5.

Discuss the recent regulatory changes adopted for the better governance of
NBFCs in India. (Pradeeba C 215119061)

NBFCs or Non-banking financial companies constitute a crucial segment of the

financial system. They play an important role in channelizing the scarce financial
resources to capital formation. A NBFC is a company registered under the Companies
act. NBFCs are not stringently regulated as the banks. The regulation of the NBFCs
were established recently.
The regulation of NBFCs was initiated in 1960s when RBI attempt to issue direction
relating to the maximum amount of deposits, the period of deposits, and rate of
interest they could offer on the deposits accepted.
Registration:
In 1997, the RBI act was amended and The reserve bank of India was empowered to
regulated the NBFCs. RBI mandated every NBFC to register and obtain a certificate
of registration and every NBFC should have a minimum net owned funds. The capital
requirement was changed in the year 1999, NBFCs getting registered on or after the
issuance of notification dated April 21, 19991 were required to have the minimum net
owned funds has been raised from 2 crores to 5 crores in order to commence the
business of an NBFC. The minimum net owned funds include capital as well as public
funds.
Regulations on Public Deposits:
Another crucial regulation imposed on NBFCs is unless it is authorised by RBI to
accept public deposits, a NBFC cannot accept public deposits. NBFCs cannot accept
public deposits from NRIs except by debit to NRO account and the deposits should in
India Rupees. An unrated NBFC except Asset Finance Companies cannot accept
public deposits with effect from March 31, 2016. RBI allows the depositor to file a
civil suit if the NBFC fails to repay the depositor but RBI does not guarantee
repayment of deposits. The NBFCs are allowed to accept/renew public deposits for a
minimum period of 12 months and maximum period of 60 months. They cannot
accept deposits repayable on demand.
NBFCs should have the prescribed Capital Adequacy ratio. Asset Finance Companies
with Capital Adequacy ratio of 15% without a rating or ASF with CAR of 12% with
rating can accept deposits less than 10 crores or 1.5 times the Net owned funds
whichever is lesser. The leasing and investment companies with rating and CAR of
15% can accept public deposit 1.5 times the NOF.
The maximum interest that can be offered by a NBFC is 12.5%.
Regulation on Lending:
The NBFCs should follow stringent measures before lending to public or to
companies. The loan tenure should not be less than 24 months when loan exceeds
Rs.15000 and loans can be extended without a collateral. Aggregate amount of loans
given for income generation should constitute at least 50 percent of the total loans.
Margin cap limits at 12 percent for small MFIs and 10 percent for large MFIs. Large
MFIs are those whose loan portfolio exceed 100 crores. Only three components are
included in pricing of loans – processing fees, interest charged and insurance
premium.
6. Explain the significance of NBFCs in India with respect to small business
(Pradeeba C 215119061)
NBFCs are a kind of shadow bank that is primarily engaged in the business of
accepting deposits and delivering credit or channelizing the scarce financial resources
to capital formation. NBFCs supplement the role of the banking sector in meeting the
increasing financial needs of the corporate sector, delivering credit to unorganized
sector and small businesses. NBFCs have a more flexible structure than banks. As
compared to banks, they can take quick decisions, assume greater risks, and
customize their services to the needs of the clients. NBFCs are an alternative to
traditional banks and provide business loans at a lower rate and has helped to
accelerate the growth of Small and medium business in India. The following are some
of the ways in which NBFCs have helped the growth of small businesses
Lower Interest rates:
The interest rates at NBFCs are comparatively lower than that of the banks. This is
because the interest charged by banks is governed by factors like RBI lending rate and
international markets. In addition to that, banks are regulated by Minimum interest
rate below which the bank cannot lend. On the other hand, NBFCs are governed by
prime lending rates which is not governed by RBI. So they can offer a completive rate
of interest to small businesses.
More inclusive:
The eligibility of a loan can differ between a bank and NBFC. Since it is not regulated
as tightly as banks, NBFCs can sanction amount higher than banks. Also, most banks
don’t fund the entire credit requirement and fund only a certain portion and the rest
has to be paid by the borrower. However, NBFCs can find out ways to help borrowers
and sanction the entire business loan. While some NBFCs offer business loans with a
loan limit that is pre-approved, which means if you are a business owner you can
withdraw funds from your pre-approved loan limit. The most interesting factor is that
businesses will be paying interest only on the used amount and not on the entire loan
amount, unlike the term loans, where EMIs are on the entire amount. The interest is
charged only on the amount utilized which can help in reducing the monthly business
loan EMIs. Such pre-approved loan limit comes to the rescue of business and ensures
they are never devoid of capital. Moreover, there is no need to apply for multiple
applications for procuring loan at any point in time.
Customized and flexible plans:
Lending models that cater to small business can be broadly classified under three
heads :
(i) lenders to informal / small businesses — offering unsecured business loans
that are short-term in nature, employing cash-flow based underwriting and
customised income-assessment techniques;
(ii) lenders focussed on asset financing — offering business loans towards
capital expenditure against hypothecated assets, also employing cash-flow
based underwriting;
(iii) lenders focussed on secured lending — offering typically longer tenor
loans, reliant on traditional security in addition to cash-flow based
underwriting, for larger ticket loans.
7. Highlight the performance of NBFCs in India in the current context (Pradeeba C
215119061)
NBFCs are typical shadow banks that can raise deposits and lend to business for
capital generation and other financial requirements. NBFCs have been witnessing an
inconsistent growth rate during 2011-2019. It has witnessed both growth as well as
decline during this period.
