Non-Banking Financial Institutions

Introduction

 Non-Banking Financial Services are provided by Non Banking Financial Institutions(NBFIs) which are an important alternative channel of finance for the commercial sector in India’s bank dominated financial sector. Their role in promoting financial inclusion and catering to the needs of small businesses and specialised segments is an additional dimension of their relevance in the Indian context. Regulations relating to governing non-banking financial companies (NBFCs) are being increasingly harmonised with those of banks to forge the right balance for financial stability while encouraging them to focus on specialised areas. Non-Banking Financial Institutions (NBFIs) have been intermediating a growing share of the resource flows to the commercial sector. NBFIs regulated by the Reserve Bank are All-India financial institutions (AIFIs), non-banking financial companies (NBFCs) and primary dealers (PDs) . AIFIs, largely an outcome of development planning in India, were created as apex public entities for providing long-term financing / refinancing to specific sectors. 

The Reserve Bank regulated NBFI sector grew by 15.8 per cent in 2017-18; by the end of March 2018, it was 19.8 per cent of the scheduled commercial banks (SCBs) taken together in terms of balance sheet size. Within the NBFI sector, AIFIs constituted 23 per cent of total assets, while NBFCs represented 75 per cent and standalone PDs accounted for 2 per cent.

All India Financial Institutions (AIFIs), NonBanking Financial Companies (NBFCs) and Primary Dealers (PDs) form three important segments of the Non-Banking Financial Institutions (NBFIs) sector in India that are regulated and supervised by the Reserve Bank. AIFIs constitute institutional mechanism entrusted with providing sector-specific long-term financing. NBFCs comprising mostly private sector institutions, provide a variety of financial services including equipment leasing, hire purchase, loans, and investments. Primary dealers (PDs) play a crucial role in fostering both the primary and secondary government securities markets. The operational and financial performance of NBFIs sector.

Non-banking financial institutions (NBFIs) comprise a heterogeneous group of financial intermediaries. Those under the regulatory purview of the Reserve Bank consist of all-India financial institutions (AIFIs), nonbanking financial companies (NBFCs) and  primary dealers (PDs) AIFIs are apex institutions established during the development planning era to provide long-term financing/refinancing to specific sectors such as (i) agriculture and rural development; (ii) trade; (iii) small industries; and (iv) housing. NBFCs are dominated by joint stock companies, catering to niche areas ranging from personal loans to infrastructure financing. PDs play an important role as market makers for government securities. Although housing finance companies, merchant banking companies, stock exchanges, companies engaged in the business of stockbroking/sub-broking, venture capital fund companies, nidhi companies, insurance companies and chit fund companies are also NBFCs, they have been exempted from the requirement of registration with the Reserve Bank under Section 45-IA of the RBI Act, 1934

A non-bank financial institution (NBFI) is a financial institution that does not have a full banking license or is not supervised by a national or international banking regulatory agency. NBFIs facilitate bank-related financial services, such as investment, risk pooling, contractual savings, and market brokering. Examples include:

1. All India Financial Institutions (AIFI)

         Exim

         Nabard

         Sidbi

         NHB

2. Non banking financial companies

3. Primary Dealers (PD)    

 

 

1. All India Financial Institutions

At the end of March 2018, there were four financial institutions under the regulation and supervision of the Reserve Bank viz., the Export Import Bank of India (EXIM Bank), the National Bank for Agriculture and Rural Development (NABARD), the Small Industries Development Bank of India (SIDBI) and the National Housing Bank (NHB). Four AIFIs viz., the EXIM Bank, the NABARD, the NHB and the SIDBI, are under the oversight of the Reserve Bank . (Table 1)

Table 1: Ownership Pattern of AIFIs

(End-March 2017)

Institutions	Ownership	Share
EXIM	Government of India	100.0
NABARD	Government of India	99.6
	Reserve Bank of India	0.4
NHB	Reserve Bank of India	100.0
SIDBI*	Public Sector Banks	61.6
	Insurance Companies	18.5
	Financial Institutions	4.5
	Others	15.4

*: State Bank of India (16.7 per cent), IDBI Bank Ltd. (16.3 per cent) and Government of India (15.4 per cent) are SIDBI’s three major shareholders.

