the Euro zone. In other words, it is the rate at which banks provide loans to
each other with a duration of 1 day. Therefore Eonia can be considered the 1 day Euribor rate.
Case questions:
1. Which is the average interbank interest rate in Romania?
2. What is the influence of Euribor on the cost of credit in Romania?

The Romanian Banking System


Banks General concepts
TOB
Lecturing notes no 6

Learning objectives

Identify banks as financial intermediaries


Identify the assets vs. liabilities in the balance sheet
Banking classification
History of Romanian banking system
Structure of financial system in Romania
Structural indicators for Romanian banking system
Credit multiplier
Credit evolution in Romania and features
Case study
Sample questions
Revision for mid-term evaluation

Classification of financial intermediaries


Discretionary flow
of funds

Financial intermediaries

Deposit taking institutions

banks

Building societies
Monetary
financial
institutions

Contractual flow of funds

Non-deposit taking institutions

Insurance companies
Pensions funds
Investment funds
Unit trust
Leasing companies

Financial
corporations other
than MFI

What do bank do?


A simplifies bank balance sheet

liabilities
Customer deposits
Borrowings
Equity

Total

assets
Cash
Liquid assets
Loans
Other investments
Fixed assets
Total

Banking classification
I. Retail or personal banking
- commercial banks
- savings banks
- co-operatives
- building societies
- Credit unions
- Finance houses
II. Private banking
III. Corporate banking
IV. Investment banking
V. Universal vs. specialized banking

The Romanian Banking System


- History

1864-1965: first modern commercial bank-The Bank of Romania


1866-1880: other 3 credit institutions
17 April 1880: the National Bank of Romania - as a commercial
and issuing bank/private
increasing no. of banks from 3 in 1880 to 215 in 1914
highly concentration: 9 big banks-70% of the resources
1931-1932: collapse of some large banks
8 May 1934: Law of organization and regulation of the banking
commerce
liquidation and mergers-diminishing the number of banks from 839
in 1933 to 523 in 1937 and 246 in 1944

The Romanian Banking System


- History (cont.)
-

During Communist regime:


-

1934: banking law was abrogated, all the Romanian and foreign-controlled
banks were liquidated, except for the National Bank of Romania, the
National Company of Industrial Credit and the Savings Bank

the Romanian banking system become a mono-banking system


corresponding to a centralized economy

NBR-agent of the state acting as a central bank and a commercial bank

3 specialized banks for credits: B. pt Agricultura si Industrie Alimentara, B.


Romana pentru Comert Exterior and B. de Investitii and 2 foreign banks:
Manufacturer Hanover Trust and Societe Generale

the single institution to receive credits for population: Savings Bank

no financial market, no competition, no convertible legal tender and formal


interest rate

The Romanian Banking System


- History (cont.)
-

After Communist regime:


-

the new banking system started on 1 December, 1990


two levels: NBR as a central bank and the commercial banks
the Law on banking activities (33/1991) and the Law concerning the
Statute of the NBR (34/1991) according to the market economy
principles
the former commercial banks changed and new commercial banks
were established
New laws were introduced in 1998: 58/1998 and 101/1998
until 31 December 2000: 33 banks Romanian legal entities and 8
branches of the foreign banks
new regulations of the banking system: Law 375/2002 and Law
101/1998 was modified
Present:
Law 227/2007 (EO 99/2006) related to credit
institutions and their capital
Law 312/2004 as Statute of BNR

Structure of banking system


Commercial banks 42 (01.2011)
Foreign branches 10
Credit institutions 30
-Bank specialised in export-import operations 1
(Banca de Export Import a Romaniei EXIMBANK S.A)
-Bank specialised in SME operations 1
(ProCredit Bank S.A)
Building societies 2
Raiffeisen Banca pentru Locuinte SA
BCR BANCA PENTRU LOCUINTE S.A.

