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Bancassurance Bancassurance - a package of financial services that can
fulfill both banking and insurance needs, has evolved in Europe following the
merger of banks and insurance companies due to the synergy between banking and
insurance. Basically, Bancassurance is a term that refers to the selling of
insurance policies through a bank?s established distribution network. The
unusual spelling reveals the French origin of the word. Due to reasons peculiar
to that country?s financial system and culture, over half of the insurance
products in France are sold through banks. In the US, banks lease space to
insurers and retail products of multiple insurers; in the way the shops sell
products. The institutional framework within which this functional overlaps are
taking place has been varied - floatation of separate insurance companies by
banks, banks? buying stakes in existing insurance companies, and swap of shares
and mergers. Insurance companies have also sought to acquire stakes in some
banks. In developing countries, one important
character of insurance business and of long-term life insurance, in particular,
is that insurance policies are generally a combination of risk coverage and
savings. The savings component in the insurance policies is seen as a possible
source of competition for the banking industry, as the insurance industry
develops on a competitive basis. There are, however, other considerations, that
point to the possible complementarities and synergies between the insurance and
banking business. The most important source of complementarily
arises due to the critical role that banks could play in distributing and
marketing of insurance products. So far, direct branch network of LIC, GIC and
its subsidiaries together with their agents have been instrumental in marketing
of insurance products in India. With further simplification of insurance
products, however, the vast branch network and the depositor base of commercial
banks are expected to play an important role in marketing insurance products
over the counter. The eagerness on the part of several banks and NBFCs in the
country to enter into insurance business following the opening up of the
industry to private participation reflects this emerging process. The present interest
of banks to enter into insurance business also mirrors the global trend. In India, the Reserve Bank, in recognition of
the symbiotic relationship between banking and the insurance industries, has
identified three routes of banks? participation in the insurance business, viz., (i) providing fee-based insurance
services without risk participation, (ii) investing in an insurance company for
providing infrastructure and services support and (iii) setting up of a
separate joint-venture insurance company with risk participation. The third
route, due to its risk aspects, involves compliance to stringent entry norms.
Further, the bank has to maintain an arms-length relationship between its
banking business and its insurance outfit. For banks entering into insurance
business with risk participation, the prescribed entity (viz., separate joint-venture company) also enables to avoid
possible regulatory overlaps between the Reserve Bank and the Government/IRDA.
The joint-venture insurance company would be subjected entirely to the
IRDA/Government regulations. Besides commercial banks, rural cooperative
credit institutions are also envisaged as an important vehicle for distributing
insurance products in under-served rural areas. The Task Force to Study the
Co-operative Credit System and Suggest Measures for its Strengthening
(Chairman: Shri J. Capoor) noted that this could have the attendant benefit of
portfolio diversification for these institutions. Computer Crimes
One of the characteristic features of computer
crime is its transnational character. Computer crimes often extend across
national borders thanks to the technological growth in the industry that has
made geographical borders insignificant. Remote access facilities have
necessitated the harmonization of domestic laws and regulations in tandem with
global prosecution needs. However, the precise definition of computer crime
itself may vary from country to country. Broadly, computer crimes are those that are
committed either on a computer system or with the aid of such a system. A
distinction is sometimes made between ?computer fraud?, where the fraud
involves the manipulation of computers, and ?computer crime?, where a computer
is used to commit a fraud. However, it is important not to lose sight of types
of crimes that are often committed. The United National Manual on the
Prevention and Control of Computer Related Crime classifies such crimes into
five categories. The first and most important type is the committing of a fraud
by manipulation of the input, output or throughput of a computer-based system.
This is of special interest to the RBI, which has been entrusted with the task
of supervision of banks and financial institutions. Input manipulation is the most common type
and results in the changing of input data such as deposit amounts in ledgers,
limits in accounts, or face values of cheques. Output manipulation is achieved
by affecting the output of the system such as the one entailing the use of
stolen or falsified cards in ATM machines. The most well known throughput
manipulation technique involves the process of rounding off of the sums being
credited to different accounts and siphoning of the rounded off digits to
another account. No system is foolproof and fraudulent transfers have been
reported in even highly automated and secure fund transfer systems such as the
CHIPS of USA and CHAPS of UK. Among the other types of computer crimes, the
major ones are:
Corporate Governance
Corporate governance is managing companies in
a transparent manner. It involves ? adequate disclosure; gradual move to
internationally acceptable accounting standards; maintaining distance between
the CEO and the Chairman, as the case may be; regular board meetings and
recording / circulation of minutes among all directors; and independent
directors (who are not company?s employees) in majority. Dematerialisation It is the process by which physical share
certificates are called back, destroyed and then held in electronic form in
accounts (known as demat accounts) with Depository Participants who are members
of a Depository. A depository is an organization where the share certificates
of a company held by investors are kept in electronic form e.g. National
Securities Depository Limited (NSDL). A depository participant is an
organisation, which is a member of a Depository and maintains accounts of
investors in shares just as a bank maintains accounts of its customers.
