1.

STATEMENT OF THE PROBLEM

In the recent years the financial system especially the banks have undergone
numerous changes in the form of reforms, regulations & norms. CAMELS framework
for the performance evaluation of banks is an addition to this. The study is conducted
to analyze the pros & cons of this model.

OBJECTIVES OF STUDY

 To do an in-depth analysis of the model .

 To analyze 3 banks to get the desired results by using CAMELS as a tool of
measuring performance.

RESEARCH PROPOSAL

The Bank after the implementation of the balanced scorecard in 2002 has under
gone a drastic change. Both its peoples and process perspectives have changed
visibly and the employees have full faith in the new strategy to produce quick results
and keep them ahead in the industry. The balanced scorecard approach has brought
about more role clarity in the job profile and has improved processes. In short it
focuses not only on short term goals but is very clear about its way to achieve the
long term goal.

SCOPE OF THE RESEARCH

“To study the strength of using CAMELS framework as a tool of performance

evaluation for banking institutions.”
Type of research: Descriptive

METHODOLOGY

i)AREA OF SURVEY:
The survey was done for three banks. The study environment was the Banking
industry.
ii)DATA SOURCE:
Primary Data: Primary data was collected from the company balance sheets and
company profit and loss statements.
Secondary Data: Secondary data on the subject was collected from ICFAI journals,
company prospectus, company annual reports and IMF websites.
iii) SAMPLING TECHNIQUE : Convenience sampling: Convenience sampling was
done for the selection of the banks.
iv)PLAN OF ANALYSIS:
The data analysis of the information got from the balance sheets was done and
ratios were used. Graph and charts were used to illustrate trends.

LIMITATIONS OF THE STUDY

1)The study was limited to three banks.

2) Time and resource constrains.

3) The method discussed pertains only to banks though it can be used for

performance evaluation of other financial institutions.

4) The study was completely done on the basis of ratios calculated from the balance
sheets.
5) It has not been possible to get a personal interview with the top management
employees of all banks under study.

2.
STATEMENT OF PROBLEM
The study is conducted to analyse Axis Bank, ICICI Bank, HDFC Bank on the basis
of CAMELS model.

OBJECTIVE OF STUDY
To evaluate the strength of all the above banks by using CAMELS model technique.

RESEARCH METHODOLOGY
The area of survey is Axis Bank, ICICI Bank, HDFC Bank.

DATA SOURCE:
Primary Data: Primary data was collected from the company balance sheets and
company profit and loss statements and interaction with the employees of all the
above Banks.
Secondary Data: Secondary data on the subject was collected from Business
journals, Business dailies, company prospectus, company annual reports and RBI
websites.
LIMITATIONS OF STUDY
1. Time and resources constraints.
2. The study was completely done on the basis of ratios calculated from the balance
sheets.
3. It has not been possible to get a personal interview with the top management
employees of Axis Bank.
4. It has not been possible to get sensitive real data on actual CAMELS analysis
performed by the RBI on axis bank

3.
What Does CAMELS Rating System Mean?
An international bank-rating system where bank supervisory authorities rate
institutions according to six factors.

The six factors are represented by the acronym "CAMELS."

Investopedia explains CAMELS Rating System

The six factors examined are as follows:

C - Capital adequacy
A - Asset quality
M - Management quality
E - Earnings
L - Liquidity
S - Sensitivity to Market Risk

Bank supervisory authorities assign each bank a score on a scale of one (best)
to five (worst) for each factor. If a bank has an average score less than two it is
considered to be a high-quality institution, while banks with scores greater than three
are considered to be less-than-satisfactory establishments. The system helps the
supervisory authority identify banks that are in need of attention.

What Does Asset Quality Rating Mean?

A review or evaluation assessing the credit risk associated with a particular asset.
These assets usually require interest payments - such as a loans and investment
portfolios. How effective management is in controlling and monitoring credit risk can
also have an affect on the what kind of credit rating is given.