Credit cooperatives 1 network


Banca Centrala Cooperatista CREDITCOOP

The structure of financial


system

Types of institutions

Credit institutions
Non- banking institutions

Assets
(%)
83,70

Investment funds

0,32

Financial investment companies

3,30

Leasing companies

6,79

Insurance companies

4,12

Other NFI

1,75

Structural Indicators of the


Romanian Banking System

Credit Institutions Market Share by


Country of Origin

38.8% Austrian capital


15.5% Greek capital
14.5% French capital
9% Dutch capital

The weight of credit institutions share capital in total foreign capital and their market share by
country of origin

Structure

of the
Rom.
Banking
System

Reserve requirements and credit multiplier

Process of money creation


Deposit

Minimum reserves

Credit

500

500

35%

325

325

35%

211

211

35%

137

137

35%

89

89

35%

58

58

35%

38

38

35%

25

25

35%

16

16

35%

10

10

35%

35%

Multiplier effect
Total amount of deposits created: 500
+325+211+.+10+7= 1416
Multiplier effect: total of new deposits created/
amount of original advance
= 1416/500 = 2.8

The level of minimum reserve requirements:


a. 100/35 = 2.8 times
b. 100/20 = 5 times ..2500 (volum of credits)
c. 100/10 = 10 times ..5000 (volum of credits)

Credit multiplier is influenced by the level of


minimum reserves!!

How to measure financial


intermediation??

Financial intermediation is the level on


non-govermental credit /GDP

Level of financial
intermediation in CEE

Financial intermediation
compared
120

114.4

100
80
52.2

60
40

21.1
20
0
UE 15

NSM
financial intermediation 2005

Romnia

The Romanian Legal Framework


Related to Credit (contd.)
Law 58/1998, art. 3:
the credit represents any payment engagement of
an amount of money in exchange of the right to
repay the amount paid and to pay interest or any
expenses related to this amount or any
prolongation of a debts maturity as well as any
engagement of acquiring a title that includes a
debt or any other right to pay an amount of
money

The Romanian Legal Framework


Related to Credit
- Compliance with EU Standards
2004 NBR Act (Law no.312 of 28 June 2004)
price stability is stated as the overriding objective
direct financing of public institutions by the central bank is completely
prohibited
privileged access of public institutions to the resources of financial
institutions is prohibited
Banking Law (58/1998) + subsequent Law 485/2003
institutes the principle of authorization of credit institutions by the competent
authority in the Home Member State
institutes the NBR competences in the field of supervision on a consolidated
basis
removes barriers to the right of establishment and the freedom to provide
banking services

The Romanian Legal Framework


Related to Credit (contd.)
The banks must obey some prudential requirements
imposed by NBR, including:

Minimum level of solvency


Max exposure on a single debtor
Max aggregate exposure
Min level of liquidity
Classification of the granted credits & interests not cashed-in
related
Currency position
Management of the banks resources and securities
Extension of subsidies network and other secondary bank centers

According to the observance


of the reimbursement terms

-current loans- there are not at maturity or the


installments were paid in due time according to
the stipulations of the contract;
-loans with deferred payments-the due
installments and the related interests were not
paid within 30 days after maturity;
-due loans-the payments of the credit
installments and the related interests exceeded
more than 30 days;

Credit classification
according to the risk

Following the valuation of the customers financial performances, the


credits will be included in of the following classes:
Class A - borrowers with profitable activities and solid financial
activities, with no problems in returning the loan
Class B - borrowers with good financial standing at present, but who
cannot maintain it in the next period
Class C - borrowers with satisfactory economic position but with a
tendency of worsening their economic efficiency and financial ratios
Class D - the economic and financial standing is characterized by
inferior ratios and varying activities between satisfactory and
unsatisfactory
Class E - borrowers with unprofitable activity, involving uncertainty
in repaying the loan

Monitoring Institutions

National Bank of Romania

Bank Deposit Guarantee Fund

Set up in 1996

TransFond payment and settlement system


The Payments Incidents Bureau

Established in 1880
Independent public institution
Only institution authorized to issue money

Set in 1997
Info centre for payment instruments bank & social

The Credit Information Bureau

Set in 2000

Guarantee Fund for Deposits

Set up in 1996 for natural persons, in 2004 for


legal persons
Maxim amount guaranteed increased: 6000
Euro (1 Jan 2005), 15 000 Euro (1 Jan 1006),
20 000 Euro (1 Jan 2007), 50 000 euro for
natural persons (15 Oct 2008) 100 000 euro
It is financed by regular contributions of
operating banks in Romania
It guarantees the reimbursement within the
requested limit, regardless the number,
currency and size of deposits

Central Credit Register


(CCR- centrala riscurilor bancare)

The Central Credit Register (CCR) is a system specialising in the collection, storage and
centralisation of information on the exposure of all reporting entities (credit institutions or mortgage
loan companies) in Romania to the debtors that were granted loans and/or incurred commitments
whose cumulated value is higher than the reporting threshold (RON 20,000), as well as
information on card frauds perpetrated by cardholders.

