DOCUMENTATION:

Securities Against Various Types Of Advances: Special Features

Land and Buildings Land and Buildings have become increasingly more acceptable securities in the recent past in many countries, mainly due to steady inflation. These assets assume special importance as securities where the borrower has already tied up his other assets for other advances. Land and Buildings are accepted as collateral with increasing reliance, in modern banking strengthen the Bank’s security and reduce the risk factor considerably.   The borrower wishing to charge land as security will usually have legal estate being a freehold or leaseholder. The procedure to be perfect security over freehold or leasehold land will depend on whether the title is:

(i)  registered

(ii) unregistered.   It should always be remembered that the word land denotes not only the ground but also any building or fixtures upon it. Consequently, if the borrower creates a mortgage of his land in the Bank’s favour and then proceeds to build a factory on that land, the building automatically becomes part of the Bank’s security.   Branches should obtain as near an accurate valuation as possible of the real estate offered as security.

• House: Accurate valuation should be done by branch manager/ credit officer and also by the enlisted surveyor of the bank. The valuation will be influenced by the type of title, i.e freehold or leasehold, the type and size of the property, the state of repair, amenities etc.
• Agricultural land A few additional factors should be taken into consideration other than above ones. For example, the acreage, the quality of land, accessibility to markets etc.
• Factories and other industrial buildings: These are extremely difficult to value separately, even by the professional values. As a general rule, the more specialized the building, the more conservative should be the valuation when making the allowance for a forced sale.

The branch Manager should be confident that the advance would be repaid by the borrower by the regular generation of adequate cash surplus from the business. An absolute reliance on land as security for the repayment of the loan should be avoided as the realized value of the security may deviate from the valuation or prove to be time consuming to materialize. Various statutes e.g. Transfer of Property Act, Rent acts, town and Country planning Acts, must be taken into account before accepting land as security.   It should be checked whether the proposed mortgage has already created any tenancy. The right to create a legal tenancy should be restricted by the Bank’s mortgage term under which the Bank’s prior permission will be required.

Method of charging In most cases, the Bank should obtain a certificate from a Panel Lawyer certifying the authenticity of the documents. The genuineness of the owner, and the validity of the documents for creating a mortgage. The branches should ensure that the property is not in any dispute encumbered and that there are not dues outstanding against it.   Where the repayments is expected from the rent of the property, the Bank should obtain a power of attorney from the owner of collect rent on his behalf. Also, where feasible, the Bank should obtain a letter from him addressed to the tenant requesting the letter to deposit the rent with the Bank. A separate letter should be obtained from him authorizing the appropriation of the rent received towards the adjustment of the advance.

Documentation for acknowledgement for debts:

The necessary list for documentation is generally the same except that the mortgage procedures might slightly vary. Here is the list.

• Demand promissory Note
• Letter of Arrangement
• Submission of original Title Deeds;
• Extracts from the Property register,
• Ground Rent Receipts
• Valuation Certificates from enlisted surveyor of JBL
• In the case of an Equitable Mortgage, a letter of Undertaking should be obtained from the borrower / mortgage declaring that he would execute a legal mortgage in favour of the Bank, if so required ;
• In the case of register Mortgages a legal mortgage of the property is created;
• In cases where properties are owned by third parties, preferably also to obtain letters of Guarantees from the third parties concerned;
• In the case of partnerships and limited companies please see the guidelines issued for general documentations;
• For loans a letter of disbursement and a Letter of Installment and for overdrafts letter continuity should be taken.

The above guidelines on documentation are only the general ones and head Office will issue comprehensive instructions for mortgages procedures etc. depending on the situation to which they refer. The branch manager, while following the guidelines / instructions from the Head Office, will also refer to the lawyers listed in the Bank’s approved panel for any legal clarifications before finalizing the charge documents.

Stocks, bonds and other stock exchange securities Advances against stock and share certificates, bonds, Scripts and other stock exchange securities will be allowed in accordance with current credit policy of JBL. These instruments are one of the very common forms of security offered to the Bank, and posses many advantages. They are readily marketable, easily transferable and their market value can easily be determined accurately. Some of these securities are even fully negotiable. Branches should ascertain that the stocks, shares bonds and other stock exchange securities offered to them possess the advantages described above. They should ascertain the market quotations of the securities offered by referring to the stock exchange list or a well-known daily business newspaper. They should also provide a sufficient margin for market fluctuations and follow meticulously the guidelines issued by Bangladesh Bank and Head Office in this regard. The amount of margin will depend on the specific securities offered. For example, greater margin will be provided for securities with widely fluctuating quotations and/ or dividends. Head office may stipulated and advise the margin which should be deducted from the market value of the securities offered.