At the end of March 2018, there were four financial institutions under the regulation and supervision of the Reserve Bank viz., the Export Import Bank of India (EXIM Bank), the National Bank for Agriculture and Rural Development (NABARD), the Small Industries Development Bank of India (SIDBI) and the National Housing Bank (NHB) (Chart VI.26). 

 

Chart VI.26: Ownership Pattern of AIFIs

( at end-March 2018)

*The financial year for EXIM Bank, SIDBI and NABARD runs from April to march and for NHB, it runs from July to June. ?

Financial assistance sanctioned by AIFIs during 2017-18 increased by 2.4 per cent whereas disbursement growth was robust at 21.1 per cent in line with an upturn in overall economic activity. Disbursement by all AIFIs expanded during the year, with the largest expansion recorded by SIDBI mainly reflecting increase in refinancing to the banks for on-lending to the MSME sector liability side, bonds and debentures and other borrowings also increased during the year to finance increased credit disbursement and investment activities. AIFIs largely raised short-term funds for financing their activities. While the NHB accounted for more than half of the total resources raised in 2017-18, the EXIM Bank accounted for the least, with most of its funds being foreign currency borrowings. Resources mobilised by the AIFIs through CPs, certificate of deposits, and term deposits increased during 2017-18. This resulted in higher utilisation of borrowing limits. The NABARD and the SIDBI together constituted 80 per cent of all resources raised by the AIFIs from the money market.

The total amount of the AIFIs’ net NPAs as well as their net NPA ratio declined during 2017-18 as both EXIM Bank and SIDBI reported a decline The sharp decline in net NPA of EXIM bank was partly reflective of higher provisioning The NPAs of AIFIs experienced aging, with sub-standard assets moving to the doubtful assets category in 2017-18. This was mainly evident in the case of EXIM Bank—which accounted for 94.5 per cent of the doubtful assets of all AIFIs taken together as at endMarch 2018.

2.  Non-Banking Financial Companies (NBFCs)

Non-Banking Financial Company (NBFC) is a company registered under the Companies Act, 1956. It is engaged in the business of loans, securities, insurance, chit funds etc. They also provide products/services that includes margin funding, leasing and hire purchase, corporate loans, investment in non-convertible debentures, IPO funding, small ticket loans, venture capital etc.

Importance of NBFC’S

According to RBI Non-Banking Finance Companies (NBFCs) is a constituent of the institutional structure of the organized financial system in India. NBFCs perform a significant and important role in our financial system. They facilitate the process of channelizing of public savings and provide better return to the depositors. We are aware that due to liberalization and globalisation, banking industry and financial sector has gone through many reforms. In the present economic environment, it is very difficult to cater the need of society by Banks alone, so role of Non-Banking Finance Companies have become indispensable. The activities of non-banking financial companies(NBFCs) in India have undergone qualitative changes over the years through functional specialisation. The role of NBFCs as effective financial intermediaries has been well recognised as they have inherent ability to take quicker decisions, assume greater risks, and customise their services and charges more according to the needs of the clients. While these features, as compared to the banks, have contributed to the rapid increase of NBFCs, their flexible structures allow them to unbundle services provided by banks and market the components on a competitive basis. The distinction between banks and non-banks has been gradually getting blurred since both the segments of the financial system engage themselves in many similar types of activities. At present, NBFCs in India have become prominent in a wide range of activities like hire-purchase finance, equipment lease finance, loans, investments, etc. By employing innovative marketing strategies and devising tailor-made products, NBFCs have also been able to build up a clientele base among the depositors, mop up public savings and command large resources as reflected in the growth of their deposits from public, shareholders, directors and their companies, and borrowings by issue of non-convertible debentures, etc Double-digit growth in credit extended by NBFCs has improved resilience and stability of the economy by filling up the financing gap opened by the muted bank credit growth from 2014. 