The CCR database comprises four files:

Central Credit File (CCF), which is updated monthly and contains credit risk information reported
by credit institutions;

Overdue Debt File (ODF), which is updated monthly with credit risk information from the CCF on
the cases of failure to observe the repayment schedules over the past seven years at most;

Debtor Group File (DGF), which is updated monthly with credit risk information from the CCF
about the groups of individuals and/or legal entities representing a single debtor;

Card Fraud File (CFF), which is updated on a real time basis and contains information on card
frauds committed by cardholders, as reported by credit institutions.

Credit Information Bureau

Set up in 2004 by a number of banks as a private


institution of public interest
Keeps a database of bad debtors available on request to
asses the credit risk
Provides a credit history and financial behaviour of
natural persons for the moment

At 1 Feb 2010, 33 banks (aprox 99,94% retail


banking market), and 15 non-banking institutions

Payment Incident Register (PIR)


Intermediation centre within NBR: Payment incidents with
checks, promissory notes and bills of exchange and the
risky persons
The database of the PIR is organised in two files:
-Payment Incidents National File (PINF) with three
components: Cheque National File (CNF), Bill of Exchange
National File, Promissory Notes National File (PNNF)
-Risky Persons National File (RPNF), automatically fed from
PINF.
Based on regular reports to prevent the occurrence of
further payment incidents and sanctioning the account
holders who generate them
Information is used by banks, NBR, courts, supervision
institutions, natural or legal persons on request

The Crediting Activity in


Romania

Progressive changes made in the Romanian banking systems structure

Increasing variety of banking products and services offered

Credit risk was significantly higher as financial intermediation increased

Non government loans recorded new considerable rises, particularly on


the back of credit to households

Foreign exchange credit, accounting for more than half of total nongovernment loans, displayed a significant development

The loan portfolio quality of the Romanian banks remains adequate, at a


level comparable to that of other European countries

Sample questions

1) Regulation of the financial system

A) occurs only in the United States.


B) protects the jobs of employees of financial institutions.
C) protects the wealth of owners of financial institutions.
D) ensures the stability of the financial system.

2) One purpose of regulation of financial markets is to

A) limit the profits of financial institutions.


B) increase competition among financial institutions.
C) promote the provision of information to shareholders, depositors and the public.
D) guarantee that the maximum rates of interest are paid on deposits.

3) Property that is pledged to the lender in the event that a borrower cannot make his or her debt
payment is called

A) collateral.
B) points.
C) interest.
D) good faith money.

Sample questions
4)

Real interest rate:


a. is the nominal interest rate;
b. is the current rate on the market;
c. is the difference between the discount rate and the level of devaluation of the capital due to the
inflation;
d. depends directly on the nominal interest value and indirectly on the monetary depreciation.

5)

The basic components of the credit analysis are (the five Cs):
a. capital, credit risk, capacity, collateral, character;
b. capacity, credit installments, conditions, characteristics of the credit, cash;
c. collateral, credit history, conditions, capacity;
d. character, capacity, capital, collateral, conditions.

6)

Collateralized debt is also know as


a.
b.
c.
d.

7)

unsecured debt.
secured debt.
unrestricted debt.
promissory debt.

Credit card debt is


a. secured debt.
b. unsecured debt.
c. restricted debt.
d. unrestricted debt.

