disclosure practices in banking sector of india a comparative study jul 2012

8/10/2019 Disclosure Practices in Banking Sector of India a Comparative Study Jul 2012

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Guru

GURU ARJA NDEV INSTITUTE OF DEVELOPMENTSTUDIES

2012

DISCLOSURE PRACTICES INBANKING SECTOR OF INDIA

A Comparative Study

Dr Gursharan Singh Kainthand Jyoti Agnihotri

1 4 - P R E E T AV E N U E , MA J I T H A RO A D, NA U S H E R A , AM R I T S A R - 1 4 3 0 0 8


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DISCLOSURE PRACTICES IN BANKING SECTOR

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CHAPTER 1

EVOLUTION OF DISCLOSURE PRACTICES IN BANKINGSECTOR

The growth in the size of business enterprise, divorce of ownership and management,

increasing public interest in the affairs of the companies and greater emphasis on rational

decision making have greatly enhanced the need for and significance of quantitative

financial information to the external users (Singh, 1973). The financial and quantitative

information generated need to be communicated to the stakeholders in an effective

manner and through appropriate medium, ensuring transparency and timeliness. The

financial statementsact as an important medium of communicating such information tothe stakeholders. Preparation of these financial statements is facilitated by a well laid out

system of accounting.

Accounting is often called the language of business. Language helps in forming an

opinion about reality and in communication of information. The American Accounting

Association defines accounting as the process of identifying, measuring and

communicating economic information to permit informed judgments and decisions by

users of the information. The Accounting Principle Board (1970) regarded accounting as

a service activity and its function is to provide quantitative information, primarily

financial in nature, about economic entities, that is intended to be useful in making

economic decisions. Thus, the end objective of accounting is to produce and report the

quantifiable financial data to the interested groups to be used by them in their respective

decisions (Chander, 2005). These interested groups can be internal users, viz.,

management or external users, viz., shareholders, debenture holders, financial institutions,

security analysts, government, creditors, suppliers and general public. These users want

accounting information communicated to them should be useful so that it helps in rational

decision making. Thus the essence of accounting is in communication which is termed as

disclosure or reporting.

The complexity of business operations and decisional needs of the users have led to the

necessity of having a disclosure system which ensures the dissemination of financial,

quantitative and qualitative information, not only in the respect of what has happened but


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also relating to future plans, prospects and actions. This calls for a disclosure mechanism

as well as strategy to have favorable impact on value to all stakeholders (Kant, 2002).

1.1 CORPORATE DISCLOSURE: THE CONCEPT

1.1.1 Disclosure Defined

Disclosure is the process through which an entity communicates with the outside world

(Chandra, 1974). Disclosure refers to the publication of any economic information

relating to a business enterprise, quantitative or otherwise, which facilitates the making of

investment decisions (Choi, 1973). The American Accounting Associationdefines it as

the movement of information from private (i.e., inside information) into the publicdomain. It emerges from these definitions that disclosure means reporting of

quantitative and qualitative information of financial and non-financial nature regarding

the reporting, entity to outsiders for the purpose of their decision making. Information

about the affairs of the company can be communicated through different media viz.

prospectus, financial press releases, annual report, interim reports and personal contacts

with company officials. In addition, newspapers, business and industry magazines,

investment advisory services and government statistics also provide information about a

company. Despite the existence of different sources of information, the annual report is

regarded as the most important of information about a companys affairs. Corporate

annual reports represent the most easily accessible and extremely important source of

basic information concerning an enterprise.

The central focus of corporate financial reporting has changed with the passage of time.

In the past, corporate financial reporting was oriented to providing stewardship

information, which was essentially backward looking. The essence of stewardship

reporting lies in giving an account of what management has done with the money

entrusted to it. Today, the preparation and presentation of corporate financial reports is

being driven by the consideration of providing information that is useful for making

economic decisions, i.e., decision oriented financial reporting. Decision oriented

financial reporting is basically concerned with providing information that will enable the

users of the financial statements to judge the ability of the company to generate cash

flows in the future. This shift in emphasis is fully reflected in the objectives of financial


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statements developed by Financial Accounting Standards Board (FASB). According to

the True Blood Study Group Report, the basic objective of financial statements is to

provide information useful for making economic decisions (Sorter & Gams, 1974).

1.1.2 Significance of Disclosure

The need for full disclosure is irrefutable in a free enterprise economy (Chandra, 1975).

Proper disclosure increases investor confidence and makes financing through the

securities market easier (Maloo, 1986).

Sorter and Gams(1974) affirm the significance of corporate disclosures when they say

that, Society looks to corporations for assistance in the efficient allocation of resources

and expects the corporations to assume the responsibility of providing information that

furthers this goal . The quality of corporate disclosures influences to a great extent the

quality of investment decisions made by investors (Singhvi & Desai, 1971).

P.B. Miller (2002) asserts that quality driven financial reporting will produce a more

efficient capital market, a more productive economy and a more prosperous society.

Nothing can defeat the unarguable truth that more complete reporting can produce large

economic rewards. Companies that provide better information on their products to their

customers are likely to command a better price in the market (Venkatesh, 1997). Studies

further give evidence to the positive relationship between higher disclosure levels and

lower cost of capital be it cost of equity capital (Bostosan, 1997) or cost of debt

(Sengupta, 1998).

Investors would prefer to invest in a company that discloses fully than in a company that

doesnt. Not only investors benefit from full disclosure, as they do not have to bear the

uncertainty caused by the lack of corporate disclosure, but the corporation also gain

because an upward move in stock price reduces its cost of capital. Additionally it

improves allocation of capital and productivity in the economy. Another argument in

favour of full disclosure is that it stabilizes the fluctuations in stock prices. Further lack of

adequate disclosure can create ignorance in the securities market and can result in

misallocation of resources in the economy.


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Disclosure of information has a greater significance in achieving accounting objectives

and for this disclosure needs to be adequate. Adequate disclosure means fair and full

disclosure so that it helps the users in making rational decisions. It reflects economic

efficiency of the resource use and thereby helps in directing the flow of capital into

productive channels. It would also prevent and mitigate fraud and manipulation. The

more the information available, the less is the opportunity for fraud and greater the

confidence in the company. Thus adequate disclosure relates particularly to

objectives of relevance, neutrality, completeness and understandability. Information

should be presented in a way that facilitates understanding and avoids erroneous

implications.

There is no accurate measurement of the adequacy of disclosure, it can be judged in

the light of the need and requirements of the users and the purpose for which disclosure is

made. In determining the true nature of adequate disclosure, Buzby (1974)feels that five

questions must be answered:

(1) for whom is the information to be disclosed?

(2) What is the purpose of the information?

(3) How much information should be disclosed?

(4) How should the information be disclosed?

(5) When should the information be disclosed?

The achievement of adequate disclosure is a challenge which the accounting profession

must meet if it is to maintain and hopefully improve its contribution to our society

(Buzby, 1974).

1.1.3

Objectives of Disclosure

As pointed out by Stephen L. Buzby (1974), any comprehensive discussion of the nature

of adequate disclosure depends in part on the objectives of financial accounting. A set

of carefully defined objectives is basic to the development of any theory, including

disclosure theory (Maloo, 1986). Numerous accounting professionals, committees and

bodies around the world including APB [1970], The True Blood Report [1973], The

Corporate Report [London, 1975], FASB [1978], The Stamp Report [1980] and Jenkins

Committee [1994] have attempted to define the objectives of corporate reporting.


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The Accounting Principles Board has identified Relevance, Understandability,

Verifiability, Neutrality, Timeliness, Comparability and Completeness as qualitative

objectives of financial reporting. A study group was appointed in 1971 by the American

Institute of Certified Public Accountants (AICPA) under the chairmanship of Robert M.