Investopedia explains Asset Quality Rating

Many factors are considered when rating asset quality. For example, consideration
must be put into whether or not a portfolio is appropriately diversified, what
regulations or rules have been put in to place to limit credit risks and how efficiently
operations are being utilized. Typically, a rating of one shows that asset quality is
good and there is very little credit risk, while a rating of five can signify that there
are major asset quality problems and issues that need to be managed
What Does Management Risk Mean?
The risks associated with ineffective, destructive or underperforming management,
which hurts shareholders and the company or fund being managed. This term refers
to the risk of the situation in which the company and shareholders would have been
better off without the choices made by management.

Investopedia explains Management Risk

Management risk refers to the chance that company managers will put their own
interests ahead of the interest of the company and shareholders. An example of this
is the recent scandals with Enron, Worldcom and other large companies, whose
managers acted in a manner that eventually bankrupted the companies and
destroyed shareholder wealth. Management risk also applies to investment
managers, whose decisions and actions may divert from the investors' wishes or
reduce the value of an investment portfolio.

4.

What are CAMELS ratings?

During an on-site bank exam, supervisors gather private information,

such as details on problem loans, with which to evaluate a bank's financial
condition and to monitor its.

compliance with laws and regulatory policies. A key product of such an

exam is a supervisory rating of the bank's overall condition, commonly
referred to as a CAMELS rating. This rating system is used by the three
federal banking supervisors (the Federal Reserve, the FDIC, and the OCC)
and other financial supervisory agencies to provide a convenient summary
of bank conditions at the time of an exam.
The acronym "CAMEL" refers to the five components of a bank's condition
that are assessed: Capital adequacy, Asset quality, Management,
Earnings, and Liquidity. A sixth component, a bank's Sensitivity to market
risk, was added in 1997; hence the acronym was changed to CAMELS.
(Note that the bulk of the academic literature is based on pre-1997 data
and is thus based on CAMEL ratings.) Ratings are assigned for each
component in addition to the overall rating of a bank's financial condition.
The ratings are assigned on a scale from 1 to 5. Banks with ratings of 1 or
2 are considered to present few, if any, supervisory concerns, while banks
with ratings of 3, 4, or 5 present moderate to extreme degrees of
supervisory concern.

All exam materials are highly confidential, including the CAMELS. A bank's
CAMELS rating is directly known only by the bank's senior management
and the appropriate supervisory staff. CAMELS ratings are never released
by supervisory agencies, even on a lagged basis. While exam results are
confidential, the public may infer such supervisory information on bank
conditions based on subsequent bank actions or specific disclosures.
Overall, the private supervisory information gathered during a bank exam
is not disclosed to the public by supervisors, although studies show that it
does filter into the financial markets.

CAMELS ratings in the supervisory monitoring of banks

Several academic studies have examined whether and to what extent

private supervisory information is useful in the supervisory monitoring of
banks. With respect to predicting bank failure, Barker and Holdsworth
(1993) find evidence that CAMEL ratings are useful, even after controlling
for a wide range of publicly available information about the condition and
performance of banks. Cole and Gunther (1998) examine a similar
question and find that although CAMEL ratings contain useful information,
it decays quickly. For the period between 1988 and 1992, they find that a
statistical model using publicly available financial data is a better indicator
of bank failure than CAMEL ratings that are more than two quarters old.

Hirtle and Lopez (1999) examine the usefulness of past CAMEL ratings in
assessing banks' current conditions. They find that, conditional on current
public information, the private supervisory information contained in past
CAMEL ratings provides further insight into bank current conditions, as
summarized by current CAMEL ratings. The authors find that, over the
period from 1989 to 1995, the private supervisory information gathered
during the last on-site exam remains useful with respect to the current
condition of a bank for up to 6 to 12 quarters (or 1.5 to 3 years). The
overall conclusion drawn from academic studies is that private
supervisory information, as summarized by CAMELS ratings, is clearly
useful in the supervisory monitoring of bank conditions.
CAMELS ratings in the public monitoring of banks

Another approach to examining the value of private supervisory

information is to examine its impact on the market prices of bank
securities. Market prices are generally assumed to incorporate all
available public information. Thus, if private supervisory information were
found to affect market prices, it must also be of value to the public
monitoring of banks.