Revision

Chapter 1, 2,3,7,8,9 of the book for mid-term


evaluation (and PPTs)

Banking Techniques and


Operations for Business
Administration
Lecture 2- Financial
Intermediaries

Financial system

The importance of credit/bank loan and


financial intermediarries

Eight Basic Facts


1. Stocks are not the most important sources of
external financing for businesses
2. Issuing marketable debt and equity
securities is not the primary way in which
businesses finance their operations
3. Indirect finance is many times more important
than direct finance
4. Financial intermediaries are the most
important source of external funds

Eight Basic Facts (contd)


5. The financial system is among the most
heavily regulated sectors of the economy
6. Only large, well-established corporations
have easy access to securities markets to
finance their activities
7. Collateral is a prevalent feature of debt
contracts (secured and unsecured debt)
8. Debt contracts are extremely complicated legal
documents that place substantial restrictive
covenants on borrowers

How to explain?
Asymmetric Information
Agency theory analyses how asymmetric information
problems affect economic behavior
Adverse Selection (before the transaction)more
likely to select risky borrower
Moral Hazard (after the transaction)less likely
borrower will repay loan

Adverse Selection:
The Lemons Problem
If quality cannot be assessed, the buyer is
willing to pay at most a price that reflects
the average quality
Sellers of good quality items will not want
to sell at the price for average quality
The buyer will decide not to buy at all
because all that is left in the market is
poor quality items

Moral Hazard in Debt Markets


Borrowers have incentives to take on
projects that are riskier than the lenders
would like

Adverse Selection: Solutions


Private production and sale of information
Free-rider problem

Government regulation to increase


information
Financial intermediation

Collateral and net worth

Moral Hazard: Solutions


Net worth and collateral
Incentive compatible

Monitoring and Enforcement of Restrictive


Covenants
Discourage undesirable behavior
Encourage desirable behavior
Keep collateral valuable
Provide information

Financial Intermediation

Function of Financial Intermediaries:


Indirect Finance
Lower transaction costs
Expertise
Economies of scale
Liquidity services

Reduce Risk
Risk Sharing (Asset Transformation< maturity
transformation)
Diversification: You shoudnt put all the eggs in a
basket

Types

Depository institutions
Commercial banks
Savings and loan associations
Credit unions

Contractual savings institutions


Insurance companies
Pension funds

Investment intermediaries

Finance companies
Mutual funds
Investment banks
others

Questions
1. Financial institutions that accept deposits and make loans are called
________ institutions.
a. Depository institutions;
b. Investment institutions;
c. Contractual savings;
d. underwriting.
2. When an investment bank ________ securities, it guarantees a price
for a corporation's securities and then sells them to the public.
a. underwrites;
b. undertakes;
c. overwrites;
d. overtakes

Questions
3. An important financial institution that assists in the initial sale of securities in
the primary market is the:
a. investment bank;
b. commercial bank;
c. stock exchange
d. brokerage house.

4. . The process of asset transformation refers to the conversion of


a. safer assets into risky assets;
b. safer assets into safer liabilities;
c. risky assets into safer assets
d. risky assets into risky liabilities.

Lecture no 3
BANKING TECHNIQUES AND OPERATIONS

1. The concept and the functions of the credit


2. The role of the credit
3. The elements of the credit
4. The types of credit
5. Other lending facilities
6. Credit multiplier
7.The interest rate concept
8. The forms of interest rate
9. Application

Loan means immediate possession of resources in exchange

of a future payment promise involving also an interest


payment, that rewards the lender
word credit comes from the Latin creditum-creditare , which
means to trust

The functions of the credit

trust;

expression of redistribution relationships;

form of exchange relationships.

Contribution to the achievement of some


objectives of economic policy:

equalization of the profit ratio


intensification of the capitals concentration
process
raise of the populations standard of living.

the
the
the
the
the

parties of the credit relation;


promise of repayment;
guarantee of the credit;
maturity date;
interest rate

a. according to the economic nature and the parties of the crediting

relation:
-

the
the
the
the
the

commercial credit
banking credit
consumption credit
bond credit/promissory credit
mortgage credit.

b. according to the debtors position:


- the credit granted to natural persons
- the credit granted to legal persons
c. according to the debtors and the creditors nature:
- the private credit
- the public credit.

d. according to the purpose/destination of granting the credit:


- production - credits for companys operating needs financing
- credits for companys investment needs financing
- circulation: credits for the inventory financing
- consumption
e. according to the nature of the guarantees:
- real credits
- personal credits.
f. according to the extent of the creditors rights:
- credits that can be declared exigible before their maturity date
- credits that cannot be declared exigible before their maturity
date
- mixed credits

g. according to the maturity date of the


credit:
- short-term credits
- medium-term credit
- long-term credits.