True Blood, for the development of objectives of financial statements. The True Blood

Committee recommended twelve objectives. The main objective was stated as, The

basic objective of financial statements is to provide information useful for making

economic decisions. The True Blood Report also presented seven qualitative

characteristics which the financial statement information should possess in order to

satisfy user needs:

1. Relevance and Materiality

2. Substance rather than Form

3. Reliability

4. Freedom from Bias

5. Comparability

6. Consistency

7. Understandability

The most comprehensive statement on objectives of financial reporting is the SFAC

(Statement of Financial Accounting concepts) No. 1 [1978] Objectives of Financial

Reporting by Business Enterprises issued by FASB. The brief overview of the objectives

of financial reporting developed in this statement are as follows:

Objectives ofFinancial Reporting

(Specific)

Provide information about economic

resources, claims to resources and

changes in resources and claims.

Provide information useful in assessing amount,

timing and uncertainty of future cash flows

Provide information useful in making investment and credit decisions

(General)

Source: Robert Meigs et.al (1999);Accounting: The Basis for Business Decisions, Mc Graw Hill


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The International Accounting Standards Committee (IASC) in 1989, has stated the

objectives of financial statements in the following words:

The objective of financial statements is to provide information about the financial

position, performance and changes in financial position of an enterprise that is useful to a

wide range of users in making economic decisions.

The Accounting Standards Boardof UK states that the objective of financial statements

is to provide information about the financial position, performance and financial

adaptability of an enterprise that is useful to a wide range of users in making economic

decisions.

It is evident from the above discussion that the primary objective of financial reporting is

providing useful information to users for decision making. In the words of Beaver (1978)

the comprehensive and fundamental objective of corporate reporting is, to assure the

public availability in an efficient and reasonable manner on a timely basis of reliable, firm

oriented information material to informed investment and corporate suffrage decision

making .

Having discussed the concept of corporate disclosures; the next section discusses the

importance of disclosure in baking industry.

1.2 INDIAN BANKING

Banking is the fulcrum of an Economy. The banking industry is one of the basic

instruments of Economic Growth. According to C.H. Bhabha (1956), Banking is the

kingpin of the chariot of economic progress.

Indian Banking has come a long way since independence and has really transformed itself

from a fully regulated institution to a live, vibrant organization responding to

environmental dynamics (Chaddha, 2006).


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In 1786 General Bank of India was established and it was the first development in the

structural banking system in India. Later Bank of Hindustan and Bengal Bank came into

existence. The East India Company established three banks, the Bank of Bengal [1809],

the Bank of Bombay [1840] and the Bank of Madras [1843]. These banks were

amalgamated in 1920 to form Imperial Bank of India. The Imperial Bank was

nationalized and was renamed as State Bank of India (SBI) in the year 1955 to improve

social control with a view to remedy the basic weakness of Indian Banking system and to

ensure that banks would cater to the needs of the hither to neglect and weaker sections of

community instead of big business and those connected with them. The Reserve Bank of

India (RBI) came into existence in 1935. The RBI has a centralized control over all these

banks and performs a wide range of functions such as issue of bank notes, supervise and

administer exchange control, banking regulations, grant licenses to new banks and to new

bank branches etc.

It was further felt that the banks which play a vital role in economic growth catered to

mostly the credit requirements of large corporate. Credit requirements of small scale

industries, agriculture and export sectors were not given priority. Thus an important

development took place in 1969 when 14 major commercial banks were nationalized

with the main objective of rendering the largest good to the largest number of people.

Further 6 more banks were nationalized in 1980.

At present Indian banking system can be classified as follows:

PUBLIC SECTOR BANKS

Reserve Bank of India also called as Central Bank

State Bank of India and its 7 associated Banks

Nationalized Banks (19)

Regional Rural Banks sponsored by Public Sector Banks

PRIVATE SECTOR BANKS

Old Generation private Banks

New Generation private Banks

Foreign Banks


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Scheduled Co-operative Banks

Non Scheduled Banks

Development Banks

Till 1990s, the Indian banking sector was mostly used by the government as one of its

department to finance its fiscal deficits at low costs, channelize money to the weaker

sections of the society and control the money supply in the economy. The Reserve Bank

of India controlled all banks with iron fist and the banks had very little discret ion in fixing

the interest rates for advances and deposits, recruitment policies, decision on branch

expansion, etc. The 1990s changed everything with LPG (Liberalization, Privatization

and Globalization) becoming the buzz word and really changed the way country

functions. Thus the reform process in the Indian Banking sector was also ignited. The

reforms in the Banking Sector were initiated by the Narasimham Committee, which

submitted its report in two phases one in 1992 and the other in 1998. Deregulation, entry

to private banks, easing of Statutory Liquidity Ratio (SLR) and Cash Reserve Ratio

(CRR), providing more freedom to banks for fixing interest rates on advances / deposits,

recruitment policies, branch network, etc., were initiated on the recommendations of the

committee.

Now the Indian Banking has all together a new address and a metamorphosed road map.

Competition, convergence and consolidation have become the key drivers of Indian

Banking. The banking system is in the process of innovation and the innovation has been

the order of the day. The most exotic in innovative behavior will be the ultimate winner,

for which banks have forayed into the arena where they think innovation, dream

innovation and eat innovation (Mohanty, 2006). Banking in the new millennium would be

a unique experience with emphasis shifting from brick and mortar to click and portal

(Chaddha, 2006).

Thus one thing is for sure that the reform process is on and the Indian banks are in the

right direction. They have adopted best structures, processes and technologies available

worldwide and have moved from strength to strength. Still future poses various

challenges for the banking industry like cost management, recovery management,

technological intensity, risk management and corporate governance. New avenues are


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being looked into by the various banks such as exposure to capital market, selling

insurance policies, expanding retail credit and banking etc. Banks are planning to move in

the direction to implement Basel II by 2007. Mergers and consolidation is one of the

important steps being taken to compete in the global markets by banks. Thus the Indian

banking industry has come from a long way from being passive business institution to a

highly proactive and dynamic entity.

1.2.1 Importance of Disclosure in Banking

It is generally agreed that the most important means of communication with stockholders

is the annual report. The extent of disclosure adequacy in the annual reports may be a

major determinant of the quality of investment decision making in particular, and

economic resource allocation in general. Although these arguments are applicable to all

kinds of corporations, they have, thus far, received inadequate attention in the case of

financial institutions. It is generally agreed that the reporting practices of banks have not

yet reached the same level of adequacy as the non-financial corporations (Kahl &

Belkaoui, 1981).

Banks, commercial or developmental are also business entities. They produce and sell

financial services instead of products. That is how they are referred to as financial

institutions or financial intermediaries. They perform the middleman function of pooling

surplus resources of the saving surplus sector and channelize them to saving deficit

sector. The distinct feature about commercial banks, the focus of the present study, is that

they are highly leveraged firms. More than 90 percent of working funds is obtained from

deposit liability. For a bank, unlike other companies, which has as its principal obligation

the fostering of well being of its shareholders who must be well served, there are far more

public than just shareholders who must be well served. If a bank goes into trouble the

entire community is affected. They subsist on confidence and the confidence is best

demonstrated through the financial solidity. At all time they have to show that there is

even not a shadow about their financial standing. This explains why banking legislations

all over the world make special provisions for the preparation and presentation of

financial statements of banks.


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Thus banks form a crucial link in a countrys financial system and their well being is

imperative for the economy. In addition the fact that the people by and large deposit their

money with banks and the amount of trust they presuppose necessitates the good

disclosure mechanism for banks.

