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Term loans (Oct 2004)are referred to as term finance; represent a source of debt finance
which is generally repayable in more than one year but less than 10years. Such loans are
raised for expansion, diversification and modernization of the enterprise. The primary
source of such loans are financial institution. They are employed to finance acquisition of
fixed assets and working capital margin. Term loans are repayable in fixed monthly,
quarterly or half yearly installments and secured by term loan agreements between the
borrower and the bank.
Financial institutions: the following financial institutions cater major part of financial
needs of the industrial sector:
INDUSTRIAL DEVELOPMENT BANK OF INDIA
INDUSTRIAL CREDIT AND INVESTMENT CORPORATION OF INDIA
INDUSTRIAL FINANCE CORPORATION OF INDIA
STATE FINANCE CORPORATIONS
STATE INDUSTRIAL DEVELOPMENT CORPORATIONS
INDUSTRIAL CONSTRUTION BANK OF INDIA
SMALL INDUSTRIES DEVELOPMENT BANK OF INDIA
LIFE INSURANCE CORPORATION
UNIT TRUST OF INDIA
GENERAL INSURANCE CORPORATION and its Subsidiaries
- New India Assurance Company Ltd
- Oriental Insurance Company Ltd
- United India Assurance Company Ltd
- National Insurance Company Ltd
SHIPPING CREDIT AND INVESTMENT COMPANY OF INDIA LTD.
Security (April 2002)- Term loans are always secured. They are secured specifically by
the assets acquired using term loan funds. This is called primary security. Primary
security is taken for the assets for which term loans are given.
Collateral Security (April 2002)- Upto term loan of a certain amount Collateral Security
is needed. For term loan more than that amount minimum 30% to 35% security is needed.
It depends on the credit ratings of the borrower and relations of borrower with the bank
Charge (OCT 2005)- may be defined as the transfer on an interest or right in the assets
of a person in the favour of a lender for the purpose of securing the repayment of a loan.
First and Second Charge- loans are granted to the borrower against security. Sometimes
the borrower may use the same asset for raising finance from two or more lenders. In this
case the lender who has first lent to the borrower against the asset will have the right on
the asset, before the second lender in case of default. This is known as the first charge.
Only after the dues of the first lender are cleared, after selling off the asset the second
lender can claim his dues. This is known as the second charge. Generally the lender who
has the second charge will price his loan higher, considering the fact that he has to bear a
greater risk.
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Prof : Naveen Rohatgi TYBMS: Term loan
Fixed and Floating Charge (Oct 2002, Oct 2005)- lenders lend money to the borrower
against the security. A lender can have either a fixed or a floating charge on the
securities. In case of a fixed charge lender can recover his dues from a certain predecided
asset only in case of default by the borrower. On the other hand, a lender who has a
floating charge can recover his dues from a gamut of fixed asset. The lender who lends
on a fixed asset has to bear a higher risk than the one lending on a floating charge
Lien- is the right of retention. Right of retaining goods/securities until the debt due is
paid off as per the statutory agreement. The lien can be of 2 types: Particular lien and
General lien. Particular lien is the right to retain goods until the claim pertaining to these
goods is fully paid. On the other hand, general lien can be applied till all dues of the
claimant are paid.
Pari Passu (with equal pace) (April 2003): On equal footing or proportionately. Pari
Passu is equal rights over the asset by two lending institution. It means equally without
preference,e.g. a series of debentures may be issued subject to the condition that they are
to rank Pari Passu as a first charge on the property charged by the debentures.
Moratorium (Oct 2004): Financial institution may allow for a delay in the payment of
the principal installment to the borrowers. The period between the sanction of the loan
and first principal installment repayment is known as moratorium. The bank studies
profitability statement and cash flow projections prepared by borrowing unit and arrives
at a conclusion regarding as to length of moratorium period.
Re- Schedulement: In the event of a borrower not being able to pay their installments as
as per the repayment schedule, the financial institutions may restructure the repayment
schedule of the borrowers to prevent the term loan turning bad.
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Prof : Naveen Rohatgi TYBMS: Term loan
Flash report (April 2007): The Bank prepares flash report . The flash report is the guage
whether it is feasible to provide the loan to the applicant. It determines the feasibility of
the project by looking the financial, economical, technical, marketing, managerial
aspects. It determines the amount of money that bank will earn after providing loan. It
The financial ratios for appraisal of the project includes: (April 2005, OCT 2007)
Margin money (April 2004): Margin means the own contribution of the owners for
purchase of machinery as no bank generally finances 100% of the total cost of
machinery. The margin change according to the purpose of loans or nature of loan. For
instance for machinery it is 25% and for land it is 40% which is negotiable..