Method of charging:

A fully negotiable security, when deposited with the Bank, gives a complete title. Registered securities include nearly all the stocks and shares issued by a joint stock company. The name of the owner of registered stocks and shares is recorded in the company’s register. A certificate is issued which is prima facie evidence of ownership. A holding cannot be transferred without production of the certificate. Branches may accept the registered stock and share certificates as security against an advance. They should however be accompanied by the memorandum of deposit of shares and securities and an adequate number of undated / black stock transfer forms (Form 117) fully signed by the borrower. Where the business integrity or the borrower is not indubitable it is prudent to get the stocks and shares transferred to the Bank’s name. Branches should make a reference to the Head Office to obtain Proper approval before getting the shares transferred to the Bank’s name.   Precautions when accepting stocks and shares The branch manager should take the following precautions :

• verify that the share certificate, stocks or bonds lodged with the bank are genuine: the securities offered should not be stolen, torn or mutilated;
• If there is an evidence of trust, e.g. where the certificate is in joint names, the rights of the borrowers who offer the security should be investigated.
• Proper charge forms must be obtained: as described else where, the final format of the charge form is governed by local legal conditions and can only be decided after consulting local legal counsel (the exact format of the charge form appears in the regional instruction dealing with perfection of security).
• An adequate number of black signed but undated stock transfer forms should be obtained from the charger.
• When it is considered necessary to transfer the stocks and shares to the Bank’s name, a detailed submission should be sent to Head Office seeking approval of the transfer.
• Since it is customary for the borrower to receive dividends on securities charged to the Bank a standard letter signed by the borrower should be sent the company asking them to send all future dividends to the Bank for credit to his advance account until further notice.

Unit Trusts Unit trusts are similar in many respects to registered shares. In certain cases a form of renunciation is incorporated on the reverse of the certificate and in such cases the borrower should be requested to sign the form of renunciation. A stock transfer form is then not necessary.

Inventory:

A borrower should normally be granted credit facilities against pledge or hypothecation of those goods in which he usually deals in. The branch manager/ credit officer should check the price of the goods offered as security to establish the range of price fluctuation. It the range is wide, there will be reservations about accepting the goods as security for the advance unless the branch manager can take an adequate margin. If the price of the goods fluctuates within narrow limits, the branch manager will accept the goods as security on the basis of the average price paid by the borrower over the last three months. When considering an advance secured by inventory it is important to verify that the borrower has the tile to goods he intends to pledge or hypothecate to the Bank. Title to the goods can be verified by reference to the original invoices. Prices shown on purchase invoices can also help the Bank to determine the amount which cold be advanced against the goods after deducting an adequate margin. Margin depends on the nature of goods. Perishable and non-durable goods call for higher margin. This also applies to goods whose prices fluctuate widely. Head Office must advise the percentage of margin to be retained against specified goods in a regional instruction devoted to this important matter. Generally the stipulated margin should provide for an adequate cushion at all times against falls in price or stock shortages. The branch manager must pay a great attention to movements in the customer’s account especially after the credit facility is secured against inventory turnover on the account should be consistent with the cash flow profile of the borrower’s business. Where advances are guaranteed against the security of seasonal goods the, the debit balance must be paid off at the end of the season. The safety of advances secured inventory depends on the marketability of the goods and their value.

The turnover of goods in a reliable indicator to ascertain the marketability of goods. When judging the turnover in the account the total amount of receipts and payments in relation the size of the advances should be considered. Lack of movement in the account may indicate that the goods are obsolete, out of fashion, overvalued or defective in some other way, and hence are not marketable. While carrying out the periodic inspection of inventory the sets of relevant invoices should also be checked to determine whether the stock is current. The aging of the goods may affect their quality and price leading to a reduction in inventory values and insufficient security covers for the advance. There are two ways in which the bank may accept inventory as security for an advance :

(a)  by pledge of goods

(b)  by establishing charge on hypothecation of goods. In case of a pledge the goods are taken into possession of the Bank and retained either in the Bank’s own warehouses or in warehouses approved by the Bank. One of the conditions which the Bank should insist on that the warehouse must provide as much care and attention to the safety of the goods as the owner of goods himself could provide. While accepting the goods under pledge a letter to this effect signed by the borrower of his authorized agents must be obtained detailing the full description and quantity of the goods. The relevant Invoices should also be checked to establish the value of the good pledged. The following additional points must be noted when considering the safety of the goods.

• the warehouse should have leak-proof roofs and strong doors.
• the warehouse should be located in an are where there is reasonable against theft and burglary.
• The selection of the warehouse will depend on the specific nature of the goods stored e.g. goods liable to be damaged by moisture and other hazards require extra precautions are regards the flowing and ventilation in the warehouse.
• The warehouse and the goods to be insured with all possible risk coverage.