According to SEBI guidelines, financial institutions, commercial banks,
custodians, stockbrokers, etc. can become DPs. When a company announces rights
/ bonus issue or dividend, the depository will give all the details of the
clients having electronic holdings of that security as at record date / book
closure to the registrar of that issue. The cash benefits like interest /
dividend are disbursed by the registrar directly to eligible investors whereas
the securities entitlements like rights / bonus shares are distributed by the
depository through DPs on the information provided by the registrar. Benefits of dematerialisation:
Disadvantages:
Demerger Demerger means transfer of a business
undertaking to another company done under a scheme of arrangement under the
Companies Act 1956 by taking sanction of the court. An essential feature is
that the transferor company should not receive the consideration but the
acquiring company should pay the consideration directly to the shareholders of
the transferor company (and only in the form of shares). If company A hives-off
company B, then company B will issue shares to the shareholders of the company
A. Demutualisation Demutualisation means conversion of an existing non-profit
organization into a for-profit company ? publicly held or closely held, listed
or unlisted. In other words, an association that is mutually owned by members
converts itself into an organization that is owned by shareholders. In India,
the term came into use for corporatisation of stock exchanges but it is
applicable to all non-profit organizations as also those not distributing
profits to their members and instead using the profit in developing
infrastructure for the organization. As a first step towards Demutualisation, an exchange values all its
assets including the value of seats and arrives at a total value. This is then
divided into different shares and offered to the public. Later, the shares are
listed on the stock exchange itself and the funds received by selling the
shares are distributed among the members of the exchange as payment for their
seats. If the company is not being listed, the shares may be offered to the
members, not for transfer. BSE, LSE, NWSE and NASDAQ have announced that they would soon
demutualise. Demutualisation is better since a corporate structure, which is
the goal of demutualisation, provides the management with more flexibility. A
company is more nimble and can react faster to environmental changes than an
organization mutually owned by members, who are worried about only themselves,
e.g., India?s NSE which started as a corporate body has been able to spin-off
wholly owned subsidiaries like National Securities Clearing Corporation (NSCCL)
and a dedicated InfoTech company (USE.IT) whereas BSE which is mutually owned
was unable to hive-off its clearing house into a separate subsidiary in the
face of changed circumstances. However, the issues of capital gains tax and the
conflict between the role of a demutualised exchange as a self-regulator and a
commercial entity need to be resolved. Economic Development v/s Economic Growth Economic development and economic growth are used interchangeably
in economic discussions. However, a fine distinction is also made between the
two terms. Economic growth means increase in aggregate output resulting from an
increase in the availability and efficiency of inputs. Economic development
means not only more output but also changes in the structure of output and
inputs, the techniques of production, and social attitudes, cultural set-up and
institutional framework. An analogy with human being is in order. In human body
growth refers to increase in height or weight while development refers to
changes in a variety of factors that lead to an improvement in the overall
functional capability. Thus, economic growth is unidimensional where it refers to
quantitative changes in output and inputs whereas economic development goes
beyond this and is multidimensional in nature where it refers to qualitative
changes such as technical progress and changes in the socio-economic and
institutional framework of society. Therefore, we can say, Economic development = Economic growth + Change According to the definition given by the South Commission (Aug
1990), ?Development is a process which enables human beings to realize their
potential, build self-confidence and lead lives of dignity and fulfillment. It
is a process, which frees people from the fear of want and exploitation. It is
a movement away from political, economic or social oppression.? Thus, economic
development is a process of social transformation. Similar to economic
development, there are several expositions on the process of economic growth.
However, as a broad approximation of the factors involved in the growth
process, the Harrods Domar model can serve as a reasonable enough basis.
According to this formulation, economic growth depends on two major variables: v The rate of saving and investment in the
economy, and v Incremental capital productivity as
measured by the incremental capital output ratio (ICOR). Thus, Rate of Economic Growth = Rate of Aggregate Savings/ICOR It means that economic growth takes place if the rate of savings
(investment) is increased and/or ICOR is decreased. Economic Value Added (EVA) EVA is a measure of
financial performance of enterprises, which captures true economic profit as
against the conventional concept of net profit. It truly takes into account
whether an enterprise has actually created or destroyed wealth during an
accounting period. Put simply, EVA is Net Operating Profit After Tax (NOPAT)
minus an appropriate charge for the opportunity cost of the capital employed in
the enterprise (i.e. its weighted average cost of capital, CoC). Thus, EVA is
the amount by which earnings exceed the required minimum rate of return that
shareholders and lenders could get by investing their money in other securities
of comparable risk. If EVA is positive, the enterprise is creating wealth and
if EVA is negative, it is destroying wealth. Thus, the concept of EVA is based
on the principle of residual income, which states that the real income
generated by an enterprise is the residual that remains after its shareholders
and creditors have been paid annual required return. Thus, EVA
= NOPAT ? CoC or
= Capital Employed (ROCE ? CoC) But it is easier said than done. Only about 365 companies have
adopted it in 18 years throughout the world inspite of its magical attraction.
The reason is that it militates against traditional accounting and makes
managers? accountability more transparent and stringent by unveiling their true
performance in creating wealth. Its inventers list 168 accounting adjustments
in traditional accounts ? called sanitisation process ? to calculate EVA, e.g.,
R&D expenditure and intangibles like goodwill, advertising, patents, etc.
are treated as investments in EVA as against revenue expenditure in
conventional accounting and are, thus, amortised over their economic life. EVA was created in 1982 by Joel Stern and Bennet Stewart of Stern
Stewart & Company in the wake of reckless spree of diversification that
most large companies in the US and Europe embarked on in the late 1970s and
early 1980s. The basis of diversification is a company?s, often mistaken, belief
that it can invest funds far more efficiently than the market. Employee Stock Options & ESOPs
Although some persons use the terms interchangeably, there is world
of difference between the two. In Employee Stock Option Plan, an employer gives
an option i.e. a right but not an obligation to his employee to buy the
company?s shares in fixed number at fixed price by fixed time. Employees
exercise this option since the shares are available much cheaply and selling
them in the market yields handsome gains. In Employee Stock Ownership plan i.e. ESOP, the company creates a
trust and contributes annually either its shares or cash to this trust. If cash
is contributed, then the trust purchases company?s shares from the market. Each
employee has an individual account with the trust to which shares accumulate
till he retires or otherwise leaves the organization. The shares in the account
are encashed at current market price and money paid to the employee. Thus, ESOP
is structured basically on the lines of a pension plan to which employees do
not contribute. ESOP, thus, does not confer right of ownership on the
employees. Sometimes, special options are offered to those employees who have
most scarce skills and are likely to be lured away by competitors. An Employee Stock Option Plan (ESOP) is an employee benefit plan,
which makes the employees of company owners of stock in that company. Several
features make ESOPs unique as compared to other employee benefit plans. Most
companies, both domestic and worldwide, are utilising this scheme as an
essential tool to reward and retain their employees. Currently, this form of
re-structuring is most prevalent in IT companies where manpower is the main
asset. How do ESOPs work? Abroad ESOP (where the O often stands for ownership) is seen when
employees buy over the stock of an owner or promoter who is relinquishing
charge. In India, ESOP is used largely to motivate the employees to put in
their best and in turn help the company enjoy lower employee turnover and
retain its talent pool. These two uses probably account for over two-thirds of
all the ESOPs now in existence and are expected to increase with time. What else can ESOP be used for? Interestingly, internationally many companies use ESOPs as a
technique of corporate finance for a variety of purposes -- to finance
expansion, make an acquisition, spin off a division, take a company private,
and so on. This has yet to catch on in India perhaps because the scale of ESOP
so far is too small for many of these uses. How does one allocate an ESOP? A number of different formulae may be used for allocation. The most
common is allocation in proportion to compensation, but formulae allocating
stock according to years of service, some combination of compensation and years
of service, and equally, have all been used. Typically employees might join the
plan and begin receiving allocations after completing one year of service with
the company. Just to illustrate, let's take the example of Zee Telefilms (ZTL),
which considered criteria like length of service, performance and the seniority
of the employee. ZTL issued 4.60 lakh ESOPs convertible into equity shares of
Rs 10 each, to about 70 employees of ZTL and its associate companies. Each of
the 70 employees was eligible to apply for between 3,000 shares and 10,000
shares at Rs 212 per share when the share traded at the time was at Rs 4,255 on
the BSE. The shares issued comprised of three equal parts, issuable to
employees with a minimum of two years of continuous service. One-third of the
shares allotted are freely transferable, another third are locked in for one
year from the date of allotment of the shares and the balance is locked in for
a period of two years from the date of allotment. Many companies are now
flashing ESOPs to attract the best of talents from the big B-schools campus'
offering ESOPs to graduates at the entry level. This includes companies like
Infosys, Wipro, Microsoft, HCL Technologies and HCL Info systems. Another
interesting form of ESOP is when an Indian employee of an MNC subsidiary is
given stock of the MNC parent; in one model the employee can realise as cash
any gain in the price of the share which could be trading on a US exchange. If
the share price falls, the employee does not lose anything. What is the holding period for an employee under an ESOP? The maturity period for the ESOPs is typically three to five years.
