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Problems for Commercial Bank Management

Lecture 2 Financial Statements

Question 2.1.(12+13) Suppose that a bank holds cash in its vault of $1.4
million, short-term government securities of $12.4 million, privately issued
money market instruments of $5.2 million, deposits at the Federal Reserve
banks of $20.1 million, cash items in the process of collection of $0.6 million,
and deposits placed with other banks of $16.4 million. How much in primary
reserves does this bank hold? In secondary reserves?

Primary reserves (PR)

= Vault Cash + Deposit with Other Bank + Cash Items in Process of Collection
+ Reserve Account with the Fed Reserve
=1.4 + 16.4 + 0.6 + 20.1 = 36.5
Secondary reserves (SR)
= Short term Government Securities + Privately Issued Money Market
Securities = 12.4 + 5.2 = 17.6

Question 2.2.(19) Suppose a bank has an allowance for loan losses of $1.25
million at the beginning of the year, charges current income for a $250,000
provision for loan losses, charges off worthless loans of $150,000, and recovers
$50,000 on loans previously charged off. What will be the balance in the
allowance for loan losses at year-end?

Ending allowance
= Beginning allowance + This year’s provision – Actual Charge-offs worthless
loans + Recoveries from Previous Charge-offs
= 1.25 + 0.25 – 0.15 + 0.05 = 1.4

Question 2.3. Jasper National Bank has just submitted its Report of Condition
to the FDIC. Please fill in the missing items from its statement shown below (all
figures in millions of dollars):

Report of Condition
Total assets $2,500
Cash and due from Depository Institutions 87
Securities 233
Federal Funds Sold and Reverse Repurch. 45
Gross Loans and Leases 1900
Loan Loss Allowance (200)
Net Loans and Leases 1700

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 Trading Account Assets 20
Bank Premises and Fixed Assets 25
Other Real Estate Owned 15
Goodwill and Other Intangibles 200
All Other Assets 175
Total Liabilities and Capital 2500
Total Liabilities 2260
Total Deposits 1600
Federal Funds Purchased and Repurchase
Agreements. 80
Trading Liabilities 10
Other Borrowed Funds 50
Subordinated Debt 480
All Other Liabilities 40

Total Equity Capital 240

Perpetual Preferred Stock 2

Common Stock 24
Surplus 144
Undivided Profit 70

Question 2.4. Along with the Report of Condition submitted above, Jasper has
also prepared a Report of Income for the FDIC. Please fill in the missing items
from its statement shown below (all figures in millions of dollars):

Report of Income
Total Interest Income (1) 120
Total Interest Expense (2) 80
Net Interest Income (3) = (1) – (2) 40
Provision for Loan and Lease Losses (4) 4
Total Noninterest Income (5) = 5.1+5.2+5.3+5.4 58
Fiduciary Activities 5.1 8
Service Charges on Deposit Accounts 5.2 6
Trading Account Gains and Fees 5.3 14
Additional Noninterest Income 5.4 30
Total Noninterest Expense (6) = 6.1+6.2+6.3 77
Salaries and Benefits 6.1 47
Premises and Equipment Expense 6.2 10
Additional Noninterest Expense 6.3 20

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 (7) = (3) - (4) + (5) -
Pretax Net Operating Income (6) 17
Securities Gains (Losses) (8) 1
Applicable Income Taxes (9) 5
Income Before Extraordinary Income (10) = (7) + (8) - (9) 13
Extraordinary Gains – Net (11) 2
Net Income (12) = (10) + (11) 15

Question 2.5. If you know the following figures:

Total Interest Income (1) 140 Provision for Loan Loss (5) 5
Total Interest Expenses (2) 100 Income Taxes (6) 5
Total Noninterest Income (3) 15 Increases in bank’s undivided profits (7) 6
Total Noninterest Expenses (4) 35

Please calculate these items:

Net Interest Income (8) = (1) – (2) = 40

Net Noninterest Income (9) = (3) – (4) = - 20
Pretax net operating income (10) = (8) – (5) + (9) = 15
Net Income After Taxes (11) = (10) – (6) = 10
Total Operating Revenues (12) = (1) + (3) = 155
Total Operating Expenses (13) = (2) + (4) = 135
Dividends paid to Common Stockholders (14) = (11) – (7) = 4