Restrictive Covenants (Oct 2005)- a financially weak firm attracts stringent term of
loans from lenders. The restrictive covenants may be categorized as follows
a) Asset-related covenants
i) borrowing company should maintain its minimum asset base
ii) minimum current ratio to be maintained
iii) not to sell fixed assets without the lender’s approval
iv) refrain from creating any additional charge on its assets
b) liability-related covenants
i) restrained from incurring additional debt
ii) repay existing loan
iii) limits the freedom of promoters to dispose of their shareholding
c) cash flow- related covenants
Restrain on the firm’s cash outflow by:
(i) restricting cash dividends
(ii) restricting capital expenditure
(iii) Restricting salaries and perks of managerial staff etc.
d) Control-related covenants
i) broad-base board of directors
ii) appointment of nominee directors by financial institutions to safeguard the
interests of financial institutions
e) Positive Covenants: in addition to the foregoing negative covenants, certain
positive/ affirmative covenants stating what the borrowing firm should do during the
term of a loan are also included in a loan agreement. They provide for:
i) furnishing of periodical reports/financial statements to the lenders
ii) maintenance of a minimum level of working capital
iii) creation of sinking fund for redemption of debt
iv) Maintenance of certain net worth.
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Prof : Naveen Rohatgi TYBMS: Term loan
Financial Appraisal
It seeks to assess the following:
1) Cost of Project.
2) Capital structure.
3) Cash flow estimate.
4) Return of investment on the project.
5) Tax benefit.
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Prof : Naveen Rohatgi TYBMS: Term loan
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Prof : Naveen Rohatgi TYBMS: Term loan
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Prof : Naveen Rohatgi TYBMS: Term loan
BOARD PAPER
What is difference between Fixed Charge and Floating Charge? (Oct. 2002)
What is Flash Report? (April 2007)
Explain primary and collateral security with examples. (April 2002)
Pan Passu Charge. (April 2003)
Technical Appraisal. (Oct. 2003)
What is margin money? (April 2004)
What is Term Loan? (Oct 2004)
What is Moratorium Period? (Oct 2004)
What are the matters coy red in a Marketing Appraisal of a Term Loan Appraisal’? (April
2005)
What do you mean by economic appraisal of a Term Loan Project? (Oct 2005)
What is a charge? What is the difference between a Fixed and a Floating charge? (Oct.
2005)
Discuss any five ratios which will have bearing on sanction of loan by Bank of Baroda.
(Oct. 2007)
Discuss the financial ratios used for appraisal of Term Loan Proposals. (April 2005)
What are the important covenants of a Long Term Loan agreement? (Oct. 2005)
What are the contents of a Project Report? (April 2008)
What are the steps involved in the Project Financing? (Oct. 2008)
1) Calculate the important ratios for granting Terms Loans and give recommendations
from the given projections: (Rs in millions)
Year 2006 2007 2008 2009 2010
EBIT 560 630 700 735 805
Additional Information
a) Tax Rate@30%
b) Principal amount of loan is repayable equally along with interest payable on
outstanding loans at the end of each year
c) Loan amount in consideration Rs.1750 million to be contracted @9%
d) Repayment tenure 5 years
e) Total Capital Investment in Project: Rs 2,500 million depreciable equally over 5
years
2) Prepare an amortization schedule from the following information assuming that the
Principal amount of loan is repayable equally along with interest payable on unpaid loans
Amount Borrowed Rs 12 lakhs
Annual Interest @12%
Repayment Period 10 years
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Prof : Naveen Rohatgi TYBMS: Term loan
3) Prepare an amortization schedule from the following information assuming that the
amount is an equated annual installment
Amount Borrowed Rs 650000
Compound Annual Interest @10%
Repayment Period 8 years
4) Prepare an amortization schedule from the following information assuming that the
amount is an equated annual installment
Amount Borrowed Rs 22000
Compound Annual Interest @12%
Repayment Period 6years
CASE STUDY
( OCT 2006)
5)Mr. Chawte, GM of FICOM, a Financial Institution, was in relaxed mood. Just thought
of having a walk around went out grabbed peanuts to munch. As he was about to throw
the wrapping paper in dust bin, he noticed something! The paper was a part of old flash
report of FICOM’s appraisal process. Only partial data was visible. GM could make out
that the report was of Chemexperts Ltd of Nasik, a manufacturer of bulk drugs and whose
directors were IIT Gold Medalist. Total loan sanctioned was Rs1200 lacs@13% rate of
interest of reducing balance, against the total cost of the project at Rs.1850lacs. Principal
amount to be repaid in 24 equal quarterly installments. Loan sanctioned against the
security of Plant and Machinery, collateral security of RBI Bonds and Personal
Guarantee of the directors. You are required to list any eight items of the flash report
Solution:
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Prof : Naveen Rohatgi TYBMS: Term loan
(3) Promoters are contributing Rs. 650 lakhs [Capital cost Rs. 1,850 lakhs —
Rs. 1,200 lakhs] as margin money towards the project.