Banks have two related characteristics that inspire a separate analysis of disclosure

practices of banks. First, banks are generally more opaque than non-financial firms (i.e.,

bank activities are less transparent). Second, banks are frequently heavily regulated,

because of the importance of banks in the economy, because of the opacity of bank assets

and activities and because banks are a ready source of fiscal revenue, thus government

imposes an elaborate array of regulations on banks. At the extreme government owns

banks. Thus from the above discussion we can conclude that the study of disclosure

practices of banks have a special significance.

Having discussed the concept of corporate disclosure together with its relevance and

significance in Banking, the next section reviews the existing literature on the subject

matter highlighting the need and scope of the present study; objectives and corresponding

hypothesis formulated; as well as the specific details of research design and methodology

followed in the study.

1.3 REGULATORY FRAMEWORK OF DISCLOSURE

PRACTICES OF BANKS IN INDIA

The banks are enjoying a dominant position in the Indian financial sector and they are not

merely the economic entities, but are engines of economic growth and social

transformation. The failure of a bank not only affects its own stakeholders, but also has a

systematic impact on the stability of banking system as a whole. The rapid changes

brought in by economic reforms and in innovation in financial products combined with

technological advances, have an effect on increased risk on banking sector. Thus financial

reporting of banking companies is important for several reasons. First, the rapid changes

brought out by economic reforms have exposed the Indian financial sectors in general and


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the banking sector in particular to the challenges of global banking business. Second,

banking companies in India are also moving towards public participation and are coming

up with their Initial public offerings and also raising funds through Global Depository

Receipts and American Depository Receipts from abroad. Last, unlike other companies

most of the funds used by banks to conduct the business belong to creditors, particularly

to depositors (Singh,2007). Thus, financial reporting norms for banks, assume pertinent

importance in the present context.

Banks must provide full, reliable, and high quality disclosures of their operations and

risks in a timely fashion and must use prudent accounting policies. Such transparency in

bank disclosures (a) enables investors to more accurately assess a banks financial strength

and performance; (b) increases the credibility of the information disclosed by the bank;(c) demonstrates the risk management ability of the bank by disclosing relevant

information about the quality and quantity of risks it faces and (d) reduces market

uncertainty associated with its cash flow stream. Better quality public disclosures reduce

the level of information asymmetry between bank managers and investors and thereby

enhance investor confidence in banks stock and in the banking industry

(Chipalkatti,2002).

Environment of Financial Reporting in India

The major objective of regulating the disclosure practices is to check the window dressing

in the financial statements to make them comparable more informative and hence useful,

and safeguarding the interest of the investors and other users(Chander,2005).

The financial reporting and disclosure of banking companies in India are regulated by the

Banking Regulation Act 1949, the Companies Act 1956, the rules of the Securities and

Exchange Board of India, the guidelines of the Reserve Bank of India, the

recommendations of the Institute of Chartered Accountants of India (ICAI) and the

recommendations of the Basel Committee on Banking Supervision.

1.3.1 The Banking Regulation Act, 1949

The provisions relating to banking companies were incorporated in part X-A of the Indian

companies Act 1913. These provisions were first introduced in 1936. They were found to


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be inadequate and difficult to administer. Moreover while the primary objective of

companies law is to safeguard the interests of the stakeholder, that of banking legislation

should be the protection of the interest of the depositor. Therefore, it was felt that a

separate legislation was necessary for the regulation of banking in India. This need

became more consistent on account of the considerable development that had taken place

in banking, especially the rapid growth of banking resources and of the number of banks

and branches. Thus the enactment of a separate comprehensive measure had become

imperative.

With this object in view, a bill to amend the law relating to Banking Companies Act was

introduced in the Legislative Assembly in November 1944 and was subsequently

circulated for eliciting public opinion through the Provincial Governments. In the ensuingbudget session of the Assembly the Bill was referred to a Select Committee which was

due to meet in October,1945, but it was lapsed before its consideration by the Committee.

A fresh Bill with certain modifications which suggested themselves on consideration of

the opinions and criticisms received on the 1944 Bill was introduced in the Legislative

Assembly in March,1946 and was referred to a Select Committee in April,1946. The

report of the Select Committee was presented to the Assembly on the 17thFebruary, 1947.

As it was the original intention of the Government that the Bill should be taken up for

disposal by the Legislative Assembly in the form in which it emerged from the Select

Committee and that the changes necessitated in the bill as a result of the passing of the

Indian Independence Act, 1947 and other developments should be moved in the House as

separate amendments, a motion for the continuation of that Bill was adopted on the 17 th

November,1947. In view however, of a fairly large number of amendments, government

considered that the passage of the measure would be facilitated if the Bill as reported

upon by the Select Committee were withdrawn and a fresh Bill incorporating all the

amendments were introduced and referred to a Select Committee. The Bill was

accordingly with drawn on the 30th Jan 1948 and the Banking Companies Bill was

introduced.

The Banking Companies Bill was passed by the Legislative Assembly on 10 th March,

1949 as The Banking Companies Act 1949. Later on the nomenclature of the Act was

changed and now it stands as the Banking Regulation Act, 1949.

Banks in India are set up and governed by different statutes. The State Bank of India is set

up under the SBI Act 1953, the associate banks under the SBI (Subsidiary Banks) Act,


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1959. The first group of nationalized banks under The Banking companies (Acquisition

and Transfer of undertakings) Act, 1970. The record group of six nationalized banks

under The Banking Companies (Acquisition and Transfer of undertakings) Act, 1986 and

the private sector banks under the Companies Act 1956. These statutes under which they

are set up, however do not govern the formats of balance sheet and profit and loss account

to be prepared and the provisions regarding the separate formats for such final

accounts by banks have been prescribed under the provisions of the Banking

Regulation Act, 1949.

The Banking Regulation Act 1949 provides a frame work for regulation and supervision

of commercial banking activity. Section 29(1)of the Banking Regulation Act 1949 states

that at the expiration of each calendar year every banking company shall prepare abalance sheet and profit and loss account in the forms set out in the Third schedule Form

A and Form B of the act respectively. Section 30(1) states that the balance sheet and

profit and loss account should be prepared in accordance with Section 29 and audited by a

person duly qualified under law. Section 31(1)also states that the accounts and balance

sheet, together with the auditors report, shall be published in the prescribed manner and

three copies thereof shall be furnished as returns to the RBI within three months from the

end of the period. Section 32requires that three copies of the accounts and balance sheet,

together with the auditors report, should be sent to the registrar of Company Affairs.

1.3.2 The Companies Act, 1956

The history of company legislation in India dates back to the year 1882, when for the first

time country had Indian Companies act passed on the lines of the British Companies Act.

This made preparation and audit of the balance sheet compulsory. The Companies Act,

1913 contained more detailed provisions regarding published accounts introducing a new

form of balance sheet. Further, the Companies (Amendment) Act, 1936 brought

significant changes giving a status to profit and loss account equal to that of balance sheet

and making it compulsory to prepare Directors Report on accounts. After India became

independent it was in 1950 that Bhabha Committee was appointed which made

recommendations that formed the basis for the Indian Companies Act, 1956. This Act of

1956 has been amended from time to time depending upon the contemporary

developments and need for regulation.


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The Banking Regulation Act, 1949 is the chief legislative measure governing banking

business in India. However, the provisions of Indian Companies Act, 1956 are also

applicable to banking companies with regard to matters not covered by the Banking

Regulation Act, 1949.

Sections 210, 211, 212, 216, 217, 227 (1A), 227(2), 227(3), 227(4A), 619 and 641 of the

Indian Companies Act contain various provisions relating to the corporate disclosure.

Sections 210, 211, 212 and 216 contain the provisions relating to the preparation of

Balance sheet and profit & loss account which are not applicable on banking companies

because the preparation of balance sheet and profit & loss account is governed by Section

29(1) the Banking Regulation Act, 1949.

