NBFC Liquidity Crisis – Hype and Reality

by Shrutee K/DNS

Finance Industry Development Council (FIDC) is a Self-Regulatory Organization (SRO) cum Representative Body of the NBFCs registered with the Reserve Bank of India.  FIDC was formed 14 years ago, and is the recognized face of the NBFC sector. We have been engaged in regular interaction both with Reserve Bank of India and Govt. of India, which include pre-budget meetings and also important policy related meetings with RBI. Almost all the leading NBFCs and a large number of small and medium sized NBFCs are our members.

Reality Check: We feel that the prevailing “Liquidity Crisis” in the NBFC Sector has been hyped up to a level that it needs a reality check, in order to put things in the right perspective.

Following are the key points:

Defaults by IL&FS and DHFL represent the health of the NBFC sector.
Housing Finance Companies (HFCs):
·          Are not NBFCs
·         Business model entails long term lending(10 years and above)
·         Regulated by National Housing Bank and not RBI
Long Term Financing NBFCs like IL&FS
·         There are only 08 Infra Financing NBFCs out of a total of 9600 NBFCs
·         Five out of these 08 are Govt owned
Typical NBFCs
·         Majorly into asset based retail lending
·         Have short tenure assets of 1-4 years
·         Small ticket size
NBFC Sector has a major Asset Liability Mismatch issue
1.       Asset Liability Mismatch is predominantly an issue only for long term lenders such as HFCs and Infra Financing NBFCs and not for genreal NBFCs, since 25-30% assets mature within one year.
2.       Some of the NBFCs resorted to short term Commercial Paper borrowing to take benefit of the interest rate arbitrage keeping unutilized banks credit line as a cushion – which has been significantly corrected by March 2019

The current crisis is a contagion solvency issue
Nine months have passed since IL&FS defaulted, without any NBFC  defaulting. NBFCs have fully met their liabilities, though restricted their lending. As such current crisis is more a growth related issue and not a solvency issue.
NBFCs are over leveraged
As on 31st March 2019
·         Average CRAR is 19.3% against the prescribed level of 15%.
·         Leverage ratio is only 3.4%
NBFCs are subject to light touch regulation and there is a need to further tighten regulation
1.       The prime objective of the Revised Regulatory Framework issued by RBI in 2014 was to harmonize regulation of NBFCs with banks and other FIs
2.       Asset side regulation are almost at par with banks including prudential norms on NPA classification
3.       NBFCs-ND-SI have already migrated to Ind AS, while banks continue to follow the old Indian Accounting Standards
4.       Following key areas are well regulated :
-          Mandatory Registration with RBI along with prescribed entry level
-          Minimum Capital Adequacy (CRAR) of 15%
-          KYC Norms and all other provisions of Prevention of Money Laundering Act, 2002
-          Code of Fair Business Practices
-          Corporate Governance
-          Prudential Norms on Asset Classification (NPA Classification), Income Recognition and Provisioning
-          Credit Concentration Norms
-          Statutory Liquidity Ratio (SLR)
-          Onsite Inspection of books and accounts on annual / bi-annual basis
-          Offsite surveillance– submission of Returns to RBI on monthly, quarterly & annual basis

Prevailing liquidity crunch for NBFCs does not require any special measures.

RBI has infused liquidity through the OMO and LAF route
Data compiled by FIDC shows : (Y-o-Y basis)
·         Total disbursements by NBFCs in Q3 of FY 19 dropped by 19%
·         Total disbursement by NBFCs during Q4 of FY 19 dropped by 31%

Impact on key sectors which NBFCs cater to:
·         Automobile sales have been at record low level during the last three quarters
·         MSME sector also suffered due to restricted credit supply by NBFCs
·         Liquidity infused by RBI has resulted in funds with the banks.
·         Hesitation & Reluctance of banks to fund NBFCs is the key issue.
Bank funding to NBFCs has not been impacted by the current crisis. Some of the PSBs have aggressively voiced their willingness to buy out NBFCs portfolio
1.       Banks have withdrawn unutilized credit lines to NBFCs and shown reluctance and hesitation to renew existing credit lines. Cost of borrowing from banks has gone up – even AAA rated NBFCs are faced with increase in rates by  up to100 bps.
2.       Portfolio buyout is a “band aid” solution which does not result in growth.
3.       The data on bank credit to NBFCs published by RBI includes exposure to Government owned NBFCs which results in distortion of figures – RBI’s FSR dt. June, 2019 states that Top 30 NBFCs, including Govt. owned NBFCs, account for more than 80% of the total bank exposure

What We Seek From the Government/ RBI

Short Term Measures – Need Immediate Action

The crying need of the hour is to create a dedicated liquidity window for NBFCs through the banking channels. The same may be provided for a period of one year. Precedence may be drawn from a special repo window created by RBI in 2008 for banks under the liquidity adjustment facility (LAF) for on lending to NBFCs.

Since 1999, RBI had allowed all bank lending to NBFCs for on-lending to the priority sector, to be treated as priority sector lending by banks. This gave a huge incentive to banks to lend to NBFCs. While it ensured sufficient bank funding to NBFCs at a reasonable cost, it also facilitated banks to meet their PSL targets. However, this was abruptly withdrawn in 2011. The same arrangement may be restored urgently.

For Small &Medium sized NBFCs, eligibility norms for NBFCs for availing refinance from MUDRA should be made favorable by:

Allowing all RBI registered NBFCs to avail refinance

External Credit Rating criteria may be replaced by prescribing some additional financial parameters to be met, which may be more realistic and doable.

The cap of 6% on the maximum spreads allowed should be done away with, since market forces ensure that the rates are within acceptable limits

Systemically Important NBFCs should be Allowed to Act as Aggregators by availing refinance from MUDRA for on lending to small and medium sized NBFCs.

Long Term Measures

Setup up a Permanent Refinance Window for NBFCs
A dedicated “Refinance window for NBFCs”, on the lines of National Housing Bank (which provides refinance to Housing Finance Companies) has been a long-standing demand of the NBFC sector. The Parliamentary Standing Committee on Finance in their 45th Report dated June 2003 (relating to The Financial Companies Regulation Bill, 2000) had recommended setting up of a new refinance institution for NBFCs.

Establishment of Alternate Investment Fund
An Alternate Investment Fund (AIF) may be established to channelize institutional funds to NBFCs.. Non-convertible debentures (secured by hypothecation of business receivables of NBFCs) could be subscribed to by the AIF for onward lending by NBFCs. These NCDs could be administered by investor trustees who could take care of the interests of the AIF and its constituents and would be subject to all extant guidelines in this regard. The manner of constitution of the AIF and the sources of its funds could be discussed further.

“On Tap” Issuance of Secured Bonds/NCDs

NBFCs have access to Non-Convertible Debentures (“NCDs”) having flexible tenure and rates, both through the private placement (with restrictions) and public issue. While private placements have severe restrictions on the number of investors, the frequency of issue etc., public issue of bonds tends to be very expensive, laborious and inflexible.

It is proposed that NBFCs be allowed an on-tap facility for issuance of NCDs to the retail market by making the offering of NCDs through an easy to operate and less costly procedure, but with proper governance to provide investor protection and comfort.


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