Some Not Very Random Thoughts – I

Transfer & Postings in PSU Banks

One evening, last week, I was sitting with some friends, all of whom are either working with or had earlier put in longish stints at PSU banks in India. As is normal in such gatherings the discussion veered on-and-off to our professional experiences and one of the issues which came up has been occupying my mind and I thought that it might be worthwhile to write it down so as to crystallize my thoughts. This is regarding the role of the Association (of Officers).

There seemed to be a near unanimous feeling that the Association has played, at best, a very nefarious and destructive role with the Association bosses being a law to themselves. Some unpleasant incidents were mentioned and a couple of friends very proudly declared that they had by choice decided not to become Association members.

Now where does the Association (or the Clerical staff union) draw their strength from? From my personal experience I am aware that some officer’s Associations have done wonderful constructive work. The SBI Bhopal Association Manual is legendary in terms of depth of coverage in helping understand basic banking. I am told that the SBI Officer’s Association runs schools for staff in some of the centers. I have personally had the benefit of help from the Association on at least two occasions. The first time was when a colleague suffered life threatening gunshot wounds, the Association rallied in helping him with proper medical attention. Support from the organization was non-existent. The second time was when I faced a medical emergency in the family and was able to raise funds at short notice from the cooperative credit society run by the Association.     

However, the Association’s main strength seems to be from their using their muscle for influencing transfer & postings, other than getting suspended and charge sheeted officials off the hook. I remember at one of the branches where I worked there was a clear-cut direction to deposit a certain sum of money in the Union Account by clerical staff seeking transfers. It was not so blatant with regards to officer staff, but even here Association members were expected to make a “voluntary” contribution to the Association at the time arrears on account of periodical wage revision was received. I am aware that few Association members dared not comply with this expectation.  

Nepotism due to lack of transparency in transfers and postings was rampant and I have reasons to believe continues to remain so. While one person would get posting at a rural branch in Dipatoli (well within Ranchi) another person with equal standing in the bank, could get posted in another rural branch in the middle of nowhere, say at Sonaili Bazar or Mirza Chowki. Technically, the person getting posted at Sonaili Bazar had no reasons to complain vis a vis not being posted to Dipatoli, both were technically rural branches. It was even more insidious when it came to prized postings, such as, posting to foreign centres. The basis for selection in such cases is extremely opaque and we have numerous instances of the same person “managing” repeated postings to foreign offices while for numerous others, their candidature is not even considered!

The effect of choice of postings has an insidious effect not only on an employee’s career but more importantly on his / her morale which in turn directly affects productivity. If one did not get “good” postings, one did not have the requisite experience for the next promotion and so on and so forth. So your career is destined to be stymied.  

Apart from the physical discomfort of living in way out places, choice of posting also affects aspects of one’s life in terms of availability of proper accommodation, security of life and limb, children’s education, medical facilities etc. The worst aspect of getting a difficult posting is that there is no certainty of by when one can expect to get posted to a better location or that the next transfer would not be another hell-hole.  

Unless, clear and transparent policies on transfer and postings are laid down and seen to be implemented there is little possibility of either decrease in the malafide tendencies of the Association or improvement in the morale and productivity in our PSU banks.  

A related issue is that professionalism and work ethics of Personnel Departments of banks. Invariably it is staffed not by people with professional qualification in Personnel or Human Resources Management but by people who are from the general management cadres and expect to go back to do general banking. There is little incentive for such people to spend time and effort in acquiring deeper knowledge of dynamics of human interactions and behavior in organisations. A posting in Personnel Department is just an opportunity to play God vis a vis fellow employees.    

On Financing Receivables

(On 22nd July 2014 RBI vide its Press Release No. 2014-2015 /157 sought feedback on the Draft Guidelines for setting up of and operating a Trade Receivables Discounting System (TReDS). In course of drafting out my responses, I had perforce to think through the existing receivable financing system followed by banks in India. This note is an outcome of that thinking through process)

1.             Introduction

Financing receivables is a well-established credit offering and an excellent example of real life classic “win-win-win” non-zero sum game.

• The seller wins by getting cash upfront against receivables so that it’s liquidity improves and it  can continue its operations.
• The buyer wins since it gets time to make payment. It can process and sell the goods and make a profit before it has to make any payment for the goods / services received. Moreover, it is virtually cost less credit (under some specific circumstances).
• The Bank wins, since it can profitably deploy its funds on short-term self-liquidating transactions.