The stock Register:

Goods pledged with the Bank should be recorded in the stock Register. Separated sheets for different borrowers must be maintained in the Register. It should provide details such as number of bundles/ packages received date of receipt and identification number of the packages and the type of commodity. An authorized person should initial each entry in the Register on the receipt of goods. It should also show the balance: the quantity of packages or bundles held at any particular time in the warehouse. A monthly report should be obtained from the person in charge of the warehouse giving details of goods stored on behalf on the borrower. All the keys of the warehouse must be kept in the bank under proper entry to the key register. The authorized officer during his inspection, should check the details in the register and physically verify the packages or bundles held in the warehouse. The labels or identification marks on the packages and bundles should match with the identification given in the stock Register so that even the type-wise segregated stock of goods can be checked easily.

Delivery of goods:

A letter should be obtained from the borrower whenever he wishes to takes goods out of stock. His signature should be verified by referring to the account opening form. The debit balance in his account should be checked to easily whether the Bank will have sufficient stock in its possession as security, after delivery of the goods requested by the borrower. Changes to drawing limits and to the relevant records must be verified by an authorized officer of the Bank. A letter signed by the authorized officer should be addressed to the warehouseman requesting him to delivery the goods to the borrower or is authorized agents. The quantity and the identification of the packages and bundles should be clearly stated to avoid wrong delivery.

Insurance of the goods All goods pledged or hypothecated to the Bank must be insured at their full value. If the insurance cover provided is less than the value of the goods pledges or hypothecated then in the case of damage the insurance company provides the payment on pro rata basis because of the application its average clause. Insurance policies must be renewed in good time so that there is no break in the insurance over appropriate dairy notes must be taken of the expiry dates of insurance policies and sufficient care should be exercised so that the amount of premium is recovered from the borrower and is remitted to the insurance company before the expiry of the policies. The branch manager should obtain standing instructions from the borrower to this effect.

Inspection of good Inspection of goods to the Bank should be carried out as frequently as warranted by the circumstances of each advance account., but in any case inspection should be carried out at least once a quarter. While inspecting the goods, sufficient care should be exercised to ensure that:

• goods are o a reasonable age: this would depend on the nature of the goods pledged or hypothecated:
• goods are easily marketable at the value at which they are pledged or hypothecated:
• there is a frequent turnover of the goods pledged or hypothecated.

Inspection of goods held in stock should be carried out with reference to the stock list submitted by the borrower each month. The inspecting officer will review the list and satisfy himself as to its accuracy. The stock list should be retained in the borrower’s account file. The inspecting officer should submit a report in prescribed form. The branch Manager should scrutinizes the report for any adverse comments. Satisfactory reports should be filed in the borrower’s for correcting the situation if there adverse comments.

Hypothecation A credit facility secured against hypothecation of goods must be recommended only for borrowers of indubitable integrity. Where advances are granted against hypothecated goods all transaction of the borrower, particularly in relation to the sale and purchase of goods hypothecated to the Bank, must pass through the advance account. As in the case of hypothecation of goods a stock list must be obtained in form ADV-F-9 once a month from the borrower who had been give a credit facility against hypothecated goods and a periodic inspection must also be carried out. Whilst making the inspection the inspector must always check whether goods hypothecated to the Bank are not mixed with other goods in the borrower’s warehouse. If mixing is occurring the borrower should be informed immediately and steps must be taken quickly to ensure that stocks hypothecated to the bank are segregated in the ware house.

Book debts and receivables

Legally, book debts are called chooses in action. This means that they are a from of property which a borrower does not actually possess but which he has right to receive or demand by law. A charge over book debts is essentially a short-term security. The Bank’s primary concern is to ensure that the monies due are received directly as a reduction of the borrowings made against the outstanding debts. Advances against book debt and receivables should be considered only for customers of indubitable integrity. While granting an advance against book debts and receivables, the branch manager should stipulate the age of the debt against which drawings are to be allowed. Generally the Bank does not advance against book debts which are more that three months old. However, individual cases should be considered on their own merits. The nature of the borrower’s business and the period of credit normally allowed in his business are relevant factors to determine the age of the book debts against which an advance may be safety granted. When making out the charge form, the branch manager should include the entire book debt of the borrower.  He should not restrict himself to that portion of the book debt against which drawing limits have been calculated. The branch manger should impress upon the borrower that the must deposit any monies received from his debtors directly into his advance account with a view to reducing the outstanding balance.

Whether possible, branches should arrange for collection of bills drawn by the borrower on his debtors. The procedure of collecting bills drawn by the borrower enables the Bank to hold negotiable instruments which are a better form of security than the entires of the borrowers debts in the Bank’s books. This also ensures that the debts are received direct by the Bank for crediting the borrower’s accounts. The branch manager should also obtain from the borrower a monthly statement of all outstanding book debts and should arrange to verify each month details of book debts with reference to the borrower’s financial statement and books of account strict supervision should be exercised on the account.

