Thesis Master of Business Studies(M.B.S)

Thesis Master of Business Studies(M.B.S)

A STUDY ON LIQUIDITY MANAGEMENT OF NEPAL

BANK LIMITED

A THESIS

Submitted By:

Usha Khadka

Nepal Commerce Campus

T.U. Regd. No: 7-2-25-528-2995

Exam Roll NO: 250632/068

Class Roll No: 39/066

Submitted to:

Office of The Dean

Faculty of Management

Tribhuvan University

In Partial Fulfillment of the requirement for the Degree of

Master of Business Studies (M.B.S)

New Baneshwor, Kathmandu

April, 2017

Phone : 4107040, 4107044

              4107045, 4107048

P.O.Box No.: 2465

E-mail: info@ncc.edu.np

TRIBHUVAN UNIVERSITY

Faculty of Management

NEPAL COMMERCE CAMPUS

Minbhawan, Kathmandu, Nepal

Ref:

RECOMMENDATION

This is to certify that the Thesis

Submitted by:

Usha Khadka

Entitled:

A STUDY ON LIQUIDITY ANAGEMENT OF NEPAL

BANK LIMITED

has been prepared as approved by this Department in the prescribed format of the

            Faculty of Management. This thesis is forwarded for examination.

E-mail: info@ncc.edu.np

TRIBHUVAN UNIVERSITY Faculty of Management NEPAL COMMERCE CAMPUS Minbhawan, Kathmandu, Nepal Ref: VIVA-VOCE SHEET We have conducted the viva-voce of the thesis presented Submitted by: Usha Khadka Entitled: A STUDY ON LIQUIDITY ANAGEMENT OF NEPAL BANK LIMITED and found the thesis to be the original work of the student and written according to the prescribed format. We recommend the thesis to beaccepted as partial fulfillment of the requirement for Master Degree of Business Studies (M.B.S.) Viva-Voce Committee

 

Date……………………………………….

Phone : 4107040, 4107044

              4107045, 4107048

              P.O.Box No.: 2465

Head of Research Department

Member (Thesis Supervisor)

Member (External Expert)

DECLARATION

I hereby declare that the work reported in this thesis entitled A Study on Liquidity Management of Nepal Bank Limited Submitted to Office of the Dean, Faculty of Management, Tribhuvan University, is my original work done in the form of partial fulfillment of the requirement for the Master Degree in Business Studies (M.B.S.) under the supervision of Asso. Prof. Rajeshwor Neupane of Nepal Commerce Campus.

Usha Khadka

Nepal Commerce Campus

T.U. Regd. No: 7-2-25-518-2995

Exam Roll NO: 250632/068

Class Roll No: 39/066

ACKNOWLEDGEMENTS

Many individuals have generally contributed on shaping and bringing this thesis to this point. I am indebted to all of them for their tremendous help, encouragement and insightful as well as constructive comments.

I am primarily indebted to Head of Research Department Prof. Dr. Sushil Bhakta Mathema and Thesis Supervisor Asso. Prof. Rejeshwor Neupane of Nepal Commerce Campus whose valuable guidance, support and encouragement throughout this study. This study would not have been completed in time without this intellectual and personal support. My feelings of sincere gratitude goes to all the staff members of Nepal Commerce Campus who have been very cordial friendly and helpful to provide me with the necessary information and guidelines every time I paid a visit to them during the making of this work.

I am also very much thankful to the personnel of Nepal Bank Limited for their various support, valuable suggestions and active Co-operation to complete my work.

Finally, I am very much grateful to my family for their encouragement and moral & physical support during the preparation of this thesis. I express debt of gratitude my teachers, my friend Ram Hari Nepal and other friends for their continuous support, help and inspiration in my study. Lastly, I apologize for my errors committed in this work.

…………………………………

Usha Khadka

Nepal Commerce Campus

TABLE OF CONTENTS

Recommendation	Page No
Viva-Voce Sheet
Declaration
Acknowledgements
Table of Contents
List of Tables
List of Figures
Abbreviations
CHAPTER I
INTRODUCTION	1-13
1.1 Background of the Study	1
1.1.1 Origin of the Bank in Nepal	3
1.1.2 Commercial Banks in Nepal	4
1.1.3 Introduction to the Nepal Bank Limited	5
1.2 Focus of the Study	8
1.3 Statement of the Problem	9
1.4 Objectives of the Study	11
1.5 Significance of the Study	11
1.6 Limitations of the Study	12
1.7 Organization of the Study	1
CHAPTER II
REVIEW OF LITERATURE	14-49
2.1 Conceptual Review	14
2.1.1 Concept of Commercial Bank	15
2.1.2 Functions of Commercial Banks	16
2.1.3 Concept of Credit	17
2.1.4 Types of Credit	17
2.1.5 Objectives of the Sound Credit Policy	21
2.1.6 Lending Criteria	21

2.1.7 Principles of Sound Lending Policy	22
2.1.8 Some Important Ban king Terms	25
2.1.9 Project Appraisal	29
2.1.10 Provision of NRB for Extending Advances & Investment in    Productive, Priority and Deprived Sector	30
2.1.11 Pass	33
2.2 Review of Related Studies	38
2.2.1 Review of Article	38
2.2.2 Review of Thesis	40
2.3 Research Gap	47
CHAPTER III
RESEARCH METHODOLOGY	49-60
3.1 Introduction	49
3.2 Research Design	49
3.3 Population and Sampling	50
3.4 Data Analysis Procedures	50
3.5 Nature and Sources of Data	50
3.6 Reliability of Data	51
3.7 Data Analysis Tools	51
3.7.1 Financial Tools	51
3.7.2 Statistical Tools	59
CHAPTER IV
PRESENTATION AND ANALYSIS OF DATA	61-88
4.1 Introduction	61
4.2 Analysis of Financial Tools	61
4.2.1 Ratio Analysis	61
4.3 Statistical Analysis	83
4.3.1 Coefficient of Correlation Analysis	83
4.4 Major Findings of the Study	86

CHAPTER V
SUMMARY, CONCLUSIONS AND RECOMMENDATIONS	89-94
5.1 Summary	89
5.2 Conclusions	90
5.3 Recommendations	91
BIBLIOGRAPHY APPENDIX

LIST OF TABLES
Table No	Title	Page No
4.1	Current Ratio	62
4.2	Cash and Bank Balance to Total Deposit Ratio	63
4.3	Credit and Advance to Total Deposit Ratio	65
4.4	Loan, Advances and Investment to Total Deposit Ratio	66
4.5	Performing Assets (Loan) to Non-performing Assets Ratio	68
4.6	Non-Performing Assets to Total Assets Ratio	69
4.7	Loan Loss Provision to Total Loan and Advances Ratio	70
4.8	Non-Performing Loan to Total Loan and Advances Ratio	71
4.9	Pro vision for Pass Loan to Total Pass Loan Ratio	73
4.10	Provision for Doubtful Debt to Total Doubtful Debt Ratio	74
4.11	Provision for Bad Debt (Loss) to Total Bad Debt Ratio	75
4.12	Interest Income to Loan and Advances and Investment Ratio	76
4.13	Interest Expenses to Total Expenses Ratio	77
4.14	Interest Expenses to Interest Income Ratio	78
4.15	Return of Equity Ratio	79
4.16	Return on Total Assets Ratio	80
4.17	Return on Net Loan and Advance	81
4.18	Earning per Share	82
4.19	Correlation Co-efficient of Non-Performing Loan and Total Loan	84
4.20	Correlation Co-efficient of Total Loan and Total Assets	85

LIST OF FIGURES

Figure No	Title	Page No
4.1	Current Ratio	62
4.2	Cash and Bank Balance to Total Deposit Ratio	64
4.3	Credit and Advance to Total Deposit Ratio	65
4.4	Loan, Advances and Investment to Total Deposit Ratio	67
4.5	Performing Assets (Loan) to Non-performing Assets Ratio	68
4.6	Non-Performing Assets to Total Assets Ratio	69
4.7	Loan Loss Provision to Total Loan and Advances Ratio	70
4.8	Non Performing Loan to Total Loan and Advances Ratio	72
4.9	Provision for Pass Loan to Total Pass Loan Ratio	73
4.10	Provision for Doubtful Debt to Total Doubtful Debt Ratio	74
4.11	Provision for Bad Debt (Loss) to Total Bad Debt Ratio	75
4.12	Interest Income to Loan and Advances and investment Ratio	77
4.13	Interest Expenses to Total Expenses Ratio	78
4.14	Interest Expenses to Interest Income Ratio	79
4.15	Return of Equity Ratio	80
4.16	Return on Total Assets Ratio	81
4.17	Return on Net Loan and Advance	82
4.18	Earning per Share	83

ABBREVIATIONS

A.M.	Arithmetic Mean
B.S.	Bikram Sambat
C.V.	Coefficient of Variation
Co.	Company
EPS	Earning Per Share
F/Y	Fiscal Year
G.M.	General Manager
i.e.	That is
Ktm.	Kathmandu
Ltd.	Limited
M.	Milion
MBS	Master of Business Studies
NBL	Nepal Bank Limited
No.	Number
NPA	Non Performing Assets
NRB	Nepal Rastra Bank
P.E.	Probable Error
Pvt.	Private
R	Coefficient of Correlation
ROE	Return on Equity
Rs.	Rupees
S.E.	Standard Error
T.U.	Tribhuvan University
Viz.	That is to say
%	Percentage

CHAPTER I

INTRODUCTION

1.1Background of the Study

Liquidity is the most sensible and critical aspect of banks. The managers should be foresighted and able to predict future demand and supply of liquidity. They should know the trends of liquidity demands on the basis of passed experience. In a book published by the World Bank titled Excess Liquidity & Monetary Overhangs, it was stated that there is mostly excess liquidity in the financial institutions of the developing economies. Similarly, the IMF opines that excess liquidity is a great problem for developing economics and results not form the dearth of lending opportunities or demanding for and form a number of system & institutional shortcomings.