Section 217of Indian Companies Act requires the preparation of report by the Board of

Directors of the company to be attached with the balance sheet. The section also specifies

the particulars to be included in the boards report. A report by the board of directors

of the banking company is to be prepared as per section 217 of the companies Act,

1956 with respect to:

The state of the banking companys affair.

The amount, if any, proposed to be transferred to reserves.

The amount, if any, proposed to be paid as divided; and

Material changes and commitment, if any, affecting the financial position of the

company which has occurred between the ends of the financial year of the

company to which the balance sheet relates and the date of the report.

The report of the board must include a Directors Responsibility Statementindicating

therein having complied with all applicable Accounting Standards, selected and applied

accounting policies consistently, made reasonable and prudent judgments and estimates,

taken proper and sufficient care in maintaining adequate accounting records for

safeguarding the assets, prevention and detection of fraud and the irregularities and

prepared the annual accounts ongoing concern basis.

Sections 227(1A), 227(2), 227(3), 227(4A) of the Companies Act deal with the matters to

be included in the auditors report. However, preparation of the auditors report is

governed by section 30 of banking regulation Act, 1949. Section 619 of companies Act


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deals with the annual reports of the government companies. Section 641 deals with the

power of central Government to alter schedules by notification in the official Gazette.

1.3.3 Reserve Bank of India (RBI)

The Reserve Bank of India is the apex financial institution of the countrys financial

system entrusted with the task of control, supervision, promotion, development and

planning. As Indias central bank, the RBI came into existence on 1stApril, 1935 under

the Reserve Bank of India Act, 1934.

The RBI influences the management of commercial banks through its various policies,

directions and regulations. The RBI is committed to enhancing and improving thelevels of transparency and disclosure in banks annual accounts. In addition to its

traditional central banking functions, the RBI has certain non-monetary functions

regarding the nature of banks supervision, and the promotion of sound banking in India.

The Reserve Bank Act 1934 and the Banking Regulation Act 1949 invested the RBI with

wide powers of supervision and control over commercial banks relating to licensing and

establishments, branch expansion, liquidity of their assets, management and methods of

working, amalgamation, reconstruction, and liquidation. Consequently, it is authorized to

carry out periodical inspections of the banks to call for returns and necessary information.

Section 35A of the Banking Regulation Act 1949, empowered the Reserve Bank of India

to give directions to the Banking Companies whenever it deems fit and the banking

companies shall be bound to comply with such directions. Thus the RBI provides a

detailed guidance to banks in the matter of disclosures in the Notes to Accounts to

the Financial Statements.

The users of the financial statements need information about the financial position and

performance of the bank in making economic decisions. They are interested in its

liquidity and solvency and the risks related to the assets and liabilities recognized on its

balance sheet items. In the interest of full and complete disclosure, some very useful

information is better provided, or can only be provided, by notes to financial statements.

The use of notes and supplementary information provides the means to explain and

document certain items, which are either presented in the financial statements or

otherwise affect the financial position and performance of the reporting enterprise.Recently, a lot of attention has been paid to the issue of market discipline in the banking


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sector. Market discipline, however, works only if market participants have access to

timely and reliable information, which enables them to assess banks activities and risks

inherent in these activities. In order to encourage market discipline, the Reserve Bank of

India has over the years developed a set of disclosure requirements which allow the

market participants to assess key pieces of information of capital adequacy, risk

exposures, risk assessment processes and key business parameters which provide a

consistent and understandable disclosure frame work that enhances comparability. The set

of disclosure requirements listed is intended only to supplement, and not to replace, other

disclosure requirements under relevant legislation or accounting and financial reporting

standards. Where relevant a bank should comply with such other disclosure requirements

as applicable.

In addition to the 16 detailed prescribed schedules to the balance sheet banks are required

to furnish the following information in the Notes to Accounts.

Table 1.1: List of disclosure items to be disclosed in the Notes on Accounts

1. Capital

(i) Capital Adequacy Ratio

(ii) Capital Adequacy Ratio Tier - I capital

(iii) Capital Adequacy Ratio Tier - II capital(iv) Percentage of the shareholding of the Govt. of India in nationalized banks

(v) Amount of subordinated debt raised as Tier 11 capital

2. Investments

(i) The gross value of investments in India and abroad.

(ii) Provisions made towards depreciation in the value of investments.

(iii) Movement of provisions held towards depreciation on investments.

3. Repo Transactions

(i) Securities sold under repos

(ii) Securities purchased under reverse repo.

4. Non SLR Investment Portfolio

(i) Issues composition of Non SLR investment

(ii) Non-performing Non SLR investments

5. Derivatives

(i) Forward Rate Agreement / Interests Rate Swap

(ii) Exchange traded Interests Rate Derivatives


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(iii) Disclosure on risk exposure in derivatives

6. NonPerforming Assets

(i) Percentage of Net NPAs to Net advances

(ii) Movement in NPAs

(iii) Amount of provisions made towards NPAs

(iv) Movement of provisions held towards NPAs

7. Details of loan assets subjected to restructuring

8.Details of financial assets sold to securitization / Reconstruction Company for

Asset reconstruction

9. Details of Non-performing financial assets purchased/sold

10. Provision on standard asset

11. Business Ratio

(i) Interest income as a percentage to working funds

(ii) Non-interest income as a percentage to working funds

(iii) Operating profit as a percentage to working funds

(iv) Return on assets

(v) Business per employee

(vi) Profit per employee

12. Asset Liability Management

(i) Maturity pattern of loans and advances(ii) Maturity pattern of investment securities

(iii) Maturity pattern of deposits

(iv) Maturity pattern of borrowings

(v) Foreign currency assets and liabilities

13. Exposures

(i) Exposure to real sector

(ii) Exposure to capital market

(iii) Exposure to country risk

(iv) Details of Single Borrower Limit, Group Borrower Limit exceeded by Bank

14. Miscellaneous

(i) Provision made for Income Tax during the year

(ii) Disclosure of penalties imposed by RBI

15. Disclosure requirements as per accounting standards

16. Additional Disclosures

(i) Disclosure of Provisions and contingencies

(ii) Disclosure on floating provision


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(iii) Disclosure on draw down of reserves

(iv) Disclosure of complaints

(v) Disclosure of letters of comforts issued by banks

Source: Master Circular Disclosures in financial statements Notes to Accounts, 2008

1.3.4 Securities and Exchange Board of India (SEBI)

The stock exchanges also have significant bearing on the disclosure information. They

can prescribe the information to be disclosed in the annual reports. For example the

companies, such as Infosys, Satyam, Dr. Reddys Lab and Wipro recast their financial

statements as per US GAAP and present this information in their annual reports as these

companies are listed on NYSE / NASDAQ and The Securities and Exchange Commission

(SEC) requires the compliance and disclosure with such GAAP.

The Government of India established the Securities and Exchange Board of India (SEBI)

on the pattern of SEC of USA. SEBI was constituted on April 12, 1988 as supervisory

body to regulate and promote securities markets. It became a statutory body on passing of

the Securities and Exchange Board of India Act in 1992. One of the specific objective of

SEBI is to provide a high degree of protection to the rights of investors and their interests

through adequate, accurate and authentic information and its disclosure on a continuous

basis. It has laid down disclosure requirements as far as annual reports of corporateentities are concerned, which are enforced through the stock exchange listing agreements.

In respect of annual report disclosures, SEBI has laid down through listing agreements by

companies with stock exchanges the following main disclosure requirements:

Cash Flow Statement:As per clause 32, every company listed on the stock exchanges

will annex a cash flow statement (as prescribed by AS-3) providing information in

respect of operating, investing and financing activities carried out during the financial

year along with figures for the previous year as in case of other financial statements.

