Organization and Management

Case on Planning

RURAL BANK OF SUARES

In a stockholders’ meeting of the Rural Bank of Suares (RBS), Peter Arguelles, the bank general
manager, reported on the financial performance of the rural bank in the past year (see Exhibits 1 and 2).
The stockholders were pleased with the report since it showed substantial growth in both profitability
and resources as compared to the preceding years. They were however surprised by Arguelles’
proposal that the bank should embark on the opening of a branch in the capital city, the first branch
ever to be opened by RBS, as its expansion move for 1997.

Company History

RBS was incorporated in 1974 by a small group of stockholders from the town of Suares
located 25 kilometers away from the capital city in a province in Southern Mindanao. Since its
founding, RBS remained the only banking institution operating in this town of about 45,000 people.
After its founding, the bank immediately found patronage among the townfolk so that its stockholders,
who were all townspeople of Suares had high hopes for their bank. Within a few years, however, the
bank came into serious financial difficulties. Whether because of lack of foresight or because of
pressure from government agencies during the Marcos regime, RBS, like nearly all rural banks in the
country at that time, assumed heavy exposure in the government’s disastrous countryside lending
program called Masagana 99 which resulted in millions of pesos of unsecured and uncollectable loans
to rice and corn farmers for the bank.

For nearly two decades, the bank, burdened by these uncollectable loans, eked out a survival
existence as the Central Bank authorities allowed the bank to carry these uncollectable accounts in its
books and gradually write these off against whatever operating income the bank earned from its regular
lending activities through the years. Until recently, therefore, the bank had not been able to expand or
pay dividends to its stockholders.

Progress in Recent Years

Under pressure from the Central bank authorities, the stockholders of the bank were forced to
infuse in 1990 another P2 million in the fresh equity investments in RBS to beef up its depleted
resources or face closure by the Central Bank. By dint of patient management and careful husbanding
of its resources, the RBS management was able to rehabilitate the bank and expand both its deposit
base and its loan volume. In 1993, RBS reported modest profits for the first time after years of
breakeven operations. Because of this history, Arguelles’ financial report for 1995 visibly heartened
the stockholders gathered in the meeting that morning.

The Planned Branch Expansion to the City

Arguelles justified his proposal to open a branch office in the capital city on two grounds. First,
he felt that the limits to expanding both its deposit base and lending activities in the small town of
Suares had already been reached. Second, the market for loans and deposits was perceived to be larger
in the capital city which was the financial and commercial center of the province with a population
more than ten times that of Suares. The opportunities in the city could be seen in the fact that many
current borrowers of the bank were residents of the capital city, according to the general manager.
These borrowers could be better served if RBS established a branch office in the city, not to mention
the more attractive deposit taking possibilities that would result from this move, he added.

Arguelles estimated the expansion to require approximately ten million pesos, as follows:

Land acquisition (300 sq. m.) P2 million

Building Construction 8 million
Equipment and Fixtures 0.5 million
Total 10.5 million

He explained that P2 million would be generated internally and the P8 million would be sourced
through a loan from a large commercial bank with a branch in the city. He stressed that the time for
consolidation was over and the bank was now in a position to pursue a more aggressive expansion
strategy.

Reactions from the Stockholders

There were mixed reactions from the stockholders to Mr. Arguelles’ proposal. Two
stockholders expressed general skepticism of the plan.

Stockholder 1: “why do we want to expand to the city where branches of the big banks in Manila are
located? Can we compete with those?

Arguelles: “The branches of the Manila banks do not cater to small loans of say P100,000 to 400,000.
This is why we have borrowers from the City. The branches of Manila banks will not entertain them.
This is our niche in the loan market”

Stockholder 1: “But there are two other rural banks in the City which can do what we do”.

Arguelles: “Then, it’s a game of who can do it better. I’m not afraid of them as competitors. I think
we can compete effectively through better service. How do you think we’ve managed to get so many
borrowers from the City to come to Suares and borrow from us?”