Basically, liquidity is maintained to meet regular operation and make schedule payment. Every bank tries to maintain its liquidity position for fulfillment of mainly two purposes. They are precaution motive for unexpected needs and contingencies due to irregularities in cash flow. To fall in this area may severely damage public confidence upon bank. We can imagine the reaction of customers if the cash counter and teller machines is to be closed one morning because the bank is temporarily out of cash and cannot cash cheques. So and must give high priority to meet demands for liquidity. Meanwhile, as we know that the financial institutions are profit oriented and there should be optimum disbursement of deposits in loan and advances so that more and more income can be generated.

Hence it is clear that the problem of liquidity or excess liquidity to be specific is a regular phenomenon in the developing economics. The most important problem that the financial institutions want to know is the appropriate level of liquid assets to meet the threat of withdrawals, give away loans to the customers and to invest in profitable ventures. Without the proper management of liquidity. the above mentioned daily operation of financial institution cannot be met.

Managing liquidity has become very vital in financial institutions. Every bank is therefore, concentrating on liquidity management. They are searching the areas that can safeguard there liquidity to make liquidity position fluently as much as possible. Thus the specific research questions regarding liquidity management in Nepalese Commercial Banking sector are identified as follows:

·        Are the banks maintaining sufficient liquidity ?

·        Are the banks aware for the liquidity requirements ?

·        Do the liquidity positions of the banks satisfy their requirement ?

·        How are the banks going to manage their liquidity positions to the sufficient balance ?

Most of the Nepalese are engaged in agriculture. It means that it has agro based economy. The main cause behind this is its geographical situations and low literacy rate, which has restricted the people to primitive and traditional forms of occupation.

The prosperity of every developing country can be insured by its economic growth. Different profit and non-profit institutions are to be established for economic growth, for which the source of finance is very essential. Profit oriented institutions usually obtain these sources through ownership capital, public capital through the issues of shares and through financial institutions such as banks, in the form of credits, overdrafts etc.

Financial market is very essential for economic growth of the country. Bank, Finance Companies, Co-operative Societies, Insurance Co., Stock exchange are the key elements for the economic development, Among these, bank is major part of financing which deals with monetary transactions by accepting various types of deposits, distributing various types of loans and rendering other financial development by investing in industrial sector, commercial sector, production sector, and trade and commerce by initiating a mediator on import and export.

Banks are those financial institutions that offer the widest range of financial services especially credit, savings, payment services and perform the widest range of financial functions of any business firm in economy. The most important functions are lending and investing money, making payments on behalf of customers for their purchase of goods and services, managing financial assets and real property for customers and assisting customers in investing and raising funds.

The well organized financial system of the country plays a great role in economic growth. As a part of the financial institutions system, commercial banks occupy quite an important place in the framework of the every economy, trade and business and other resources deficit sectors contribute to the economic growth of the nation, Besides this, commercial banks render numerous services to their customers in view of facilitating their economic and social life.

Banking is emerging as a wonder of the modern world when we talk about the wonderful scientific inventions, its service with a smile, no queues and a consumer's paradise in the world of banking, with the number of private sector banks now in the business, the traditional concept of banking is being revolutionized. Today the world has become modernized. The standard of living of every country has changed drastically, as the economic prospectus of any country shows its financial position of the country which is very essential in the world of modern economy. The economic portfolio has to be adjusted according to the need and demand of the life standard of citizen with respect to time.

Now days, there is a lot of competition in banking market but less opportunity to investment. In this condition, bank can take initiation in search of new opportunities, so that they can survive in the competitive market and earn profit. But investment is very risky job. For a purposeful, safe, profitable investment, bank must follow sound investment policy. The sound investment policy help commercial bank maximized quality and quantity of investment and hereby achieve the own objective of profit maximization and social welfare. The banking sectors needs to play a vital role to boost the economy by adopting the growth oriented investment policy and building up the financial structure for future economic development. Formulation of sound investment policies and coordinated and planned efforts pushes forward the forces of economic growth. So obviously, investment of collected fund is the most important theme for the development of the country.

1.1.1 Origin of the banks in Nepal

As in other countries, goldsmiths and landlords were the ancient bankers of Nepal. Banking on modern timer developed in Nepal recently. But this does not mean that there was a complete absence banking activities. From times immemorial, money lender existed before the establishment of modern bank. There is plenty of evidence to show that loan was borrowed in those days.

The history of banking in Nepal in the form of money lending can traced back in the reigning in period of Gunakama Dev, "The King of Kathmandu" (Nepal Bank Limited, Nepal Bank Limited Patrika, 2037:31)

During the prime Ministerial period of Ranodeep Singh, one financial institution was established to give loan facilities to the Government Staffs and loan facilities to the public in general in the terms of 5% interest but "Tejarath" did not except money from public, (Nepal Bank Limited, Nepal Bank Limited Patrika, 2037:40)

The first bank in Nepal was established in 1937 A.D. (1994 B.S.) as Nepal Bank Limited under Nepal Bank Act to provide modern and organized facilities. Having felt the need of development of banking sector to the help the Government formulate monetary policies, Nepal Rastra Bank as a Central Bank was set up in 1956 A.D (2013 B.S.). Since then, it has been functioning as Government's bank and contributed to the growth of financial sectors. Through the Nepal Rastra Bank has adopted a Deregulatory approach at present. It requires continues modification in view of fast changing world. Being the Central Bank, Nepal Rastra Bank has its own limitations and reluctance to go on profitable sectors. To cope with these difficulties, government set up Rastrya Banijya Bank in 1966 A.D. (2022 B.S.) as a fully government owned commercial bank. Similarly, Agriculture Development Bank was established in 1986 A.D. (2024 B.S.). After then, Nepal Arab Bank Limited was established as a first joint venture commercial bank in 1984 A.D. (2041 B.S.). Having observed the success of NABIL Bank based on marketing concept, NRB adopted liberal economic policy to promote the financial institution. So many commercial bank, development banks and other financial institution are emerging day by day

1.1.2 Commercial Banks in Nepal

Commercial banks are the heart of financial system which performs all kinds of banking functions as accepting deposits, advancing credits, credits creation and agency functions etc. They make funds available through their lending and investing activities to borrowing: individuals, business firms and government establishment. In doing so, they assist both the flow of goods and services from the producers to consumers and the financial activities of the government. They also operate off-balance sheet functions such as issuing guarantee, bonds, letter of credit etc.

Generally, bank refers to a commercial bank at present. Without the development of sound commercial banking, underdeveloped countries cannot hope to join the ranks of advanced countries. The economic development of the every country depends upon the development of industrial and technological sectors and the development of industrial and technological sectors highly depend upon the growth of commercial banks. If industrial development requires the use of capital, the use of capital equipment will not be possible without the existence of banks to provide the necessary capital. Industrial development will be impossible without the existence of markets of the goods produced; On the other hand, the services of the commercial banks will help to extend the market. These facts show that commercial banking system of nation is important to the functioning of the economy.

The role of commercial banks in the economic growth can be fairy estimated to be very prominent. By mobilizing the scattered idle resources from the fund requirement of productive sectors of the economy. To remain as the major contributing factors to the growth of the nation's economy, they themselves have to have sustainable growth of themselves for which they have to play an important role as follows.

·        Managing cash properly

·        Help in business expansion

·        Encouraging for the right type of industries

·        Promoting trade and industry

·        Transferring of surplus funds to needy regions

·        Planning, financing and investing

1.1.3 Introduction to Nepal Bank Limited

Nepal Bank Limited (NBL), the first Bank of Nepal, was established in 30^th Kartik 1994 B.S. NBL is the pioneer financial institution of Nepal. From the very conception and its creation, Nepal Bank Ltd. is a joint venture between the government and the public sector. Out of 2500 equity shares of Rs. 100 face value 40% was subscribed by the government and the balance i.e. 60% was offered for the sale to public sector.

At present, there is 41% share owned by the government and the rest by the public sector. Nepal Bank Ltd. was established under company law, Nepal Bank Law 1994 in judda sadak paying of rent Rs. 100 per month. The bank stands its operation with the authorized capital of Rs. 10 million with only 10 shareholders when the bank first started. In that era, very few understood or had confidence in this new concept of formal banking in Nepal. Rising equity shares were not easy and mobilization of deposits even more difficult. At present, it has authorized capital of Rs. 1000 million and paid up capital of Rs 380.4 million. one of the admirable efforts of the bank was that it helped initially in removing the dual currency system and circulating the Nepalese currency throughout the country.

