Capital Adequacy Ratio: Commercial banks need to maintain a minimum capital to riskweighted assets ratio (CRAR) of 9 per cent.

In simple terms this means that if the bank has given out Rs 100, it should have at least Rs 9 with it as capital. Here's a brief snapshot of the CAR of some banks: Private sector banks* ICICI Bank HDFC Bank Axis Bank Public sector banks* State Bank of India (SBI) Bank of India Punjab National Bank Foreign banks* Citibank Standard Chartered HSBC CAR (In per cent) 13.97 13.60 13.73 CAR (In per cent) 13.53 13.01 13.10 CAR (in per cent) 12 10.59 10.59

*Top three banks by market capitalization in that category. Non-performing Assets (NPA) Ratio: NPAs refer to the loans given by a bank that it classifies as doubtful. This means that the bank has low or no hopes of recovering money on these loans. This gives a peek into how the bank uses its money for lending. Low NPAs mean that the bank has been prudent in giving out loans. "Some banks tend to keep their NPAs higher because they dont want to take the additional risk of bad lending during turbulent times," says author and investor, Yogesh Chabria, of Happionaire.com. A non performing asset or a loan is when the interest and/or installment of principal on it has remained 'past due' or unpaid -- for more than 90 days

Private sector banks ICICI Bank HDFC Bank Axis Bank

Net NPA (In per cent) 1.55 0.47 0.42

Public sector banks State Bank of India (SBI) Bank of India Punjab National Bank

Net NPA(In per cent) 1.78 0.52 0.96

Foreign banks Citibank Standard Chartered HSBC

Net NPA(in per cent) 1.23 1.04 0.58

*Top three banks by market capitalization in that category. Source: A Profile of Banks - Reserve Bank of India -- Statutory Liquidity Ratio (SLR): This is the minimum amount of reserves (held in cash, gold, short term securities and other liquid assets) a bank must maintain during all times, after all it's investments and lending. The SLR for Indian banks is normally 25 per cent of the capital. For example, if a bank has Rs 100 with it, before it gives away all of it, it has to maintain at least Rs 25. This helps in case depositors want to withdraw money, or for liquidity purposes. You can check these ratios in the bank's balance sheet. "Besides the ratios, also see the assets and liabilities of your bank, since it gives a snapshot of its financial position," adds Chabria. olution: Spread your deposits Deposits up to Rs 1 lakh are insured under the government's Deposit Insurance and Credit Guarantee Corporation (DICGC). As per this scheme, even if you keep multiple deposits (savings and fixed deposits) across branches of one bank, only a total of Rs 1 lakh is insured. However, spreading your money across two-three banks helps. "This way you can get the maximum coverage on your deposits", Chabria. There is another good news. The government is in talks with the RBI to raise the ceiling on deposit insurance from the present Rs 1 lakh to Rs 2 lakh. Smart tips Hazari has some tips for the safety of your money:

-- Stay away from banks that offer you a comparatively higher interest rate on FDs than other banks. This is known as 'adverse selection' in banking terms. They would offer higher rates only because they need funds," he adds. -- Beware of banks that have grown too fast, too quick. Despite the rumors that have been doing the rounds, Chabria brings in assurance by saying," Depositors in India are extremely well protected. Even if a bank goes bust, the RBI should take care of it, and the investors may suffer, not the depositors."

The banking system in India can broadly be classified into public sector, private sector (old and new) and foreign banks. The government holds a majority stake in public sector banks. This segment comprises of SBI and its subsidiaries, other nationalized banks and Regional Rural Banks (RRB). The public sector banks comprise more than 70% of the total branches. Old private sector banks have a largely regional focus and they are relatively smaller in size. These banks existed prior to the promulgation of Banking Nationalization Act but were not nationalized due to their smaller size and regional focus. Private banks entered into the sector when the Banking Regulation Act was amended in 1993 permitting the entry of new private sector banks. Most of these banks are promoted by institutions and their operating environment is comparable to foreign banks. Foreign banks have confined their operations to mostly metropolitan cities, as the RBI restricted their operations. However, off late, the RBI has granted approvals for expansions as well as entry of new foreign banks in order to liberalize the system. Now lets look at some of the key rations that determine a banks performance. Ratios for evaluating operating performance