(4) Security for term loan:
(a) Primary security of Plant and Machinery.
(b) Collateral security of RBI Bonds and
(c) Personal guarantee of the Directors.
(5) Promoters are contributing 35.14% (approx.) of the total project cost.
(6) The Debt-Equity Ratio after the proposed term loan will be 1.85: 1.
(iv) Economic Appraisal:
(1) Manufacturing of bulk drugs resulting into positive impact on health in the
society.
(v) Managerial Appraisal:
(1) Directors are IIT Gold Medalist.
(2) Directors have technical expertise due to higher professional
qualifications.
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Prof : Naveen Rohatgi TYBMS: Term loan
Solution
(I) Facts:
Name of the Borrower: Jay Textiles Ltd.
Incorporated: in 1982
Present and Proposed Set up: at Silvassa
(I) Market Appraisal:
(1) Brand Leader in micro yarn.
(II) Technical Appraisal:
(1) Higher production due to yarn speed being faster due to latest generation
machine.
(2) Best quality due to the modernized machine.
Purpose of Term Loan: To increase the installed capacity by 3,600 IPA.
(3) Capacity: 6,000 TPA + 3,600 TPA = 9,600 TPA of Polyester Texturised
Yam.
(III) Financial Appraisal:
(1) 15% of the fund should be raised through issue of equity shares. 25% of
the required funds can be arranged through internal accurals and only 60% is
required as borrowings in the form of term loan. Since set-up in a backward area
therefore it enjoys a tax holiday. Income-tax holiday for 5 years.
(3) Term Loan under TUFS (Technology Upgradation Fund Scheme) Rs. 1,200 Lacs.
(4) Investment Rs. 2,000 Lacs
Expected ROl @ 18% Rs. 360 Lacs
Depreciation Rs. 400 Lacs
Life 5 years
(5) GIIC, GSFC and SBI financed the present unit.
(IV) Economic Appraisal:
(1) Economies of scale resulting in reduced cost of production.
(V) Managerial Appraisal:
(1) Promoters having an experience of more than 35 years in the textile field.
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Prof : Naveen Rohatgi TYBMS: Term loan
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Prof : Naveen Rohatgi TYBMS: Term loan
April 20037) You are approached by a Financial Institution to appraise the following
project
Name of the borrower: Blue Lines Chemicals Private Limited
Proposed loan is taken to set up a chemical unit for processing industrial waste into a
marketable product XYZ. The product has a demand for 50,000 Liters. The processing
costs include variable cost Rs.5 per Liter and fixed cost (excluding depreciation)
Rs.30,000 per year. Advertising expenses are also expected to be Rs.20,000 per year
XYZ can be sold at Rs10 per liter. Raw Material (industrial waste) is available at Re 1
per liter. The capital cost of chemical units is Rs.7,50,000.
The company has applied for a loan of Rs.6,00,000 for term of 10 years that is over the
life of the asset. The promoters are young and doing the venture for the first time. The
promoters are unable to provide any collateral security for the loan except Personal
Guarantee of their parents
They have thought of this research after market research. The said research has stated the
risk factors about invasion of South Korea in Chemical Market and drastic reduction in
Selling Price of similar products
The above unit is a SSI unit and its average tax rate is 20%
Interest rate 12%
Loan is repayable equally in 10 annual installments along with interest at the end of each
year
You are required to
a) Give the cash flow generated by the above project for the first three years
b) Calculate the Debt Service Coverage Ratio for the above 3 years
c) Prepare Flash Report presenting the above information to the Financial Institution
Solution
Facts
Name of the Borrower : Blue Lines Chemicals Private Limited.
Proposed Loan : Rs. 6,00,000.
Tenure of Loan : 10 years.