Role OF NBFC’S

(1)  Promoters Utilization of savings: Non-banking financial companies pay an important role in promoting the utilization of savings among public. NBFC’s can reach certain deposit segments such as unorganized sector and small borrowers were commercial bank cannot reach. These companies encourage savings and promote careful spending of money without much wastage. They offer attractive schemes to suit needs of various sections of the society. They also attract idle money by offering attractive rates of interest. Idle money means the money which the public keep aside, but which is not used. It is surplus money

(2)  Provides easy timely and unusual credit: NBFC’s provide easy and timely credit to those who need it. The formalities and procedures in case of NBFCs are also very less NBFCs also provides unusual credit means the credit which is not usually provided by banks such as credit for marriage expenses, religious functions, etc the NBFC’s are open to all everyone whether rich or poor can use them according to their needs.

(3) Financial super market: NBFCs play an important role of a financial supermarket. NBFCs create a financial supermarket for customers by offering a variety of services. Now NBFCs are providing a variety of services such as mutual funds, counselling, merchant banking etc apart from their traditional services. Most of the NBFCs reduce their risks by expanding their range of products and activities.

(4) Investing funds in productive purposes: NBFCs invest the small savings in productive purposes. Productive purposes mean they invest the savings of people in businesses which can earn good amount of returns. For example – In case of leasing companies lease equipment to industrialists, the industrialists can carry on their production with less capital and the leasing company can also earn good amount of profit.

(5) Provide housing finance: NBFCs, mainly the Housing Finance companies provide housing finance on easy term and conditions. They play an important role in fulfilling the basic human need of housing finance. Housing finance is generally needed by middle class and lower middle-class people. Hence, NBFCs are blessing for them.

(6) Provide investment advice: NBFCs mainly investment companies provide advice relating to wise investment of funds as well as how to spread the risk by investing in different securities they protect the small investors by investing their funds in different securities. They provide valuable services to investors by choosing the right kind of securities which will help them in gaining maximum rate of returns. Hence NBFCs plays an important role by providing sound and wise investment advice.

(7) Increase the standard of living: NBFCs play an important role in increasing the standard of living in India. People with lesser means are not able to take the benefit of various goods which were once considered as luxury but now necessity, such as consumer durables like television, refrigerators, air conditioners, Kitchen equipment’s, etc. NBFCs increase the standard of living by providing consumer good on easy instalment basis NBFCs also facilitate the improvement in transport facilities through hire purchase finance etc improved and increased transport facilities help in movement of goods from one place to another ad availability of goods increase the standard of living of the society. 

(8) Accept deposits in various forms: NBFC’s accept deposits forms convenient in public. Generally, they receive deposits from public by way of depositor a loaner in any form. In turn the NBFC’s issue debentures unit’s certificates savings certificates units etc to the public.

(9) Promote economic growth: NBFC’s play a very important role in the economic growth of the country. They increase the rate of growth of the financial market and provide a wide variety of investors. They work on the principals of providing a good rate of return on saving while reducing the risk to maximum possible extent. Hence, they help in the survival of business in the economy by keeping the capital market active and busy. the also encourage the growth of well organised business enterprises by investing their funds in efficient and financially sound business enterprises only.

One major benefit of NBFC’s speculative business means investing in risky activities. The investing companies are interested in price stability and hence NBFC’s have a good influence on the stock market. NBFC’s play a very positive and active role in the development of our country.

Function of Non-Banking Financial Companies:

(1) Receiving benefits: The primary function of NBFC’s is receive deposits from the public in various ways such as issue of debentures, savings certificates, subscription, unit certification, etc. thus, the deposits of NBFCs are made up of money received from public by way of deposits or loan or investment or any other form.

(2) Lending money Another important function of NBFCs is lending money to public. Non-banking financial companies provide financial assistance through: 

                                                                (a) Hire purchase finance: Hire purchase finance is given by NBFC’s to help small important operators professionals and middle-income group people to buy the equipment on the basis                                                                        on hire purchase. After the last instalment of Hire purchase paid by the buyer, the ownership of the equipment passes to the buyer.

