IECD.No. 9 / 08.12. 01/2001-2002

October 25, 2001

The Chairmen/Chief Executives of
all Scheduled Commercial Banks

Dear Sirs,

Loan System for Delivery of Bank Credit

Please refer to paragraph No. 84 of Governor's Statement on Mid-term Review of Monetary and Credit Policy for the year 2001-02 enclosed to letter No. MPD.BC.210/07.01.279/2001-02 dated October 22, 2001.

2. As you are aware , with a view to bringing about an element of discipline in the utilisation of bank credit by large borrowers and gaining better control over the flow of credit, RBI had introduced a ' Loan System' for delivery of bank credit in April 1995. The Loan System has been extended in phases to cover larger number of borrowers with the percentage of loan component of the working capital being gradually enhanced. Currently, the Loan System is applicable to borrowers enjoying working capital credit limits of Rs.10 crore and above from the banking system, and the minimum level of loan component in respect of such borrowers has been fixed at 80 per cent .

3. The 'Loan System" was introduced to minimise the risks of cash and liquidity management on the part of the banking system, caused by volatile movements in cash credit component of working capital. In the current environment of short-term investment opportunites available to both corporates and banks, RBI has reviewed the guidelines relating to the 'Loan System'. Accordingly, it has been decided that banks will henceforth have the freedom to change the composition of working capital by increasing the cash credit component beyond 20 per cent or to increase the 'Loan component' beyond 80 per cent as the case may be, for working capital limits of Rs. 10 crore and above, if they so desire. Banks are expected to appropriately price each of the two components of working capital finance, taking into account the impact of such decisions on their cash and liquidity management. The guidelines relating to the 'Loan System', as currently applicable are set out in the Annexure.

4. Consequently, paragraph 13 B.I.6 of Chapter 13 in the Manual of Instructions may be replaced with the revised guidelines.

Yours faithfully,

(S.S.Gangopadhyay)
Chief General Manager

Encls: as above

Annexure

Guidelines on Loan System for Delivery of Bank Credit

1. Loan Component and Cash Credit Component

1. In the case of borrowers enjoying working capital credit limits of Rs.10 crore and above from the banking system, loan component should normally be 80 per cent. Banks, however, have the freedom to change the composition of working capital by increasing the cash credit component beyond 20 per cent or to increase the 'Loan Component' beyond 80 per cent as the case may be, if they so desire. Banks are expected to appropriately price each of the two components of working capital finance, taking into account the impact of such decisions on their cash and liquidity management.
2. In the case of borrowers enjoying working capital credit limit of less than Rs.10 crore, banks may persuade them to go in for the `Loan System' by offering an incentive in the form of lower rate of interest on the loan component, as compared to the cash credit component. The actual percentage of `loan component' in these cases may be settled by the bank with its borrower clients.
3. In respect of certain business activities, which are cyclical and seasonal in nature or have inherent volatility, the strict application of loan system may create difficulties for the borrowers. Banks may, with the approval of their respective Boards, identify such business activities, which may be exempt from the loan system of delivery.

2. Ad hoc Credit Limit

As at present, ad hoc/additional credit for meeting temporary requirements can be considered by the financing bank only after the borrower has fully utilised/exhausted the existing limit.

3. Sharing of Working Capital Finance

The ground rules for sharing of cash credit and loan components may be laid down by the consortium, wherever formed, subject to guidelines on bifurcation as stated in paragraph (1) above. The level of individual bank's share shall continue to be governed by the norm for single borrower/group exposure.

4. Rate of Interest

Banks are allowed to prescribe Prime Lending Rates and spreads over Prime Lending Rates separately for `loan component' and 'cash credit component'.

5. Period of of Loan

The minimum period of the loan for working capital purposes may be fixed by banks in consultation with borrowers. Banks may decide to split the loan component according to the need of the borrower with different maturity bases for each segment and allow roll over.

6. Security

In regard to security, sharing of charge, documentation, etc., banks may themselves decide on the requirement, If necessary, in consultation with the other participant banks.

7. Export Credit

The bifurcation of the working capital limit into loan and cash credit components, as stated in paragraph (1) above, would be effected after excluding the export credit limits (pre-shipment and post-shipment). Export credit limit would continue to be allowed in the form hitherto granted.

8. Bills limit for inland sales may be fully carved out of the `loan' component' . Bills limit also includes limits for purchase of third party (outstation) cheques/bank drafts. Banks must satisfy themselves that bills limit is not misultilised and in this connection, the instructions contained in Circular DBOD. No. BC.8/16.13.100/92-93 dated July 27, 1992 should be carefully noted and complied with.

9. Renewal/Rollover of Loan Component

The `loan component' may be renewed/rolled over at the request of the borrower.

10. Provision for Investing Short-term Surplus Funds of Borrower

The banks, at their discretion, may permit the borrowers to invest their short-term/temporary surplus in short-term money market instruments like Commercial Paper (CP). Certificates of Deposit (CD) and in Term Deposit with banks, etc.

11. Applicability

The loan system would be applicable to borrowal accounts classified as `standard' or `sub-standard'.