The first branch of NBL was Kathmandu Banking Office and its first borrower was Biratnagar Jute Mill, which borrowed Rs. 0.1 million at 5% interest rate in 12^th chaitra 1994 B.S. Initially, it was operated by only 12 staffs under the leadership of General Manager Thakur Singh Kathait.

During the past 7 decades, the bank experienced many ups and downs, but it has remained the leading financial institution in Nepal, In early stage bank has provided its services to customers and government with limited resources manually. Now, it has been using advanced technology to provide banking facilities. Most of the branches have been computerized with modern Banking software and rests of the branches are in the process of computerization. To cope with the development of modern banking technology. it has been providing Any Banking facilities, Web Remit service, SMS Banking etc.

Nepal Bank Ltd. has helped vastly in developing the country by accumulating the scattered money in small amount in each and every nook and corners of the country and granting loan and advances in various ways. The bank has been tendering modern banking services to the different sectors of the economy like manufacturing and service industries, hydropower projects, traders, small entrepreneurs and the weaker sections of the society through more than 100 Branches which spread all over the five development regions of the country.

1.2 Focus of the Study

Every country has to give an emphasis on upliftment of the stable and sustainable economy. Until and unless a nation mobilize its own domestic resources, the nation cannot achieve economic growth. Financial institutions are currently viewed as catalyst in the process of economic growth of country. A key factor in the development of an economy is the mobilization of the domestic resources. As intermediaries, the financial institutions help the process of resources mobilization. The importance of financial institutions in the economy has of late grown to an enormous extent. As main financial institution, banks are expected to support local community with an adequate supply of credit for all legitimate business and consumer needs to price that credit reasonably in line with competitively determined interest rates. Bank loan support the growth of new business and jobs within the banks trade territory and promote economic vitality.

Management is the system, which helps to complete the every job effectively. Lending money is nowadays becoming main resources of revenue to the bank and also involves high risk too. Bank will not provide loan unless it has sufficient sources to the borrower that will be needed in case of future recovery. So, liquidity management strongly recommends analyzing and managing the credit risk. The goal of the credit risk management is to maximize a bank's risk adjusted rate of return by maintaining the credit risk exposures within acceptable parameters.

Since, exposure of to credit risk continues to be on the leading source of problem in banks worldwide, banks and their supervisors should be able to draw useful lessons from past experiences. Banks should now have a keen awareness of the need to identify, measure, monitor and control credit risk as well as to determine that they hold adequate capital against these risks and that they are adequately compensated for risks incurred. The Basel Committee is issuing this document in order to encourage banking supervisors globally to promote sound practices for applicable to the business of lending, they should be applied to all activities where credit risk is present.

Proper financial decision making is more important in banking transaction for its efficiency and profitability. For this proper credit policy is very essential. The credit policy of a firm provides the framework to determine whether or not to extend credit and how much credit to extend. The credit policy decision of a bank has two broad dimensions; credit standards and credit analysis. A firm has to establish and use standards in making credit decision, develop appropriate sources of credit and methods of credit analysis.

For most banks, loans are the largest and most obvious source of credit risk, however other sources of credit risk exist throughout the activities of a bank, including in the banking book and in the trading book, and both on and off the balance sheet. Banks are increasingly facing credit risk in various financial instruments other than loans, including acceptances, inter bank transactions, trade financing, foreign exchange transactions, financial futures, swaps, bonds, equities, options, and in the extension of commitments and guarantees and the settlement of transactions.

1.3 Statement of the Problem

Establishment of banks has contributed in the response to the economic liberalization policies of the government. The tendency to concentrate commercial banks only in the urban areas like Kathmandu, Biratnagar, Pokhara, Nepalgunj etc. has raised the certain questions. This state of affairs cannot contribute much to the socio-economic development of the country where 90% of the population lives in rural area and 81% of the population depends on agriculture. There are a lot of problems related to investment due to which most of the commercial banks in Nepal are urban oriented.

Most of the banking problems have been caused by weakness in liquidity management. Banks should now have a keen awareness of the need to identify measure, monitor and control credit as well as to determine that they hold adequate capital against it. Thus risks that are adequately compensated for risks incurred. So, to establish creditability position is a major issue in commercial banking during these days.

Despite the circular of NRB, the central bank of the country, regarding compulsory investment of 10% of their total investment in the rural areas, these banks are inclined to pay fines rather than investing these resources to such less profitable sectors. There is no debate that high profitable or successful organization can easily fulfill the need of the organization, customers and can serve the society. To improve the profitability situation of the bank, it is necessary to establish the higher creditability position of the bank. Thus, the credibility position is the major strategy of every commercial bank.

Nepalese commercial banks are lacking scientific and imperial research that could identify the issues of liquidity management. Banks and financial institutions are investing in house loan, hire purchase loan for safe purpose, Due to lack of good lending opportunities, banks appear to be facing problem of excess liquidity. Due to competition among banks, the interest rate for loan is in a decreasing trend. Due to unhealthy competition among the banks, the interest rate for the loan is in decreasing trend and the recovery of the banks credit is going towards negative trends. In this regard, the performance of Nepalese commercial banks is to be analyzed in terms of their credit. Some research questions regarding to the credit practices, credit efficiencies, liquidity position, industrial environment, management quality, organization climate are considered as a clear evident in present situation, Thus to know the problems faced by Nepalese commercial banks related to the investment, Nepalese Bank Limited is selected as a sample and the specific research questions regarding liquidity management in Nepal Bank Limited are identified as follows:

·        Are the credit practices adopted by Nepal Bank Limited is in good position?

·        Is bank in the right level of liquidity ?

·        Is bank investing in good and profitable sectors ?

·        Has bank been able to earn profits ?

·        What is the credit efficiency of NBL ?

·        What is the impact of growth in deposit on liquidity and lending practices ?

·        What is the position of non performing credit in NBL ?

·        How far NBL is able to use its resources in credit and advances ?

1.4 Objectives of the Study

There is no doubt that commercial banks are the heart of the nation who mobilize and utilize scattered resources. Basic objective of this study is to have true insight of the liquidity management of Nepal Bank Ltd. It is also aimed to find credit practice efficiency and profitability situation.

Moreover the study has specified the following objectives.

·        To analyze the lending system of the NBL during 2067/068 to 2071/72      

·        To assess credit practice of the NBL

·        To explore the relationship between total loan and non-performing assets.

·        To explore the relationship Between total loan and assets

1.5 Significance of the Study

In this changing pace of time, most of the commercial banks are gaining a wide popularity through their efficient management and professional services and playing a great role in the economy. The main purpose of the commercial bank is to have effective liquidity management so that stakeholders get satisfactory. This study adds new idea and findings about the concerned bank.

This study is helpful for all the concerned parties which add new idea and finding about the Nepal Bank Ltd. The studies that will have importance to various groups but in particular is directed to a certain groups of people/organizations are:

·        Important to the management of Nepal Bank Limited for self assessment of what they have done in the past and guide them in their future plans and program.

·        Important to the shareholders.

·        Important to the financial agencies, stock exchanges and stock traders, who are interested in the performance of the bank as well as the customer, depositors and debtors who can identify the better bank to deal with in terms of profitability, safety and liquidity ?

·        Important to the interested outsides parties like investors, competitors, personnel of the banks, dealers and market makers.

·        Important to the macro level policy makers like government and NRB for the formulation of further policies in regard to economic development.

1.6 Limitations of the Study

This study has been carried out with certain limitations. The major limitations are as follows:

·        Nepal Bank Limited is taken as sample for the study.

·        The scope of the study is to analyze Liquidity management aspects only

·        In this study only selected statistical tools and techniques are used for analysis. This study is basically based on secondary data only.

·        This research study largely depends on published documents such as Balance Sheet, Profit and Loss Account, which are circulated at the close of the financial year.

1.7 Organization of the Study

Who whole study is divided into five different chapters.

Chapter-I: Introduction

This chapter describes the background of the study. It has served Orientation for readers to know about the basic information of the research area. various problems of the study, objectives of the study, significance of the study. and limitations of the study and chapter plan of the study.

Chapter-II: Review of Literature

This second chapter of the study assures readers that they are familiar with important research that has been carried out in similar areas. It contains conceptual framework of the credit. review of articles and past related thesis.

Chapter-III: Research Methodology

Research methodology refers to the various sequential steps to be adopted by a researcher in studying a problem with certain objectives in view. This chapter includes research design, data collection, and data analysis technique and research variables.

Chapter-IV: Data Presentation and Analysis

This chapter analyzes the data related with study and presents the findings of the study and also commend briefly on them. Data processing, data analysis and interpretation are given in this chapter and there is use of techniques relating to analysis such as ratio, descriptive expression, diagrams and to forth.

Chapter-V: Summary

On the basic of the result from data analysis, the researcher concludes about the performance of the concerned organization in terms of liquidity management. This chapter is devoted to the summary of the research, conclusion derived on the basis of data analyzed and the recommendations for improvement to the concerned organization

CHAPTER II

REVIEW OF LITERATURE

The review of literature is a crucial aspect because it denotes planning of the study. The main purpose of literature review is to find out what works have been done in the area of the research problem under study and what has not been done in the field of books, repots, journals and research studies published by various institution unpublished dissertations submitted by master.