Purpose : To set up a chemical unit for processing industrial waste
into a marketable product “XYZ”.
(I) Market Appraisal:
(1) Promoters have taken up this project after a proper market research.
(2) The market research report in its risk factors has stated about invasion of
South Korea in chemical market
(3) The market research report in its risk factors also mentioned drastic
reduction in selling price of similar products.
(II) Technical Appraisal:
(1) The project involves setting up of a waste recycling plant.
(III) Financial Appraisal:
(1) Promoters are contributing as margin money Rs. 1,50,000 (Cost 7,50,000
— 6,00,000 loan amount)
(2) Promoters are unable to provide any collateral security for the loan except
personal guarantee of their parents.
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Prof : Naveen Rohatgi TYBMS: Term loan
(3) The unit is a Small Scale Industrial (SSI) unit and therefore it enjoys a
lower tax rate of 20% along with other government incentives.
(IV) Economic Appraisal:
(1) The project involves making proper resource utilization in the nation.
(2) The project will result into reduction of waste and recycling it into usable
product.
(V) Managerial Appraisal:
(1) Promoters are young, dynamic and highly qualified people.
(2) Promoters are doing the venture for the first time.
(I) Observation and Analysis:
Rs. pa.
Projected Sales 50,000 litres × Rs. 10 per litres 5,00,000
Less: Variable Costs:
Processing Costs:
Variable Cost Rs. 5 per litres × 50,000 litres 2,50,000
Raw Material (Industrial Waste) Re. 1 per litres × 50,000 litres 50,000
Less: Fixed Cost
Fixed Cost (Excluding Depreciation) 30,000
Advertising Expenses 20,000
Profit Before Depreciation, Interest and Tax 150,000
7,50,000
Less: Depreciation
10 Years 75,000
Profit Before Interest and Tax
75,000
Years
(Rs.)
1 2 3 Total
Calculation of Interest:
Loan outstanding at the beginning 6,00,000 5,40,000 4,80,000 N. A.
Less: Repayment in 10 annual installments 60,000 60,000 60,000 1.80,000
Loan outstanding at the end 5,40,000 4,80,000 4,20,000 N. A.
Interest 12% pa. on loan at beginning 72000 64800 57,600 1,94400
Calculation of Cash Flows:
PBIT 75,000 75000 75,000 2,25,000
Less: Interest 72.000 64.800 57,600 1,94,400
Profit Before Tax 3,000 10,200 17,400 30,600
Less: Tax @ 20% 600 2,040 3,480 6,120
Profit After Tax 2,400 8,160 13,920 24,480
Calculation of Debt Service Coverage Ratio:
Profit After Tax 2,400 8,160 13,920 24,480
Add: Depreciation 75,000 75,000 75,000 2,25,000
Interest 72,000 64,800 57,600 1,94,400
Funds Available for Repayment (A) 1,49,400 1,47,960 1,46,520 4,43,880
Repayments
Loan Repayment 60,000 60,000 60,000 1,80.000
Interest Payment 72,000 64.800 57,600 1,94,400
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Prof : Naveen Rohatgi TYBMS: Term loan
Total Loan and Interest Repayments (B) 1,32,000 1,24,800 1,17,600 3,74,400
Debt Service Coverage Ratio = (NB) 1.13 1.19 1.25 1.19
April 2006
8)Mr Anil Sane wishes to start a Manufacturing Unit from his ancestral factory premises.
He has Rs1,05,200 in his bank account. His parents have promised to gift him
Rs.3,50,000.He has estimated the project cost at Rs18,00,000 of which machinery will be
Rs15,25,000 and the remaining amount will be for furniture and fittings. The bank
finance is available to the extent of 80% of the project cost. He expects first year’s sales
at Rs40,00,000 with the annual increase of 20% every year over previous year. The cost
of sales will be 80%of sales. The rate of interest on loan will be 10% on reducing balance
method. The loan is repayable @ Rs300000 at the end of every year. He charges
depreciation @20% on his fixed assets under straight line and his other overheads for
three years are Rs240000, Rs300000 and Rs360000 per year respectively. You are
required to prepare the Projected Profit and Loss account and Projected Balance Sheet for
the first 3 years of operations to be presented to the bankers, assuming that the first year
is also a full year of 12 months activities and rate of income tax is flat @30%
b) Also find out any five plus points of the above loan proposal from Banker’s Point of
view.
Solution Rs.
(1) Bank balance 1,05,200
Gift from parents 3,50,000
Owned funds available 4,55,200
(2)
(3) Rs.
