CAMELS RATINGS

Interested parties and various stakeholders like employees, customers, tax authorities, creditors, auditors, trade unions, investors, and the press usually evaluate the bank's performance. Employees of the bank are interested in salary and allowances, auditors are solicited for evaluation and reporting, investors for investment, and others with different intentions of their own. But the Central bank also evaluates regularly the performance and financial health of each bank in the industry as a duty to ensure that best business practices and sound principles are being pursued for the protection of customers and the financial industry. Most of the regulators use the procedure and method called CAMELS RATINGS. The regulators numerically rate each bank ranging from 1-5. The best category of rating is “1” and the worst is “5”. The acronym is used to denote the following; 

1.       “C” stands for Capital of the bank

2.       “A” stands for the Assets

3.       “M” stands for management

4.       “E” stands for earnings

5.       “L” stands for liquidity

6.       “S” stands for Sensitivity

Each alphabet letter refers to a specific category of the financial statements and nonfinancial indicators of the bank. “C” denotes capital which takes into account the capital adequacy of the bank.  A bank is insolvent when it has a negative net worth or shareholders' equity. Net worth shows the difference between the market value of assets and liabilities of the bank. If a bank in such a situation is liquidated it would not able to pay the creditors and would be considered bankrupt. It is believed that a bank with a 12 % of capital adequacy ratio is considered stable and would be able to withstand the loss due to a fall in the market value of its assets. For the purpose of capital adequacy, the capital is divided into tiers based of risk-adjusted assets. 

“A” represents the asset quality. Assets quality is adjudged on the basis of the risk involved and the quality of securities and fallback that is available to the bank. Bank assets comprise Loans and investments and contra commitments. These loans are issued for different purposes against various classes of securities. These securities and loans carry different risks. Likewise, investments are having different grades. Investments in govt. securities carry no risk whereas investments in the stock market have no guarantees and involve risk of the underlying issuer of the stock. Again gilt-edged securities carry comparatively little risk.  Total assets adjusted for risks based on a well-defined rating system are calculated and compared to the total book value of assets on the balance sheet. The higher the value of assets so compared to the total value, the better the quality of assets. 

Management category rates the ability of the senior management and those charged with directing and controlling the bank, to identify, assess, measure, control, and monitor the risks involved in the operations, systems, human, internal, and external. Management is expected to put in place policies and procedures to manage the risks and run the bank by applying best business practices. 

Earnings represent the earning quantity and quality. Earning depends on the capital adequacy to withstand hard times, and the quality of assets which may lead to sustainability and management efficiency to enhance the value of shareholders pursuing the strategic objectives of the bank. The liquidity of a bank is the ability to meet its obligation when due. It refers to the bank’s current and prospective sources of funds. Finally, the sensitivity is taking into account the sensitivity to the market. It refers to risks of changes in interest rates, foreign exchange rates, market forces, and cyclical changes. 

The above factors see the bank’s performance through a different lens, however, to reach the final decision and rate a bank according to this rating system, the regulators use the tools of financial and non-financial analysis.