Liquidity refers to that state of position of a bank that pronounces its capacity to meet its entire obligation. In these words, it refers to the capacity of bank to pay cash against deposits. People deposit money at the bank in different accounts with the confidence that the bank will repay their money when they need. To maintain such confidence of the depositors, the bank must keep this point in mind while investing its excess and in different securities as at the time of lending. So it can meet current or short-term obligation when they become due for payment.

2.1 Conceptual Review

2.2 Review of Related Studies

2.2.1 Review of Article

2.2.2 Review of Thesis

2.1 Conceptual Review

The review of textbook and other reference materials such, research articles, journals and past thesis have been included in this topic, Credit administration involves the creation and management of risk assets. The process of lending takes in to consideration about the people and system required for the evaluation and approval of loan requests, negotiation of terms, documentation, disbursement, administration of outstanding loans and workouts, knowledge of the process and awareness of its strength and weakness are important in setting objective and goals for lending activities and for allocating available funds to various lending functions such as commercial, installment and mortgage portfolios (Johnson, 1940:132).

Bajracharya (2071), in this article "Monetary policy and deposit mobilization in Nepal" has concluded that mobilization of the domestic saving is one of the prime objectives of the monetary policy in Nepal. And commercial banks are the most active financial intermediary for generating resources in the form of deposit of private sector and providing credit to the investors in different sectors of the economy.

Book named "Bankig Management" say that in banking sector or transaction, an unavoidable ness of loan management and its methodology is regarded very important. Under this management, many subject matters like the policy of loan flow, the documents of loan flow, loan administration, audit of loan, the condition of loan flow the provision of security, this management plays a great role in healthy competitive activities (Bhandari 2003:170)

It is very important to be reminded that most of the bank failures in the world are due to shrinkage in the value of loan and advance. Hence, risk of non-payment of loan is known as credit risk default risk by spreading over the risk to various portfolios. This method of managing credit risk is guided by the saying do not put all the eggs in a single basket (Bhandari, 2004:300).

2.1.1 Concept of Commercial Bank

Before defining the term commercial bank, let us define the meaning of bank and commercial. According to S. And S. s definition of bank, a banker or bank is a person or company carrying on the business of receiving money and collecting drafts, for customers subject to the obligation of honoring cheque drawn upon them from time to time by the customers to the extent of the amount available on their customer (Shekher & Shekher, 1999:4).

Paget (1987) states that no one can be a banker who does not take deposit accounts take current accounts, issue and pay cheque of crossed and uncrossed, for his customers. He further adds that if the banking business carried on by any person is subsidiary to some other business; he cannot be regarded as a banker (Page, 1978:2).

Commercial banks act as an intermediately; accepting deposits and providing credits to the needy area. The main source of the commercial bank is current deposit, so they give more importance to the liquidity of investment and as such they specialize in commercial banks are restricted to invest their funds in corporate securities. Their business is confined to financing the short-term needs of trade and industry such as working capital financing. They cannot finance in fixed assets. They grant credits in the form of cash credits and overdrafts. Apart from financing, they also render services like collection of bills and cheque, safe keeping of valuables, financial advising, etc. to their customers (Vaidhya, 1999:24).

Commercial banks are organized as a joint stock company system, privarily for the purpose of earning profit. They can be either of the branch banking types as we see in most of countries, with a large network branches like in Nepal of of the unit banking type, as we see in the United States where a banks operations are confined to a single office or to a few branches within a strictly limited area (Shekher & Shekher, 1999:4).

2.1.2 Concept of Credit

Credit is the amount of money lent by the creditor (bank) to the borrower (customers) either on the basic of security or without security. Sum of the money lent by a bank, is known as credit (Oxford Advanced Learners Dictionary 1992:279). Credit and advances is an important item on the asset side of the balance sheet of a commercial bank. Bank earns interest on credits and advances, which is one of the major sources of income for banks. Bank prepares credit portfolio, otherwise it will not only add bad debts but also affect profitability adversely, (Varshney and Swaroop, 1994:6)

Credit is financial assets resulting from the delivery of cash or other assets by a lender to a borrower in return for an obligation of repay on specified date on demand. Banks genegally grants credit on four ways (Chhabra and Taneja, 1991:4)

·        Overdraft

·        Cash Credit

·        Direct Credit

·        Discounting of Bills

2.1.3 Types of Credit

Overdraft:

It denotes the excess amount withdraw over their deposits.

Cash Credit:

The credit is not given directly in cash but deposit account is being opened on the name of credit taker and the amount credited to that account. In this way, every credit creates deposit.

Term Credit:

It refers to money lent in lump sum to the borrowers. It is principal form of medium term debt financing having maturities of 1 to 8 years. Barely and Myers urge that bank credits with maturities exceeding 1 years are called term credits. The firm agree to pay interest based on the bank's prime rate and to repay principal in the regular installments. Special patterns of principal payments over time can be negotiated to meet the firm's special needs (Richard, 1996:80)

Working Capital Credit:

Working capital denotes the difference between current assets and current liabilities. It is granted to the customers to meet their working capital gap for supporting production process. A natural process develops in funds moving through the cycle are generated to repay a working capital credit.

Priority of Deprived Sector Credit:

Commercial banks are required to extend advances to the priority and deprived sector .12% of the total Credit must be towards priority sector including deprived sector. Rs. 2 million for agriculture cum service sector and Rs. 2.5 million for single borrows are limit sanctioned to priority sector. Institutional support to 'Agriculture Development Bank' and 'Rular Development Bank' are also considered under this category, deprived sector lending includes:

·        Advances to poor/downtrodden/week/derived people up to Rs. 30,000 for generating income or employment.

·        Institutional Credit to Rural Development Bank.

·        Credit to NGOs those are permitted to carryout banking transaction for lending up to Rs. 30,000.

Hire-Purchase Financing (Installment Credit)

Hire-purchase credits are characterized by periodic repayment of principal and interest over the maturity of the credit. Hirer agrees to take the goods on hire at a stated rental including their repayment of principal as well as interest with an option to purchase. A recent survey of commercial banks indicates those bank are planning to offer installment credits on a variable rate basis. It can be secured and unsecured as well as direct and indirect installment credit.

Housing Credit (Real Estate Credit)

Financial institutions also extend housing credit to their customers It is different types, such as: residential building, commercial complex, construction of warehouse etc. It is give to those who have regular income or can earn revenue from housing project itself.

Project Credit

Project Credit is granted to the customers as per project viability. The borrowers have to invest certain proportion to the project from their equity and the rest will be financed as project credit. Construction credit is short-term credits made to develops for the purpose of completing proposed projects. Maturities on construction credits range from 12 months to as long as 4 to 5 years, depending on the size of the specific project (Johnson, 1940:142) The basic guiding principal involved in disbursement policy is to advance funds corresponding to the completion stage of the project. hence, what percent of the credit will be disbursed at which stage of completion must be spelled in disbursement policy ? Term of credit needed for project fall under it.

Consortium Credit

No single financial institution grant credit to the project due to single borrower limit or other reasons and two or more such institution may consent to grant credit facility to the project among them. Financiers bank equal (or Likely) charge on the project's assets.

Credit cards and Revolving lines of Credit

Banks are increasingly utilizing charge cards and revolving line of credit to make unsecured consumer credit. Revolving credit line lowers the cost of making credit since operating and processing cost are reduced. Due to standardization, centralized, department processes revolving credits resulting reduction on administrative cost. Continued borrowing arrangement enhance cost advantages. Once the credit line is established. the customer can borrow and repay according to his needs and the bank can provide the fund to the customer at lower cost.

Charge cards and credit line tied to demand deposit accounts are the two most common revolving credit agreements. It can be further divided into credit cards, automatic overdrafts lines and large credit lines.

Off-Balance Sheet Transaction

In fact, bank guarantee and letter of credit refer to off balance sheet transactions of financial institution. It is also known as contingent liability. Contingent liability pinpoints the liability which may or may not arise during the happening of certain event. Footnotes are kept as reference to them instead of recording in the books of accounts. It is non funded based remunerative facilities but more risky than the funded until adequate collateral are not taken. Lets its two varieties be described separately.

Bank Guarantee

It is used for the sake of the customers in favor of the other party (beneficiary) up to the approved limit. Generally, a certain percent amount is taken as margin from the customer and the customer's margin account is credited.

Letter of credit (L/C)

It is issued on behalf of the customer (importer) in favor of the exporter (Seller) for the import of goods and services stating to pay certain sum of money on the submission of certain documents complying the stipulated terms and conditions as per as the agreement of L/C. It is also known as importers letter of credit since the bank of importer do not open separate L/C for the trade of sum commodities.

2.1.4 Objectives of the Sound Credit Policy

The purposes of a written credit policy are

To assure compliance by lending personnel with the bank's policies and objectives regarding the portfolio of credits and

To provide personnel with a framework of standards within which they can operate.

2.1.5 Lending Criteria

While screening a credit application, 5-cs to be first considered supported by documents.

They are

1.         Character

Character is the analysis of the applicant as to his ability to meet the obligations put forth by the lending institution. For this analysis, generally the following documents are needed.

·        Memorandum and Articles of Association

·        Registration Certification

·        Tax registration certificate (Renewed)

·        Resolution to borrow

·        Authorization-person authorizing to deal with the bank

2. Capacity

Describes customer's ability to pay. It measured by applicants past performance records and followed by physical observation. For this, an interview with applicant's customers/suppliers will further clarify the situation, Documents relating to this area were:

·        Certified balance sheet and profit loss account for at least past 3 years.