But there are schemes that have provisions for a certain percentage of the
stocks maturing from the first year onwards. This is to allow an employee the
facility to offload in case they wish to move to another company, of course the
major chunk of the stocks would mature in the final lap. What is the future of ESOPs in India? As more and more companies realise the need to retain their best
talent in a world, which would be dominated by companies with the best
intellectual capital, this management technique would be the phenomenon of the
new century. Enterprise Resource Planning (ERP) ERP is a software that helps to integrate nearly all the functions
of an organization enabling it to plan, track and see its resources (material,
people and money) in the best possible way to service its customers. ERP has
enabled companies like computer firm Dell and communication equipment company
Cisco in the US to take orders and service customers through the Internet. However, ERP, a buzzword in 1998 lost some of its sheen by 1999. It
is now being replaced by EAI (Enterprise Application Integration) which is a
fast growing discipline designed to make ERP systems able to talk to all other
sources of information in a company they should have been talking to in the
first place. Forfaiting
Forfaiting is a financing mechanism involving discounting of medium
to long-term receivables on without recourse basis. In French language, the
word ?Forfaiting? means ?surrender of rights?. It refers to the purchase of
future payable debt instrument(s), arising from the provision of goods and
services, by a forfaiter from the supplier on ?without recourse basis?. Export Forfaiting involves discounting of
medium and long-term export receivables. The debt instruments that are commonly
used in Forfaiting are Bills of Exchange or Promissory Notes. The pre-requisites
for the scheme are: The export receivables should be staged in a series so that
the forfeiting agency, if it so desires, can sell the forfaited amount in parts
in the secondary market, The repayment of the debt should be generally
?avalised? (unconditionally guaranteed) by the importer?s bank or any other
bank acceptable to the forfaiting agency.
The State Bank of India introduced the scheme in 1999 as an
additional product for its exporter-clients who have medium to long term export
receivables (generally one year to ten years). The Bank has arrangement with
top forfaiting agencies that would offer quotes on request. As quotes are being
arranged from more than one agency, the customers can compare the rates and
accept the best one. The scheme at SBI is being operated by the 4 metro
Overseas Branches and CAG Branches for minimum amounts of each transaction
being US$ one lakh through the Project Exports Cell at Int?l Division,
Corporate Centre (acting as Nodal Agency). RBI has permitted banks in India to
handle export forfeiting without its prior approval, subject to the condition
that the banks can only be facilitators for the scheme. They are not permitted
to assume fund-based exposure. Mechanics of the Transaction: The Indian exporter and the overseas importer negotiate the proposed
export / sale contract with regard to order, quantity, price, currency of
payment, delivery period and credit terms. Based on these, the exporter
approaches the Indian arm of the forfaiter or SBI to ascertain the terms of
forfeiting. The forfaiter collects from the exporter all the relevant details
of the transaction ? details about the importer, supply and credit terms and
the nature of documentation to ascertain the political and credit risks
involved. This risk appraisal is done by the international correspondent of the
Indian forfaiting arm. Depending on the nature and extent of these risks, the agency
indicates the discount rates to the Indian forfaiter. The forfeiting agency
also states the maximum amount and the discount period while giving the quotes. Once the exporter receives the discount rates, he will quote the
contract price to the overseas buyer by loading the financing and commitment
charges on he sale price. If the deal goes through, the exporter signs a
commercial contract with the importer while simultaneously executing a
forfaiting contract with the forfaiter through SBI. The exporter discounts the bills (previously accepted by the
importer?s banker) with the forfaiter and the latter presents the same to the
importer through his banker for payment on the due date or sells it in the
secondary market. Benefits to the Exporters: ·
Credit sales
are converted into cash sales. ·
Exporter can
avail of finance upto 100% of the contract value. ·
It can be
used as a risk management tool as it takes care of interest rate risk (finance
at fixed rate of interest), credit risk (no recourse to the exporter) and
political and transfer risks. ·
It does not
need export credit insurance, so insurance cost is saved. ·
Exporter?s
bank limits do not get affected. ·
The exporter
can export even to risky countries not acceptable to his banker and, thus, can
diversify exports to large number of countries. The charges involved in forfaiting are discounting charges,
commitment charges and sometimes documentation charges when extensive
documentation is to be carried out. London is the major forfaiting center
followed by Zurich. (Source: SBI?s Indian Economic Newsletter Sept-Oct. 1999) Forward Rate Agreements (FRAs) FRAs are simple interest rate risk hedging instruments that require
a group of market makers (banks) to offer two-way quotes on future domestic
interest rates. It is similar to forward premium quoted in the forex market.
FRAs could be used in the development of interest rate swaps. ICICI Bank has
constructed a ten-year synthetic yield curve based on actual GOI securities
dealing in the secondary market on which FRAs can be developed and a proposal
has been submitted to the RBI for permission. Statistical techniques such as
generalized auto-regressive conditional heteroskedasticity (GARCH); volatility
forecasting, cubic splines and bootstrapping have been used to arrive at a
reliable curve. In the Indian context, it will require 5-6 of the bigger banks
with a reasonable balance-sheet size and significant resources ? either their
own or through liquidity support from RBI or LOC ? to start offering FRAs. This
will go a long way in developing the term market and providing benchmark rates
for structuring interest rate swaps. Franchise
Franchising is a business system which involves granting limited
licence by the franchiser to the franchisee for use of diverse intellectual
property rights covering, know-how, designs, brands, trade-marks, patents,
trade secrets, etc. A franchise business has dual personality ? for the
franchiser and the franchisee, the chain comprises independent businesses where
for the outsiders it is a single business with a number of outlets. Since there
is no specific law governing franchises in India, so the Contract Act 1872 is
applicable. Common types of franchises include: Business Format Franchise, Core
Franchise, Shop-in-shop, Pyramid Selling. Globalisation
Globalisation is the process of integrating individual economies
into the world economy so as to ensure balanced growth, development and trade,
avoiding islands of effluence and prosperity in the midst of an encircling sea
of poverty. The loudable aim is to evolve a more just and equitable world
order. This is sought to be achieved by crumbling down barriers to cross-border
trade and capital flows. The emergence of an international financial market
manifested in the growing degree of integration between various national
financial markets and growing interdependence between them accentuated by an
explosion in information technology, breakdown of geographical barriers to the
movement of capital across countries and greater liberalization in financial
markets has been termed as globalisation of the financial markets.