1. Net interest margin (NIM): For banks, interest expenses are their main costs (similar to manufacturing cost for companies) and interest income is their main revenue source. The difference between interest income and expense is known as net interest income. It is the income, which the bank earns from its core business of lending. Net interest margin is the net interest income earned by the bank on its average earning assets. These assets comprises of advances, investments, balance with the RBI and money at call. 2. 3. 4. 5. NIM = Interest income Interest expenses -----------------------------------Average earning assets

6. Operating profit margins (OPM): Banks operating profit is calculated after deducting administrative expenses, which mainly include salary cost and network expansion cost. Operating margins are profits earned by the bank on its total interest income. For some private sector banks the ratio is negative on account of their large IT and network expansion spending. 7. 8. 9. 10. OPM = Net interest income (NII) operating expenses ----------------------------------------------Total interest income

11. Cost to income ratio: Controlling overheads are critical for enhancing the banks return on equity. Branch rationalization and technology upgradation account for a major part of operating expenses for new generation banks. Even though, these expenses result in higher cost to income ratio, in long term they help the bank in improving its return on equity. The ratio is calculated as a proportion of operating profit including non-interest income (fee based income). 12. 13. 14. 15. Cost to income ratio = Operating expenses -------------------------NII + non interest income

16. Other income to total income: Fee based income account for a major portion of the banks other income. The bank generates higher fee income through innovative products and adapting the technology for sustained service levels. This stream of revenues is not depended on the banks capital adequacy and consequently, potential to generate the income is immense. The higher ratio indicates increasing proportion of fee-based income. The ratio is also influenced by gains on government securities, which fluctuates depending on interest rate movement in the economy. From the sample selected here, HDFC Bank tops the list with the best performance ratios. The banks higher interest margins are on account of its lending to retail sector, which is considered to be high margins business owing to low cost funds from retail deposits. SBIs high cost to income ratio is on

account of its large employee base while ICICI Banks high cost to income is due to its aggressive spending on expansion. Comparative operating performance NIM OPM Cost to income Other income to total income 4.0% 15.6% 2.7% 3.1% 5.6% 3.2% 1.2% -3.4% 3.4% 13.3% 3.1% 4.5% 44.8% 53.5% 49.3% 60.5% 39.1% 45.0% 56.2% 12.8% 15.0% 15.5% 13.4% 13.9% 9.7% 13.9%

FY01 HDFC Bank ICICI Bank UTI Bank SBI Corporation Bank BOI

Oriental Commerce Bank 3.2% 11.4%

Other key financial ratios 1. Credit to deposit ratio (CD ratio): The ratio is indicative of the percentage of funds lent by the bank out of the total amount raised through deposits. Higher ratio reflects ability of the bank to make optimal use of the available resources. The point to note here is that loans given by bank would also include its investments in debentures, bonds and commercial papers of the companies (these are generally included as part of investments in the balance sheet). 2. Capital adequacy ratio (CAR): A bank's capital ratio is the ratio of qualifying capital to risk adjusted (or weighted) assets. The RBI has set the minimum capital adequacy ratio at 10% as on March 2002 for all banks. A ratio below the minimum indicates that the bank is not adequately capitalized to expand its operations. The ratio ensures that the bank do not expand their business without having adequate capital. 3. 4. 5. 6. CAR = Tier I capital + Tier II capital --------------------------------Risk weighted assets overall quality of the banks loan book. Net NPAs are calculated by reducing cumulative balance of provisions outstanding at a period end from gross NPAs. Higher ratio reflects rising bad quality of loans. 8. 9. 10. 11. NPA ratio = Net non-performing assets --------------------------Loans given