Machinery 15,25,000
Furniture and Fittings (Balance) 2,75,000
Project Cost 18,00,000
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(4) Depreciation (SLM) @ 20% = ×18 lacs =Rs. 3,60,00O p.a.
100
80
(5) Bank Finance = ×18 lacs =Rs. 14,40,00O p.a.
100
(6) Working Capital outflows to be show at:
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Prof : Naveen Rohatgi TYBMS: Term loan
T-0 T-1
Additional investment in working The project will require working
capital will be required to the capital of Rs. Given Amount
extent of Rs. Given Amount during the year 1.
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Prof : Naveen Rohatgi TYBMS: Term loan
OCT 2007 9) Mr. Hemendra Dane is carrying out retail business in electronic items.
After observing trade practices, he has decided to start a small scale manufacturing
unit to produce electrical fittings. His Balance Sheet as on 31 -3-2007, before starting
manufacturing activities, is as under:
Liabilities Assets
Capital 5,55,500 Furniture 40,000
Computer 60,000
Investments 1,50,000
Fixed Deposits with bank 2,00,000
Cash and Bank balance 1,05,500
Rs. 5,55,500 Rs. 5,55,500
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Prof : Naveen Rohatgi TYBMS: Term loan
In order to carry out new activity he will take factory premises on rental basis @ Rs.
10,000 p.m. from 1.9.2007 and from 1.4.2008 the rent will be Rs. 15,000 p.m. He is
confident of setting up manufacturing unit by 30.8.2007 and start manufacturing and
selling from 1st September 2007.
The cost of machineries will be Rs. 10,00,000 for which he will be approaching Bank
of Baroda for term loan of Ps. 8,00,000, balance being his own contribution. The loan
repayment will start from 1.4.2008, in the quarterly installment of Rs. 50,000 payable
on 1st April, 1st July, 1st October and 1st January every year.
He will have no income in financial year 2007-08 till setting up of the unit i.e. upto
30-8-2007. Thereafter he expects his Sales to be Rs. 80,000 p.m. from 1-9-2007 to
31-3-2008 and afterwards every year Rs. 18,00,000 with yearly increment of 10%
over previous year.
His cost structure will remain more or less unchanged upto 31-3-2010 and Cost break
up on Sales will be: Direct Cost @ 40%, Office Overheads 20%; Selling and
Distribution 5%, Depreciation will be charged on all fixed assets @ 10% under W.D.V.
(full year’s depreciation even if the assets are used for a part of the year) and
interest for first year ending 31 -3-2008 will be Rs. 59,000 and thereafter it will be at
Rs. 70,000, Rs. 54,000 and Rs. 43,000 respectively for subsequent years.
You are required to prepare Projected Statement of Profit and Loss for the
financial years 2007-08 08-09 and 2009-10.
Solution:
Projected Profit and Loss Statement (All figures in Rupees)
Particulars 2007- 2008-09 2009-10
08
Sales 5,60,00 18,00,000 19,80,000
Less: expenses: 0
Direct Cost (40% Sales) 7,20,000 7,92,000
Office Overheads (20% Sales) 2,24,00 3,60,000 3,96,000
Selling and Distribution Overheads (5% Sales) 0 90,000 99,000
Factory Rent 1,12,00 1,80,000 1.80,000
PBDIT 0 4,50,000 5,13,000
Less: Depreciation on: 28000
Furniture 70,000 3,600 3,240
Computer 1,26,00 5,400 4,860
Machinery 0 90,000 81,000
PAIT 3,51,000 4,23,900
Less: Interest on Term Loan 4,000 70,000 54,000
NPBT 6,000 2,81,000 3,69,900
1,00,00
0
16,000
59,000
(43,000)
Working Notes:
(1) Factory Rent:
01/09/200710 31/03/2008 (7 Months) @ Rs. 10,000 p.m. = Rs. 70,000
01/04/2008 to 31/03/2009 and 01/04/2009 to 31/03/2010(12 Months) @ Rs. 15,000
p.m. = Rs. 1,80,000 p.a.
(2) Sales:
01/09/2007 to 31/03/2008 (7 Months) @ Rs. 80,000 p.m. = Rs. 5,60,000
01/04/2008 to 31/03/2009 = Rs. 18,00,000
01/04/09 to 31/03/2010 = Rs. 18,00,000 + 10% = Rs. 19,8C’.OOO
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Prof : Naveen Rohatgi TYBMS: Term loan
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