Globalisation is a process and not an objective. It is move or series of moves
towards what may be described as a global economy. The moves are not merely to
be understood as conscious efforts by individuals, business or governments.
These are often response to impersonal forces of markets and technology. Globalisation is a part of the process of
progressive integration of world economy through falling barriers to trade and
exchange and greater mobility of capital. Thus, globalisation is meant to
promote efficiency in production and distribution and to integrate the national
economies into the world economy. Infrastructure Financing
Infrastructure projects like power, telecom, ports, airports,
expressways often involve huge outlay of funds for very long periods. Due to
these peculiarities, appraisal and financing of infrastructure projects call
for special skills and structures. Keeping in view the risks involved at
different stages of projects, need for adequate security to lenders and
lenders? own constraints like not being able to spare funds for very long
periods, new concepts have been developed in infrastructure financing. These
include cash flow financing, usage of Govt. guarantees to induce private
financing, escrow mechanism to ensure that lenders get first charge on a
project?s cash flows, take-out financing and subordinated debt financing. Cash Flow Financing: In cash flow financing, the lenders estimate the cash flows of a
project over its lifetime to see what kind of debt burdens it can support and
at what rates. Then, the amount of debt, financing rate and the way of
repayments can be tailored to fit the cash flows of the project. This helps
both the lender and the project company. Escrow Mechanism: The escrow mechanism has been developed in the case of independent
power projects (IPPs), which are built by private parties out of private funds
and supply electricity to the State Electricity Boards (SEBs). Essentially, it
ensures that out of the SEB?s revenues, the debt obligations of the financing
institutions will be paid first of all. This is done by having some identified revenues being passed
through a separate account called escrow account to which the lenders also have
a right to appropriate the funds in case the SEB defaults in making payments. By having the power to be assigned those funds in case of default
gives an added comfort to the lender and allows the IPP to raise funds.
However, escrow able amounts are limited in each SEB and once these funds are
appropriated, the SEB may not have much assured revenue flows for its other
expenses. Take-out Financing: One of the major problems of financing infrastructure projects is
that while requirements are for long periods, Indian banks and FIs can lend
funds only for about 5-7 years looking to their liability profiles. Take-out
financing allows banks to finance 15-year projects through 5-7 year money. In
India, IDFC offers this facility to banks and FIs. It offers to take-out the
loan from the bank?s books after an initial period of say, 5 years. IDFC can,
then. Keep the loan on its books or on-lend it to another bank for say, another
5 years. While the project promoter has got loan for 15 years, through this
mechanism, banks can participate in loans on a part-to-part basis. In another variant, the take-out financier could offer a refinance
facility to the original lender at the end of 5 years instead of taking out the
loan from its books. Subordinated Debt Financing: Institutions have also talked about funding infrastructure projects
through a quasi-equity instrument called subordinated debt, which may have flexible
maturity and payment terms. In this case, the borrower gets money, which has a
longer tenor and has the comfort of being repaid after meeting the secured debt
obligations. The payment terms can also be made flexible. Such loans could even
be converted to equity at a later date, if desired. Liquidity Adjustment Facility It is a mechanism by which RBI draws out funds from the money
market at a time of surplus and infuses liquidity whenever there is temporary
shortage. RBI achieves this by getting banks and PDs to bid for funds if there
is a shortage and by borrowing from them if there is surplus. The Indian money
market has, for long, been characterized by highly volatile conditions. Several
measures taken by RBI over the last decade have imparted depth and breadth to
the market. The money market interest rates, however, continue to be quite
volatile. As the overnight rates are not stable, banks were not keen to lend
term money (ranging from a fortnight to one year) to other banks, because it is
difficult to take a view over a longer period. As a result, a short-term rupee
yield curve could not emerge. The Narsimham Committee II had recommended
introduction of an LAF operated through repos and reverse repos in order to set
a corridor for money market interest rates. RBI introduced an Interim LAF in
April 1999 pending further upgradation of technology and legal / procedural
changes to facilitate electronic transfer and settlement. ILAF was operated
through a combination of repo, export credit refinance, collateralized lending
facilities and open market operations. Before the introduction of LAF on June 5, 2001, RBI was maintaining
this corridor by providing a fixed amount of refinance at a fixed rate on the
one hand and conducting daily fixed rate repos on the other. The refinance was
available in two stages ? first at the Bank Rate and the second at Bank Rate
plus 2 percentage points. Refinance means lending by RBI to banks. The daily
repos are a mode of borrowing where the borrower (here RBI) sells securities
with an agreement to buy them back at predetermined price. The difference
between the sale and repurchase price indicates the interest cost on the funds. This had two limitations. RBI could not change the corridor
whenever it wanted and the refinance was for a fixed amount, which meant that
rates were free to hit the ceiling when the refinance limits were exhausted.
RBI provides funds to banks and PDs at a fixed rate under its refinance scheme.
Under the LAF, however, funding is available through reverse repo auctions. A
reverse repo is the reverse of a repo. In an auction, borrowers bid for funds
indicating the amount they want and the rate they are willing to pay. Providing
funds through an auction route means that the rate at which funds will be
available will be determined by how much the market is willing to pay. The
reverse repo is only half of the LAF because the other part comprises the repo
auction where the RBI borrows money. As of now, only the second stage of
refinancing has been replaced with reverse repos. RBI assesses the liquidity position daily on the basis of a variety
of factors such as the conversion of foreign currencies into rupees, turnover
in the call money market the previous day, CRR requirements of the banking
system and the quantum of funds exiting the system such as advance tax. Based
on liquidity assessment, RBI decides the rate at which it should lend and also
the quantum of funds it should lend. Money Laundering It is the process of transferring illegally obtained money (e.g.,
drug money, flesh money or illegal weapons money, etc.) into a bank, usually in
a foreign country, and subsequent redemption of these funds via a legitimate
source. Money laundering is said to have progressed particularly due to the
advancements made in information and communications technology in banking and
the emergence of a number of off-shore banking centers. Although the process of money laundering is quite complex,
basically it involves the following three steps: 1.