Such private information could be especially useful to financial market

participants, given the informational asymmetries in the commercial
banking industry. Since banks fund projects not readily financed in public
capital markets, outside monitors should find it difficult to completely
assess banks' financial conditions. In fact, Morgan (1998) finds that rating
agencies disagree more about banks than about other types of firms. As a
result, supervisors with direct access to private bank information could
generate additional information useful to the financial markets, at least by
certifying that a bank's financial condition is accurately reported.

The direct public beneficiaries of private supervisory information, such as

that contained in CAMELS ratings, would be depositors and holders of
banks' securities. Small depositors are protected from possible bank
default by FDIC insurance, which probably explains the finding by Gilbert
and Vaughn (1998) that the public announcement of supervisory
enforcement actions, such as prohibitions on paying dividends, did not
cause deposit runoffs or dramatic increases in the rates paid on deposits
at the affected banks. However, uninsured depositors could be expected
to respond more strongly to such information. Jordan, et al., (1999) find
that uninsured deposits at banks that are subjects of publicly-announced
enforcement actions, such as cease-and-desist orders, decline during the
quarter after the announcement.

The holders of commercial bank debt, especially subordinated debt,

should have the most in common with supervisors, since both are more
concerned with banks' default probabilities (i.e., downside risk). As of
year-end 1998, bank holding companies (BHCs) had roughly $120 billion
in outstanding subordinated debt. DeYoung, et al., (1998) examine
whether private supervisory information would be useful in pricing the
subordinated debt of large BHCs. The authors use an econometric
technique that estimates the private information component of the CAMEL
ratings for the BHCs' lead banks and regresses it onto subordinated bond
prices. They conclude that this aspect of CAMEL ratings adds significant
explanatory power to the regression after controlling for publicly available
financial information and that it appears to be incorporated into bond
prices about six months after an exam. Furthermore, they find that
supervisors are more likely to uncover unfavorable private information,
which is consistent with managers' incentives to publicize positive
information while de-emphasizing negative information. These results
indicate that supervisors can generate useful information about banks,
even if those banks already are monitored by private investors and rating
agencies.

The market for bank equity, which is about eight times larger than that
for bank subordinated debt, was valued at more than $910 billion at year-
end 1998. Thus, the academic literature on the extent to which private
supervisory information affects stock prices is more extensive. For
example, Jordan, et al., (1999) find that the stock market views the
announcement of formal enforcement actions as informative. That is, such
announcements are associated with large negative stock returns for the
affected banks. This result holds especially for banks that had not
previously manifested serious problems.

Focusing specifically on CAMEL ratings, Berger and Davies (1998) use

event study methodology to examine the behavior of BHC stock prices in
the eight-week period following an exam of its lead bank. They conclude
that CAMEL downgrades reveal unfavorable private information about
bank conditions to the stock market. This information may reach the
public in several ways, such as through bank financial statements made
after a downgrade. These results suggest that bank management may
reveal favorable private information in advance, while supervisors in
effect force the release of unfavorable information.

Berger, Davies, and Flannery (1998) extend this analysis by examining

whether the information about BHC conditions gathered by supervisors is
different from that used by the financial markets. They find that
assessments by supervisors and rating agencies are complementary but
different from those by the stock market. The authors attribute this
difference to the fact that supervisors and rating agencies, as
representatives of debtholders, are more interested in default probabilities
than the stock market, which focuses on future revenues and profitability.
This rationale also could explain the authors' finding that supervisory
assessments are much less accurate than market assessments of banks'
future performances.

In summary, on-site bank exams seem to generate additional useful

information beyond what is publicly available. However, according to
Flannery (1998), the limited available evidence does not support the view
that supervisory assessments of bank conditions are uniformly better and
more timely than market assessments.