Question 2.6. The Mountain High Bank has Gross Loans of $750 million with
an ALL (Allowance for Loan & Lease) account of $45 million. Two years ago
the bank made a loan for $10 million to finance the Mountain View Hotel. 2
million in principal was repaid before the borrowers defaulted on the loan. The
Loan Committee at Mountain High Bank believes the hotel will sell at auction
for $7 million and they want to charge off the remainder immediately.
a. Net loans?
b. After charge-off: Gross Loans, ALL, and Net Loans?
c. If the Mountain View Hotel sells at auction for $8 million, how with the affect
the pertinent balance sheet accounts?

a, Net loans = Gross loan - ALL = 750 – 45 = 705

b, After charge-off:
- Gross loans: 750 – 10 + 2 = 742
- ALL = 45 – (8 - 7) = 44
- Net loans = 742 – 44 = 698

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c, If the Mountain View Hotel sells at auction for $8 million:
- Gross loans: 742
- ALL = 44 + (8-7) = 45
- Net loans = 742 – 45 = 697

Question 2.7. You were informed that a bank’s latest income and expense
statement contained the following figures (in $ millions):

Net Interest Income $700

Net Noninterest Income ($300)

Pretax net operating income $372

Security gains $10

Increases in bank’s Undivided
Profit $200

Suppose you also were told that the bank’s total interest income is twice as
large as its total interest expense and its noninterest income is three-fourths of
its noninterest expense. Imagine that its provision for loan losses equals 2
percent of its total interest income, while its taxes generally amount to 30
percent of its net income before income taxes. Calculate the following items for
this bank’s income and expense statement:

Total Interest Income (TII): 1400 & Total Interest Expense (TIE): 700
Total Noninterest Income (TNI): 900 & Total Noninterest Expense (TNE): 1200
Provision for Loan Losses: 2% * 1400 = 28
Taxes: (372+10) * 30% = 111.9
Dividends: 372 + 10 - 111.9 - 200 =

Lecture 3 Deposits

3.1. A bank determines from an analysis of its cost-accounting figures that for
each $500 minimum-balance checking account (tài khoản tiền gửi) it sells
account processing and other operating costs will average $4.87 per month and
overhead expenses (CP nhân sự) will run an average of $1.21 per month. The
bank hopes to achieve a profit margin (ln biên trên 10% tổng CP) over these
particular costs of 10 percent of total monthly costs. What monthly fee should it
charge a customer who opens one of these checking accounts? (KH phải trả bn
mỗi tháng?)

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4.87 + 1.21 + 10% (4.87 + 1.21) = 6.69

3.2. Use the APY (annual profit year: tỷ suất ln hang năm) formula required
by the Truth in Savings Act (slide 19) for the following calculation. Suppose
that a customer holds a savings deposit in a savings bank for a year. The balance
in the account stood at $2,000 for 180 days (số dư) and $100 for the remaining
days in the year. If the Savings bank paid this depositor $8.50 in interest
earnings for the year, what APY did this customer receive?

Balance (số dư TB theo ngày) = (2000 x 180 + 100 x 185)/365 = 1036.99

APY = Interest/ Balance = 8.5/1036.99 = 0,82%

3.3. Monica Lane maintains a savings deposit with Monarch Credit Union.
This past year Monica received $10.75 in interest earnings from her savings
account. Her savings deposit had the following average balance each month:

January $400 July $350

February 250 August 425
March 300 Septembe 550
r
April 150 October 600
May 225 Novembe 625
r
June 300 Decembe 300
r

What was the annual percentage yield (APY) earned on Monica’s savings
account?

Balance = (400x31 + 250x 28 +…)/365 = 373.56

APY = 10.75/373.56 = 2,88%

3.4. The National Bank of Mayville quotes an APY of 3.5 percent on a one-
year money market CD sold to one of the small businesses in town. The firm
posted a balance of $2,500 for the first 90 days of the year, $3,000 over the next
180 days, and $4,500 for the remainder of the year. How much in total interest
earnings did this small business customer receive for the year?