Receivables arise when a seller makes the sale on deferred payment terms. That is, when the title of goods gets transferred to the buyer, but the buyer does not make the payment immediately but after some time. By understanding the nuances of receivable financing banks can not only add value to the supply chain but also make profits in the process.

Now sales could mean either sales of goods and / or of services. That is, receivables arise both due to sales of goods (raw materials, machinery,  food stuffs etc.) or services (processing charges, labour supply, advertising fees, lawyer’s fees etc.). Banks have historically been averse to financing receivables arising out of sale of services since it is difficult for them to distinguish genuine sales of services from “accommodation” transactions. This is apparent from the fact that most bank’s operating procedures insisting on “evidence of movement of goods” as part of the required documentation for advancing money against receivables. With 66% of India’s National Income now arising from the services sector, it is high time this bias was addressed by designing suitable procedures for financing receivables which arise from sale of services and there is no movement of goods. In the absence of this, effectively, 66% of the Indian economy is deprived of the benefit of access to credit from institutional sources. From the bank’s point of view, they are missing out on a very large market segment!

2.             Types of Receivable Financing

2.1        Against Letters of Credit

Under this methodology the buyer arranges for issuance of Letter of Credit through its bank in favour of either the seller or the seller’s bank. The theory, practice and procedures under this method is widely understood and well established and would not be discussed further in this note. Apart from drawing the attention of the reader that LCs for payments arising from sales of services is still a rarity.

2.2        Against Acceptance of Bills of Exchange

Under this method, sellers draws up a (Sight / Usance) Bill of Exchange (BOE) and sends it to the buyer. The buyer thereafter accepts the BOE by signing on it. The seller is known as the “drawer” and the buyer the “drawee” of the BOE. Any holder “in due course” of the BOE can demand payment from drawee on due date of the BOE. In case the BOE is “with recourse” to the drawee, the holder can also demand payment from the drawer.

BOE are typically sent along with the invoice (with face value of BOE being equal to the invoice value) and documents evidencing title of goods (lorry receipts, bill of lading etc.) by the seller to the drawer either directly or through a bank. Acceptance by drawee can be for the full value of the BOE or for a lesser value. The main reason for drawees to accept the BOE for lesser value (than the face value of the BOE) is generally because of quality / quantity issues with the goods supplied.

The law, theory and practice of BOE is well established and understood. One major impediment in using BOE is the relatively high stamp duties applicable on them and the associated time and effort in getting the stamping done. 

Using technology where BOE are dematerialized to enable their drawing, acceptance, transfer or noting / protesting be done electronically would go a long way in boosting their use. This could also enable collection of stamp duty centrally thereby reducing costs in implementing this cess. The benefit of lower costs can be passed on by reducing rates of stamp duty.

2.3        Against Invoices

Invoice Discounting is a much discussed credit product and also offered by various banks. However, this product has various weak points and can be quite risky if not offered with care and with suitable mitigants to handle which very specific procedures / processes would be required. 

I.                    But can Invoices be Discounted?

For any instrument to be eligible to be discounted, it should fulfill certain basic conditions, such as:

• It should have a due date of payment.
• The commitment of the entity to make the payment should be unequivocally established.
• The Bank (who is doing the discounting) should be able to legally establish itself as the entity to whom the payment is due.

Unfortunately, an invoice, per se, does not fulfill any of these conditions and so cannot be (legally speaking) “discounted”! 

An invoice is just an intimation by the seller (who makes out the invoice) to the buyer that he has supplied various goods / services (as per details given in the invoice) for which a certain specific payment is due to be made by the buyer to the seller (less any advance payment already received or discount offered in case of early payment ).

Therefore invoices  cannot be discounted; only negotiable instruments (eg. A Bill of Exchange or a Post Dated Cheque or a post dated Promissory Note) can be legally discounted.  