Corporate Governance Report: The genesis of corporate governance lies in business

scams and failures. The failure of several renowned companies in UK viz. Maxwell,

BCCI, Poly pack, Exco, Coloroll and and their collapse in the late 1980s and the early

resulted in the setting up of the Cadbury Committee in UK in May 1991 as the impact of

the series of financial scandals were severe on the British economy and society as a

whole. The committee chaired by Sir Adrian Cadbury was formed by the Financial

Reporting Council, the London Stock Exchange, and the accountancy profession to


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address the financial aspects of corporate governance. The committee issued a draft report

for public comment on 27 May 1992.

The SEBI is entrusted with the task of overhauling the process of corporate governance

practices in India. Over the last decade SEBI has performed well and has formed various

committees to look into the ways and means to regulate the corporate governance practice

in India. On the recommendations of Kumar Mangalam Birla Committee, SEBI

introduced Clause 49 in February 2000. The clause 49 of the listing agreement, which

deals with the corporate governance issues lays down that every company listed on stock

exchange or getting listed shall have a separate section on Corporate Governance in its

annual report with a detailed compliance report on corporate governance. Non-

compliance of any mandatory requirements with the reasons thereof, and the extent towhich the non-mandatory requirements have been adopted should be specifically

highlighted. The annexure-2 of clause 49 of the listing agreement gives the suggested list

of items to be the part of corporate Governance report. The major items to be included in

the report are :-

A statement on companys philosophy on Corporate Governance.

Board: composition, attendance of each member at the Board meetings and last

AGM, other directorships and memberships of Board committees, and number

and dates of Board meetings held.

Audit committee: composition terms of reference meetings and attendance details.

Remuneration committee: composition, terms of reference, attendance,

remuneration policy and details of remuneration to the directors.

Shareholders committee: composition, number of complaints received and solved

and number of pending share transfers.

General Body meetings: location and time details of last three AGMS held,

special resolutions put through postal ballot, procedure adopted and the person

conducting the postal ballot, and details of voting pattern.

Disclosures: on materially significant related party transactions, details of non-

compliance by the company with any requirement, and the penalties and strictures

imposed by the SEBI, stock exchange or any other statutory authority during the

last three years.


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Means of communication: detail regarding half-yearly report sent to each

household of shareholders, quarterly results, newspapers in which results

published, website of the company, presentations made to institutional investors or

to analysts, and whether Management Discussion and Analysis is a part of

annual report or not.

General shareholder information: AGM information with date, time and venue,

financial calendar, dates of book closure, dividend payment date, listing details,

stock code, market price data, performance as compare to broad based indices

such as BSE sensex, registrar and transfer agents, share transfer system,

shareholding distribution, dematerialization, outstanding GDRs/ADRs/warrants or

convertible instruments, plant locations, and address for correspondence.

The company must also obtain a certificate from either the auditors or practicing

company secretaries regarding compliance of conditions of corporate governance

as stipulated in this clause, and annex the certificate with the directors report,

which is sent annually to all the shareholders of the company. The same certificate

must also be sent to the stock exchanges along with the annual report filed by the

company.

Effective corporate governance is necessary for commercial banks if they have to grow

and compete successfully in liberalized environment. Governance for banks assumes

special significance for the fact that they accept and deploy large amount of

uncollateralized public funds and leverage such funds through credit creation, as also

administer the payment mechanism. Governance in banks is a considerably more complex

issue than in other sectors. Public sector banks attempt to comply with the same codes of

board governance as other companies, but, in addition, factors like risk management,

capital adequacy and funding, internal control and compliance all have an impact on theirmatrix of governance.

1.3.5 The institute of Chartered Accountants of India (ICAI)

It is a premier professional accountancy body in India. It plays a significant role in

regulating the corporate disclosure practices in India. The institute is one of the members

of the international accounting standards committee (IASC) and has agreed to support the

objectives of IASC.


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Having recognized the fact that different accounting and reporting practices are followed

by the corporate sector in India, ICAI constituted the Accounting Standards Board (ASB)

in April 1977. The basic objective of ASB is to harmonize the diverse accounting policies

and practices being followed by companies in India keeping in view the international

developments in the field of accounting. To achieve this objective ASB has undertaken to

formulate and popularize the accounting standards and to persuade the concerned parties

to adopt them in the preparation and presentation of the financial statements. ASB has

issued 32 accounting standards till now. A list of these accounting standards is presented

below:

AS-1 Disclosure of Accounting Policies

AS-2 Valuation of inventories

AS-3 Cash Flow Statements

AS-4 Contingencies and Events occurring after the Balance sheet date.

AS-5 Net profit & loss for the period, prior period items and changes in

accounting policies.

AS-6 Depreciation accounting

AS-7 Accounting for construction contracts

AS-8 Accounting for Research and Development

AS-9 Revenue Recognition

AS-10 Accounting for fixed assets

AS-11 Accounting for the effects of changes in foreign exchange rates.

AS-12 Accounting for Government grants

AS-13 Accounting for investments

AS-14 Accounting for Amalgamations

AS-15 Accounting for Retirement Benefits in the financial Statements of

Employers

AS-16 Borrowing costs

AS-17 Segment reporting

AS-18 Related Party Disclosure

AS-19 Leases

AS-20 Earning per share

AS-21 Consolidated Financial Statements

AS-22 Accounting for taxes on income


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AS-23 Accounting for investments in associates in consolidated financial

statement

AS-24 Discontinuing operations

AS-25 Interim financial reporting

AS-26 Intangible assets

AS-27 Financial reporting of interests in joint ventures

AS-28 Impairment of assets

AS-29 Provisions, contingent liabilities and contingent assets

AS-30 Financial Instruments: Recognition and measurement

AS-31 Financial Instruments: Presentation

AS-32 Financial Instruments: Disclosures

ICAI requires that while discharging their attest function, it will be the duty of the

members of the institute to examine whether these accounting standards have been

followed in the preparation of financial statements covered by their audit. In the event of

any deviation from these standards, it will be their duty to make adequate disclosures /

qualifications in their audit reports so that the users of financial statements may be made

aware of such deviations. However, while making a disclosure / qualification in the audit

report, the auditor should consider the materiality of the relevant items.

Besides these accounting standards the institute has also assumed some exposure drafts,

guidance notes and expert opinions on various controversial issues in accounting and

reporting. The adoption of these shall make the financial statements comparable and more

relevant to their users.

With a view to promote better standards, recognize and encourage excellence in the

presentation of information in the annual reports, the Institute of Chartered Accountants

of India has been holding an annual competition for the ICAI awards for excellence in

Financial Reporting. This competition is held in three categories of organizations as

follows:

Category I: Non-financial public and private sector enterprises (other than those

covered by category III).

Category II: Financial institutions in public, private and co-operative sector, such as

banks, insurance companies, NBFCs etc.


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Category III: Not for profit organizations including companies registered under section

25 of the companies Act, 1956 educational and research institutions and

trusts.

The institute also organizes a number a seminars, workshops and conferences covering

different aspects of disclosures every year. These programs are specifically conducted for

the members of the institute and the officials working in different organizations who are

related to the preparation of the corporate annual reports one way or the other.