Placement: The physical disposal of bulk cash
proceeds derived from an illegal activity. 2.
Layering: The separation of illicit proceeds
from their source by creating complex layers of financial transactions designed
to conceal and disguise the audit trail and provide anonymity. 3.
Integration: Integration provides an apparently
legitimate explanation to criminally derived wealth. The purpose of integration
is to re-inject the laundered proceeds back into the economy in such a way that
they re-enter the financial system as normal business funds. A legislation is pending for enactment in the Parliament to curb
money laundering crimes in India. Narrow Banking
The Committee on Capital Account Convertibility, noting the
systemic dangers of some of the weak banks growing at rates faster than the
system, recommended that these weak banks should be converted into Narrow Banks
by restricting their incremental resources to be deployed only in Govt.
securities. The concept of narrow banking is not new. On two occasions, narrow
banking has been part of recommendations for radical changes in the regulation
of US banks ? in the 1930s with the Chicago Plan for Monetary Reform and in the
1980s as part of the debate that followed the savings and loan crisis.
Proponents of narrow banking have several objectives:
I.
To achieve
full control of the money supply.
II.
To eliminate
runs in a regime with no deposit insurance since narrow banks are not
susceptible to runs on account of their liquidity.
III.
To reduce
systemic risk, i.e. the risk of failure of one bank leading to failure of other
banks in the payments systems.
IV.
To reduce the
cost of deposit insurance. The concept, however,
has been criticised on the ground that it creates a sort of preferential
financial arrangement for the Govt. It provides a cheap source of short-term
funds for the Govt. and the savings of the community mobilised through narrow
banks are thus used for financing the Govt?s revenue deficit at the cost of
productive sectors of the economy. Further, the concept of narrow banks, if introduced,
will lead to bifurcation of deposit-taking and lending activities of such
banks, which would lead to inefficiencies in the banking system. The debate on
the appropriateness on narrow banks is still inconclusive. Operational Risk At present, there is no agreed definition of
operational risk. Many banks have defined it as any risk not categorized as
market or credit risk and some have defined it as the risk of loss arising from
various types of human or technical errors. Some banks associate operational
risk with settlement or payments risk and business interruption, administrative
and legal risks. Several types of events for example settlement, collateral and
netting risks, etc., are seen by banks as not classifiable as operational risk.
All banks see some form of link between credit, market and operational risk. In
particular, an operational problem with a business transaction could create
market or credit risk. While most banks view technology risk as a type of
operational risk, some banks view it as a separate risk category with its own
discrete risk factors. The most
important types of operational risk involve breakdowns in internal control and
corporate governance. Such breakdowns can lead to financial losses through
error, fraud or failure to perform in a timely manner. For example, leading
officers or other staff exceeding their authority or conducting business in an
unethical or risky manner. Other aspects of operational risk include major
failure of information technology systems or events such as major fires or
other disasters. Managing operational risk is becoming an
important feature of sound risk management practice in modern financial
markets. The Basle Committee on Banking Supervision has initiated work related
to operational risk. Varieties of techniques are used to control or mitigate
this risk. Virtually all banks in the world see internal control and internal
audit process as the primary means to control operational risk. Banks working
on operational risk management have touched on a variety of other
possibilities. A few banks have established some form of operational risk
limits, usually based on their measures of this risk or other exception
reporting mechanisms to highlight potential problems. Banks believe that
insurance is an important mitigator for some forms of operational risk. Many
banks have established a provision for operational losses similar to
traditional loan loss reserves now routinely maintained. On the basis of the Basle Committee proposal
to prescribe a capital charge for operational risk, State Bank of India has put
in place an Operational Risk Management Committee (ORMC) to manage its
operational risk. The functions of the Committee will include: 1. To identify,
coordinate, mitigate and control the operational risks relating to various
types of activities of the bank, 2. To oversee and
review the internal control systems in the bank and consider additions /
modifications therein as may be the case, 3. To evolve
benchmarks based on business activity aggregation to quantify operational risks
on a bank-wise basis and to set up a mechanism for regular review of the
benchmarks, and 4. To set prudential
limits for operational risks and to monitor system thereof. Following the RBI?s targeted approach towards
banking industry?s risk management system, SBI has taken a lead in constituting
an Integrated Risk Management Committee (IRMC) also, which will be the apex
committee for the overall control of risk management functions, reporting to
the Bank?s Board. Some of the functions of the Committee include: 1) Implementing risk
management policy of the bank, 2) Evaluating the
overall risk being met within its activities, 3) Monitoring
quantitative prudential exposures on various segments of operations, 4) Taking stock of
risk management initiatives for eventual integration of risks in the risk
adjusted return on capital (RARC) framework, 5) Developing
policies and procedures to integrate various risks at the entire bank level, 6) Setting a
monitoring policy to optimize capital resources allocation between various
available investments including those in associates and subsidiaries to
maximize risk returns, and 7) Defining /
clarifying nodal points wherever risks cut across functional departments to
facilitate orderly integration of information. Quantitative Restrictions
In pursuit of the goal of sustainable growth and development for
the common good, all the member countries of the WTO at their meeting held in
1996 in Singapore had envisaged a world where trade flows freely. To this end,
they had reviewed their commitments to a fair, equitable and more open rule
based system; progressive liberalization and elimination of tariff and
non-tariff barriers to trade in goods; rejection of all forms of protectionism;
elimination of discriminatory treatment in international trade relations;
progressive liberalization of trade in services; integration of developing and
least developed countries and economies in transition into the multilateral
system; and the maximum possible level of transparency. Accordingly, it was
decided that the QRs on import of various items would have to be phased out by
2003 by the member countries of WTO.
QRs, also called quotas, are the measures like fixing up quotas, issuing
licenses for imports and canalization taken to restrict imports. These are
limits set by countries to curb imports i.e. ceilings fixed as to how much of
certain specific things can be imported within the country every year. These
ceilings are administered by the Govt., which issues licenses that allow
specific amounts to be imported. In extreme cases, quotas can go down to zero,
which means that imports are virtually banned.
QRs can also be administered by canalising imports i.e. allowing only a
few players to import specific things. Although multilateral trade rules in general prohibit imposition of
QRs, WTO provides exceptions to this fundamental principle on BoP grounds.