Debentures; fixed and floating assets

A debenture is simply a written acknowledgement of indebtedness by a company, usually given under its seal and setting out the terms of interest and repayment. Nowadays debentures are usually secured on the undertaking or on the property of the company which issues them. A floating charge is an equitable charge on a class of assets, for the time being, of a going concern e.g. over stock, work-in-progress, debtors, cash, etc. Such a charge enables the company to deal freely with these assets until such time as the charge crystallizes.  (The floating charge is usually stated, as covering all the Company’s other assets not included in the fixed charge).

Floating charges suffer from defects as outlined below :

Accurate valuation is difficult. Everything depends on the value of the assets comprising the floating charge when it crystallizes. In valuing a floating charge, branches should always (i) value the assets on a gone concern basis after making due allowance for the type of business involved, (ii) allow for realization charges, expenses and the prior claims of preferential creditors, keep the valuation up to date from current balance sheets etc.

Running down of assets. A floating charge is by nature worth least when it crystallizes.

Subsequent specific legal or equitable charges have priority over a floating charge.

Danger of execution by creditors: where there is a likelihood of execution by a creditor the branch should arrange for appointing a receiver to crystallize its charge.

Preferential creditors rank before a floating charge.

The branches should always include in its floating charge all assets belonging to the company which have not been tied under its fixed charge.    

Bank’s own term deposits It will be n order for the branch to grant advances against the borrower’s own term deposits. Normally, the borrower requests and advance against his own deposits to meet a short term cash requirement. The rate of interest to be charged on such advances will be 4% above the bank rate or of the minimum lending rate applicable in the area of branch operation. The branch should also make sure whether there are any mandatory rules with regard to the charging of interest on advances made against term deposits.   A suitable margin should be retained. The margin should fixed so that the amount of deposit plus accrued interest should cover the amount of advances plus interest payable by the borrower.   Normally the period of a credit facility secured against term deposits should not extend beyond the maturity date of the deposits.

In cases where the credit facilities are extended beyond this period, a letter requesting renewal of the deposit for at least the extended period of the credit facility should be obtained from the borrower.   The term deposit should normally stand in the name of the borrower. If the deposit is issued in the joint names of two or more depositors then all of them must jointly give charge over the term deposits to the bank. On completing the formalities of sanctioning the credit line proposal, the original term deposit receipt/ advice must be obtained from the depositors duly discharged. An appropriate charge form duly signed should also be obtained. The amount of the advance should not be disbursed prior to recording the lien on the term deposit in bank’s records.

Bills, negotiable instruments and documents of title to goods

When considering credit line proposals secured by bills, the branch must ensure that the bills to be offered by the borrower are genuine and relate to his business transactions. Third party bills not connected with the borrower’s business are not considered to be good security. Purchase of such bills should only be recommended for sanction if the borrower has a high credit rating and his past dealings wit the bank have been completely satisfactory.   The same consideration also apply to confirming house bills and in-house bills, and credit line proposal must provide specially for their purchase.

These bills involve a higher risk than the purchase of bills drawn on unconnected drawees. Sufficient justification should therefore be provided when recommended purchase of confirming house bills and in-house bills.   The credit line proposals must also clearly indicate the usance and tenure of the bills to be purchased. Where no details are provided in the proposal, it will be presumed that the limit is for documentary sight bills. There may be cases where the customer wishes to offer both sight and usance bills for purchase. The amount upto which each type of bill will be purchased should be clearly indicated in the credit line proposal.

Scrutiny of documents

In dealing with documents relating to goods, branches will come across two of their types:

(a) documents that give a title to the goods named in them, and

(b) those documents which are merely receipts acknowledging that the goods have been lodged in the ware house. Documents in the first class are bills of lading dock and ware house keepers transferable warrants: documents in the second class are warehouse keepers certificates and delivery orders.   When documents of title are lodged as security, a letter of hypothecation should also be taken. The branch should ensure that the goods are adequately insured.   A bill of lading is a peculiar document in that it has some of the qualities of a negotiable instrument (when drawn “to order or assigns”) and yet it is not really negotiable, for the person transferring it can as a general rule give no better title to the goods than he has himself. 

Normal banking practice in scrutinizing documents of title to goods is almost the same in most of the counties and is common knowledge that bills of lading should be clean, on board or shipped, and through bills.   The insurance policy or certificate of insurance always accompany a bill of lading. Normally where contracts are CIF, it is understood and should be carefully noted where the description of the goods in the bills of lading tallies with that in the policy. A broker’s note or certificate of insurance are not sufficient and only a policy of insurance should called for. If the policy is a floating policy, it should be ascertained that the particular shipment has been declared and endorsed and initiated by the underwriter to show that it has been noted and approved. This kind of policy is often called on “Open Policy”.