With the country's largest development financial institutions (DFIs) like ICICI and IDBI having been converted into banking entities, the term DFI has lost its relevance in the country. Institutions that today have replaced them in playing a vital role in long-term financing and project financing are Non Banking Financial Companies (NBFCs), which have their relative specializations, for e.g. HDFC (mortgage loans), IDFC (infrastructure loans), Mahindra Finance & Shriram Transport Finance (auto loans). The trend of segmental monopoly is changing as banks are entering long-term finance and FIs also meeting the medium and short – term needs of the business masses.
NBFCs have come a long way from an era of concentrated regional operations, low credibility and poor risk management practices to highly sophisticated operations, pan-India presence and most importantly an alternate choice of financial intermediation. Today, NBFCs are present in the competing fields of vehicle financing, housing loans, hire purchase, lease and personal loans. More often than not, NBFCs are present where the risk is higher (and hence the returns), reach is required (strong last-mile network), recovery needs to be the focus area, loan-ticket size is small, appraisal and disbursement has to be speedy and flexibility in terms of loan size and tenor is required.
NBFCs' growth had been constrained due to lack of adequate capital. Going forward, we believe capital infusion and leverage thereupon would catapult NBFCs' growth in size and scale. A number of NBFCs have been issuing non-convertible debentures (NCDs) in order to increase their balance sheet liquidity. Also to address this purpose, especially in the infrastructure financing space, a new category of NBFCs was formed called Infrastructure financing companies (IFCs).
NBFCs are not required to maintain cash reserve ratio (CRR) and statutory liquid ratio (SLR). Priority sector lending norm of 40% (of total advances) is also not applicable for them. While this is to their advantage, they do not have access to low-cost demand deposits. As a result their cost of funds is always high, resulting in thinner interest spread. However, the regulatory arbitrage may soon change between the two entities with the help of the Usha Thorat committee recommendations, which call for stricter regulations in the space.
Plenty to meet personal finance needs but not enough to meet long-term infrastructure needs.
India is a growing economy, demand for long-term loans, especially infrastructure and personal finance is high.
Barriers to entry
Licensing requirement, investment in technology, skills required for project finance, distribution reach, minimum capital requirements, etc
Bargaining power of suppliers
Providers of funds could be more demanding, base rate requirements are applicable. As quality of services provided with minimum time matters a lot.
Bargaining power of customers
High, as banks have also forayed into long-term finance and consumer finance.
High. There are public sector, private sector and foreign banks along with non-banking finance companies competing in similar markets.
The Reserve Bank of India (RBI) is looking at monitoring the NBFC sector to a greater extent now, especially on account of the sharp increase in finance to the space. As per its set of regulations, it recently announced that bank funding to and buying of gold loans from (assignment) will not be classified as priority sector any longer. Loan to value
(LTV) ratios for gold loan NBFCs were also capped at 60%.
For housing companies also there were increased regulatory requirements including 1% provisioning on commercial real estate, withdrawal of pre-payment penalty on housing loans, standard asset provisioning of 0.4%, imposition of certain LTV ratios, differential interest rates for old and new customers etc.
The Finance Ministry announced in that will give additional branch licenses to private sector banks and NBFCs that meet the central bank's eligibility criteria. These new licenses should be awarded shortly. A number of NBFCs, microfinance companies and industrial houses are planning to opt for the same.
The 12th plan investment in infrastructure is expected to be Rs 50 trillion, half of this is expected to come in from the private sector. Tax free bonds for infra projects of Rs 600 bn were announced in the FY13 Union Budget. A proposal to set up an infrastructure debt fund was also mooted.
Housing finance companies like HDFC and LIC Housing Finance as well as some PSU banks that have extended presence in the semi urban and rural areas will benefit from the interest sops offered on low cost housing loans. The scheme of 1% interest subvention on housing loan up to Rs 15 lakh where the cost of the house does not exceed Rs 25 lakh has been extended up to March 31, 2013.
The mortgage penetration continues to remain abysmally low - in India the mortgage to GDP ratio is at around 8% against close to 80% in the USA. Even if one were to benchmark against more comparable counterparts, the ratio ranges between 20% (China) to 43% (Hong Kong) for most South East Asian nations.
Since March 2010, the RBI was on the offense, raising key policy rates 13 times. The current interest rates are still elevated however the RBI is finally easing on its aggressive stance. It has been increasing liquidity in the system through a number of measures including CRR and SLR cuts and open market operations. If rates come down going forward it will help reduce the borrowing costs for various NBFCs.
The power sector has also been facing myriad issues right from coal linkages and land acquisition worries to environmental concerns. Slowdown in the infrastructure space due to the central bank’s aggressive interest rate policies, the latest Coalgate scam and the financial health of state electricity boards (SEBs) also did not help matters much for power and infrastructure financiers including REC, PFC and IDFC. Banks have restructured a number of troubled SEB loans. The central government is now preparing a much-awaited debt recast package for these cash-strapped SEBs that will be sent to the cabinet for approval.
Source: HDFC FY11 presentation
According to the recommendations of the Usha Thorat committee, the core Tier-1 capital ratio for NBFCs needs to reach 12% over the next three years. Thus if these recommendations are accepted, companies will have to shore up their capital sufficiently to account for growth as well as regulatory requirements. NPA provisioning (180 days to 90 days) and other norms may also be brought similar to that of banks in a phased manner. Plus with regards to securitization norms affecting players like Shriram Transport and Mahindra Finance, the RBI has indicated that these players can continue to securitise these assets, provided they follow a few guidelines. On the 6% interest cap (spread above the cost of borrowings) on securitisation of non-mortgage retail loans especially for used vehicles, the RBI is still awaiting feedback. Plus, the off balance sheet exposure of NBFCs is expected to be capped at 35%. There is also a call for foreign banks to increase their priority sector lending exposure to 40% from 32% currently, which will lead to demand for such paper.