India was maintaining QRs on the plea of fragile BoP position. However, the
position of BoP improved over the years and India committed to remove all QRs
by 2003. Subsequently, in a case lodged by USA against India in the WTO Dispute
Settlement Board, it was ruled that India?s BoP position no longer warranted
continuation of QRs. So, India agreed to remove the QRs by 31.03.2001 in a
bilateral agreement with USA. Till 31.03.2000, India had abolished quotas on
all items except 1427. On 1st April 2000, quotas on 714 items were
abolished and on 1st April 2001, the remaining quotas were also bid
adieu. For a long time, economists believed that tariffs and quotas had
the same impact i.e. restricting trade and cutting into welfare. However, this
thesis was proved wrong by Jagdish Bhagwati in 1965 and it is now widely held
that quotas hurt economies more than tariffs do. WTO, therefore, insists that
its member countries should replace quotas with tariffs. Replacing quotas with
tariffs boosts Govt. revenue, avoids unnecessary costs implicit in ?rent
seeking? devices called licenses and improves international relations by
promoting trade among countries. However, it was apprehended that removal of QRs might lead to surge
in imports coupled with dumping of imported goods into the country. Also, the
small industries were doubted to lose viability. Therefore, the GOI has taken
appropriate steps to boost confidence of domestic sector. Tariff rates have
been adjusted to curb any temporary surge in imports of specific items. Laying
down of Indian quality standards and printing of retail prices in rupees has
been made mandatory for all imported goods. Further, the WTO framework also
permits various trade defence measures to protect domestic industry thus
permitting member countries to impose additional duty on trade under certain
conditions. These include anti-subsidy and anti-dumping action, protection
under safeguard provisions in case of surge in imports, besides providing some
exceptions necessary for taking care of national security, protecting public
morals, human, animal or plant life or health or relating to the conservation
of exhaustible natural resources. Institutional set up to implement all these
agreements includes the Directorate of Anti-dumping & Allied Duties and the
Directorate of Safeguards. Govt. also proposes to strengthen the Tariff
Commission to independently advise the appropriate level of tariffs to be
imposed from time to time. Relationship Management One of the recommendations of consultants McKinsey & Company
for enhancing the value proposition of strategic lending activities of State
Bank of India was the introduction of Relationship Management concept in
Corporate Accounts Group and CNW in National Banking Group. While the RM
concept was implemented in CAG at inception, the same was started in CNW on a
pilot basis in 1998 and continues where it was put as a pilot project. Salient Features: 1.
Account
Management Team (AMT) is the cornerstone of RM concept and will consist of one
Relationship Manager (RM) and one Credit Analyst (CA) headed by RM. 2. RM to be in SM IV scale and CA in MM III / II scale. In the absence of RM, Branch Manager will directly supervise the work of CA. 3.
An AMT is
expected to handle 12-15 accounts depending on the complexity of individual
accounts. 4.
The RM
concept to be applied to accounts with FBL Rs.2.00 Crore and above. Other
Commercial Advances Accounts to be booked under separate structure as Credit
Division. 5.
Only standard
accounts should be chosen on consideration of business, credit ratings and the
need for Relationship Management. 6.
At branches
where there are two or more AMTs, Relationship Groups within the Branch may be
based geographical proximity of units, business (customer) groups, industry
groups or facility size. 7.
Members of an
AMT should work in the team for a minimum period of three years and both
members should not be disturbed in the same year. Objectives: 1.
To enhance
value and profitability of relationship with identified borrowing customers. 2.
To overcome
customer disloyalty. 3.
To develop
client specialisation within the bank. 4.
To provide
single point contact in the bank for identified customers. 5.
To expedite
decision making within the bank by delayering certain positions in hierarchy. Benefits: 1.
Customer
loyalty increases due to better understanding and taking care of their banking
needs. 2.
Client
specialisation leads to better knowledge about the customer and improved
decision-making, so less number of problem accounts. 3.
Profitability
of customer relationship is enhanced by booking more business. Role of RM: 1.
Leader of AMT 2.
Proactive
Business Development & Marketing 3.
Maximisation
of Profitability of Customer Relationship 4.
First point
of contact for trouble shooting 5.
Client
Specialist within the Bank (by developing a deep understanding of the
customer?s industry, goals and objectives, banking needs, etc). Repo
Repo, repurchase obligation, is a money
market instrument, which enables collateralised short-term borrowing and
lending through sale/purchase operations in debt instruments. Under a repo
transaction, a holder of securities sells them to an investor with an agreement
to repurchase at a pre-determined date and rate. In the case of a repo, the
forward clean price of the bonds is set in advance at a level, which is
different from the spot clean price by adjusting the difference between repo
interest and coupon earned on the security. Repo is also called a ready forward
transaction as it is a means of funding by selling a security held on a spot
(ready) basis and repurchasing the same on a forward basis. Reverse repo is a
mirror image of repo as in the case of former; securities are acquired with a
simultaneous commitment to resell. Subsequent to the irregularities in
securities transactions, repos were initially allowed in the Central Government
Treasury bills and dated securities created by converting some of the Treasury
bills. In order to activate repos market essentially to be an equilibrating
force between money market and the Government securities market, the Reserve
Bank gradually extended repos facility to all Central Government dated
securities and Treasury bills of all maturities. Recently, while the State
Government securities were made eligible for repos, the Reserve Bank also
allowed all non-banking entities, maintaining SGL and current account with its
Mumbai office, to undertake repos (including reverse repos). Furthermore, it
has been decided to make PSU bonds and private corporate securities eligible
for repos to broaden the repos market. The Reserve Bank also undertakes repo/
reverse repo operations with PDs and scheduled commercial banks, as part of its
open market operations. It also provides liquidity support to SDs and 100 per
cent gilt mutual funds through reverse repos. Thus, RBI conducts repo
transaction when it wishes to suck excess liquidity from the market and
conducts reverse repo transaction if it wishes to inject liquidity into the market.