Other lending facilities


Overdraft
Credit line
Revolving credit account

The interest rate

a price required by the lender for temporarily


use of his or her money to another.

a charge that has to be paid to acquire the


temporary use of another persons money.

Supply and demand


Risk premium
The profit rate
Amount and time period
The liquidity
Inflation

nominal and real

fixed and floating

simple and compound


1 nominal interest rate
D
1
1 inflation rate

If the inflation rate is 10% and the interest rate is


20%, the real interest is 9%:

1 0.2
1.2
D
1
1 1.09 1 0.09
1 0.1
1.1

For calculation use the following formula:

E = interest

k = initial capital

t= period, in days

z = interest rate.

E k t z 36000

A= initial capital
E = total capital
R = annual interest rate per 1 unit
N = the number of years.

E A * 1

100

n years and p/q fraction of the term (2 years and 3 months = 2 +


3/12= 2+1/4)
R

E A * 1

100
or

E=

k *t * z
36000

E A* K n
n

R
R
R p

E A * 1
*
*
A * 1
100 100 q
100

p
E A * K n * 1 * R
q

p
K n 1 * R
q

R p R

E A * 1
* 1 *
100 q 100
n

interest capitalization over periods shorter than one year

i
R 1001
1
100 * n

n1

where:
i = annual rate of simple interest
within a year;
n = the number of periods of capitalization
1
a) half year capitalization,
n= 2
2

12
R 1001
1 12.36%
2 *100

b).quarterly capitalization, n=4


4

12
R 1001
1 12.51%
4 *100

Set up in 2004 by a number of banks as a


private institution of public interest
Keeps a database of bad debtors available
on request to asses the credit risk
Provides a credit history and financial
behaviour of natural persons for the
moment

Set up in 2004 by a number of banks as a


private institution of public interest
Keeps a database of bad debtors available
on request to asses the credit risk
Provides a credit history and financial
behaviour of natural persons for the
moment
31st August 2010: 34 credit institutions
(aprox 99,85% retail market) and 15
nonbanking institutions.

The Central Credit Register (CCR) is a system specialising in the collection, storage and
centralisation of information on the exposure of all reporting entities (credit institutions
or mortgage loan companies) in Romania to the debtors that were granted loans and/or
incurred commitments whose cumulated value is higher than the reporting threshold
(RON 20,000), as well as information on card frauds perpetrated by cardholders.

The CCR database comprises four files:

Central Credit File (CCF), which is updated monthly and contains credit risk information
reported by credit institutions;

Overdue Debt File (ODF), which is updated monthly with credit risk information from the
CCF on the cases of failure to observe the repayment schedules over the past seven
years at most;

Debtor Group File (DGF), which is updated monthly with credit risk information from the
CCF about the groups of individuals and/or legal entities representing a single debtor;

Card Fraud File (CFF), which is updated on a real time basis and contains information on
card frauds committed by cardholders, as reported by credit institutions.

Intermediation centre within NBR

Payment incidents with checks, promissory notes


and bills of exchange and the risky persons

Based on regular reports to prevent the occurrence


of further payment incidents and sanctioning the
account holders who generate them

Information is used by banks, NBR, courts,


supervision institutions, natural or legal persons on
request

A person wishes to deposit money in such a


way that after 6 years he should have
$50 000. How much money does he have to
deposit initially if in the first 3 years (n1) the
interest rate is 6% the compounded half
yearly (R1) and in the next 3 years (n2) the
interest rate is 8% quarterly compounded
(R2)?

6
R1 1001
1 6.09%
4 *100

8
R 2 1001
1 8.24%
2 *100

n1

R1
R2

E A * 1
* 1

100 100

n2

6.09 8.24
50000 A * 1

* 1
100 100

A= 33 025

Dima.M. A, Agapie, A., Orzea, I., Moroianu, M. (2010). Banking.


Theory, cases and applications, Ed ASE

Dima, M.A., (2010), Credit Analysis. Case studies, Ed. Business


Excellence

Casu, B., Giraradone, C., Molyneux (2006). Introduction to Banking,


Prentice Hall

Mishkin, F. (2007). The Economics of Money, Banking and Financial


Markets, Prentice Hall