II.                  The pitfalls in “Invoice Discounting” 

• How is the usance period of payment to be decided? Would it be (i) as per market practice, (ii) as per informal understanding between buyer and seller, or (iii) based on a formal Sale Agreement between Seller and Buyer where the payment terms is specified. In case there is a formal Sale Agreement, has it been sighted / examined by the Bank?
• What happens if the goods are returned by the buyer after acceptance of invoice and after it has been “discounted” by a bank? That is, there is no more any commitment by the buyer to make the payment!
• What happens if after acceptance of invoice and its subsequent “discounting” by an intermediary bank, the buyer checks for quality and quantity and finds some discrepancies / defects and takes a view that it would make payment for a lesser amount (invoice value less deduction for shortage / breakages / lack of quality)?
• How are the invoice payments to be monitored if payment by buyer is on open account? That is, payment is not made on invoice by invoice basis, but monthly a round figure is paid. That is, in cases where the buyer and seller have a separate mechanism for reconciliation of payments.
• Buyer exercises its right of set off. That is, there are certain payments due to buyer from the seller for transactions not related to the invoice and of which the Bank is not aware. After the bank has “discounted” an invoice, the buyer deducts a certain amount (by exercising its right of set off) and then makes payment of the balance amount only.

III.                What are the Mitigants (If any)?

a) Finance against invoices should invariably be done only as an “advance” (not “discount”) against the invoice after deducting a margin. The margin can vary depending on experience with the seller and specific buyers.

b)    The advance amount can be made after deduction of interest upfront for the period of advance. This is what gives the transaction the flavor of “discounting” while not actually being so!

c)   The documentation  with the seller (on whose behalf the financing is being done) should specify, inter alia:

• Period / Tenor of advance
• Rate of interest for the advance.
• Interest would be deducted upfront for specified tenor.
• Penal interest applicable in case amount is not settled on due date.
• All payments due from buyer would be routed through the bank making the advance.
• The seller undertakes to make full payment on due date in case payment is not received from buyer on due date.

d)      In all cases a quarterly / half yearly confirmation from buyer should be obtained of net dues by buyer to seller which should be reconciled / cross checked with outstanding invoices financed. This would mitigate risk of there being any transactions in the reverse direction between seller and buyer.

e)   A basic credit assessment of the buyer should be done covering inter alia payment track record and market standing. In case the buyer is situated in a country other than where the seller (on whose behave the advance is being made) operates, there should be adequate country limits available.

f)       Financing against invoices is most efficient when the bank has a relationship with the buyer who has various small suppliers from whom the buyer avails credit. Now for the bank to assess and monitor each supplier might be cumbersome and expensive. So against some kind of comfort from the buyer it advances payments to the seller against each invoice. That is the bank finances the sellers while predicating credit risk on buyer. The kinds of comfort in practice, include:

• A written commitment / mandate from buyer enabling the Bank to debit the due amount from buyer’s account (say, 30, 60, 80, 120, 180 days) after date of invoice / date of receipt of goods by the buyer. This is an ideal case since entire credit risk is on buyer. In such cases, the main operating account of the buyer is maintained with the financing bank.
• A written commitment / undertaking from buyer that in case the seller defaults, further payments by buyer to seller for future supplies (ie invoices generated subsequent to default) would not be released without the Bank’s “No Objection”.
• An acknowledgement by the buyer that all payments due to seller would be routed through the Bank duly supported by an irrevocable assignment of receivables by the seller in favour of the Bank.

2.4         Against Book Debts

Another widely used method of lending against receivables is against comfort of outstanding book debts of the seller. The seller periodically (typically monthly) provides its bank a list (or summary) of outstanding book debts. The bank in turn makes a certain amount of funds available to the seller in proportion to the outstanding book debts (value of eligible book debts less margin). 

Eligibility criterion of book debts against which finance may be advanced is typically age of book debt (say book debts less than 90 days) and buyer (receivables from specific buyers only). 

The margin could be decided based on (a) profit margins of the seller (the value of receivables include the cost of goods / services supplied plus the sellers profit margin), (b) age of receivables (say margin of 25% for receivables less than 90 days, 40% on receivables more than 90 days but upto 180 days and no finance against receivables more than 180 days old), or (c) credit standing of buyer (say, 20% on receivables from Hindustan Lever, but 40% on receivables from other buyers) etc.

To protect itself further the financer could also insist that the seller assigns the right to collect the receivables on its behalf either through a specific assignment agreement or a specific Power of Attorney which to further fortify itself the financer could register with the buyer. 

It is important to periodically assess the quality and realisability of the book-debts. This can be done through either auditing (receivable audit) of the seller’s books of accounts and / or  cross checking with the buyers against whose names the receivables are listed.