There is no limit on the tenor of repos. The Reserve Bank initially conducted
repo operations for a period of 14 days. Since November 1996, the Reserve Bank
has been conducting 3-4 day repo auctions, synchronizing with working day and
weekend liquidity conditions, in order to modulate short-term liquidity. With
the introduction of Liquidity Adjustment Facility (LAF) from June 5, 2000, the
Reserve Bank has been injecting liquidity into the system through reverse repos
and absorbing liquidity from the system through repos on a daily basis. These
operations are conducted on all working days except on Saturdays, through
uniform price auctions and are restricted to scheduled commercial banks and
PDs. This is apart from the liquidity support extended by the Reserve Bank to
PDs through refinance/reverse repo facility at a fixed price. Repos help to manage liquidity conditions at
the short-end of the market spectrum. Repos have often been used to provide
banks an avenue to park funds generated by capital inflows to provide a floor
to the call money market. During times of foreign exchange market volatility,
repos have been used to prevent speculative activity, as the funds tend to flow
from the money market to the foreign exchange market. For instance, a fixed rate
repo auction system was instituted in November 1997 with a view to ensuring an
effective floor for the short-term interest rates in order to ward off the
spread of contagion during the South-East Asian crisis. The repo rates were
reduced with the return of capital flows, which imparted stability to the
foreign exchange market. Securitisation Securitisation means debt conversion into a
form, which is readily transferable and tradable. This helps banks to liquefy
their assets and create new primary and contingent i.e. off-balance sheet
commitments. It takes the form of NIF, RUF, FRN, etc. It is also defined as the
process, which takes place when the assets are removed from the balance sheet
of a lending banker and are funded by investors. Although the sophisticated
securities markets of the US have many exotic derivative variants in
circulation, it is possible to classify securitised debt instruments in three
broad categories: Pass-Through
Certificates:
Stripped & Derivative Structures: Stripped & Derivative Structures are
where cash flows are broken into components such as ?Principal Only? (POs) or
?Interest Only? (IOs) securities. While PO holders are paid out of the income
derived from the principal, IO holders are paid out of interest income only.
These securities are volatile since the values of POs go up with declining
interest rates (it makes sense to pre-pay and go in for lower interest loans
then), while in a climate of increasing interest rates, the values of IOs
increase since more interest accrues on underlying mortgages. Speculators can
take a position depending on their assessment of interest rate movements. This
makes these derivatives unsuitable for uninitiated markets. Six Sigma Six Sigma is a concept developed by Motorola
Corporation during 1980s and is a philosophy of continuous improvement in
performance. It brings about a cultural change in in a company, a paradigm
shift towards expecting higher quality, which then drives passion for
continuous improvement by all players. Sigma is a statistical _expression_
indicating how much variation there is in a product. It is measured by
calculating standard deviation for a given confidence level. A performance
level of Six Sigma equals 3.4 defects per one million opportunities ? not
perfect but pretty close. A defect is defined as anything that causes customer
dissatisfaction. A unit is any unit of work; say an hour of labour or a circuit
board or even a keystroke. Six Sigma, thus, may sound arcane and mystical but
in reality it is just a mathematical formula and fairly simple. The number of
units processed is multiplied by the number of potential defects per unit; the
answer is divided by the number of defects actually occurring and the result is
multiplied by one million to give the number of defects per million operations.
The following conversion table may be used to translate that number into sigma
value, which is then aimed to be brought near six: 6 Sigma = 3.4 defects
per million 5 Sigma = 230
defects per million 4 Sigma = 6210
defects per million 3 Sigma = 66800
defects per million 2 Sigma = 308000
defects per million 1 Sigma = 690000
defects per million. Six Sigma is achieved through a process,
which is tracked using simple tools such as the Pareto chart. This bar chart is
widely used as a data display tool in Six Sigma because it identifies which
problems occur with the greatest frequency or incur the highest cost. Hence, it
provides direct evidence about what should be corrected first. Italian
economist, Vilfredo Pareto, after whom the chart is named, theorised that 20%
of possible causes are responsible for 80% of any problem. Another way to test variance is by performing
the Chi Square test. With this analytical process, a table is used to test the
relationship between two possible causes of variation to determine the
relationship?s statistical importance. Design
of Experiments (DOE) methodically reduces process variation through a sequence
of experiments rather than relying on a typical trial-by-error approach.
Following each experiment, the combination of adjustments becomes an equation
that can either be solved as a matrix or entered into a computer for a solution
DOE users can efficiently test a large number of variables without the expense
of manufacturing the product totally. Sweat Equity Sweat equity is a method of rewarding employees and is considered
better than ESOPs. While sweat equity creates ownership and hence
entrepreneurial ability, ESOP is nothing more than a perk to employees.
Additionally, sweat equity is a fair reward for the knowledge brought in by an
employee into a venture while ESOP is a tool to check employee turnover and
offers unequal reward. On the whole, sweat equity is a larger concept and the
Deptt. Of Company Affairs is proposing to popularizing it through legal
measures, although law permits both sweat equity and ESOPs. Sweat equity will
promote creation of entrepreneurial community. It is entrepreneurial spirit
that differentiates Indians from Chinese ? while Chinese are entrepreneurs and
hence investors, Indians are depositors. Both have a role to play but investors
are more important to a country?s development. Value At Risk (VAR) VAR refers to the maximum amount of money likely to be lost over
some period at some specific confidence level. Basically, VAR is a method of
assessing risk that uses standard statistical techniques routinely used in
other technical fields. Formally, VAR measures the worst expected loss over a
given time interval under normal market conditions at a given confidence level.
Thus, for calculating VAR, we should specify the time horizon for management of
the risk and the confidence level for which the risk estimate is to be done.
For instance, if the daily VAR of a portfolio is estimated to be Rs.10 million
at 90% confidence level, it means that not more than Rs.10 million can be lost
in one day 90% of the time. In its most general form, VAR can be derived from
the probability distribution of future portfolio value taking the cue from the
assumed fact that history in all probability repeats itself. Individually, VAR
of assets can be worked out for foreign currency spot / forward positions or
options; call option on common shares, fixed income securities, etc. The VAR
model is mainly meant for measuring the market risk of the portfolio of
financial assets. The market risk in this context refers to the risk that the
market value of the portfolio will decline as a result of changes in interest
rates, forex rates, equity prices or commodity prices. VAR concept can be used
in Indian banks in a number of applications, e.g., Fine-tuning asset-liability
management by estimating the volatility of Net Interest Income using the
required confidence interval. The most important area is trading risk
management. Limits can be set for the entire trading operation and for each
type of risk, etc. Tool to communicate to shareholders the financial or market
risks through disclosure in annual reports. Reporting of actual change in
portfolio value corresponding to the reported VAR enables users to assess the
effectiveness of internal risk-management system. VAR model helps to decide how
to allocate limited resources and it creates a common denominator with which to
compare various risky activities. A major use of VAR can be for performance
evaluation i.e. linking trader?s profitability to the amount of risk taken by
him. In the area of regulatory applications, VAR helps assessment of potential
capital adequacy. Thus, there is a strong case for promoting the application of the
VAR technique in the Indian banks with the ultimate goal of disclosing the VAR
of a bank in its balance sheet. The VAR is, however, not an exact measure and
is fraught with the possibility of errors. Moreover, prices may respond in a
non-linear fashion and correlations are subject to changes. Yet, it is a good
tool for measuring the overall risks of a bank. It helps banks to make better
management decisions. Further, the VAR is only a technique and cannot be a
substitute for expert judgment. Biometrics
The term 'biometrics' is used to refer to the emerging field of
technology devoted to identification of individuals using biological traits,
such as those based on retinal or iris scanning, fingerprints, or face
recognition. Fingerprints are the best know biometric tool and has been used by
law enforcement agencies for nearly a century. Biometrics is essentially a fallout of the rapid advances in the
information age. With everyday actions increasingly being handled
electronically, instead of with pencil and paper or face to face, the need for
fast and accurate user identification and authentication in electronic
transactions has grown. Biometric
technology provides an avenue to achieve fast, user-friendly authentication
with a high level of accuracy.