During late 2018, renowned NBFCs like IL&FS and DHFL came under scrutiny for
defaulting depositors and it led to an epic downfall of the industry as a whole and the
impact of this reflected in the health of the Indian Economy as well. This resulted in
sharp decreases in the stock prices of the NBFCs and the year 2019 witnessed the
highest dump in the performance of NBFCs.
The demand and the credibility of the NBFCs declined and except a few brilliant
players all the NBFCs faced huge losses. NBFCs faced severe cash crunch or in other
words they did not have funds to lend and were facing enormous difficulties in raising
funds. NBFCs were relied on banks for their funding as an opportunity to raise funds
through mutual fund was no longer available. NBFCs typically borrow money from
banks or sell commercial papers to mutual funds to raise money. They lend money to
small and medium enterprises, retail customers and so on. A few players who had lent
for businesses like Retail could maintain a steady growth while other stumbled during
this period.
One of the reasons for this crisis was asset-liability mismatch which occurs as NBFCs
get short term loans to finance long term projects. The insolvency of DHFL increased
the fears of the investors.
The year 2020 was viewed as the hope to revive the health of NBFCs in India as the
Government has taken a series of measures to generate demand and ease the liquidity
by ensuring public sector banks lend further to NBFCs, introducing partial credit
guarantee scheme, organizing loan melas etc. Experts had predicted that the crisis of
NBFCs will take six months to a year to be resolved.
Despite these efforts, due to the spread of Covid-19 pandemic and lock down imposed
by governments NBFCs were among the worst hit. The NBFCs with large unsecured
loans faced the crisis due to the imposed lockdown.
In an effort to revive the economy the government had announced a special financial
package which includes Rs. 30,000 crores for NBFCs, HFCs and MFIs to boost the
liquidity of these institutions. In addition to that, SBI offered a six-month moratorium
on loans lend by the bank to the NBFCs while other banks contemplated offering such
moratorium.
There is a ray of hope for NBFCs as CRISIL opines that NBFCs better placed with
adequate liquidity to manage capital market debt repayments over the next two
months and just about 4 per cent of total debt is in shaky sectors such as aviation,
gems and jewelers, real estate that could be adversely hit.
Moreover, since the relaxation of the lockdown, the stock prices of NBFCs has
increased and this is good sign to indicate that the NBFCs could improve their
performances in the long run.
8. Explain the issue in IL&FS, the first leasing company of India. (Pradeeba C
215119061)
The Infrastructure Leasing and Financial Services or IL&FS is a shadow bank or a
NBFC founded in 1987 with equity from Central Bank of India, Unit Trust of India,
and Housing Development Finance Co to fund infrastructure projects as at that time
banks like IDBI concentrated on corporate projects. The company has funded many
renowned infrastructure projects in India.
In 2018, IL&FS witnessed a severe cash crunch and was on the verge of defaulting
many depositors. Although IL&FS was a private company, more than 40% of its
shares was with government institutions like LIC, SBI and other banks like SIDBI.
IL&FS Financial Services fell short of cash and defaulted on several of its obligations.
Even as new infrastructure projects dried up, IL&FS' running construction projects
faced cost overruns amid delays in land acquisition and approvals. It defaulted on
repayment of bank loans (including interest), term and short-term deposits and also
failed to meet commercial paper redemption obligations. It reported that it had
received notices for delays and defaults in servicing some of the inter-corporate
deposits accepted by it. Following the defaults, rating agency ICRA downgraded the
ratings of its short-term and long-term borrowing programmers. The defaults also
jeopardized hundreds of investors, banks and mutual funds associated with IL&FS,
and sparked panic among equity investors, even as several non-banking financial
companies faced turmoil amid a default scare.
The government has to ensure the solvency of the company and had dissolved the
current board of directors and had constituted a new board and ordered investigation
on the IL&FS. The government had appointed new board headed by veteran banker
Uday Kotak in October 2018. Its fund-based outstanding debt was Rs 94,216 crore as
of 8 October, 2018.
The following are some of the reasons for the cash crunch faced by IL&FS.
High Debt to Equity Ratio:
High debt to equity ratio or the leverage ratio determines the liability of repayment
and eventually the financial health of the company. The greater the value of leverage
ratio, the greater the liability of repayment. The leverage ratio of IL&FS had
increased from 12% to 18% in 2018. This situation leads to Asset-liability mismatch.
This happened because IL&FS issues commercial papers which are short-term debt
instruments and had to be replayed within a year. On the other hand, it funded
infrastructure projects which are long-term investments which gives return only after
many years.
Substantial increase in cost of projects due to LARR act of 2013 by the
government:
The Government of India has passed Land Acquisition and Rehabilitation and
Resettlement act due to which land acquisitions from public became costly as the
company had to pay a large amount as settlement to the owners of the land. This
eventually increased the cost of the projects.
Shift in the strategy:
The company had changed its role from a financier as per PPP model to become
owner of the infrastructure projects which is a challenging role than the role of
financier. As a result, the company had to source funds in short-term markets and
invested in long-term markets.
Overdependence on PPP model:
The PPP model stands for Public Private Partnership where the government will enter
into a contract with the private entity and the private entity finances the infrastructure
projects and as a results collects tolls from the projects for around 20 years and
returns the ownership of the project to the government. Due to dishonoring of
commitments by the government many disputes aroused and this in turn increased the
cost of the projects.
The fiasco of IL&FS has serious implication on the credibility of NBFCs and credit
rating agencies as well.