·        In case of the personal loan they have to summit the proof source of income.

·        References or other lenders with whom the applicant has dealt in the past or bank A/C.

3 Capital

This indicates applicant's capacity to inject his own money. By capacity analysis, it can be concluded that whether borrower is truing to play with lender's money only or is also injecting his own fund to the project. For capital analysis, financial statement, like certified balance sheet, profit and loss account is the only tools.

4. Collateral

Collateral is the security proposed by the borrower. Collateral may be of either nature movable or immovable. Movable collateral comprises right from stock, inventories to playing vehicles. In case of immovable it may be land with or without building or fixtures, plant machineries attached to it.

5. Conditions

Once the funding company is satisfied with the character, capacity, capital and collateral then a credit agreement (Sanction Letter) is issued in favor of the Borrower stating conditions of the credit to which borrower's acceptance is accepted.

2.1.6 Principles of Sound Lending Policy

Lending constitutes the main business of a banking company. A major chunk of the profits of a bank comes out of this function. But no lending can take place without some inherent risks. As bankers are trustees of the depositors' money, they cannot take undue risks. A banker has to follow a cautious policy and conduct the business of lending on the basis of certain sound principles. Here are some of the important principles of sound lending.

1. Safety

The main business of banking consists in borrowing various types of deposits such as current, saving and fixed deposits and lending such deposits to needy borrowers in the form of advances and discounting of bills. This obviously implies that safety of such funds should be ensured. Otherwise the banker will not be in a position to repay his deposits and once the confidence of the depositors is shaken, he cannot carry on the banking business.

If the banker has to ensure safe lending, he has to look to the three C's of the borrower namely Character, Capacity and Capital. Character of the borrower is important because that determines his willingness to repay the loan. His capital and capacity to run the business successfully determine his capacity to pay. The safety of the loan depends on both his capacity to repay and willingness to repay.

Banks will have to keep a portion of the deposits received for honoring the demands made by the customers. Only the balance can be safely. The bank's endeavor is of course to lend as much of the deposits as possible, without which he will not be in a position to meet his interest, obligations and maintenance of establishment. Therefore, he has to lend with a view to earn interest but lend it safe.

2. Liquidity

By liquidity is meant the readiness with which the bank can convert the assets into cash. Liquidity means short-term solvency of the borrower. A banker is essentially the lender of short-term funds because he knows that the bulk of his deposits are repayable on demand or at short notice. As the banker's deposits are subject to the legal obligation of being repayable on demand and at short notice. he must ensure liquidity also while lending, so that in times of need, he will be able to convert the assets into cash.

Bank can ensure high liquidity by keeping all deposits in the form of cash only. In such a case, he will not be in position to meet the interest obligations and expenditure of the establishment. From experience, he has learnt that he can safely lend out a substantial portion of the funds. But while lending he should try to ensure liquidity, i.e. in times of need, he must be able to obtain repayment of the money within a reasonably short time. Liquidity also implies that the assets can be sold without any loss. Thus the concept of liquidity has twin aspects namely quick sale ability or convert ability of the assets and the absence of risk of loss in such conversion.

3. Profitability

Commercial banks obtain funds from shareholders and naturally if dividend is to be paid on such shares it can only be paid by earning profits. Even in the case of public sector banks although they are service motivated they will have to justify their existence by earning profits. This is not possible unless the funds are employed profitably. From out of the revenue earned, the banker has to pay interest on deposits, salary to the staff, meet other establishment expenses, build-u reserves and the balance must permit the payment of dividend to shareholders. So for the bank to sustain on a long run, it has to seek many profitable sectors where it can mobilize its collected fund. Before lending, a banker has to see that the advance and credit is on the whole profitable. Lending rates are affected by banks' internal policy like credit rating of the borrower, bank rate of NRB, inter-bank competition and NRB's guidelines on lending rates.

4. Purpose of Loan

Nowadays, the purpose for which loans are granted has acquired precedence over the principle of security. If a loan is required for a non-productive or speculative purpose, a banker will be reluctant to entertain the proposal. Loans for social functions, ceremonies, pleasure trips or for repayment of prior loans are not favored by a banker, as they are unproductive in nature. But it is very difficult for the bank to ensure that the advance has been used for the purpose for which it was taken. A person may take a loan obviously for a productive use, but may spend it on speculation. The central bank through its directives, also determines the policy to be followed by the banks with regard to the purpose for which advances may not be granted. So a banker should enquire the purpose for which it is taken for safe lending.

5. Security

Traditionally, bankers have been security oriented. The security offered against a loan can be of various types. It may vary from a piece of land or a building to a commercial paper or bullion. Whatever may be the security, a banker has to realize that it only a cushion to fall back upon in case of need and its adequacy alone should not form the sole consideration for advance. It must be ensured that the security when accepted must be adequate, readily marketable, easy to handle and free from encumbrances.

6. Diversification of Loans

There is a very familiar saying that "Do not put all the eggs in the same basket." Banker should try to diversify loans as far as possible, so that he may minimize his risks in lending. If the banker lends only to one industry or only to few big firms or concentrates in a certain geographical area, the risk is great. He should diversify lending, so that he may not affected by the failure of one industry or of a few big borrowers. A banker who puts all his eggs in one basket is not a prudent banker.

7. National Interest and Suitability

Bankers must ascertain on what type of business the customer is involved whether it serves the national interest or not, where the firm is acting responsibly towards the society that it is operating in like brick industry or the cement industry and the precautions taken by it against environment pollution. Central bank issues directives, prohibiting banks to invest in various sectors such as the import of arms and ammunitions etc. Also bankers must remain vigilant of the law and order situation where borrower carries its business.

2.1.7 Some Important Banking Terms

The study in this section comprises of some important banking terms for which efforts have been made to clarify the meaning, which are frequently used in this study, which are given below.

A.        Deposits

Deposit is the most important source of liquidity for a commercial bank. It is also the main source of fund that a bank usually uses for the generation of profit. Therefore, the efficiency depends on its ability to attract deposits. Banks collects the scattered savings of the public through various accounts type like saving, current, fixed etc. Deposit being the borrowed amount from the depositors or from general public and institutions, it constitutes the liability of a bank. The management of a bank is always influencing it through deliberate policy action; the deposits of a bank are affected by various factors.

They are as follows.

·        Types of customers

·        Physical facilities of bank

·        Management accessibility of customers

·        Types and range of services offered by the bank.

·        Interest rate paid on deposits.

·        Goodwill and financial position of the bank

In addition to the above, the prevailing economic conditions exert a decisive influence on the amount of deposit the bank receives.

B. Loan and Advances

"Loan, advance and overdraft are the main sources of income for a bank. Bank deposits can cross beyond a desired level but level but level of loans, advances and overdraft will never cross it. The facilities of granting loan, advances and overdrafts are the main services in which customer of the bank can enjoy.

Fund borrowed from bank are much cheaper than those borrowed from unorganized money lenders. The demand for loan has excessively increased due to cheaper interest rate. Furthermore, an increase in an economic and business activity always increases the demand for the fund. Due to limited resources and increasing loans, there is some fear that commercial banks and other financial institutions too may take more preferential collateral while granting loans causing unnecessary trouble to the general customers.

In additions to this, some portion of loan advances and overdraft includes that amount which is given to staff of the bank for house loan, vehicle loan, personal loan and others. In mobilizations of commercial banks fund, loan advance and overdrafts have occupied a large portion.

C. Investment on Government Securities, Share and Debenture

"Though a commercial bank can earn come interest and dividend from the investment of government securities, share and debenture, it is not the major portion of income, but it is treated as a second source of banking business. A commercial bank may extend credit by treating it as a second source of banking business. A Commercial bank may extend credit by purchasing government securities bonds and shares for several reasons. Some of them are given as:

·        It may want to space it maturates so that the inflow of cash coincide with expect withdrawals by depositors or large loan demands of its customers.

·        It may wish to have high grade marketable securities to liquidate if its primary reserve becomes inadequate.

·        It may also be forced to invest because the demand for loans has decreased or is not sufficient to absorb its excess reserves.

However, investment portfolio of commercial bank is established and maintained primarily with a view of nature of banks liabilities that is since depositors may demand fund in great volume without previous notice to banks. The investment must be of a type that can be marketed quickly with little or no shrinkage in value.

D. Investment of other Company's Share and Debentures

Most of commercial banks invest their excess fund to the share and debenture of the other financial and non-financial companies. Due to excess funds but least opportunity to invest those funds in much more profitable sector and to meet the requirement of NRB directives, the commercial banks purchase shares and debenture of regional development bank, NIDC and other development banks.

E. Liquidity

Liquidity is the ability of bank to meet its obligations on time, especially in relation to repayment of inter-bank borrowings and customer deposits. Liquidity management is a very crucial job of commercial bank and the bank should maintain adequate amount of cash in its vault and NRB for its daily operation and administrative purpose. As per the arrangement of NRB effective from fiscal year 2007/08, the commercial banks are required to maintain cash reserve of 5% with NRB of its total deposit liability with NRB. The previous provision of cash in vault maintenance has been withdrawn now.