What are Derivatives?
The term "Derivative" indicates that it has no
independent value, i.e. its value is entirely "derived" from the
value of the underlying asset. The underlying asset can be securities,
commodities, bullion, currency, live stock or anything else. In other words,
Derivative means a forward, future, option or any other hybrid contract of pre
determined fixed duration, linked for the purpose of contract fulfillment to
the value of a specified real or financial asset or to an index of securities. With Securities Laws (Second Amendment) Act,1999, Derivatives has
been included in the definition of Securities. The term Derivative has been
defined in Securities Contracts (Regulations) Act, as:- A Derivative includes: - ·
a security
derived from a debt instrument, share, loan, whether secured or unsecured, risk
instrument or contract for differences or any other form of security; ·
a contract
which derives its value from the prices, or index of prices, of underlying
securities; What is a Futures Contract?
Futures Contract means a legally binding agreement to buy or sell
the underlying security on a future date. Future contracts are the
organized/standardized contracts in terms of quantity, quality (in case of
commodities), delivery time and place for settlement on any date in future. The
contract expires on a pre-specified date which is called the expiry date of the
contract. On expiry, futures can be settled by delivery of the underlying asset
or cash. Cash settlement entails paying/receiving the difference between the
price at which the contract was entered and the price of the underlying asset
at the time of expiry of the contract. What is an Option contract?
Options Contract is a type of Derivatives Contract which gives the
buyer/holder of the contract the right (but not the obligation) to buy/sell the
underlying asset at a predetermined price within or at end of a specified
period. The buyer / holder of the option purchases the right from the
seller/writer for a consideration which is called the premium. The
seller/writer of an option is obligated to settle the option as per the terms
of the contract when the buyer/holder exercises his right. The underlying asset
could include securities, an index of prices of securities etc. Under Securities Contracts (Regulations)
Act,1956 options on securities has been defined as "option in
securities" means a contract for the purchase or sale of a right to buy or
sell, or a right to buy and sell, securities in future, and includes a teji,
a mandi, a teji mandi, a galli, a put, a call or a put and call in
securities; An Option to buy is called Call option and option to sell is
called Put option. Further, if an option that is exercisable on or
before the expiry date is called American option and one that is
exercisable only on expiry date, is called European option. The price at
which the option is to be exercised is called Strike price or Exercise price. Therefore, in the case of American options the buyer has the right
to exercise the option at anytime on or before the expiry date. This request
for exercise is submitted to the Exchange, which randomly assigns the exercise request
to the sellers of the options, who are obligated to settle the terms of the
contract within a specified time frame. As in the case of futures contracts, option contracts can be also
be settled by delivery of the underlying asset or cash. However, unlike futures
cash settlement in option contract entails paying/receiving the difference
between the strike price/exercise price and the price of the underlying asset
either at the time of expiry of the contract or at the time of exercise /
assignment of the option contract. What are Index
Futures and Index Option Contracts? Futures contract based on an index i.e. the underlying asset is the
index, are known as Index Futures Contracts. For example, futures contract on
NIFTY Index and BSE-30 Index. These contracts derive their value from the value
of the underlying index. Similarly, the
options contracts, which are based on some index, are known as Index options
contract. However, unlike Index Futures, the buyer of Index Option Contracts
has only the right but not the obligation to buy / sell the underlying index on
expiry. Index Option Contracts are generally European Style options i.e. they
can be exercised / assigned only on the expiry date. An index, in turn derives
its value from the prices of securities that constitute the index and is
created to represent the sentiments of the market as a whole or of a particular
sector of the economy (Sectoral Index). By its very nature, index cannot be
delivered on maturity of the Index futures or Index option contracts therefore,
these contracts are essentially cash settled on Expiry. Customer Relationship
Management
Customer has always been at the centre stage of any business
organization. Its capacity to keep the lifeline running of business houses can
never be undermined. But, of late, as an aftermath of opening up of economy and
liberalization the customer is getting more and more attention and focus of all
businesses is now on customer's satisfaction. Reasons for this are very much
visible and based on certain principles. The markets are being driven through
the forces of demand and supply. And in the wake of liberal import policies and
open doors for Foreign Investment the market scenario of businesses has turned
from that of sellers' market to buyers' market. The growing expectations of the
customers, fast changing preference and opportunities available to him as
consumer have made him the king in true sense. Retaining old customers and
winning new ones is proving a tough challenge. As a result, customer satisfaction
is a growing concern for the organizations that want to grow in this
competitive world of today. Satisfaction
of customers is of paramount importance for any business organization. It
determines the future cash inflows to the business. The organization has to
depend on its existing as well as new customers to keep itself growing.
Attracting new customers involves considerable acquisition costs - such as
advertising, promotion, follow up and setup costs. The operating cost is also
higher than for existing ones. The longer any business keeps a customer, the
more profits are likely to flow in. In case the customer is not adequately
satisfied and defects, the business not only incurs a loss due to unrecovered
costs but it also misses an opportunity to make profit. The defection rate of
the customers is a major determinant of the profitability of any business.
Higher the defection rate, lower the average length of the relationship, with
the customers leading to losses or reduced profits. Satisfied customers improve
the businesses' bottom line not only through continued relationship but also
through referrals and positive word of mouth feedback or WOM Customer
Satisfaction has been defined in several ways. Most important of them are-
Expectation performance interactions, Pleasure / Displeasure and the Evaluation
of the benefits of consumption. It has
also been defined as the degree of happiness a customer experiences with a
company's product or service as a result of his or her interaction and inter-relationship
of all the people within that company. |