The ICAI has clarified that it will issue the accounting standard for use in the presentation

of the general purpose financial statements issued to the public by the commercial,

industrial or business enterprise. These accounting standards are applicable to public

sector companies, private sector listed companies, large borrowers of banks from banks

and financial institutions in the corporate sector, societies, partnership firms, trusts, HUF

etc. General purpose financial statements include the balance sheet, the profit loss

statement and other statements and explanatory notes which form part thereof, and are

issued to external financial users, e.g. shareholders, creditors, employees and the public at

large. Banks are also required to comply with these accounting standards. There are few

accounting standards where RBI has issued guidelines in respect of disclosure items for

Notes to accounts which are as follows:

2.5.1 Accounting Standard 5 - Net Profit or Loss for the period, prior period items

and changes in a accounting policies: Since the format of the profit and loss account of

banks prescribed in Form B under Third Schedule to the Banking Regulation Act 1949

does not specifically provide for disclosure of the impact of prior period items on the

current years profit and loss, such disclosures, wherever warranted, may be made in the

Notes on Accounts to the balance sheet of banks.

2.5.2 Accounting Standard 9 Revenue Recognition: This Standard requires that in

addition to the disclosures required by Accounting Standard 1 on Disclosure of

Accounting Policies (AS 1), an enterprise should also disclose the circumstances in

which revenue recognition has been postponed pending the resolution of significant un

certainties.

2.5.3 Accounting Standard 15 Employee Benefits: Banks may disclose the change in

accounting policy in the appropriate schedule relating to Significant changes in

Accounting Policies / Principle Accounting Policies. The Board of Directors of a bank


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must disclose the accounting policies followed in respect of VRS expenditure. If VRS

applications were accepted subsequent to the closure of the accounting year the Board of

Directors would be required to make a disclosure in the Board Report of that fact and of

the likely impact of the VRS.

2.5.4 Accounting Standard 17 Segment Reporting: While complying with the

accounting standard, banks are required to adopt the following:

a) The business segment should ordinarily be considered as the primary reporting

format and geographical segment would be the secondary reporting format.

b) The business segment will be treasury, Corporate/Wholesale Banking, Retail

Banking and other banking operations.

c) Domestic and international segments will be the geographic segments for

disclosure.

d) Banks may adopt their own methods, on a reasonable and consistent basis, for

allocation of expenditure among the segments.

2.5.5 Accounting Standard 18 Related Party Disclosure: This Standard is applied in

reporting related party relationships and transactions between a reporting enterprise and

its related parties. The disclosure format recommended by the ICAI has been suitably

modified to suit banks.

2.5.6 Accounting Standard 21 Consolidated Financial Statements (CFS): As

regards disclosures in the Notes on Accounts to the Consolidated Financial Statements,

banks may be guided by general clarifications issued by Institute of Chartered

Accountants of India from time to time.

A parent company, presenting the CFS, should consolidate the financial statements of all

subsidiaries-domestic as well as foreign, except those specifically permitted to be

excluded under the AS-21. The reasons for not consolidating a subsidiary should be

disclosed in the CFS. The responsibility of determining whether a particular entity should

be included or not for consolidation would be that of the Management of the parent entity.

In case, its Statutory Auditors are of the opinion that an entity, which ought to have been

consolidated, has been omitted, they should incorporate their comments, in this regard in

the Auditors report.


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2.5.7 Accounting Standard 22 Accounting for Taxes on Income: This Standard is

applied in accounting for taxes on income. This includes the determination of the amount

of the expense of saving related to taxes on income in respect of an accounting period and

the disclosure of such an amount in the financial statements. Adoption of AS 22 may give

rise to creation of either a deferred tax asset (DTA) or a deferred tax liability (DTL) in the

books of accounts of banks and creation of DTA or DTL would give rise to certain issues

which have a bearing on the computation of capital adequacy ratio and banks ability to

declare dividends.

2.5.8 Accounting Standard 23 Accounting for Investments in Associates in

Consolidated Financial Statements: This Accounting sets out principles and procedures

for recognizing, in the consolidated financial statements, the effects of the investments inassociates on the financial position and operating results of a group. A bank may acquire

more than 20 per cent of voting power in the borrower entity in satisfaction of its

advances and it may be able to demonstrate that it does not have the power to exercise

significant influence since the rights exercised by it are protective in nature and not

participative. In such a circumstance, such investment may not be treated as investment in

associate under the Accounting Standard. Hence the test should not be merely the

proportion of investment but the intention to acquire the power to exercise significant

influence.

2.5.9 Accounting Standard 24 Discounting Operation: Merger / closure of branches

of banks by transferring the assets / liabilities to the other branch of the same bank may

not be deemed as a discounting operation and hence this Accounting Standard will not be

applicable to merger / closure of branches of banks by transferring the assets / liabilities

to the other branches of the same bank. Disclosure would be required under the Standard

only when:

a) discounting of the operation has resulted in shedding of liability and realization of

the assets by the bank or decision to discontinue an operation which will have the

above effect has been finalized by the bank and

b) the discontinued operation is substantial in its entirety.

2.5.10 Accounting Standard 24 Interim Financial Reporting: The half yearly review

prescribed by the RBI for public sector banks, in consultation with SEBI, is extended to


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all banks (both listed and unlisted) with a view to ensure uniformity in disclosures. Banks

may adopt the format prescribed by the RBI for the purpose.

2.5.11 Other Accounting Standards: Banks are required to comply with the disclosure

norms stipulated under the various Accounting Standards issued by the Institute of

Chartered Accountants of India.

As already mentioned the ICAI is one of the members of the IASC, and has agreed to

support the objectives of IASC. While formulating accounting standards, the ASB gives

due consideration to international accounting standards (IAS), issued by the IASC, and

tries to integrate them to the maximum extent possible, in the light of the conditions and

practices prevailing in India. IASC came into existence on June 29, 1973, as a result of an

agreement by the accounting bodies in Australia, Canada, France, Germany, Japan,

Mexico, the Netherlands, the United Kingdome and others. Since its inception, IASC has

issued 41 international accounting standards. IAS-30 pertains to the disclosures in the

Financial Statements of Banks and similar Financial Institutions. A brief summary of the

same is given below:

IAS-30: Disclosures in the Financial Statements of Banks and similar Financial

Institutions

This standard prescribes special presentation and disclosure for banks and similar

financial institutions.

A bank's income statement should group income and expenses by nature and should

report the principal types of income and expense.

Income and expense items may not be offset except those relating to hedges, and

assets and liabilities for which the legal right of offset exists. Specific minimum line items for income and expenses are prescribed.

A bank's balance sheet should group assets and liabilities by nature

Assets and liabilities may not be offset unless a legal right of offset exists and the

offsetting is expected at realization.

Specific minimum line items for assets and liabilities are prescribed.

Disclosures are required for various kinds of contingencies and commitment, include

off-balance sheet items.

Disclosures are required for information relating to losses on loans and advances.


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Other required disclosure include:

-Maturities of various kinds of liabilities.

-Concentrations of assets and liabilities, and off-balance sheet items.

-Net foreign currency exposures.

-Market values of investments.

-Amounts set aside as appropriations of retained earnings for general banking

risks.

-Secured liabilities and pledges of assets as security.

International Accounting Standards were issued by IASC from 1973 to 2000. The

International Accounting Board (IASB) replaced IASC in 2001. Since then IASB has

amended some IASs and has proposed to amend others, has replaced some IASs with new

International Financial Reporting Standards (IFRS) and has adopted or proposed certain

new IFRSs on topics for which there was no previous IAS. IAs 30 is now superseded by

IFRS 7: Financial Instruments: Disclosures. IFRS issued by the IASB are increasingly

being recognized as the global FRS. Convergence with IFRS has gained worldwide

momentum in recent years. ICAI has decided to converge its accounting standards with

IFRS for accounting period commencing on or after 1stApril 2011 for listed entities and

other public interests entities such as banks, insurance companies and large sized entities

for smooth transition to IFRS.