7. NPA ratio: The net non-performing assets to loans (advances) ratio is used as a measure of the

12. Provision coverage ratio: The key relationship in analyzing asset quality of the bank is between the cumulative provision balances of the bank as on a particular date to gross NPAs. It is a measure that indicates the extent to which the bank has provided against the troubled part of its loan portfolio. A high ratio suggests that additional provisions to be made by the bank in the coming years would be relatively low (if gross non-performing assets do not rise at a faster clip). 13. 14. 15. 16. 17. 18. ROA: Returns on asset ratio is the net income (profits) generated by the bank on its total assets (including fixed assets). The higher the proportion of average earnings assets, the better would be the resulting returns on total assets. Similarly, ROE (returns on equity) indicates returns earned by the bank on its total net worth. 19. 20. 21. FY01 HDFC Bank ICICI Bank UTI Bank SBI Corporation Bank Oriental Commerce Bank BOI Efficiency ratios 1. Interest income per employee 2. Profits per employee 3. Business per employee These ratios indicate the productivity level of the banks employees. Since state run banks are operating with large employee base, the productivity ratio for these banks lags behind when compared with new generation private sector banks. Banks can improve these ratios by increasing the technology infrastructure, frequent offering of innovative products and also employee rationalization. ROA = Net profits --------------Avg. total assets Comparative financial performance CD ratio CAR NPA ratio Provision ROA coverage 39.8% 11.1% 42.9% 11.6% 53.0% 9.0% 44.8% 12.8% 52.3% 13.3% 44.9% 11.8% 61.6% 12.2% 0.5% 1.4% 3.4% 6.0% 2.0% 3.6% 6.7% 85.9% 1.5% 63.4% 0.8% 19.7% 1.0% 56.9% 0.6% 64.7% 1.4% 36.2% 0.8% 37.7% 0.4% Provision coverage ratio = Cumulative provisions ----------------------Gross NPAs

1. Business per branch 2. Employees per branch A banks performance cannot be judged only from its large network. It has to be in relation with the banks ability to capitalize on its network. Large number of branches are sometimes unviable if they are situated at places where the business opportunity is low. Private sector banks are likely to have better ratios vis a vis their PSU peers on account of their concentration on top 100 business centers. Unlike PSU banks, private banks in general lack presence in rural areas. Since state run banks are present in every corner of the country, it impacts their average productivity ratios (as business opportunity differs). Productivity comparisons Interest income Profits Business Business Employees * Per employee 4.6 2.8 7.5 1.2 1.7 2.0 1.2 0.8 0.4 0.7 0.1 0.2 0.2 0.1 59.2 52.1 117.4 16.6 23.3 26.3 19.0 Per branch 1,243.9 619.3 1,617.8 392.6 386.9 383.7 329.5 21.0 11.9 13.8 23.7 17.0 14.6 17.4

FY01 (Rs m) HDFC Bank ICICI Bank UTI Bank SBI Corporation Bank Oriental Commerce Bank BOI

* absolute number

Valuations parameters 1. Price to book value: Unlike other manufacturing/services company, a banks market valuations cannot be only measured from its price to earnings ratio (P/E ratio). This is due to the reason that a banks net earnings are influenced by the amount of non-performing assets provision, which again depends on the banks internal policy. Consequently, the bank could make low provisions to show a better picture. Therefore its prudent to remove non-performing assets for which no provisions are made from the net worth of the bank to arrive at the adjusted book value. 2. Market cap to total income: This ratio helps in judging the market valuations of the banks total income. It is similar to the market cap to sales ratio for a manufacturing company. It indicates valuations accorded by the market to the total income of the bank. Comparative valuations PBV P/E Market cap/total income 6.4 27.4 2.5 17.7 4.4 6.2 4.0 2.0 0.5

FY01 HDFC Bank ICICI Bank UTI Bank

SBI Corporation Bank BOI

1.9 1.4 2.6

7.7 6.3 3.8 5.6

0.4 0.8 0.3 0.2

Oriental Commerce Bank 0.6

Valuations based on market price as on March 15, 2002

Banking stocks have witnessed a sharp run up in prices in the last few days. Over the last nine months the fundamentals of the sector have been negatively impacted on account of a slowdown in the credit growth resulting in pressure on margins. Private sector banks have however managed to outperform on account of their aggressive retail lending which fueled their total income. Even though valuations of some of the old private banks look attractive, its worth to look at their financials and some of the ratios given here to determine where they deserve higher valuations. Look before you leap!