F. Capital Adequacy

Capital is the blood of any business without which business cannot be run or established. In financial term, capital is the excess of assets over liabilities and can he defined as the wealth, which is employed for the production. Capital is required by a bank as a cushion to absorb losses, which should be borne by shareholders rather than depositors and to finance the infrastructure of the business. Capital adequacy is to maintain adequate amount of capital or fund to safeguard the money of the depositors against any possible loss. NRB requires banks to maintain a certain capital adequacy ratio based on the total risk weighted assets and the banks are supposed to meet the minimum requirement of CAR.

F. Off-Balance Sheet Activities

Off balance sheet activities involve contracts for future purchase or sale of assets and all these activities are contingent obligations. These are not recognized as assets or liabilities on balance sheet. Some examples of these items are letter of credit, letter of guarantee, bills of collection etc. These activities are very important, as they are the good source of profit of bank though they have risk. Nowadays, some economists and finance specialists to expand the modern transactions of a bank stressfully highlight such activities.

G. Banking Risks

Normally, banks confront different kinds of risks, which are categorized as follows:

•         Credit  Risk

Credit risk arises whenever another party enters into an obligation tO make payment or deliver value to the bank. This risk is mostly associated with the lending.

•         Liquidity Risk

Liquidity risk arises when bank itself fail to meet its obligation. The bank required to make payments to the different parties at different times, when they fall due to other parties it is the liquidity risk.

•         Yield Risk

It is the risk that bank’s assets may generate less income than expense generated by its liabilities.

•         Market Risk

The risk of loss resulting from movements n the market price of financial instruments in which he bank has a position is the market risk. Such instruments include bonds, equities foreign change and associated derivative products.

•         Operational Risks

The risk of failure in the banks procedures or controls, whether from externa1 or internal causes or as a result of error or fraud within the institution is the operational risk.

•         Ownership/ Management Risk

The risk that shareholders directors or senior management be unfit for their respective positions or dishonest.

2.1.8 Project Appraisal

Before providing credit to the customer, bank makes analysis of project from various aspects and angles. It will help the bank to see whether project is really suitable to invest.

The purpose of project appraisal answers the following questions.

•         Is the project technically sound?

•         Will the project provide a reasonable return?

•         Is the project in line with the overall economic objectives of the economy?

Generally, the project appraisal involves the investigation from the following aspects (Gautam, 2071).

•         Financial aspect

•         Economic aspect

•         Management I Organizational aspect

•         Legal aspect

2.1.9       Provision of NRB for Extending Advances & Investment in Productive, Priority and Deprived Sector

Productive Sector

Productive Sector include advances to Priority Sector and Other Productive Sector which includes advances and investment in shares and debentures of small, medium and large industries as defined in industrial enterprises act; pre-shipment credit like purchase of merchandise, processing. assembling, packaging etc.; export bill financing, advances for purchase of public transport like truck, bus, tempo etc. and agricultural/farm. equipment; investments on shares and debentures of government/semi-government or private sector agricultural insurance. godown, banking or like companies etc.

As per NRB regulation. commercial banks are required to extend 40% of the total advances to productive sector, which also includes 12% to priority sector including deprived sector.

•         Priority Sector Credit Program

"Priority sector" is defined to include micro and small enterprises which help increase production, employment and income as prioritized under the national development  plans with and objective to uplift the living standard of general public particularly the deprived and low income people by progressively reducing the prevalent unemployment poverty, economic inequality and backwardness. Micro and small enterprises are classified into agricultural enterprises, cottage and small industries and services. In addition, other businesses as specified by NRB from time to time are also included under Micro and small enterprises. All credits extended to priority sector up to the limit specified by NRB are termed as “Priority Sector Credit."

NRB has provided the requisite proportion of Priority Sector lending as follows:

Table 1

NRB Requirement of Priority Sector Investment

Fiscal Year	Minimum percent of Total Credit to be invested in Priority Sector
2010/11	7%
2011/12	6%
2012/13	4%
2013/14	2%
2014/15	2%
2015/16	2%

Source: NRB Directives

Effective from FY 2014/15, investment in Priority Sector shall not compulsory. Before FY 2010/11, the commercial banks were directed to invest 8% of their total credit to priority sector.

·        Deprived Sector Lending

"Deprived Sector" includes low income and particularly socially backward women tribes, lower caste, blind, hearing impaired and physically handicapped person and squatters (sukumbasi) family. All credits extended for the operation of self-employment oriented micro-enterprises for the upliftment of economic and social status of deprived sector up to the limit specified by NRB is termed as “Deprived Sector credit”. "Deprived Sector Credit"  is considered as integral part of priority sector credit and this credit comprise micro-credit programs and projects also.

The businesses under the Priority Sector Credit Program have been classified under the following four major heads:

·        Agriculture and Agro-bases business

·        Collage and small industries

·        Services

·        Other business

Lending in Deprived Sector will be included in Priority Sector for the purpose of compliance test for 12% credit to Priority sector.

Deprived sector credit is advances up to Rs.30,000 per borrower family meant for weak, poor and deprived people extended in the following manner by the commercial banks shall qualify to be included under deprived sector credit:

·        Direct investment made by the commercial banks themselves in income generating employment oriented programs.

·        Investments made by commercial banks in share capital of Rural Development Banks, Rural Micro Finance Development Center and other Development Banks established with an objective to extend credit to deprived sector.

·        Advances to the Rural Development Banks and other Development Banks engaged in the similar poverty alleviation programs.

·        Advances to Cooperatives, Non-governmental Organization and Small Farmers Cooperatives approved by NRB for carrying out banking transactions.

·        Advances to Micro-Finance Institutions/ (Rural Development Banks and other financial institutions, cooperatives and non-governmental organization approved by NRB for intermediation) stipulating the condition to disburse such credit to deprived sector only.

·        Loans extended by commercial banks to development banks engaged in micro credit activities with stipulated condition to disburse the credit only to the deprived sector up to Rs. 30,000 a family shall be eligible for the purpose of inclusion under Deprived Sector Credit.

Effective from FY 2000/01, Nabil and HBL shall compulsorily extend advances to the deprived sector by 3% of its total outstanding credit while new commercial banks are required to invest 0.25% of total outstanding credit to the deprived sector.

•         Regulation relating to Loan Classification and Loan Loss Provisioning

With an objective 10 minimize the possible loss of credits extended by commercial banks as provided under section 23 (1) of Nepal Rastra Bank Act 2012 (with amendment) relating to development and regulation and banking system. This directive in respect of loan classification & provisioning has been issued in exercised of authority under section 56 of bank and financial institutions act 2063.

·        Classification of Outstanding Loan and Advances on the Basis of Aging

Banks shall classify outstanding principal amount of loan and advances on the basis of aging.

·        Classification of Loans and Advances

Loan and advance shall be classified into the following 4 categories:

2.1.9       PASS

Loans and Advances whose principal amount are not past due for a period up to 3(three) months shall be included in this category. These are classified and defined as performing loans.

·        Substandard

All loans and advances that are past due for a period of 3 month to 6 month shall be included in this category.

·        Doubtful

All Loans and advance which are past due for a period of 6 month to 1 (one) year shall be included in this category.

·        Loss

All loans and advance which are past due for a period of 6 month to 1 (one) year shall be included in this category.

·        Loss

All loans and advances which are past due for a period of more than l (one) year as well  advances which have least possibility of recovery or considered unrecoverable and those having thin possibility of even partial recovery in future shall be included in this category.

Loans and advances failing in the category of sub-standard doubtful and loss are classified and defined as Non-Performing Loan.

Note:

·        If it is appropriate in the views of the Bank management there is not restriction in classifying the loan and advances from low risk category. For instance, loan falling under sub-standard may be classified into Doubtful or loss and loans falling under Doubtful may be classified into loss category.

·        The term loan and advances also includes Bills purchased and Discounted.

·        Submission of Return Relating to Classification of Loan and Advances

Bank shall, as of the Mid of October, January, April and July, prepare the statement of outstanding loans & advances classified on the basis of aging & submit the particulars as per the enclosed Directives Form No.3 to the Banking Operation Department & Inspection & Supervision Department of Nepal Rasta Bank within l(one) month from the end of each quarter. Classified Loans and Advances under the currently existing arrangement are required to be classified as per the Time Table in four phases:

·        Relating to Collateral

Al1 collateral used back loan & advance shall be adequate to cover up the principal and interest and shall also be legally secured. In the event of non-realization of principal and interest of loan, there must be no difficulty in acquiring the title of the collateral asset.

·        Additional Arrangement in Respect of Pass Loan

Loans & advances fully secured by gold, silver, fixed deposit receipts and NG securities shall be included under “pass” category.

However, where collateral of fixed deposit receipt or NG securities or NRB Bonds is placed as security against loan for other purposes, such loans has to be classified on the basis of aging per clause 2.

·        Additional Arrangement in Respect of ‘Loss Loan”

Even if the loan is not past due, loans giving any or all of the following discrepancies shall be classified as Loss”.

·        No security at all or security that is not in accordance with the borrower’s agreement with the bank,

·        The borrower has been declared bankrupt.

·        The borrower is absconding or cannot be found.

·        Purchased or discounted bills are not realized within 90 days from the due date.

·        The credit has not been used for the purpose originally intended.

·        Owing to non-recovery, initiation as to auctioning of the collateral has passed six months and if the recovery process is under litigation.

·        Loans provided to the borrowers included in the black list and where the Credit Information Bureau blacklists the borrower.

