Commercial Bank

A financial institution that provides various banking services to individuals, businesses, and organizations

Author: Adin Lykken
Adin Lykken
Adin Lykken
Consulting | Private Equity

Currently, Adin is an associate at Berkshire Partners, an $16B middle-market private equity fund. Prior to joining Berkshire Partners, Adin worked for just over three years at The Boston Consulting Group as an associate and consultant and previously interned for the Federal Reserve Board and the U.S. Senate.

Adin graduated from Yale University, Magna Cum Claude, with a Bachelor of Arts Degree in Economics.

Reviewed By: Matthew Retzloff
Matthew Retzloff
Matthew Retzloff
Investment Banking | Corporate Development

Matthew started his finance career working as an investment banking analyst for Falcon Capital Partners, a healthcare IT boutique, before moving on to work for Raymond James Financial, Inc in their specialty finance coverage group in Atlanta. Matthew then started in a role in corporate development at Babcock & Wilcox before moving to a corporate development associate role with Caesars Entertainment Corporation where he currently is. Matthew provides support to Caesars' M&A processes including evaluating inbound teasers/CIMs to identify possible acquisition targets, due diligence, constructing financial models, corporate valuation, and interacting with potential acquisition targets.

Matthew has a Bachelor of Science in Accounting and Business Administration and a Bachelor of Arts in German from University of North Carolina.

Last Updated:October 30, 2023

What is a Commercial Bank?

A Commercial Bank is a type of financial institution that accepts deposits from people and businesses through checking accounts, savings accounts, and certificates of deposit (CDs).

The bank can keep these deposits for varying amounts of time, which allows it to make more money. In addition to giving out loans to big companies, commercial banks also lend money to regular individuals. They can also invest in bonds issued by companies or the government.

Most of a commercial bank's liabilities are embodied in deposits, while most of its assets are kept in loans and bonds.

In simpler terms, a commercial bank is a financial institution that takes money from people and businesses, gives them banking services, and uses that money to provide loans and invest in various financial instruments. It's where individuals and companies can access essential banking services.

Key Takeaways

  • Commercial banks are financial organizations that act as intermediaries, collecting various forms of deposits from consumers and companies and providing loans and other services.

  • These banks primarily hold assets in the form of loans and bonds, with most of their liabilities represented by customer deposits.

  • Commercial banks can be categorized as public banks (government-owned), private banks (privately held), and foreign banks (operating in a different country).

  • Commercial banks play a vital role in a nation's economic growth by mobilizing savings, providing credit for development, and facilitating economic activities.

Commercial bank Types

A commercial bank is a tool that is utilized by a variety of people for various objectives. Three distinct classifications may be applied to commercial banks available in India.

1. Public banks0

This particular subset of the bank is nationalized, and the government holds a significant stake in it. For example, the Bank of Baroda, the Punjab National Bank, the European Investment Bank, and the Bank for International Settlements.

2. Private banks 

They are a subgroup of commercial bank and may be identified because most of the share capital is held by private individuals and businesses. Every single privately held company is categorized as a limited liability firm.

Banks that fall under this category include the Industrial Credit and Investment Corporation of India (ICICI) bank, the UBS Global Wealth Management bank, the Morgan Stanley Wealth Management bank, and many others.

3. Foreign banks 

The term "foreign banks" refers to financial institutions based in one country but operating in another. There was a perceptible increase in the number of multinational banks with operations in India when India's economic reform was implemented in 1991.

They are essential for the expansion of a nation's economy. There are also Central Banks, frequently referred to as the "head honcho" of banks, in addition to these commercial banks that facilitate financial activities like loans and deposits.

The Central Bank is responsible for keeping an eye on commercial banks, deciding the interest rates at which they should lend or borrow money, and managing the flow of money throughout the economy.

In contrast to commercial banks, this bank does not provide financial services to customers, the members of the general public. As a direct consequence, the public does not receive benefits from the Central Bank compared to those obtained from private banks.

These financial institutions have their roots and operations in other countries. American Express, and JPMorgan Chase & Co., are examples of foreign banks.

Functions of Commercial Bank

These days, commercial banks provides its customers with a diverse selection of services. They provide credit for the long term as well as the short term.

Their clientele comes from all walks of life, from sole proprietorships to multinational conglomerates with activities in every corner of the globe.

It is the responsibility of the banks to satisfy the requirements of a wide variety of customers belonging to a wide variety of social groups.

In light of this, the financial sector has become increasingly complex and requires a technical understanding of the needs of its customers. 

Consequently, numerous kinds of banks have emerged to fulfill various requirements.

There are two basic categories that commercial banks might operate under to carry out its responsibilities.

The fundamental duties of commercial banks are:

1. Making Loans Available

The provision of loan advances to aspiring business people and entrepreneurs, in addition to the generation of interest in these activities, is one of the essential duties of this bank.

It is the primary source of revenue for the majority of banks.

The bank keeps a small portion of the deposits as a reserve and provides (lends) the remaining money to the borrowers through

  • Demand-based loans
  • Overdrafts
  • Cash credits
  • Short-term loans
  • Other loans.

2. Lending of Money

Cash is not immediately available to a person who has been granted credit or a loan. The money is then transferred into the customer's bank account when it has been opened.

The bank can raise money as a result of this strategy.

3. Taking in advance payments

The bank will accept all deposits, including:

  • Savings
  • Current
  • Fixed deposits.