Balance = (2500x90 + 3000x180 + 4500x95) = 3267,12

Interest = 3267.12 x 3.5% = 114,35

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 3.5. Gold Mine Pit Savings Association finds that it can attract the following
amounts of deposits if it offers new depositors and those rolling over their
maturing CDs the interest rates indicated below:

Expected Volume Rate of Interest

of New Deposits Offered Depositors
$10 million 3.00%
15 million 3.25
20 million 3.50
26 million 3.75
28 million 4.00

Management anticipates being able to invest any new deposits raised in loans
yielding 6.25 percent. How far should this thrift institution go in raising its
deposit interest rate in order to maximize total profits (excluding interest costs)?
Expected Average Total Marginal Marginal Expected Difference Total profit
amounts Interest Interest cost ofcost as a marginal between earned (alter
of new the bank Cost of new percentage revenue Marginal interest cost)
deposits will pay New deposit of new (return) revenue
that will on New funds money funds from and
flow in Funds Raised attracted Investing marginal
(Marginal the new cost rate
cost rate) funds
1 2 3= 1x2 4 = 3 sau 5 = 4/(1 6 7 = 6-5 8 = 8 trc +7*
– 3 trc sau – 1 (1 sau 1 trc)
trc)
$ 25 7% 1.75 1.75 7% 10% 3% 0.75
(1.75/25) 3%*25
50 7.5 3.75 2 8% 10 2% 0.75+2%*25
(2/25) = 1.25
75 8 6 2.25 9% 10 1 1.25+1%*25
=1.5
100 8.5 8.5 2.5 10 10 0 1.5
125 9 11.25 2,75 11 10 -1 1.25
Ex 3.5
10 3% 0.3 0.3 3% 6.25% 3.25% 0.325
15 3.25 0.4875 0.1875 3.75 6.25 2.5 0.45
20 3.5 0.7 0.2125 4.25 6.25 2 0.55
26 3.75 0.975 0.275 4.583 6.25 1.67 0.65Chọn
28 4 1.12 0.145 7.25 6.25 -1 0.65

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Lecture 4
4.1 From the descriptions below please identify what type of business loan is
involved.
a. A temporary credit supports construction of homes, apartments, office
buildings, and other permanent structures.
b. A loan is made to an automobile dealer to support the shipment of new cars.
c. Credit extended on the basis of a business’s accounts receivable.
d. The term of an inventory loan is being set to match the length of time needed
to generate cash to repay the loan.
e. Credit extended up to one year to purchase raw materials and cover a
seasonal need for cash.
f. A security dealer requires credit to add new government bonds to his security
portfolio.
g. Credit granted for more than a year to support purchases of plant and
equipment.
h. A group of investors wishes to take over a firm using mainly debt financing.
i. A business firm receives a three-year line of credit against which it can
borrow, repay, and borrow again if necessary during the loan’s term.
j. Credit extended to support the construction of a toll road.
4.2 From the data given in the following table, please construct as many of the
financial ratios discussed in this chapter as you can and then indicate the
dimension of a business firm’s performance each ratio represents.

* Annual principal payments on bonds and notes payable total $55. The firm’s
marginal tax rate is 35 percent.

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4.3 Pecon Corporation has placed a term loan request with its lender and
submitted the following balance sheet entries for the year just concluded and the
pro forma balance sheet expected by the end of the current year. Construct a pro
forma Statement of Cash Flows for the current year using the consecutive
balance sheets and some additional needed information. The forecast net
income for the current year is $225 million with $50 million being paid out in
dividends. The depreciation expense for the year will be $100 million and
planned expansions will require the acquisition of $300 million in fixed assets at
the end of the current year. As you examine the pro forma Statement of Cash
Flows, do you detect any changes that might be of concern either to the lender’s
credit analyst, loan officer, or both?

4.4 As a loan officer for Sun Flower National Bank, you have been
responsible for the bank’s relationship with USF Corporation, a major producer
of remote-control devices for activating television sets, DVDs, and another
audio-video equipment. USF has just filed a request for renewal of its $10
million line of credit, which will cover approximately nine months. USF also
regularly uses several other services sold by the bank. Applying customer
profitability analysis (CPA) and using the most recent year as a guide, you
estimate that the expected revenues from this commercial loan customer and the
expected costs of serving this customer will consist of the following:

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 The bank’s credit analysts estimated the customer probably will keep an
average deposit balance of $2,125,000 for the year the line is active. What is the
expected net rate of return from this proposed loan renewal if the customer
actually draws down the full amount of the requested line for nine months?
What decision should the bank make under the foregoing assumptions? If you
decide to turn down this request, under what assumptions regarding revenues,
expenses, and customer deposit balances would you be willing to make this
loan?