Conclusion
The academic literature effectively shows that CAMELS ratings, as
summary measures of the private supervisory information gathered
during on-site bank exams, do contain information useful to both the
supervisory and public monitoring of commercial banks. A relevant policy
question is whether supervisors might benefit by disclosing CAMELS
ratings to the public. Such disclosure could benefit supervisors by
improving the pricing of bank securities and increasing the efficiency of
the market discipline brought to bear on banks. As argued by Flannery
(1998), market assessments of bank conditions compare favorably with
supervisory assessments and could improve with access to supervisory
information. However, although supervisors could benefit from such
improved public monitoring of banks, the costs to the current form of
supervisory monitoring must also be considered. For example, if CAMELS
ratings were made public, the current information-sharing relationship
between examiners and bankers could change in a way that adversely
affects supervisory monitoring. Further research and debate on this
question is currently needed.

5.
Objective- The CAMEL methodology was originally adopted by North
American bank regulators to evaluate the financial and managerial soundness of
U.S. commercial lending institutions. The CAMEL reviews and rates five areas
of financial and managerial performance:

Capital Adequacy, Asset Quality, Management, Earnings, and Liquidity

Management. Based on the conceptual framework of the original CAMEL,
ACCION International developed its own instrument. Although the ACCION
CAMEL reviews the same five areas as the original CAMEL, the indicators and
ratings used by ACCION reflect the unique challenges and conditions facing the
microfinance industry. To date, ACCION has used its CAMEL primarily as an
internal assessment tool, which has contributed to setting performance standards
both for the ACCION Network and for the microfinance industry as a whole.

Methodology- The MFI is required to gather the following information for a

CAMEL examination: (1) financial statements; (2) budgets and cash flow
projections; (3) portfolio aging schedules; (4) funding sources; (5) information
about the board of directors; (6) operations/staffing; and (7) macroeconomic
information.

Financial statements form the basis of the CAMEL's quantitative analysis. MFIs
are required to present audited financial statements from the last three years and
interim statements for the most recent 12-month period. The other required
materials provide programmatic information and show the evolution of the
institution. These documents demonstrate to CAMEL analysts the level and
structure of loan operations and the quality of the MFI's infrastructure and
staffing.

Once the financial statements have been compiled, adjustments need to be

made. These adjustments serve two purposes: first, they place the MFI's current
financial performance in the context of a financial intermediary; second, they
enable comparisons among the different institutions in the industry. The
CAMEL performs six adjustments, for the scope of microfinance activity, loan
loss provision, loan write-offs, explicit and implicit subsidies, effects of
inflation, and accrued interest income.

The ACCION CAMEL analyzes and rates 21 key indicators, with each indicator
given an individual weighting. Eight quantitative indicators account for 47
percent of the rating, and 13 qualitative indicators make up the remaining 53
percent. The final CAMEL composite rating is a number on a scale of zero to
five, with five as the measure of excellence. This numerical rating, in turn,
corresponds to an alphabetical rating (AAA, AA, A; BBB, BB, B; C; D; and not
rated).

Based on the results of the adjusted financial statements and interviews with the
MFI's management and staff, a rating of one to five is assigned to each of the
CAMEL's 21 indicators and weighted accordingly. A definition of each area and
the criteria ranges for determining each rating are as follows:

Capital Adequacy
Leverage: the relationship between the risk-weighted assets of the
MFI and its equity
Ability to raise equity: assessment of an MFI's ability to respond to
a need to replenish or increase equity at any given time
Adequacy of reserves: measure of the MFI's loan loss reserve and
the degree to which the institution can absorb potential loan losses
Asset Quality
Portfolio Quality:

 Portfolio at risk: measures the portfolio past due over 30

days
 Write-offs/write off policy: measures adjusted write-offs on
CAMEL criteria

Portfolio classification system: review of portfolios aging

schedules; assesses institution's policies associated with assessing
 portfolio risk.
Fixed Assets:

