13 Dec 2012

Financials

Draft guidelines for NBFCs – an attempt to bridge regulatory

arbitrage; Phased transition to be non‐disruptive; Top picks

SHTF, MMFS, and LICHF

RBI has come out with the draft guidelines for NBFC, which have seen some dilution

of the recommendations made by Usha Thorat Committee. As against the fear of

immediate implementation of higher Tier I capital (12%) requirement and shifting of

NPA classification norms to 90dpd, RBI has recommended three year transition

period for the same. Further, it has recommended lower Tier I capital of 10% (except

in few cases) v/s 12% recommended by committee. Major recommendations of

draft guideline

‐

Increase in the minimum Tier I capital requirement to 10% v/s 7.5% currently,

lower than committee recommendation of 12% (except in few cases)

‐

Shifting of NPA classification norms from 180/360dpd to 120dpd in a phased

manner by FY15 and 90dpd thereafter, in‐line with recommendation though

time period was not recommended earlier. Further RBI has given one time

dispensation to change repayment schedule, which shall not be considered as

restructuring.

‐

Standard assets provisioning to be increased to 40bp by end of FY14 (as

recommended earlier) from 25bp currently

‐

Any gap in cumulative inflows and cumulative outflows in less than one month

bucket, should be filled by cash and cash equivalent assets

‐

Other Government companies that qualify as NBFCs (like RECL and POWF) will

have to qualify regulatory criteria of NBFCs earliest

Our view:

‐

As we have been maintaining, higher capitalization is unlikely to be a problem

for NBFCs as they work with optimal leverage at 7‐8x (Implied Tier I of 12 %+) to

keep credit rating intact. Further, all major NBFCs are currently adequately

capitalised with Tier I capital of 12%+

‐

Shifting to 90dpd is on the expected lines although transition period of 3 years is

a major relief for NBFCs. Further, 90dpd is an accounting entry and loss given

defaults are unlikely to change

‐

Government companies like RECL and POWF are likely to be impacted the most

as RBI has been repeatedly recommending compliance with NBFC regulations at

the earliest. However, impact on yearly financials will depend on the final

roadmap agreed by RBI to comply with NBFC guidelines.

‐

While there have been rumours that NHB will also prescribe higher Tier I

requirements for HFCs, in line with NBFC’s, our interaction with major HFCs and

interviews of NHB chairman suggest that it is not thinking on the same lines

currently

‐

Improved disclosures and efforts to improve balance sheet quality is a long term

positive, in our view. Overall recommendations are unlikely to be disruptive and

it removes overhang for NBFCs, especially the Auto Finance NBFCs. Within NBFC

space we maintain SHTF, MMFS, and LICHF as our Top Picks.

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Financials

Higher Tier I capital requirement: Unlikely to be distributive; Better than

expectation of immediate implementation and higher Tier I of 12%

Draft guideline

‐

Increase in the Tier I capital requirement to 10% v/s 7.5% currently

‐

Higher Tier I capital of 12% for (a) NBFCs having more than 75% of their assets

into sensitive sectors like Real estate, capital markets and commodities (b) for

captive NBFC (financing more than 90% of the assets of the parent products)

and (c) Gold financing companies.

‐

In both cases NBFCs have been given time period of 3years to comply with the

same, except gold financing where it has been asked to comply by April 2014

(part of earlier guideline)

Committee recommendation: Tier I capital for CRAR purposes may be specified at

12% to be achieved in three years for all registered NBFCs

Current norms: Deposit and Non deposits taking NBFCs are mandated to maintain a

minimum Tier I Capital of 10% and 7.5% respectively. However, overall CRAR is 15%

in both cases

Impact:

‐

An increase in the tier I capital ratio would call for setting aside higher capital,

which would also curb their ability to leverage. However, most NBFCs currently

have their tier I ratio well in excess of 12% and have enough headroom in terms

of tier II ratio as well, which should not affect their business growth.

Further to maintain credit rating they don’t go beyond 7‐8x leverage (effectively

12%+ Tier I capital). Even in case of NBFCs which are not fulfilling the criteria of 10%

Tier I capital they have been given 3 years’ time period

All NBFCs are adequately capitalised

Asset classification and provisioning norms: More stringent now but enough time

for transition; More of an accounting entry, loss given default unlikely to change;

Higher standard asset provisioning to have minor impact

Draft guideline

‐

NPA recognition to be shifted to 120dpd by end of FY15 and 90dpd thereafter

v/s 180/360days.

