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How NBFCs Are Resolving The Credit Deficit In The Country

Mutual funds became wary of investing in NBFC short term papers which further aggravated the crisis.

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The debate on criticality and contribution of NBFCs to Indian Economy in terms of improving access to finance to underserved segments of the country has long been settled. Historically, episodes of NBFCs instability like the late 90s NBFC crisis were viewed with suspicion to which regulators responded with stricter regulations and measures to stifle growth. However, today policy makers and regulators unanimously agree on the indispensability of NBFCs in our lending system. In a welcome change, policy makers support NBFCs through their policy initiatives and ensure that any isolated incident of NBFC distress does not percolate down to the entire NBFC sector. What has happened in the past few years clearly portrays the changed position and outlook for NBFC Sector.

NBFCs bring to the table the much- needed skills, tools and risk appetite to both evaluate and take the risks associated with under-served sectors of the Indian economy whether be it SME finance, micro finance or lending to lower income or new to credit segments. These customer segments have historically struggled to get funding from the mainstream commercial banks. Further, NBFCs have been able to increase their penetration despite tightening regulations and rising focus on corporate governance which gets reflected in their robust and steady performance indicators. A comparison of NBFCs and Banks on certain key parameters clearly reflects this trend.

Indicators, FY18

Banks

NBFCs

Loans Outstanding (Rs billion)

87460

17643

Total Credit Growth (FY17-18)

7.8%

20%

Gross NPAs

11.6%

5.8%

Return on Assets %

0.4%

1.7%

Capital Adequacy Ratio %

13.8%

22.9%

Source: RBI, MyLoanCare.in analysis

Today, NBFCs account for more than 17% of total credit in the country and have registered a growth of 20 % in FY18, which has continued as per RBI data available till September 2018. Despite lending to riskier customer segments, their bad loans ratio is almost half as that of banks and their profitability is 4 times than that of banks. Further, their Capital Adequacy (capital as a % of total advances) is quite comfortable at around 23%, compared to around 14% for banks reflecting their resilience.

Now let’s evaluate the latest crisis that has rejuvenated this debate. It is the IL&FS default on its credit repayments which casted a question mark on other NBFCs and triggered a liquidity crunch in the sector. IL&FS default has been the outcome of Asset Liability mismatch and highlighted the vulnerability of similar other entities which borrow for short term and lend for long term. As an immediate response, mutual funds became wary of investing in NBFC short term papers which further aggravated the crisis.

But a closer look on the sector reveal that the reaction may be overstated, as the chances of similar mismatch is low for retail NBFCs which are on the similar side of tenure; shorter term both for lending as well as borrowings. These includes most of the NBFCs operating in unsecured personal loans and business loans. Further, large and well established NBFCs a diversified book that can continuously raise funds in terms of market debentures have limited reasons to be worried. The leaves out a set of mid-sized NBFCs and Housing Finance Companies operating in the long tenure lending with a heavy reliance on short term borrowings as the ones which are expected to be adversely. This set of NBFCs may find it difficult to raise funds and may see their cost of funds may go up and profitability going down in the short to medium term.

Ever since the crisis set in, RBI policy signalling has been encouraging in terms of providing liquidity support to the well performing and deserving NBFCs through a series of measures such as increasing lending limited to NBFCs for bank, reducing risk weightage on lending exposures to larger and well performing NBFCs. As per latest RBI report, banks have filled some of the funds gap to the NBFC sector as reflected in their lending to NBFCs which rose by 4.4 % in December quarter FY19, compared to a negative growth in the same quarter in previous year. In a nutshell, there is every reason to believe that NBFCs have become an integral part of the lending eco-system and unlike the past, a few incidents of NBFC stress may no longer be able to shake their position in the Indian Banking and Financial Services sector.

Disclaimer: The views expressed in the article above are those of the authors' and do not necessarily represent or reflect the views of this publishing house. Unless otherwise noted, the author is writing in his/her personal capacity. They are not intended and should not be thought to represent official ideas, attitudes, or policies of any agency or institution.


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Gaurav Gupta

The author is Co-founder and CEO, MyLoanCare.in

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