 Productivity of long-term assets: evaluates MFI's policies for

investing in fixed assets
 Infrastructure: -evaluation of whether it meets the needs of
both staff and clients

Management
Governance: how well the institution's board of directors functions,
including the diversity of its technical expertise, its independence
from management, and its ability to make decisions flexibly and
effectively
Human Resources: evaluates whether the department of human
resources provides clear guidance and support to operations staff,
including recruitment and training of new personnel, incentive
systems for personnel, and performance evaluation system
Processes, controls and audit: the degree to which the MFI has
formalized key processes and the effectiveness with which it
controls risk throughout the organization, as measured by its
control environment and the quality of its internal and external
audit
Information Technology System: assesses whether computerized
information systems are operating effectively and efficiently, and
are generating reports for management purposes in a timely and
accurate manner
Strategic planning and budgeting: whether the institution
undertakes a comprehensive and participatory process for
generating short- and long-term financial projections and whether
the plan is updated as needed and used in the decision-making
process.
Earnings
Adjusted return on equity: measures the ability of the institution to
maintain and increase its net worth through earnings from
operations
Operational Efficiency: measures the efficiency of the institution
and monitors its progress toward achieving a cost structure that is
closer to the level achieved by formal financial institutions
Adjusted Return an Assets: measures how well the MFI's assets are
utilized, or the institution's ability to generate earnings with a given
asset base
Interest rate policy: assess the degree to which management
analyzes and adjusts the institution's interest rates on microfinance
 loans (and deposits if applicable), based on the cost of funds,
profitability targets, and macroeconomic environment
Liquidity Management
Liability structure: review of the composition of the institution's
liabilities, including their tenor, interest rate, payment terms, and
sensitivity to changes in the macroeconomic environment
Availability of funds to meet credit demands: measures the degree
to which the institution has delivered credit in a timely and agile
manner
Cash flow projections: evaluate the degree to which the institution
is successful in projecting its cash flow requirements
Productivity of other current assets: evaluates extent to which the
MFI maximizes the use of its cash, bank accounts, and short-term
investments by investing in a timely fashion and at the highest
returns, commensurate with its liquidity needs.

6.

A bank rating is a number assigned to a bank that indicates its financial safety
and strength. Government agencies rate banks to ensure the solvency of
financial institutions. The U.S. adopted an official system of analyzing and
rating banks based upon various factors. These factors are capital, asset quality,
management, earnings, liquidity, and sensitivity to risk (CAMELS).

Since various methods and factors can be used to rate banks, a uniform system
became necessary. The U.S. authorized the Federal Financial Institutions
Examination Council (FFIEC) to adopt uniform standards to analyze and assess
those institutions. The FFIEC chose the system based on the CAMELS factors.
Various private and federal agencies use the CAMELS bank rating to supervise
U.S. banks.

The Federal Deposit and Insurance Corporation (FDIC), for example, example
banks using CAMELS. The FDIC is a government agency responsible for
insuring and monitoring U.S. banks. The FDIC requires banks to submit reports
periodically. This allows the FDIC to evaluate the information and make a bank
rating. The FDIC, however, does not release a bank rating to the public.
A CAMELS bank rating uses a numerical ranking from one to five. A number
one ranking reflects a positive rating and a five indicates a negative rating. To
illustrate, the FDIC would assign a number to each of the factors in CAMELS
for a bank. It would then average the rankings for each factor; the result is the
overall bank rating. A rating of one or two indicates no solvency issues while a
rating of three or more indicates that the bank has moderate to severe problems.

The FDIC does not base a bank rating solely on the reports a bank submits. It
makes onsite visits to look at the books and verify information. Bank examiners
may gather additional information concerning problems with loans and
information concerning compliance with banking regulations. A bank is also
required to correct any problems that the FDIC identifies.

In addition to the FDIC, the Office of the Comptroller of Currency (OCC) relies
on the rating system of CAMELS to supervise U.S. banks. The OCC is
empowered to enforce laws regulating national banks. It also establishes
regulations for the operations of national banks