4.5 In order to help fund a loan request of $10 million for one year from one
of its best customers, Lone Star Bank sold negotiable CDs to its business
customers in the amount of $6 million at a promised annual yield of 3.50
percent and borrowed $4 million in the Federal funds market from other banks
at today’s prevailing interest rate of 3.25 percent.
Credit investigation and recordkeeping costs to process this loan
application were an estimated $25,000. The Credit Analysis Division
recommends a minimal 1 percent risk premium on this loan and a minimal
profit margin of one-fourth of a percentage point. The bank prefers using cost-
plus loan pricing in this case. What loan rate would it charge?

Cost of raising funds = (6000000*3.5% + 4000000 * 3.25%)/10000000 = 3.4%

Nonfunds operating costs = 25000/10000000=0.25%
Loan interest rate = 3.4+0.25+1+0.25=4.9

Lecture 5

5.1 Mr. and Mrs. Napper are interested in funding their children's college
education by taking out a home equity loan in the amount of $24,000. Eldridge
National Bank is willing to extend a loan, using the Napper's home as collateral.
Their home has been appraised at $110,000, and Eldridge permits a customer to
use no more than 70 percent of the appraised value of the home as a borrowing
base. The Nappers still owe $60,000 on the first mortgage against their home.

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Is there enough residual value left in the Nappers’ home to support their loan
request? How could the lender help them meet their credit needs?

110000*70%-60000=17000<24000
Raising grarantee asset
Lower loan request
Refuse
Bank raise the percentage of the appraised

5.2 Ben James has just been informed by a finance company that he can
access a line of credit of no more than $75,000 based upon the equity value in
his home. James still owes $125,000 on a first mortgage against his home and
$25,000 on a second mortgage claim against the home, which was incurred last
year to repair the roof and driveway. If the appraised value of James’s residence
is $300,000, what percentage of the home's estimated market value is the lender
using to determine James’s maximum available line of credit?

5.3 Jamestown Savings Bank, in renewing its credit card customers finds that
of those customers scoring 40 points or less on its credit-scoring system, 35
percent (or a total of 10,615 credit customers) turned out to be delinquent
credits resulting in total losses. This group of bad credit card loans averaged
$6,800 in size per customer account. Examining its successful credit accounts
Jamestown finds that 12% of its good customers (or a total of 3,640 customers)
scored 40 points or less on the bank’s scoring system. These low scoring but
good accounts generated about $1,700 in revenues each. If Jamestown’s credit
card division follows the decision rule of granting credit cards only to those
customers scoring more than 40 points and future credit accounts generate about
the same average revenues and losses, about how much can the bank expect to
save in net losses.

5.4 The Lathrop family needs some extra funds to put their two children
through college starting this coming fall and to buy a new computer system for
a part-time home business. They are not sure of the current market value of
their home, though comparable 4-bedroom homes are selling for about
$410,000 in the neighborhood. The Monarch University Credit Union will loan
75 percent of the property’s appraised value, but the Lathrops still owe
$265,000 on their home mortgage and home improvement loan combined.
What maximum amount of credit is available to this family should it elect to
seek a home equity credit line?

5.5 The Crockett family has asked for a 30-year mortgage in the amount of
$325,000 to purchase a home. At a 7 percent loan rate, what is the required
monthly payment?

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7%/12
360 p

PV = a x (1- (1+i)^-n)/i => a = 2162

5.6 The Watson family has been planning a vacation to Europe for the past
two years. Gratton Savings agrees to advance a loan of $7,200 to finance the
trip provided the Watsons pay the loan back in 12 equals monthly installments.
Gratton will charge an add-on loan rate of 6%. How much in interest will the
Watsons pay under the add-on loan rate method? What is the amount of each
required monthly payment? What is the effective loan rate in this case?

5.7 Jane Zahrley’s request for a four-year automobile loan for $33,000 has
been approved. Reston Center Bank will require equal monthly installment
payments for 48 months. The bank tells Jane that she must pay a total of $5,500
in finance charges. What is the loan’s APR?