‐

Standard assets provisioning to be increased to 40bp from 25bp currently by

end of FY14

Committee recommendation:

‐

Asset classification and provisioning norms similar to banks to be brought in

phased manner for NBFCs

‐

To increase standard asset provisioning to 40bp (similar to banks) v/s 25bp

currently

Current norms:

NBFCs disclose their NPAs based on 180 days overdue method

however, some of the NBFCs (SREI Infra) already follow conservative accounting

practices and disclose NPAs based on 90dpd overdue method

Impact:

‐

Transition period of 3 years is positive for the sector as there was a fear of being

implemented with immediate basis. This was a big overhang on the auto

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Financials

‐

‐

financing NBFCs. SHTF has mentioned in the past that on a 90dpd on a reported

basis their NPAs will double from current levels. Further it is more of an

accounting entry as loss given defaults is unlikely to change

For increase in standard asset provisioning there is a transition period of 6

quarter translating into a quarterly impact of 2.5bps of AUM. This is also not

meaningful as it will impact 2‐3% of annual/quarterly profits

Further, standard assets provisioning would help the companies to create a

countercyclical buffer to absorb any asset quality shocks and can also be used as

tier II capital.

GNPA (%) as on 2QFY13 on 180dpd

Impact of increase in standard asset provisioning to 40bp

Higher stress on better liquidity ratio: Positive as NBFCs as they are highly

vulnerable to movement in wholesale markets

Draft guideline

‐

For ensuring liquidity of NBFCs (deposit taking and non‐deposit taking) they

have been directed to keep liquid assets to fill the difference between

cumulative outflow and inflow in less than one month bucket

Committee recommendation: As in the draft guideline

Current norms:

Requirement of ensuring negative gap in the less than one month

bucket does not exceed 15% of net cash outflows.

Impact:

This would result in negative carry for NBFCs as they park funds in low

yielding liquid assets as against their high yielding loan assets. However, impact will

be negligible

Other Government NBFCs like RECL and POWF will have to be qualify regulatory

criteria of NBFCs earliest

Draft guideline:

Government‐owned entities that qualify as NBFCs to comply with

the regulatory framework applicable to NBFCs at the earliest

Committee recommendation: As in the draft guideline

Current norms:

They follow their own norms approved by respective ministry for

instance in case of RECL and POWF, norms approved by ministry of power

Impact

‐

RECL and POWF will have to make standard asset provisions (40bp).

‐

RECL and POWF will also have to follow the exposure norms followed by banks.

They are doing this for private sector; however, doing so for state utilities it may

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Financials

be a challenge. RECL and POWF follow 100% of net worth for a single

government utility and 250% of net worth for a group of government utilities.

Acquisition/Merger and top Management norms

‐

Any takeover or acquisition of control of a deposit taking NBFC, whether by

acquisition of shares or otherwise, or any merger/amalgamation of a deposit

taking NBFC with another entity, or any merger/amalgamation of any entity

with a deposit taking NBFC, shall require prior written approval of the Reserve

Bank of India.

‐

All registered NBFCs should take prior approval from the Reserve Bank where

there is a change in control and / or increase of shareholding to the extent of

25% in excess thereof, of the paid up equity capital of the company by

individuals or groups, directly or indirectly. Acquisitions in the ordinary course

of business by an underwriter, a stock broker and a merchant banker are not

covered by this requirement. Non‐adherence to these guidelines will result in

cancellation of the Certificate of Registration of the concerned NBFC.

‐

Appointment of CEOs of NBFCs with asset size of INR10b and above would

require the Reserve Bank’s prior approval. The number of Directorships held by

a single director of any NBFC, public or private, may not exceed the maximum

number prescribed under Section 275 of the Companies Act 1956 (i.e. 15

companies in general).

Disclosure norms increased

‐

All registered NBFCs should disclose their registration with other regulator(s)

such as SEBI, IRDA, Stock Market and Commodity Exchanges, as well as any

credit ratings assigned by rating agencies. In addition, all registered NBFCs

should disclose penalties, if any levied by any regulator.

‐

NBFCs with asset size of INR.10b and above will need to comply with mandatory

disclosures under Clause 49 of the SEBI listing agreement, irrespective of

whether they are listed or not. Additionally, they will need to disclose their

provision coverage ratio, liquidity ratio, asset liability profile, extent of financing

of parent company products, NPAs and movement of NPAs, details of all off‐

balance sheet exposures, structured products issued by them as also

securitization/assignment transactions and other disclosures.

‐

In the case of unlisted NBFCs with asset size of INR.10b and above, these

disclosures should be made available on their websites.

Others

‐

Higher risk weightage of 125% and 150% for CRE and capital market exposures

v/s 100% currently.

‐

All deposits taking NBFCs to be rated within a year otherwise will not be allowed

to accept deposits

‐

Acceptance of deposits should not be more than 2.5x of Net Owned Fund v/s

maximum of 4x currently.

Broadly, the guideline encompasses various aspects of regulating NBFCs with a view

to reducing the regulatory arbitrage, enhancing the supervisory framework to make

it more efficient and strengthening governance.

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Financials

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Financials

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