Along
with
profitability
and
safety, banks also give importance to
Solvency. Solvency refers to the situation
where assets are equal to or more than
liabilities. A bank should select its assets in
such a way that the shareholders and
depositors' interest are protected.
1. Prudential Norms
The norms which are to be followed while
investing funds are called "Prudential Norms."
They are formulated to protect the interests of
the shareholders and depositors. Prudential
Norms are generally prescribed and
implemented by the central bank of the
country. Commercial Banks have to follow
these norms to protect the interests of the
customers.
Tier I
Tier II
Risk
Weighted
Assets
Subordinated
Debt
1. Tier-I Capital
Capital which is first readily available to protect
the unexpected losses is called as Tier-I
Capital. It is also termed as Core Capital.
Tier-I Capital consists of : Paid-Up Capital.
Statutory Reserves.
Other Disclosed Free Reserves : Reserves
which are not kept side for meeting any
specific liability.
Capital Reserves : Surplus generated from sale
of Capital Assets.
2. Tier-II Capital
Capital which is second readily available to protect the
unexpected losses is called as Tier-II Capital.
Tier-II Capital consists of : Undisclosed Reserves and Paid-Up Capital Perpetual
Preference Shares.
Revaluation Reserves (at discount of 55%).
Hybrid (Debt / Equity) Capital.
Subordinated Debt.
General Provisions and Loss Reserves.
There is an important condition that Tier II Capital
cannot exceed 50% of Tier-I Capital for arriving at the
prescribed Capital Adequacy Ratio.
4. Subordinated Debt
These are bonds issued by banks for raising Tier II
Capital.
They are as follows : They should be fully paid up instruments.
They should be unsecured debt.
They should be subordinated to the claims of other
creditors. This means that the bank's holder's claims
for their money will be paid at last in order of
preference as compared with the claims of other
creditors of the bank.
The bonds should not be redeemable at the option
of the holders. This means the repayment of bond
value will be decided only by the issuing bank.