·        Additional Arrangement in Respect of Term Loan

In respect of term loans, the classification shall be made against the entire outstanding loan on the basis of the past due period of cover due installment In the event of conversion of continent liabilities of the bank e.g. letters of credit un-matured guarantees, in to the liability of  the bank, such amount becomes recoverable from the customers. Hence, such amount shall also be classified as per the classification norms applicable to loans & advances & accordingly be provided with requisite provisioning.

Prohibition to Recover Principal and Interest by Overdrawing the Current Account & Exceeding the Overdraft Limit Principal and interest on loans & advances shall not be recovered by overdrawing the borrower’s Current account or where overdraft facility has been extended, by overdrawing such limit. However, this arrangement shall not be construed as prohibitive for recovering the principal & interest by debiting the customer’s account & recovery is made as such resulting in overdraft, which is not settled within one month, such overdrawn principal amount shall also be liable to be included under the outstanding loans & such loans shall be liable to be included under the outstanding loan and such loan shall be downgraded by one step from its current classification. In respect of recognition of interest, the same shall be as per the clause relating to income recognition mentioned in Directives No.4.

·        Loan Loss Provisioning

The Loan loss provisioning, on the basis of the outstanding loans & advances and purchase classified as per this Directives, shall be provided as follows:

Classification of Loan	Loan Loss Provision
Pass	1 Percent
Substandard	25 Percent
Doubtful	50 Percent
Loss	100 Percent

Note: Loss loan provision set aside for performing loan is defined as “general loan loss   provision” and loan loss provision set aside for Non- performing loan is defined as “Specific Loan Loss Provision”.

·        Additional Provisioning in the Case of Personal Guarantee Loans

Where the loan is extended only against personal guarantee, a statement of the assets equivalent to the personal guarantee amount not claimable by any other shall be obtained. Such loans shall be classified as per above and where the loans fall under the category of pass. Substandard and Doubtful, in additional to the normal loan loss provision applicable for the category, an additional provision by 20% point shall also be provided. Classification of such loans and advances shall be prepared separately.

·        Rescheduling and Restructuring of Loan

In respect of loans & advances falling under the category Substandard, Doubtful or Loss, banks may reschedule or restructure such loans only upon receipt of a written Plan of Action from the borrower citing the following reason:

·        The internal and external causes contributing to deterioration of the quantity of loan.

·        The reduced degree of risk inherent to the borrower/enterprise, determined by analyzing its balance sheet and profit & loss account in order to estimate recent cash flows & to project future ones, in addition to assessing market conditions.

·        Evidence of existing of adequate loan documentation.

·        An evaluation of the borrower/enterprise’s management with particular emphasis on efficiency, commitment & high standards of business ethics.

In addition to written Plan of Action for rescheduling or restructuring of loan per Clause (13.1) above, payment of interest according to the loan contract as originally specified should have been collected. The loan loss provisioning, in respect of rescheduled. restructured and swap loans, shall be provided at minimum 12.5%. Separate statement shall be prepared for loans classified & provision made as per Clause 13.3 above.

·        Provisioning against Priority Sector Credit

Full provisioning as per clause (ll) shall be made against the uninsured priority and deprived sector loans. However, in respect of insured loans; the requisite provisioning shall be 25% of the percentage state under clause (11).

·        Adjustment in Provisioning

Except in the following cases, banks are prohibited from making any adjustments in their loan loss provision amount:

·        The loan has been completely written off:

·        Loan has been classified or reclassified and vision for loan loss is made.

however, no such adjustments shall be made in the case of reclassified loan by way of rescheduling or restructuring.

·        Action to be taken in cases of Noncompliance

In cases where a bank has been found not complying the regulations in respect of loan classification and provisioning, Nepal Rastra Bank may ask for clarification. If the bank’s response is not satisfactory. Nepal Rastra Bank shall initiate following action in exercise of its authority under section 23 (1) of Nepal Rastra Bank Act. 2012.

Require reclassification of loan and advance and accordingly adjust the loan loss provisioning within 3 months. If the banks do not comply to the directive issued as per Sub-Clause 16.1 above, the following additional action shall be initiated in exercise of the authority under section 32 of Nepal Rastra Bank Act 2012 with amendment:

·        Suspend declaration and distribution of dividends (including bonus shares)

·        Suspend extension of loans

·        Suspend acceptance of deposits

All earlier circulars issued by Nepal Rastra Bank relating to loan classification and loan loss provisioning have been repealed.

2.2 Review of Related Studies

2.2.1 Review of Article

Bhattarai, (2009), in his article “Something is rotten with the state of commercial banking in Nepal” starts with words like NPA, Conflict of interest, mercy offshore ownership, well connected defaulter, loan swapping and political obstruction to describe the commercial banks in Nepal. Mr. Bhattarai quoted the words of the Governor to describe the state of banking Sector as ‘terrible’. Also, he quotes one of the donor representatives involved in financial reform as "Nepal has the weakest central bank in the developing world.” As per the author, bankers with patronage could get away with getting anything they wanted approved by the regulator. He quotes Mr. Investment SJB Rana. the first governor of NRB. “only 3 out of 12 Governors actually completed their five year terms in its entire history because they were sacked for undefined exigencies.” He also quotes Mr. Shovan Dev Pant, the then Executive Director of Nabil, “The financial sector is in appalling state.”

Aryal, (2003), has submitted a thesis entitled to, “A Evaluation of credit investment and Recovery of Financial Public Enterprises in Nepal” a case study of ADB/N. His research statement of problem was as; because of high interest rate of non “A Evaluation of credit investment and Recovery of Financial Public Enterprises in Nepal” a case study of ADB/N. His research institutional sources, people are unable to pay their credit at fixed time. These institutions compel them to transfer their property to the moneylender resulting himself or herself as a landless person.

ADB/N is one of the major financial institutions supporting for the people for the different purpose like agro. industries, tea. coffee, livestock farming etc. ADB/N. provides the credit for individual and cooperative sector to all collection amounts is not good. However. ADB/N has increased its effort to collect its credit. it is said that those people who really need do not receive sufficient amount of credit from ADB/N. His major findings are actual credit disbursement, collection and outstanding are increasing in decreasing rate. Yearly increase in credit disbursement is higher than that of collection. Positive relation between credit disbursement and collection that is 0.996 Targeted credit collection and disbursement fixed by planning and project department is not significantly different than the actual. Most of the customers are unaware of the policy of the bank. He recommends the borrowers should about the credit, its use and its payment procedures and schedule; Greater attention should be given to increase the should be followed continuously in a regular interval of time. The behavioral of the personal should be strictly supervised in granting credit in proper investment proposal because of the bad credit disbursement is due to weak decision of the personal.

Ramesh (2008), has carried out study with the objectives to find out the impact of changes in NRB directives on the performance of the commercial banks and to find out whether the directives were implemented or not. According to his findings the directives if not properly addressed have potential to wreck the financial system of the country. The directives in themselves are not that important unless properly implemented. The implementation part depends upon the commercial banks. In case commercial banks are making such huge profit with full compliance of NRB directives, then the commercial banks would deserve votes of praise because they would then be instrumental in the economic development of the country. All the changes in NRB directives made impacts on the bank and the result are the followings:

·        Increase in operational procedures of the bank, which increase the operational cost of the bank.

·        A short term decreases in profitability, which result to fewer dividends to shareholders and less bonus to the employees.

·        Reduction in the loan exposure of the bank, which decreases the interest income but increase the protection of the depositor’s money.

·        Increase protection to the money of the depositors through increased capital adequacy ratios and more stringent loan related documents.

·        Increase demand from shareholder’s contribution in the hank by foregoing dividends for loan loss provisions and various reserves to increase core capital.

All the aforesaid result lead to one direction the bank will be financially healthy and stronger in the future. HBL will be able to withstand tougher economic Situation in the future with adequate capital and provision for losses. The tough time through which the bank is undergoing at present will prevail only for a couple of years but in the long run, it will be strong enough to attract more deposits and expose itself to more risk with capital cushion behind it. The quality of the asset of the banks will become belter as banks will be careful before creation credit. Ultimately, the changes in the directives will bring prosperity not only to the shareholders but also to the depositors and the employees and the economy of the country as a whole.

Pandey(2014, has made his research on the impact on changes in new directives. In his study, he has studied only the provision related to loan provisioning and capital adequacy. However, besides Loan Loss Provision and capital adequacy, the other factors like concentration risk, sector-wise lending risk can further be discussed. A study on the organizational structure or management techniques applied for the proper implementation of NRB directives and for management of credit risk can also be made.

2.2.2 Review of Thesis

A Study done by Adhikari. (2012), entitle on "An Investment Analysis of Rastriya Banijya Bank (In Comparison with Nepal Bank Ltd.)” with the main objectives:

·        To evaluate liquidity, activity & profitability ratio of RBB in comparison with NBL & industry average.

·        To use trend analysis to compare loan and advances, total investment, total deposits and net profit of RBB and compare the same with others two.

·        To analysis relationship of loan and advances and total investment with total deposits and net profit of RBB and to compare it with that of NBL and industry average.

·        To examine the loan loss provision of Rastrya Banijya Bank & NBL.

·        To provide suggestion and recommendation on the basis of findings.