                                                                (b) Leasing finance: In leasing finance, the borrower of the capital equipment is allowed to use it as hire against the payment of a monthly rent. The borrower need not purchase the                                                                               capital equipment, but he buys the right to use it.

                                                                (c) Housing finance: NBFC’s provide housing finance to the public, they fiancé for construction of houses, development of plots, land, etc.

History of NBFCS in India

The Reserve Bank of India Act, 1934 amended on 1 December 1964 by Reserve Bank Amendment Act, 1963. In this new 'Chapter III-B' introduced to Regulate 'Deposit Accepting' NBFCs. The different types of Committees to Review existing framework of NBFCs are

James S. Raj Committee

In early 1970s Government of India asked Banking Commission to Study the Functioning of Chit Funds and Examining activities of Non-Banking Financial Intermediaries. In 1972, Banking Commission recommended Uniform Chit Fund Legislation to whole country. Reserve Bank of India prepared Model Bill to regulate the conduct of chit funds and referred to study group under the Chairmanship of James S. Raj. In June 1974, study group recommended ban on Prize Chit and other Schemes. Directed the Parliament to enact a bill which ensures uniformity in the provisions applicable to chit funds throughout the country. Parliament enacted two acts. Prize Chits and Money Circulation Schemes (Banning) Act, 1978 and Chit Funds Act, 1982.

Chakravarty Committee

During Planning Era, Reserve Bank of India tried best to 'Manage Money' and evolve 'Sound Monetary' system but no much appreciable success in realising social objectives of monetary policy of the country. In December 1982, Dr Manmohan Singh, Governor of RBI appointed committee under the Chairmanship of 'Prof Sukhamoy Chakravarty' to review functioning of monetary system in India. Committee recommended assessment of links among the Banking Sector, the Non-Banking Financial Institutions and the Un-organised sector to evaluate various instruments of Monetary and Credit policy in terms of their impact on the Credit System and the Economy.

Dr. A.C. Shah Committee (1992)

The working group of financial companies constituted in April 1992 i.e. the shah committee set out the agenda for reforms in the NBFC sector. This committee made wide ranging recommendations covering inter-alia entry point norms for NBFCs on the lines of banks, stipulation of credit rating for acceptance of public deposits and more statutory powers to reserve bank for better regulation of NBFCs. 

Classification of NBFCs According to RBI

NBFCs are classified on the basis of their liability structures, the type of activities they undertake and their systemic importance.

NBFCs were categorized as Type I and Type II companies in June 2016. The applications for Type I NBFCs, which do not have / intend to accept public funds and do not have / intend to have customer interface,areconsidered on a fast- track basis.

In terms of liability structure, NBFCs are classified into two categories

(i) NBFC accepting deposits from customers

(ii) NBFC which does not take deposits from customers

• NBFCs taking deposits from public are referred to as NBFC-D and those who don’t take public deposits are referred to as NBFC- ND • Those NBFCs, NBFCs-ND with an asset size of Rs.100 crore and above (as per the last audited balance sheet) are designated as systemically important NBFCs- ND (NBFCs-ND-SI)

 Among NBFCsND, those with an asset size of ?5 billion or more are classified as NBFCs-ND-SI. At the end of September 2018, there were 108 NBFCs-D and 276 NBFCs-ND-SI as compared with 168 and 230, respectively, at the end of March 2018. Since 1997, the Reserve Bank has endeavoured to limit the operations and growth of NBFCs-D with the objective of securing depositors’ interest. This strategy was adopted in recognition of the fact that these deposits are not covered by the Deposit Insurance and Credit Guarantee Corporation (DICGC). NBFCs-D with investment grade rating are allowed to accept fixed deposits from the public for a tenure of 12 to 60 months only with interest rates capped at 12.5 per cent. 

