1. 1 SimBank Bank Financial Management Simulation Fernando E. Arellano, Ph.D. University of Dallas Richard D. Johnson, Ph.D. Colorado State University

2. 2 ¿What is SimBank? SimBank is a software program that simulates commercial bank operations. SimBank is a software program that simulates commercial bank operations. Simulated operations pertain to the financial management of a commercial bank. Simulated operations pertain to the financial management of a commercial bank. Up to twelve quarters can be simulated. Up to twelve quarters can be simulated. Up to fifteen banks or teams can participate in up to twelve quarters of the financial management of a commercial bank? Up to fifteen banks or teams can participate in up to twelve quarters of the financial management of a commercial bank?

3. 3 Operations Simulated Making loans Making loans Receiving deposits Receiving deposits Making and receiving inter-bank loans Making and receiving inter-bank loans Receiving loans from the FRB Receiving loans from the FRB Issuing and redeeming subordinated debt Issuing and redeeming subordinated debt Buying and selling Treasury securities Buying and selling Treasury securities Distributing dividends Distributing dividends Issuing and repurchasing stock Issuing and repurchasing stock Selling mortgage loans Selling mortgage loans

4. 4 Making loans Making loans –Commercial (two types) –Mortgage –Consumer –Agricultural Receiving deposits Receiving deposits –Demand deposit accounts –Interest bearing transactions –Savings accounts –6-month and 2-year CDs Main Operations

5. 5 Funding Sources Long term: Long term: –Issuance of stock –Subordinated debt (capital notes) –Sale of mortgage loans –Long-term deposits (2-year CDs) Short term Short term –Deposits (demand deposits, interest bearing transactions, savings, and 6-month CDs) –Inter-bank loans –Loans from the FRB

6. 6 The bank can invest in: The bank can invest in: –Treasury securities 3-month Treasury bills 3-month Treasury bills 1-year Treasury notes 1-year Treasury notes 5-year Treasury notes 5-year Treasury notes 10-year Treasury bonds 10-year Treasury bonds Excess liquidity (Fed Funds) can also be used to make inter-bank loans. Excess liquidity (Fed Funds) can also be used to make inter-bank loans. Investment Options

7. 7 Characteristics of the Initial Bank Banks develop their operations in an economic environment set by the instructor or by default. Banks develop their operations in an economic environment set by the instructor or by default. At the beginning of the simulation all banks have the same: At the beginning of the simulation all banks have the same: –Size, profitability and capital structure. –Loan portfolio –Interest rates –Deposit structure –Expenditures in promotion –Average salary –Number of branches

8. 8 Economic Environment Loan and deposit volumes respond to interest rates variations and expenditures in promotion. Loan and deposit volumes respond to interest rates variations and expenditures in promotion. They also respond to general conditions in the economic environment (GDP, inflation, interest rates) and to a particular economic sector (housing, agricultural, consumer). They also respond to general conditions in the economic environment (GDP, inflation, interest rates) and to a particular economic sector (housing, agricultural, consumer). Additionally, in the case of commercial loans, they respond to levels of compensating balances. Additionally, in the case of commercial loans, they respond to levels of compensating balances.

9. 9 They also respond to fees charged in demand deposits (DDA) and interest bearing transaction (IBT) accounts. They also respond to fees charged in demand deposits (DDA) and interest bearing transaction (IBT) accounts. Finally, loan and deposit volumes for a bank are a function of average salaries and the number of branches. Finally, loan and deposit volumes for a bank are a function of average salaries and the number of branches. Economic Environment

10. 10 There are transaction costs for: There are transaction costs for: –Making and receiving inter-bank loans with Fed Funds –Selling Treasury securities –Issuing and redeeming subordinated debt (capital notes) –Issuing stock Economic Environment

11. 11 Each bank has to comply with a required level of reserves. Each bank has to comply with a required level of reserves. There is a minimum capital requirement. There is a minimum capital requirement. In case any of the above requirements are not met, banks are subject to monetary penalties. In case any of the above requirements are not met, banks are subject to monetary penalties. There is a minimum average salary for all banks. There is a minimum average salary for all banks. There is a maximum number of branches that a bank can open in any given quarter. There is a maximum number of branches that a bank can open in any given quarter. Regulatory Environment

12. 12 Bank Interaction The banks in the simulation compete for loans and deposits. The banks in the simulation compete for loans and deposits. Competition is carried on through the setting of interest rates for loans and deposits. Competition is carried on through the setting of interest rates for loans and deposits. Additionally, banks can set compensating balances in commercial loans. Additionally, banks can set compensating balances in commercial loans. Banks can also charge service fees on demand deposits and interest bearing transaction accounts. Banks can also charge service fees on demand deposits and interest bearing transaction accounts.

13. 13 Each type of loan and deposit has an interest rate elasticity on which allocation of volumes to banks are determined. Each type of loan and deposit has an interest rate elasticity on which allocation of volumes to banks are determined. Allocation of loans and deposits is also determined based on: Allocation of loans and deposits is also determined based on: –Expenditures in promotion by type of loan and deposits –Average salary –Number of branches Bank Interaction

14. 14 Bank Decisions in SimBank Participants make decisions pertaining to: Participants make decisions pertaining to: –Interest rates for loans and deposits –Promotional expenditures by type of loan and deposits –Compensating balances in commercial loans –Service fees in demand deposit and interest bearing transaction accounts –Average salary –Number of new branches

15. 15 Participants make decisions pertaining: (cont.) Participants make decisions pertaining: (cont.) –Inter-bank loans –Borrowing from the FRB –Issuance and repurchase of stock –Issuance and redemption of capital notes –Distribution of dividends Bank Decisions in SimBank

16. 16 Decisions on interest rates and promotion in prior quarters impact current quarter allocations. Decisions on interest rates and promotion in prior quarters impact current quarter allocations. Funding is determined by short and long term bank decisions. Funding is determined by short and long term bank decisions. If funding is insufficient, the bank will receive an unplanned loan from FRB at a high interest rate. If funding is insufficient, the bank will receive an unplanned loan from FRB at a high interest rate. Bank Decisions in SimBank

17. 17 The volume of each type of loan available for all the banks in the simulation is impacted by: The volume of each type of loan available for all the banks in the simulation is impacted by: –In Commercial Loans Industrial Production index Industrial Production index GDP GDP –In Mortgage Loans Number of new house permits Number of new house permits GDP growth GDP growth –In Agricultural Loans Agricultural production index Agricultural production index –In Consumer Loans GDP GDP Loan and Deposit Allocation Criteria

18. 18 The volume of each type of deposit available to all banks in the simulation is impacted by the behavior of GDP and the average interest rate in each type of deposit The volume of each type of deposit available to all banks in the simulation is impacted by the behavior of GDP and the average interest rate in each type of deposit Loan and Deposit Allocation Criteria

19. 19 Loan and Deposit Allocation Criteria Loan deposits are allocated to each bank based on the following criteria: Loan deposits are allocated to each bank based on the following criteria: –Interest rates –Promotional expenditures (by type of loan and deposit) and total expenditures –In commercial loans, compensating balances –In DDA and IBT, service fees –Average salary –Number of branches

20. 20 Total loan and deposit volumes are also a function of the economic environment. Total loan and deposit volumes are also a function of the economic environment. Some loans volumes are a function of the growth in a particular sector. Some loans volumes are a function of the growth in a particular sector. Loan and Deposit Allocation Criteria

21. 21 Evaluation Criteria After each quarter each bank receive points based on: After each quarter each bank receive points based on: –Stock price –ROE –Debt ratio –Liquidity ratio –Loan losses –Interest rate risk