Periodic cross checks with the buyer also helps in determining if any amounts are due to buyer from seller against which right of set-off can be exercised.

3.             Some Concluding Remarks

• In the lending business, competing solely on the basis of pricing is a straight race to the bottom. There would be so many lenders chasing the really good credit risks, that such borrowers can demand (and get) such fine rates that lending to them can become unremunerative unless the relationship generates other kinds of remunerative business opportunities.

• On the other hand, lending to higher credit risks without understanding the nature and designing suitable mitigants (appraisal, monitoring, and recovery) might make taking the risk unremunerative in view of the fact that banks are highly leveraged institutions and any credit gone bad delivers a double whammy, (i) loss of income (interest not being services) and simultaneously (ii) loss of principle on account of making provisions against the bank’s equity capital!  

• Proposed TReDS should seek migration of initially the receivable financing against BOE, then of invoice based financing, and lastly the book debt financing. Eventually domestic LC based receivable financing could also be sought to be migrated on to this platform. 

• Successful implementation of the TReDS would enable:

·         Faster monetization of receivables, that is, easier availability of credit.

·         Lowering of costs (both operational as well as risk premium).

·    Building up of database which would enable credit risk (arising from payment of receivables) be treated as a stochastic process (on the lines of Credit Cards) further reducing the costs, effort and time required for making detailed appraisal /  monitoring / recovery.

The Trip to the Valley of Flowers IV - Badrinath & Back

 

The Entrance to the Badrinath Shrine

 

The next day (day 7) found us totally exhausted and it was pouring heavily since morning. We were concerned as to how we would be able to walk down the 13 kms to Govindghat. As soon as it cleared up a little we decided to make a dash for it on ponies and returned to Govindghat by early afternoon. There, while we were figuring out as to what kind of transport we could get to take us back to Joshimath, we found that Badrinath was only about 30 kms away by good metalled roads. We took an impromptu decision to visit Badrinath and managed two seats in an already cramped Sumo which agreed to take us to Badrinath and then back to Joshimath by late evening the same day. 

The most memorable incident of this detour to Badrinath took place inside the Sumo. It was a cramped Sumo filled with pilgrims, both Hindus and Sikhs, and as is usual we got talking. These folks were really surprised to know that our visit to Badrinath was not part of our main plan, but an impromptu decision. As the conversation progressed, it soon became clear to the other occupants in the Sumo that we had little clue as to the importance to Badrinath. And then one gentleman just took off. He first lectured us on our immoral lifestyle, the root of all that is wrong in our society and finally filled us with the mythology surrounding Badrinath. Later research on the net revealed something really interesting. The traditional mahants of this temple are Namboodri Brahmins from Kerala since the last 1200 years at least. Every year they travel in spring to Joshimath, where the deity is kept for safekeeping during the winter months, from where they take the deities to Badrinath where they are kept till early autumn. Then the deities are returned to Joshimath and the mahants return to Kerala.

The Sumo dropped us quite near the Badrinath shrine which was less than half a km away. We went and had a hurried visit of the shrine though we avoided bathing in the hot water pools for which the place is famous. The two things which most interested me were the wooden tiles by which the temple courtyard was paved and the site of the majestic Mount Neelkanth. The Chinese border was only about 8 kms away at a village named Manna, and though we were keen on visiting that place, the paucity of time left us no choice as the Sumo was waiting to take us back to Joshimath, the idea being that we had to make that part of the trip before sunset. We reached Joshimath by 8 pm and found ourselves a small cheap hotel room and put up for the night. 

View of Mount Neelkanth from Badrinath

Early next morning (day 9) we got a bus to take us to Haridwar. We encountered a number of road blocks due to land-slides and the bus got held up for hours at a couple of places. By the time we reached Srinagar, it was quite late in the evening and the bus driver informed that the bus would continue the journey only the next morning. We had no other option but to find a place to put up for the night and fortunately found a good clean hotel. Next morning (day 10) we started for Haridwar at about 5 am and reached there by mid morning (11 am). We were tired and famished and the first thought in our minds was to have some decent food. We found a nice place near the bus-stand where we had breakfast and then took a UP Roadways bus to Delhi. It was a nice, sturdy, clean bus which dropped us to Delhi by evening, and so tired but happy we accomplished one of my life’s missions!

On the way back to Delhi