The findings of the researcher are as follows:

·        RBB has good deposit collection, enough loan and advances and small investment in government securities.

·        The assets management ratio of RBB is not better than that of NBH.

·        The Profitability position of RBB is Comparison with NBL due to low return on working fund, loans and advances and outside assets.

·        The fund collection and mobilization position of RBB is satisfactory in comparison to NBL while considering growing rate.

·        In relation to fund flow analysis, the RBB has poor loans and advances issued.

·        RBB has better positive relationship between net profit. return on loans and advances and return on investment but RBB has worse performance in income as commission and discount and exchange income.

·        There is significant relationship between deposit and loan and advances but there is no significant relation between deposit and investment of both banks RBB and NBL. There is no relationship between outside assets and net profit.

A Study done by Poudyal, (2012). entitle on "Investment in Priority Sector with Special Reference to Nepal Bank Ltd.” Has the following major objectives.

·        To analyze the repayment position of the priority sectors.

·        To find trends of priority sectors loan.

·        To analyze how far Nepal Bank Ltd, is able to grant credit priority sectors.

·        To examine the impact of loan on priority sectors.

·        To analyze the impact of loan, probable cost of misutilization of the loan by the borrowers.

The major findings of the study are as follows:

·        The procedure of loan sanction is rather slow and clumsy.

·        Bank was not able to fulfill the proposed target of corresponding loan to the priority sector.

·        Banking procedures are so complicated that the laymen are unable to understand it completely.

·        Loan repayment was more satisfactory from agriculture sector than the cottage industries & service sector.

·        Loan repayment was mainly due to the misutilization of loan, other important courses are linked with high social expenses in marriage, ceremony, medical treatment etc.

·        Loan in priority sector has increased the rural banking system in the rural areas and bank branch expansion.

·        The investment amount and percentage of priority sectors investment on total deposit have up growing trend.

·        A sort of premier groups like local people, politicians and administrators etc. effect in local granting process.

A Study done by Kayastha, (2013). entitle on “An Analysis of Deposit Mobilization of RBB, Lahan Branch, Siraha District, Nepal” has following objectives:

·        To analyze the effectiveness of deposit mobilization of RBB, Lahan branch.

·        To analyze the deposit projection for next five years of RBB. Lahan branch.

·        To find out the relationship between deposit. and loans & advances, total investment, net profit.

·        To examine the loan loss provision of Rastrya Banijya Bank.

·        To provide a package of possible guidelines to improve investment policy, it’s problems and way to solve some problems and provide suggestions and recommendation on the basis of the study.

The major findings of the researcher are as follows:

·        Interest, rate has not influenced the deposit collection as well as lending sector of the banks. And due to the lengthy lending, the credit experience is unsatisfactory.

·        The procedure of loan granting is very slow and time consuming.

·        The Bank has good deposit collection, enough loan and advances and small investment in securities.

·        The profitability position of RBB is low due to low return on working fund, loans and advances and outside assets.

·        The credit ratio has also increased by the nominal percentage. So, the deposit was not efficiently utilized.

A study done by subedi, (2013), entitle on “A Comparative Study of Financial performance between Himalayna Bank Ltd and Everest Bank Ltd.” Of the period from 2006/07 to 2011/12 with the main objectives as:

·        To compare investment policies of the sample banks and discuss the fund mobilization of the sample bank.

·        To analyze the deposit utilization and its projection for next five years of HBL and EBL.

·        To find out relationship between total investment, deposit and loans & advances, net profit and outside assets and to compare them.

·        To evaluate comparatively the profitability and risk position, liquidity, asset management efficiency of HBL and EBL.

·        To provide a package of possible guidelines to improve investment policy.

He outlined his major findings as follows:

The mean of total loans and advances to total saving deposits ratio of EBL is greater than that of HBL and the coefficient of variation between the ratios of HBL is less than EBL. It means at the variability of the ratios of HBL is more uniform than EBL. The analysis found that EBL is more employing its saving deposits in term of loans and advances than that of HBL. So, loans and advances to total saving deposit ratio appear better in EBL than HBL.

The mean ratio of total investment to total deposits of EBL is significantly greater then that of HBL but the coefficient of variation between the ratios of HBL is less than EBL. It means that the variability of the ratios of HBL is more consistent than that of EBL. According to analysis. it is found that EBL is more successful in utilizing its resources on investment. However, he failed to give his overall conclusion regarding the superiority of the financial performance of these two banks during the period of his study.

A Study done by Kandel, (2014). entitle on “Investment Policy of Commercial Banks in Nepal” with the main objectives:

To evaluate the liquidity, assets management, efficiency and the profitability and risk position of Nepal Bank Ltd.

·        To discuss fund mobilization & investment policy of Nepal Bank Ltd. With respect to its fee based off balance sheet transaction and fund based on balance sheet transaction in comparison to joint venture.

·        To find out the empirical relationship between various important variables i.e. deposits, loans and advances, investment, net profit etc. and compare them with the joint venture banks.

·        To analyze the deposit Utilization and its projection for next five years of the Nepal Bank Ltd. And Compare it with other joint venture banks.

·        To provide a package of workable suggestions and possible guidelines to improve investments policy of Nepal Bank Ltd. And joint venture banks based on the findings of the analysis for the improvement of financial performance of Nepal Bank Ltd. In future. The findings of the study are as follows:

·        The liquidity position of NBL is comparatively better than that of joint venture banks. Highly fluctuating liquidity position shows that the bank has not formulated any stable policy. It can also he concluded that NBL has more portion of current assets as loan and advances but less portion or investment on government securities.

·        The mean ratio of total investment to total deposit of NBL is lower than that of the joint venture banks. The mean ratio of total off balance sheet operation to loan and advances of NBL is found significantly lower than that of joint venture banks. So it is concluded that NBL is comparatively less successful in balance sheet as well as off balance sheet operations than that of the joint venture banks. It hasn’t followed any definite policy with regard to the management of its assets.

·        There is comparatively higher risk in NBL than that of the joint venture banks regarding various aspects of banking function.

·        It has been found that there is significant relationship between deposits and loans and advances. There is negative relationship between deposits and investment in case of NBL and positive in case of the joint venture banks.

A Study done by Parajuli, (2014). entitle on “Investment Practice of Joint Venture Banks in Nepal with Special Reference to Nepal Arab Bank Ltd., Standard Chartered Bank Ltd., and Nepal SBI Bank Ltd.” With the following objectives as:

·        To compare  investment policy of concerned banks and discusses the fund mobilization of the sample bank.

·        To find out empirical relationship between total investment, deposit and loans & advances and net profit and outside assets and compare them.

·        To analyze the deposit utilization and its projection for next five years of SCBNL and NABI L.

·        To evaluate comparatively the profitability and risk position. liquidity, asset management efficiency of SCBN and NABIL.

·        To provide a package of possible guidelines to improve investment policy, it’s problems and way to solve some problems and provide suggestions and recommendation on the basis of the study.

The findings of the researcher are as follows:

·        It can be concluded that both have good deposit collection. NABIL has the highest cash and bank balance to total deposit, cash and bank balance to current ratio. This makes the bank to be in good position to meet the daily cash requirement.

·        SCBNL has successfully maintained and managed its assets towards different income generation activities. SCBNL has made high portion of total working fund in investment on government on share and debentures of other companies.

·        The profitability of SCBNL is comparatively lower than NABIL. It indicates that NABIL has maintained its high profit margin regarding profitability position and SCBNL does not have a better position in comparison. it must maintain high profit margin for the well being in future.

·        There is comparatively lower risk in SCBNL than NABIL regarding various aspects of banking function.

·        The SCBNL has not been more successful to increase in Source of funds i.e. deposit and mobilization of loan and advances and total investment.

A study done by Pokharel, (2015), entitle on "A study on Investment Policy of Standard Chartered Bank Nepal Limited and Everest Bank Limited" and highlighted the main objectives as:

·        To compare investment policy of concerned banks and discuss the fund mobilization of the sample bank.

·        To find out empirical relationship between total investment, deposit and loans & advances and net profit and outside assets and compare them.

·        To analyze the deposit utilization and its projection for next five years of SCBNL and EBI.

·        To evaluate comparatively the profitability and risk position, liquidity, asset management efficiency of SCBNL and EBL.

·        To provide a package of possible guidelines to improve investment policy, it’s problems and way to solve some problems and provide suggestions and recommendation on the basis of the study.

The findings of the researcher are as follows:

·        It can be concluded that both have good deposit collection. EBL has the highest cash and bank balance to total deposit, cash and bank balance to current ratio. This makes the bank to be in good position to meet the daily cash requirement.

·        SCBNL has successfully maintained and managed its assets towards different income generation activities. SCBNL has made high portion of total working fund in investment on government on share and debentures of other companies.

·        The profitability procession of SCBNL is comparatively better than EBL. It indicates that SCBNL has maintained its high profit margin regarding profitability position and EBL. does not have a better position in comparison. It must maintain high profit margin for the well being in future. The finding shows EBL even though paying high interest to the customers for different activities.

·        There is comparatively lower risk in SCBNL than EBL regarding various aspects of banking function.

·        The SCBNL has not been  more successful to increase in source of funds i.e. deposit and mobilization of loan and advances and total investment. It seems SCBNL has not made any effective strategy to win the confidence of shareholders, depositors and its all customers.