38500 = 38500/48 x (1- (1+i)^-n)/i =>i => APR = 12 x i

5.8 Mary Cantrary is offered a $1,600 loan for a year to be paid back in equal
quarterly installments of $400 each. If Mary is offered the loan at 8 percent
simple interest, how much in total interest charges will she pay? Would Mary
be better off (in terms of lower interest cost) if she were offered the $1,600 at 6
percent simple interest with only one principal payment when the loan reaches
maturity? What advantage would this second set of loan terms have over the
first set of loan terms?

Lecture 6

6-1. A government bond is currently selling for $1,195 and pays $75 per year
in interest for 14 years when it matures. If the redemption value of this bond is
$1,000, what is its yield to maturity if purchased today for $1,195?

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1195 = 75/(1+YTM) + … + 1075/(1+YTM)^14 Excel
YTM = 5.47

6-2. Suppose the government bond described in problem 1 above is held for
five years and then the savings institution acquiring the bond decides to sell it at
a price of $940. Can you figure out the average annual yield the savings
institution will have earned for its five-year investment in the bond?

6-3. U.S. Treasury bills are available for purchase this week at the following
prices (based upon $100 par value) and with the indicated maturities:

a. $97.25, 182 days.

b. $95.75, 270 days.
c. $98.75, 91 days.

Calculate the bank discount rate (DR) on each bill if it is held to maturity. What
is the equivalent yield to maturity (sometimes called the bond-equivalent or
coupon-equivalent yield) on each of these Treasury Bills?

6-4. Farmville Financial reports a net interest margin of 2.75 percent in its
most recent financial report, with total interest revenue of $95 million and total
interest costs of $82 million. What volume of earning assets must the bank
hold? Suppose the bank’s interest revenues rise by 5 percent and its interest
costs and earnings assets increase by 9 percent. What will happen to Farmville’s
net interest margin?

Earning assets = (95-82)/0.0275 = 472.73

=(95x1.05 – 82x1.09)/(473x1.09) = 2.01%

6-5. If a credit union’s net interest margin, which was 2.50 percent, increases
10 percent and its total assets, which stood originally at $575 million, rise by 20
percent, what change will occur in the bank's net interest income?

6-6. The cumulative interest rate gap of Poquoson Savings Bank increases 60
percent from an initial figure of $25 million. If market interest rates rise by 25

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percent from an initial level of 3 percent, what changes will occur in this thrift’s
net interest income?

6-7. New Comers State Bank has recorded the following financial data for the
past three years (dollars in millions):

Current Year Previous Two Years

Year Ago
Interest revenues $82 $80 $78
Interest expenses 64 66 68
Loans (excluding 450 425 400
nonperforming)
Investments 200 195 200
Total deposits 450 425 400
Money market borrowings 150 125 100

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What has been happening to the bank’s net interest margin? What do you think
caused the changes you have observed? Do you have any recommendations for
New Comers’ management team?

6-8. First National Bank of Bannerville has posted interest revenues of $63
million and interest costs from all of its borrowings of $42 million. If this bank
possesses $700 million in total earning assets, what is First National’s net
interest margin? Suppose the bank’s interest revenues and interest costs double,
while its earning assets increase by 50 percent. What will happen to its net
interest margin?

6.9. Peoples’ Savings Bank has a cumulative gap for the coming year of +
$135 million, and interest rates are expected to fall by two and a half percentage
points. Can you calculate the expected change in net interest income that this
thrift institution might experience? What change will occur in net interest
income if interest rates rise by one and a quarter percentage points?

6.10 Suppose Carroll Bank and Trust reports interest-sensitive assets of $570
million and interest-sensitive liabilities of $685 million. What is the bank’s
dollar interest-sensitive gap? Its relative interest-sensitive gap and interest-
sensitivity ratio?

6.11. Suppose that a savings institution has an average asset duration of 2.5
years and an average liability duration of 3.0 years. If the savings institution
holds total assets of $560 million and total liabilities of $467 million, does it
have a significant leverage-adjusted duration gap? If interest rates rise, what
will happen to the value of its net worth?

6.12. Stilwater Bank and Trust Company has an average asset duration of 3.25
years and an average liability duration of 1.75 years. Its liabilities amount to
$485 million, while its assets total $512 million. Suppose that interest rates were
7 percent and then rise to 8 percent. What will happen to the value of the
Stilwater bank's net worth as a result of a decline in interest rates?

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