To help enterprises with their short-term financial needs, loans are issued from individual and corporate surplus balances.

These banks also have specific supporting roles and functions.

1. Bills of exchange that have been discounted

A bill of exchange is a written document confirming the amount of money that must be paid in exchange for the goods acquired at a particular time shortly.

It is also possible for the cash to be paid out earlier than the time that was specified by using the discounting method at a commercial bank.

2. The purchase and sale of various securities

If you conduct business via the bank, you will be given the option to purchase and sell a wide variety of different sorts of securities. If you take advantage of this opportunity, you can maximize your profits.

3. Facilities for storing items

Customers in a bank are provided with lockers to store their valuables and other critical documents in a secure location. The banks require a minimum annual fee to provide this service.

4. Overdraft Facilities

When a customer applies for this loan, they can go above their checking account balance; nevertheless, there is a limit to the amount of money that may be borrowed.

What kind of business do commercial banks conduct?

In today's world, banks are responsible for a vast array of activities. It would be impossible to create an exhaustive list of everything banks are accountable for.

Financial institutions are necessary to quicken any nation's economic expansion rate. Developing a nation's economy has always been impossible without the participation of commercial banks.

Today's commercial banks are important not only for the maintenance of financial stability but also for the expansion of the economy.

The general public, which includes private individuals as well as small and medium-sized organizations, is serviced by commercial banks in the sense that these banks offer vital banking services.

Banks can profit by charging customers for their services and other fees. These fees are determined by what is provided and include:

  • Costs for overdrafts
  • Fees for safe deposit boxes
  • Late fees
  • Other types of payments

Many different types of charges can be associated with loans in addition to interest.

To generate revenue, banks use the funds deposited by the customers to facilitate granting loans.

They charge far higher interest rates on the loans they make, yet the rates they charge on the money their customers deposit with them are significantly lower.

The establishment of social justice and the advancement of economic conditions are the two goals that commercial banks can significantly aid.

It can be accomplished in several ways, including the extension and expansion of banking services to areas that are currently unbanked or underbanked, as well as the mobilization of savings to satisfy the investment needs of an economy.

I am allocating credit for development with a focus on priority sector lending to free farmers from the clutches of money lenders and to enhance employment growth, diversifying banking operations based on changing consumer expectations.

Also, the improvement in output is all the things that need to be accomplished.

Most commercial bank branches are located where clients frequently visit to use the ATMs and other banker window amenities.

As a result of recent developments in internet technology, the vast majority of banks now enable customers to carry out most of their transactions online. Anyone can pay their bills, deposit payments, or transfer funds online.

Services Provided by commercial banks

Despite its primary focus on supplying businesses with short-term loans, commercial bank offers a wide range of services. Commercial banks are responsible for a significant number of critically important tasks.

The functions of these banks can be broken down further by placing them into the following categories:

1. Loans

A company may require more money for significant acquisitions if it is just starting or its assets are tied to pricey inventory or equipment.

Businesses require capital to function and grow, but if they are starting or have assets linked to expensive goods, they may require additional investment.

Commercial bank is responsible for doing this job. They are the ones who offer loans to businesses so that they can purchase the vehicles, real estate, and machinery that they need to run their businesses.

2. Individual Investments

A checking and savings account is essential for individuals and organizations. 

Savings accounts can be used to keep cash reserves and earn interest simultaneously, while checking accounts assist businesses in making payments to staff and suppliers.

3. Loans for a Short Term

Similar to a credit card created especially for small enterprises, a line of credit offers short-term finance for various business needs.

 While a company waits for debts to arrive, a bank loan from a commercial bank might help provide liquidity infusion. For instance, a business could seek a line of credit from a commercial bank if it needs to pay its staff, but clients have not yet paid for recently shipped orders.

4. Foreign Exchange

Businesses that conduct business abroad and accept or use customer payments may need to deal in local currencies. They get help from commercial bank in managing risks and converting currencies.

5. Engaging in business with customers and suppliers from other countries

It is challenging and frequently dangerous when companies do not even know the other party or the other company is in a foreign country with different restrictions. In such a case, a letter of credit can increase the likelihood of a successful transaction.

Investment Banking Vs. Commercial Banking

Banking is not an exception to the rule that everything related to finance may be categorized into a single subfield or expertise.

Why not dedicate a full bank branch catering to the individualized banking requirements of a particular company, organization, or government?

To put it another way, it would appear that this is the reason for investment banking. However, what exactly does it mean to work in investment banking? What makes it different from traditional banking, and how is it different?

The primary difference between investment banking and commercial banking is that investment banking frequently deals with the purchasing and selling of bonds and stocks on behalf of companies.

Investment Banking assists these companies in the issuance of initial public offerings (IPOs), whereas commercial banking primarily deals with deposits or loans for customers who are either businesses or individuals.

Even though commercial bank is usually involved in investment banking activities, it is essential to remember that the objectives of retail and investment banking are distinct.

Investment banks operate as middlemen between firms and investors, assisting with capital raising, initial public offerings, mergers and acquisitions, and other business transactions.

These are not the same as the traditional banking services that commercial banks offer to their customers.

Commercial banks do not participate in buying and selling securities, whereas investment banks do.

On the other hand, several other significant differences between investment banking and commercial banking. These differences have to do with the rules, risks, and rewards.

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Researched and Authored by Parth Singhal | Linkedin

Reviewed and Edited by Justin Prager-Shulga | LinkedIn

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