Stockholder 2: “Why do you have to buy land and build a building? Can’t you just rent space the way
other banks do? This way you can reduce the capital required drastically.”

Arguelles: “I dont like renting. You spend a lot to build a nice branch office and then they’ll increase
the rent and you’re stuck. When we open in the city, we will be there to stay permanently. Buying land
and owning our building not only gives a better image for our bank, it will also allow us to earn
revenues through rental of the extra space in the building. Besides, buying land in the city is a good
investment. Have you seen how the prices of land in the downtown locations have increased in the last
three years?”

“In any case, I have looked at the rental option. The going rate is about P200 per sq. m. per month in
the business center. With our space requirement we would spend at least P30,000 per month on rental
alone, quite apart from the initial investment to build the office, buy equipment, etc.”
Stockholder 3: “What’s your breakeven volume for a branch office in the city?

Arguelles: “That’s hard to compute.”

Question: If you were the controlling stockholder of RBS, how would you vote on Arguelles’ proposal
to open a branch office in the capital city? Why?

Exhibit 1

Comparative Income Statements

Rural Bank of Suares

Income
1995
1994

Interest Incomes
Agricultural Loans
Commercial Loans
Industrial Loans
 Other Loans and Discounts

P10,812,007.15
877,647.45
324,059.19
3,912,498.27

P6,420,196.69
946,673.55
374,158.49
2,916,905.10

Investment Income
137,089.74
134,269.26

Service Charges/Fees/Commissions
1,300,881.76
1,183,339.98

Other Incomes
930,122.97
407,909.71

Total Incomes
P18,294,306.53
P12,383,452.80

Expenses

Interest Deposits
P 3,165,285.80
P3,075,009.96

Interest on Borrowed Funds

3,667,594.12
1,594,502.01

Salaries and Benefits

 3,816,889.92
2,776,820.85

Depreciation/Amortization
387,135.91
167,970.38

Asset Acquisition Expenses

878,285.03
456,238.02

Bad Debts Written Off

224,877.05
-

Other Expenses
2,217,760.18
1,471,371.12

Total Operating Expenses

P14,357,828.18
P9,541,912.34

Net Income Before Tax

3,904,810.25
2,841,545.50

Less: Provision for Income Tax

1,318,702.17
929,171.68

Net Income After Tax

P2,586,108.08
P1,912,373.82
Exhibit 2

Comparative Balance Sheets (1994-1995)

Rural Bank of Suares

Assets
1995
1994

Cash and Due from Other Banks

Loans and Discounts (Net of Allowance
for Probable Losses)
Investment in Bonds and Other Debt
Instruments

P11,781,022.04

83,011,924.41

P10,740,440.16

56,635,948.94

222,487.47

Bank Premises, Furnitures and Fixtures

and Equipment (Net Book Value)

5,793,306.54
2,835,480.62

Real and Other Properties Owned or

Acquired

684,801.54

158,139.78

Other Assets
 5,569,863.18
3,980,160.85

Total Assets
P106,840,917.71
P74,572,657.81

Liabilities and Capital

Deposit Liabilities

Demand Deposits
P 329,962.69
-

Savings Deposits
32,023,088.58
P 27,135,023.90

Time Deposits
20,834,714.70
14,341,695.10

Bills Payable
34,005,809.86
19,057,242.27

Due to DBP
17,157.27
17,157.27

Special Guarantee Account

231,797.84
231,797.84

Unearned Income and Other Deferred Credits

5,510,294.60

3,433,946.99
Other Liabilities
3,478,768.99
1,695,853.54

Total Liabilities
P96,431,594.53
P65,912,716.91

Capital Stock (Common)

P4,297,755.00
P4,050,060.00

Surplus
2,595,195.99
1,485,201.48

Surplus Reserves
2,806,604.92
2,762,870.67

Undivided Profits
709,767.26
361,808.76

Total Capital Accounts

P10,409,323.18
P8,659,940.91

Total Liabilities & Capital Accounts

P106,840,917.71
P74,572,657.81