Tighter RBI norms for NBFCs

The UPA Government is in the process of keeping up the pace of reforms intact and with certain bills like FDI in Multibrand Retail getting through there are hopes of other reforms getting approved too. Reforms are being conducted in various sectors to boost the economy. The Banking Act Amendment Bill is an important one on the cards. While efforts are being made to strengthen the Banking space, steps are also been taken to strengthen non-banking financial companies (NBFCs). Rather, the stance of Government to provide banking licenses to some NBFCs is a step towards the same. In line with this the Reserve Bank of India (RBI) has now initiated steps for bringing about changes in the regulations and provisions, required to control the functions of NBFCs.

The RBI recently issued draft guidelines for NBFCs to comply with the new rules. As per the draft rules, NBFCs need to be registered with the RBI before taking any deposits from the public. Further, existing unregistered NBFCs will be given one year to get registered with the RBI and not allowed to take any deposits, unless they get themselves registered. This is a very positive step as it brings these entities under a tighter control. However, all non-deposit taking NBFCs are still exempted from the RBI's regulation. In addition to the above, following are a few guidelines which are likely to bring in a sea change in the NBFC space.

Major Draft Guidelines:

• The RBI proposes to tighten the Non-performing assets (NPAs) recognition norms to 90 days from the current 180 days. This indicates that NBFCs have to classify money due to them as non-performing assets within 90 days. The asset classification and provisioning norms for the NBFCs would, in a phased manner, be similar to that of banks. The same will be implemented in phases, viz a 120 day norm shall be applied from April 1, 2014 to March 2015 and the 90 day norm from thereafter. We feel this is a positive step, as it will force the NBFCs to focus on asset quality improvement.
• The RBI also proposes to increase the standard provisioning requirement to 0.40 per cent from 0.25 per cent. The increased provisioning will mean that, NBFCs will have lesser amount to lend affecting the growth of NBFCs. This will marginally impact the bottomline of these companies. We feel, this may be a negative in the short term. However it is a very strong step to improve the fundamentals in the long term.
• RBI also proposes to increase the Tire-I capital adequacy ratio (CAR) to 12 per cent by April 2014. At present the Tier I requirement is 7.5 per cent for NBFCs except those in infrastructure financing, where it is already 10 per cent. For the companies lending against Gold it is 12 per cent.
• The draft rules also propose to increase the risk weight for NBFCs engaged in capital market and commercial real estate financing and investments. While most of the NBFCs are already comfortably placed above the requirement, considering the growth in the Sector, there is need to raise funds of around Rs 8000 crore to maintain the current cushion. We feel in a current scenario where interest rates are higher, it will be tough for the NBFCs to raise funds. We expect these companies to tap markets, as soon as the interest rates start declining.
• NBFCs will need approval from the RBI for any major shareholding changes and key management changes. This proposal will strengthen the NBFCs internal management process and reporting system and enhance transparency and also improve the corporate government practices.

The impact of these guidelines on the sector has been mixed. Companies like Shriram Transport Finance, Bajaj Finserv, M&M Financial Services and Reliance Capital witnessed marginal shake up. The best part is L&T Finance Holding touched a new high. However Bajaj Finance witnessed some profit booking. The guidelines indicate that the Government is rapidly moving towards its aim of providing banking licenses to some NBFCs. Further they will provide a much needed cushion for those investing in these listed entities. We will be closely tracking the developments on this front. Tell us what you feel about this development and watch this space closely for our expert analysis of the matter.