NBFCs can also be categorised on the basis of activities undertaken as they typically focus on niche segments and fulfil sector– specific requirements. Consequently, their varied business models require appropriate modulation of the regulatory regime. Till 2010, the NBFC sector was divided into five categories viz., asset finance companies; loan companies; residuary non-banking companies; investment companies and mortgage guarantee companies. Since then, however, newer types of activity have been added to the NBFC space. At the end of September 2018, there were 12 activity-based classifications of NBFCs.(Table VI.1)

 

Table VI.1: Classification of NBFCs by Activity

 

At the end of September 2018, the number of NBFCs registered with the Reserve Bank declined to 10,190 from 11,402 at the end of March 2018. NBFCs are required to have a minimum net owned fund (NOF) of ?20 million. In a proactive measure to ensure strict compliance with the regulatory guidelines, the Reserve Bank cancelled the Certificates of Registration (CoR) of NBFCs not meeting this criterion. The number of cancellations of CoRs of NBFCs has exceeded new registrations in recent years. 

Ownership Pattern  NBFCs

NBFCs-ND-SI constitute 84.8 per cent of the total assets of the NBFC sector. Within the NBFCs-ND-SI sphere, government owned NBFCs hold more than a third assets, indicating their systemic importance (Table VI.2). During 2017-18, the regulatory requirements for government-owned NBFCs—both non-deposit taking and deposit taking—were aligned with those for other NBFCs in a phased manner. NBFCs-D accounted for 15.2 per cent of total assets and 17.6 per cent of the total credit deployed by NBFCs at the end of March 2018. Non-government companies dominate this segment, accounting for 87.5 per cent of assets of all NBFCs-D. Unlike private limited NBFCsND-SI in which 98 companies constituted 16.1 per cent of the total assets, four private limited NBFCs-D accounted for 21.9 per cent of total assets, pointing to concentration of assets. 

Table VI.2: Ownership Pattern of NBFCs

(At end-March 2018) 

Sectoral Credit of NBFCs

Industry accounts for more than half of total credit extended by NBFCs, followed by retail, services and agriculture. A significant part of the credit to industry is provided  by government-owned NBFCs, especially by NBFCs-IFC. Retail loans of NBFCs grew at a robust 46.2 per cent during 2017-18—on top of a growth of 21.6 per cent during 2016-17—reflecting upbeat consumer demand, especially in the vehicle loans segment. Credit to the services sector was driven mainly by commercial real estate and retail trade. The growth in lending to commercial real estate is noteworthy in view of a sharp deceleration in SCBs’ credit to this sector. Credit to agriculture and allied activities revived during 2017-18, reflecting the low base of the preceding year. NBFCs’ lending to the MSME sector was also robust, compensating for the deceleration in SCBs’ credit (Table VI.6). Increasingly, NBFCs are looking for newer avenues to diversify their lending portfolios . 

 

Table VI.6: Credit to Select Sectors by NBFCs

Regulations on NBFCs taking Deposits

1. All NBFCs are not entitled to accept public deposits. Only those NBFCs holding a valid certificate of registration with authorization to accept public deposits can accept/hold public deposits

2. New NBFCs are not allowed to raise public deposits for period of two years from the date of registration. After completion of two years, detailed review is taken of the company by the regulator

3. The NBFCs can accept/renew public deposits for a minimum period of 12 months and maximum period of 60months. They cannot accept deposits repayable on demand

4. NBFCs cannot offer interest rates higher than the ceiling rate prescribed by RBI from time to time. The present ceiling is 12.5per cent per annum. The interest may be paid or compounded at rests not shorter than monthly rests.

5. NBFCs cannot accept deposits from NRI except deposits by debit to NRO account of NRI provided such amount do not represent inward remittance or transfer from NRE/FCNR account.

