Research on Turning Nbfcs into Banks Finance Essay

Check out more papers on Bank Banking Investment
NBFCs are purveyors of credit to the sectors where credit gap exists. It has been observed that in many places in India, the small and local entrepreneur goes first to an NBFC for funds even before approaching banks in view of the former's convenient access, freedom from red-tape and hassle free transactions. The expansion of the consumer durable business in India over the last few years can be attributed to NBFCs entering the trade. The activities of NBFCs in India have undergone a plethora of qualitative changes over the years because of functional specialization. NBFCs have grown as an effective and critical financial intermediary due to their inherent ability to take quicker decisions, assume greater risks, and customize their services according to the needs of the clients. These features help them score over banks and thus have contributed to the proliferation of NBFCs. As can be seen from the above figures from the year 2006-07 onwards the capital has been growing at a lower rate than the loans and advances shelled out by the deposit taking NBFCs. This widening growth rate implies that most of the loans and advances are being funded using borrowings, though capital adequacy ratio is maintained but there is a shift in dependence from capital to other sources of funds. The year 2008-09 can be taken as an exception on account of the economic downturn. This signifies that the business model of deposit taking NBFCs is not in a right track and needs to be corrected so that the growth rates could be comparable. In the given scenario, if the loan portfolio goes bad, there is high probability of the capital being wiped out and hence depositors could be at risk. Also it has been seen that in comparison to banks which have a NPA level of around 2-3 percent, many NBFCs have a higher NPA level, thus making them more vulnerable to risk. Thus their conversion to banks on this account seems to be difficult and bumpy. Shriram transport finance, owing to it unique nature of operations, seems to be on the verge of breaking the trade off. It has a yield of 17.2 % (in line with the customers and the market segment is addresses, mostly those who have no or limited access to banking channels), a NPA figure comparable to that of banks. It has reached a scale of Rs 30000 Crore on March 2010, indicating it has managed the tradeoffs well Thus, we see that there are certain NBFCs which have comparable NPA levels as of banks and have better yields too, hence can put their case forward and their conversion into banks should not be as bumpy as expected, though the only problem is they target a specific segment of customers. The current guidelines that came in 2001 specify Rs. 200 crore as the minimum starting capital for new bank to be increased to Rs. 300 crore over three years from commencement of business. Industry body CII is demanding the minimum capital to be raised to Rs. 1000 crore [1] . The argument of RBI is that a higher minimum capital ensures only serious players enter the business and also a higher capital provides higher safety and stability in bad times. Raising a capital of Rs. 200 crore to start with will be beyond the reach of small players and hence, only large established business houses, large NBFCs and some high net worth individuals are likely to pass this criterion. Currently, In India the promoters are allowed to bring in higher stake (minimum of 40 percent of the paid-up capital of the bank) at the time of licensing of banks with a lock-in period of 5 years. The main intention is to have a stable capital base with strong professional management, but without any interference or control of management by the promoters. The February 2005 Ownership and Governance (O & G) guidelines require promoters and other shareholders of the banks to divest/dilute their shareholding to a level of 10 percent or below of the bank's share capital within a specified time frame. Given that, it is likely that quite a few promoters will try to create a holding company with the bank as a subsidiary [2] . This structure, which is called Bank Holding Company (BHC), is also open to debate as RBI feels that some promoters may find ways to control the functioning of bank and affect the integrity of the business in the process. Foreign shareholding in new banks While foreign capital providers an alternate source of capital, the plethora of regulations over foreign investment in various sector suggests that RBI is likely to keep the cap (50% or below, locked at that level for initial 10 years [3] ) on aggregate foreign investment in banks. Although, this will be in contrast to the current FDI policy in private sector banking (74% foreign equity allowed).

NBFCs' conversion into banks

NBFCs are very strong contenders of new banking licenses. Deposit taking NBFCs (NBFCs-D) have been regulated by RBI for a long time now but non-deposit taking NBFCs (NBFCs-ND) also have been brought under some stricter regulations in recent times. Still, deposit taking NBFCs are closer to banks when it comes to regulations, something that should help their claim to a new bank license. RBI thinks that the regulations for NBFCs have not been stringent enough compared to banks and NBFCs' capability to work under stricter regulations can be questioned. Therefore, the 'track record' of an NBFC cannot be taken as an automatic eligibility criterion for conversion into banks. Hence the conversion to banks for NBFCs would not be an easy ride. Considering the various issues that RBI is pondering over regarding new banking licenses, we have come with a set of criterion that can be used to evaluate few likely contenders for banking licenses. The criteria would also help us in identifying the bumps which various NBFCs would face in their conversion to banks. As a sample, we have taken three NBFCs into consideration: 1. Religare Enterprises, 2. Reliance Capital and 3. Shriram Transport Finance Company NBFCs-D have been regulated by RBI for long time and their regulations are similar to, though not as strict as, that of banks. Gross NPA's to advances- less for NBFC-D compared to NBFC-SI ND, hence better deposit directions and other measures signify they are better suited for conversion into banks than non deposit taking NBFCs. Hence an NBFC-D can be considered forerunner in getting the new bank license.

Table 5: Comparison of few NBFCs over criteria of new bank license

Legend: Favorable Unfavorable As we see, large NBFCs are in better position to raise the minimum starting capital required. RBI is averse in giving license to companies that belong to groups having exposure to other industrial sectors. All NBFCs having a real estate exposure are at a disadvantage and are not preferred by RBI.

Conclusion

Thus, we saw that there are numerous bumps in the road which leads NBFCs to banks. But at the same time, many NBFCs have a strong case and the road for them seems to be smooth. The hurdles were manifold and had diverse origins, some stemmed from the widening gap between capital and advances base thus making the business model risky while others came from the difficulties in complying with RBI guidelines like exposure to other sectors. Some of the NBFCs though have showed that they are on par with the traditional banks, and hence are strong contenders of the license. Even if some of the NBFCs do get converted into banks, they face a bumpy ride under the stricter regulations enforced by RBI and the need to reduce their existing NPA levels. So, while analysing the future of NBFCs in Indian Financial system, we see three possibilities arising: a) Conversion into banks, b) Remain as NBFCs and serve the niche segment, and c) become Business Correspondent- There seems to be a direct match between the strengths of NBFC model and the requirements out of a Business Correspondent in terms of coverage, financial strength, better technology and governance. NBFC segment is too varied and diversified to chalk out a single future path for all of them and considering continuing different needs in present economy, it is better for economy that NBFCs continue exist in different forms.
Did you like this example?

Cite this page

Research On Turning Nbfcs Into Banks Finance Essay. (2017, Jun 26). Retrieved March 29, 2024 , from
https://studydriver.com/research-on-turning-nbfcs-into-banks-finance-essay/

Save time with Studydriver!

Get in touch with our top writers for a non-plagiarized essays written to satisfy your needs

Get custom essay

Stuck on ideas? Struggling with a concept?

A professional writer will make a clear, mistake-free paper for you!

Get help with your assignment
Leave your email and we will send a sample to you.
Stop wasting your time searching for samples!
You can find a skilled professional who can write any paper for you.
Get unique paper

Hi!
I'm Amy :)

I can help you save hours on your homework. Let's start by finding a writer.

Find Writer