1.3.6 BASEL NORMS

The Basel Committee on Banking supervision (BCBS) was established in 1971 by the

Bank of International Settlements (BIS) - an international organization founded in Basel,

Switzerland in 1930 to serve as a bank for central banks. Basel Committee on Banking

Supervision is a committee of bank supervisors consisting of members from each of the G

10 countries. It is represented by central bank governors of each of the G 10 countries.

In 1988, the BCBS came out with its recommendations for a set of minimum capital

requirements for banks, which came to be known as the Basel Capital Accord (Basel I).

Focusing primarily on credit risk, Basel I made a clear distinction between the credit risk

of various entities such as a sovereign, a bank, mortgage obligations from non bank

private sector and commercial loan obligations. In principle, Basel I classified bank assets

into five risk groups, which carried respective credit risk weights of 0 percent 10 percent,


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20 percent, 50 percent and 100 percent, based on which the minimum capital

requirements of a bank was to be calculated. Generally Government held securities

were attributed a zero risk while bank borrowings (20 per cent) and loan to others (50-100

per cent) were attributed higher risks. Banks were advised to hold capital equal to 8 per

cent of the risk weighted value of assets. The accord also provided a detailed definition of

capital, with Tier 1 or core capital (which included equity and disclosed reserves), and

Tier 2 or supplementary capital (included undisclosed reserves, hybrid capital instruments

and subordinated debts).

The accord brought some sense of standardization and equality among the banks. It made

the banks and the central banks around the world more willing to talk about the embedded

risks in banking and to work towards developing metrics for measuring credit risks andcarrying capital to cushion against it. However, it has been felt over the years that Basel I

accord was a good first step, but not sufficient to take care of the fast rising complexities

in credit risk management. For instance, it had a one- size-fit-all approach for capital

regulation, and did not adequately differentiate credit risk across exposures from a stand

point of likely losses that could arise. Basel I requires banks too classify all commercial

loans into five categories of borrowers on the basis of the nature of ownership of the

entities rather than on their inherent creditworthiness, based on which the capital

requirement for the bank would be computed. Further, the capital requirements did not

take into account the collateral offered or the covenants that formed that formed a part of

the transaction.

To set right these deficiencies, the Basel Committee issues a proposal in June 1999 for a

New Capital Adequacy Framework to replace the 1988 framework. Following extensive

interactions with banks and industry groups worldwide, the proposal underwent couple of

revisions at its drafting stage and the final version International Convergence of

Capital Measurement and Capital standards A Revised Framework was issued by the

BCBS in June 2004 (Basel II).

Basel II is based on three pillars that allow banks and supervisors to evaluate properly the

various risks that banks face. These three pillars are:

1. Minimum capital requirements

2. Supervisory review of an institutions capital adequacy and internal assessment

process


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been prescribed. Thus pillar 1 deals with adequacy of capital for the banks build up assets

carrying credit, market and operational risk.

Keeping in view RBIs goal to have consistency and harmony with international

standards, it has been decided that all commercial banks in India shall adopt standardized

approach for credit risk and basic indicator approach for operational risk. Banks shall

continue to apply standardized duration approach for computing capital requirement for

market risks.

Pillar 2 Supervisory Review of Capital Adequacy

The role of supervisory review process is viewed as a critical component to other two

pillars, viz. capital requirement and market discipline. Here the new accord stresses the

importance and need for supervisors of banks to take a comprehensive view on how

banks have gone about in handling the risk sensitive issues, risk management, capital

allocation process etc. In this regard the guiding principles for the supervisors are:

a) Banks to hold capital above minimum requirement.

b) Intervention at an early stage to prevent capital from declining below the

benchmark level.

c) Review of internal capital adequacy assessment and strategy.

d) Banks to assess their overall capital in relation to risk profile and supervisors to

review the same.

Pillar II requirements give supervisors, i.e., the RBI, the discretion to increase regulatory

capital requirements. The RBI can administer and enforce minimum capital requirements

for banks even higher than the levels specified in Based II, based on risk management

skills of the bank. RBI will consider prescribing a higher level of minimum capital ratio

for each bank under the pillar 2 framework on the basis of their respective risk profiles

and their risk management systems.

Pillar 3 Market Discipline


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This pillar seeks to bring market discipline through greater transparency by asking banks

to make adequate disclosures for the benefit of shareholders / investors, depositors,

customers, rating agencies, government and policy makers and of course for the

regulators / supervisors. Market discipline has two components:

a) Market signals, manifest from share price movement, banks lending and

borrowing rates etc.

b) Responsiveness of the banks as also the supervisors to the market signals.

Pillar 3 provides a comprehensive menu of public and regulatory disclosures related to

the capital structure, capital adequacy, risk assessment and risk management process to

enhance transparency in banking operations. This pillar is complementary to the first two

pillars and seeks to encourage market discipline and public disclosures, so as to allow

shareholders, stakeholders and market players to know about risk profits and available

capital resources to absorb unexpected losses.

Indian banking companies were required to ensure full implementation of Basel II

guidelines by March 31, 2009. The first phase of Basel II was implemented in India with

foreign banks operating in India and Indian banks having operational presence outside

India complying with the some effective end of March 2008. In second phase all other

scheduled commercial banks (except local area banks and RRBs) were to adhere to Basel

II guidelines by March 31, 2009.

Basel II mandates capital to Risk Weighted assets ratio (CRAR) of 8 per cent and Tier

capital of 6 per cent. The RBI has stated that Indian banks must have a CRAR of

minimum 9 per cent effective March 31, 2009. Further, the Government of India has

stated that public sector banks must have a capital cushion with CRAR of at best 12 per

cent, higher than the thresh old of 9 per cent prescribed by the RBI.

BASEL III

Basel III is a globally regulatory standard on bank adequacy, stress testing and market

liquidity risk agreed upon by the members of the Basel Committee on Banking

Supervision in 2010-11.

This, the third of the Basel Accords was developed in response to the deficiencies in the

financial regulations revealed by the Lates-2000s financial crisis. Basel-III strengthens


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bank capital requirements and introduces new regulatory requirements on the bank

liquidity and bank leverage. For instance, the change in the calculation of loan risk in

Basel II which some consider a casual factor in the credit bubble prior to the 2007-08

collapse: in Basel II one of the principal factors of financial risk management was out-

sourced to companies that were not subject to supervision: credit rating agencies. Rating

of creditworthiness and of bonds, financial bundles and various other financial

instruments were conducted without supervision by official agencies, leading to AAA

ratings on mortgage-backed securities, credit default swaps and other instruments that

proved in practice to be extremely bad credit risks. In Basel III a more formal scenario

analysis is applied (three official scenario from regulators, with ratings agencies and firms

urged to apply more extreme ones.

Overview

Basel III will require banks to hold 4.5 per cent of common equity (up from 2 per cent in

Basel II) and 6 per cent if Tier I capital (up from 4 per cent in Basel II) of risk-weighted

assets (RWA). Basel III also introduces additional capital buffers, (i) a mandatory capital

conservation buffer of 2.5 per cent and (ii) a discretionary countercyclical buffer, which

allows national regulators to require up to another 2.5 per cent of capital during periods of

high credit growth. In addition, Basel III introduces a minimum 3 per cent leverage ratio

and two required liquidity ratios. The Liquidity Coverage Ratio requires banks to hold

sufficient high-quality liquid assets to cover its total net cash outflows over 30 days; the

Net Stable Funding Ratio requires the available amount of stable funding over a one-year

period of extended stress.

Objectives

Basel III measures aim to:

1. improve the banking sectors ability to absorb shocks arising from financial and

economic stress, whatever the source

2. improve risk management and governance

3. strengthen banks transparency and governance

Thus we can say that Basel III guidelines are aimed to improve the ability of banks to

withstand periods of economic and financial stress as the new guidelines are more

stringent than the earlier requirements for capital and liquidity in the banking sector.