6. NBFCs with net owned fund (NOF) of less than Rs.25 lakhs (with or without credit rating) are not entitled to accept public deposits

7. Evaluation of the quality of management in respect of the promoters/directors is taken into consideration while giving allowance for taking public deposits

Ongoing Regulations: NBFCS-D (Holding Public Deposits)

The NBFCs accepting public deposits should furnish to RBI:

• Audited balance sheet of each financial year and an audited profit and loss account in respect of that year as passed in the general meeting together with a copy of the report of the Board of Directors and a copy of the report and the notes on accounts furnished by its Auditors

• Statutory Annual Return on deposits - NBS 1

 Certificate from the Auditors that the company is in a position to repay the deposits as and when the claims arise

• Quarterly Return on liquid assets • Half-yearly Return on prudential norms

• Half-yearly ALM (Asset Liability Management) Returns by companies having public deposits of Rs 20 crore and above or with assets of Rs 100 crore and above irrespective of the size of deposits • Monthly return on exposure to capital market by companies having public deposits of Rs 50 crore and above

• A copy of the Credit Rating obtained once a year along with one of the Half-yearly returns on prudential norms

Other Regulations: NBFCs-ND (Not Holding Public Deposits)

• The NBFCs-ND having assets size of Rs 100 crore are required to submit a Monthly Return on important financial parameters of the company

• Board resolution to be passed to the effect that the company have neither accepted public deposit nor would accept any public deposit during the year

3. Primary Dealers

 As on March 31, 2018, there were 21 primary dealers (PDs) – 14 operating as departments of banks and 7 standalone PDs registered as NBFCs under Section 45 IA of the RBI Act, 1934. 

Operations and Performance of PDs

The PDs have mandatory obligations to participate as underwriters in auctions of government dated securities. They are also mandated to achieve a minimum success ratio (bids accepted as a proportion to bidding commitments) of 40 per cent in primary auctions of treasury bills (T-bills) and cash management bills (CMBs), assessed on a halfyearly basis.

With respect to auctions of T-bills and CMBs, all PDs achieved the stipulated minimum success ratio of 40 per cent. Outperforming their minimum prescribed performance threshold in 2017-18, the PDs achieved a share of 66.5 per cent in total issuance of T-Bills / CMBs during the year, though it was lower than 74.4 per cent in the previous year. In H1:2018-19, the PDs achieved a share of 72.1 per cent in total issuance of T-Bills/CMBs. 

During 2017-18, the government issued dated securities with face value of ?5,880 billion through auctions, marginally higher than ?5,820 billion during the previous year. PDs’ share of allotment in the primary issuance of dated securities rose during 2017-18 to 53.7 per cent compared to 47.5 per cent in 2016-17. However, against a total issuance of ?2,760 billion during H1:2018-19, allotment to PDs stood at 46.9 per cent as against 49.3 per cent during H1:2017- 18 . There was partial devolvement on three instances amounting to ?103 billion during 2017-18 as against four instances amounting to ?53 billion in 2016-17. Furthermore, there was devolvement on four instances during H1:2018- 19, amounting to ?80 billion. The underwriting commission paid to PDs increased significantly to ?613.1 million in 2017-18 as compared with ?356.6 million in the previous year due to the higher possibility of devolvement. Consequently, the average rate of underwriting commission increased in 2017-18 vis-a-vis 2016-17. In H1: 2018-19, underwriting commission paid to PDs amounted to ?876.3 million. 

In the secondary market, all PDs individually achieved the required minimum annual total turnover ratio target in outright and repo transactions for dated G-secs and T-bills. For the period H1:2018-19 as well, the required minimum annual total turnover ratio target was achieved by all PDs individually.

Performance of Standalone PDs 

The secondary market turnover of standalone primary dealers (SPDs) decreased on a year-on-year basis in the outright segment while it increased marginally in the repo segment during 2017-18, reflecting underlying slack in the market. However, the SPDs’ share in outright, repo and total market turnover increased marginally during the year. For the period H1:2018-19, the share of SPDs in the secondary market in the outright and repo segment was 31.7 per cent and 33.9 per cent, respectively. Total market share across both segments was 33.0 per cent for the period. 

During 2017-18, PDs achieved the minimum success ratio prescribed for them in primary auctions of T-bills and CMBs as well as in outright and repo transactions in the secondary market. The average underwriting commission paid to PDs during the year also increased due to an increase in devolvement. The net profits of SPDs, especially their trading profits declined considerably in 2017-18 due to the prevalence of market uncertainties. However, they have a comfortable capital position.