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Macroeconomic Impact of Basel III

An OECD study released on 17 February 2011, estimates that the medium term impact of

Basel III implementation on GDP growth is in the range of -0.05 per cent to -0.15 per

cent per year. Economic output is mainly affected by an increase in bank lending spreads

as banks pass a rise in bank funding costs, due to higher capital requirements, to their

customers. To meet the capital requirements affective in 2015 (4.5 per cent for the

common equity ratio, 6 per cent for the Tier I capital ratio), banks are estimated to

increase their lending spreads on average by about 15 basis points. The capital

requirements affective as of 2019 (7 per cent for the common equity ratio. 8.5 per cent for

the Tier I capital ratio), could increase bank lending spreads by about 50 basis points. The

estimated affects on GDP growth assume no active response from monetary policy. To

the extent that monetary policy will no longer be constrained by the zero lower bound, the

Basel III impact on economic output could be offset by a reduction in monetary policy

rates by about 30 to 80 basis points.

Basel III is an opportunity as well as challenge for the banks. It can provide a solid

foundation for the next developments in the banking sector, and it can ensure that past

excesses are avoided. Basel III is changing the way that banks address the management of

risk and finance. The new regime seeks much greater integration of the finance and risk

management functions. This will probably drive the convergence of the responsibilities of

the CFOs and CROs in delivering the strategic objectives of the business. However, the

adoption of a more rigorous regulatory stance might be hampered by a reliance on

multiple data silos and by a separation of powers between those who are responsible for

finance and those who manage risk. The emphasis on risk management that is inherent in

Basel III requires the introduction of evolution of a risk management framework that is as

robust as the existing finance management infrastructures. As well as being a regulatory

regime, Basel III in many ways provides framework for true enterprise risk management,

which involves covering all risks to the business.

Summary:


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In the end it can be summarized that banks today are not merely economic entities but

they are the pillars on which the overall financial economic growth depends. A

transparency in banks disclosures further reduces the level of information asymmetry and

hence boosts the investors confidence in the banking industry. But such banking

disclosures in India are regulated by the Banking Regulation Act 1949, the Companies

Act 1956, the RBI, the ICAI, the SEBI and the recommendations of the Basel Committee.

The Banking Regulation Act 1949 provides a framework for the regulation and

supervision of commercial banking activity whereas the Companies act deals with the

state of the banking companys affairs. RBI the apex financial institution of India, not

only controls but also supervises, promotes, develops and plans the role of commercial

banks through its policies, directions and regulations. Hence it gives a detailed guidance

to the banks in matters of banking disclosures. SEBI on the other hand lays down

disclosure requirements though stock exchange listing agreements via various disclosure

requirements such as Cash Flow Statement and Corporate Governance Report. ICAI a

premium professional accountancy body in India plays an important role in regulating the

corporate disclosure practices in India by issuing various accounting standards. Finally

the Basel Committee on banking supervision gave its recommendations as to how the

banks and supervisors are to evaluate properly the various risks that banks can face. It

based its study on three important pillars: minimum capital requirements, supervisory

review of capital adequacy and market discipline. Only when these three pillars are

mutually reinforced then only they can contribute to the safe and sound banking practices.

1.4 NEED OF THE STUDY

Financial disclosure is an effective communication of accounting information to its usersfor decision making. The users of financial statements should be in a position to evaluate

and assess the companys earnings performance and financial position, so that, they are

able to make intelligent investment decisions necessary for efficient allocation of scarce

resources. The aim of financial disclosure is to portray economic performance of an

enterprise. Financial information can be disclosed by using various modes, but annual

reports occupy a very significant position among them. Today there is general acceptance

of the value of fair reporting in the business community. Fair reporting brings with it

motivation, increased competitiveness, comparability and credence.


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Banks are also business entities, i.e. they produce and sell financial services instead of

products. The distinctive feature about banks is that they are highly leveraged firms. They

have to foster the well being of shareholders and general public at large. The essential

part of the banking system is its financial viability. It is not only necessary for its

survival but also to discharge its various obligations. If a bank goes into trouble the entire

community is affected. Banks subsists on confidence and disclosure of prudent banking

practices is the only way to build confidence.

Further the need of the study was felt because of growing importance of corporate

governance in banks. Governance is a reform package to strengthen the banks and

corporate with the objective of making them more accountable, open, transparent,

democratic and participatory.Governance in banks is considerably a more complex issue

than in other sectors because bank activities are less transparent and thus it is more

difficult for shareholders and creditors to monitor their activities. The core of

governance rests on the quality of transparency and disclosure.

Another area which focuses on the need for present study is Basel II. Managing risk is

increasingly becoming an important issue for the regulators and financial institutions.

Bank regulation is now increasingly getting risk concentric. This process had its origin in

Basel I proposals in 1988. The thrust of first accord was adequate capitalization of banks

in relation to credit risk, the second accord recognizes that banks face a number of risks in

the form of credit, market and operational risk. Basel II is built around three pillars

minimum capital requirement, supervisory review and market discipline. Pillar three

provides a comprehensive menu of public and regulatory disclosures related to capital

structure, capital adequacy, risk assessment and risk management process to enhance

transparency in banking operations. Thus, Basel II provides a list of desirable best

practices for banking safety and efficiency.

Protecting the interest of the depositors becomes a matter of paramount importance to

banks. Regulators, the world over, have recognized the vulnerability of depositors to the

whims of managerial misadventures in banks and therefore have been regulating the

banks more tightly than other corporate. Thus there seems to be a little question


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concerning the need for serious research in the area of reporting practices of commercial

banks.

1.5 OBJECTIVES OF THE STUDY

The objectives of the study have been as below

1. To examine the disclosure practices of commercial banks in India over the period of

study.

2. To compare the disclosure practices of selected private sector banks with the publicsector banks.

3. To find out highly disclosed and least disclosed elements of banking disclosures.

4. To examine the discriminatory power of total, mandatory and voluntary disclosures

in relation to public and private sector banks.

5. To make suggestions for improving the quality of disclosure.

1.6 HYPOTHESIS

Corresponding to the aforesaid objectives, the following sets of broad hypothesis

1. Ho (1) : There are no significant differences in the disclosure practices of public

sector banks and private sector banks.

Ha (1) : There are significant differences in the disclosure practices of public sector

banks and private sector banks.

2. Ho (2) : There are no significant differences in the reporting of various elements of

banking disclosures.

Ha (2) : There are significant differences in the reporting of various elements of

banking disclosures.


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CHAPTER 2

REVIEW OF LITERATURE

It is a known fact that education is a social activity and no research whatsoever can be

conducted in isolation. Every scholar is therefore deeply indebted to his predecessors in

the field who have already conducted related studies and brought to light hitherto

unrevealed aspects of the subject matter in hand. It is only after reviewing the existing

literature on the subject that one can gauge the gap where further research is required or

identify the lacunae in previous studies and make an attempt to overcome them by

undertaking ones own study.

A number of studies have been conducted in India and abroad with a view to examine the

information needs of different user groups like investors, financial and security analysts,

public accountant and auditors, creditors etc. as well as to evaluate the quantitative and

qualitative status of corporate financial reporting and disclosures. A brief overview of

such studies and research papers is being presented below:


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Copeland and Fredericks (1968) examined the relation between materiality and

disclosure with aggregate data from 200 companies. The research design consisted of the

selection of a variable, a measurement of its materiality and disclosure, and a comparison

of the two measures. The variable selected was changes in common stock because

changes affect individual stockhol

disclosure practices in banking sector of india a comparative study jul 2012

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