LLOYDS FINANCE LIMITED
THE COMPANY'S PERFORMANCE
I need not elaborate how inclement were the business conditions last year.
Your Company, despite difficult conditions, recorded positive growth in
post tax profit, outperforming several recognised leaders in the industry
who recorded negative growth. Despite growth of 57% in non-cash charge, the
post tax profit at Rs.47.33 crore is up by 15.22%, whereas the income has
crossed Rs.200 crore mark. Fresh lease and hire purchase disbursements
stood at Rs.393 crore, up by 44%. The asset base has crossed Rs.1000 crore
I am not aware, as to whether any other company has recorded over 200%
growth in deposits for five years in a row. My grateful thanks to the 2.35
lac depositors all over India for their trust and confidence in the
As for shareholders, the Company continues to add value to their
investments. After a 1 for 2 bonus issue, the second in three years, the
shareholders should find the EPS of Rs. 21.05, cash EPS of Rs. 47.33, book
value of Rs.72.26 and dividend of 32% (40% considering 50% bonus shares)
satisfying, if I may say so.
CREDIT RATING & CAPITAL ADEQUACY
All the instruments issued by your Company in raising resources are
The OFCDs and NCDs continue to enjoy the AA+ rating, the next to highest
Higher capital adequacy is an unimpeachable tenet to your Company. The
Company believes that capital adequacy, for higher safety to depositors,
investors and lenders, be maintained at all points in time between 18% and
NBFCs - CHANGE OF HEART
I recall my statement in the last Annual General Meeting that it is an
irony that regulatory authorities are yet to be convinced about the
relevance of NBFCs. It appears that regulatory authorities have taken note
of this observation. In June 1996, RBI affirmed, for the first time, that
non-banking financial companies have emerged as an integral part of the
Indian financial system. The RBI expects NBFCs to continue to play an
expanded role for accelerating the pace of growth of the financial market
including the capital markets, offering competition and providing wider
choice to investors. RBI now recognises that NBFCs are growing both in
magnitude and depth, and that these intermediaries are helping bridge
credit gaps in several sectors which traditional institutions are unable to
In my view, NBFCs have become a source which could, and should be harnessed
by RBI for the greater goal of gearing up the financial system for the
enormous challenges ahead. The NBFCs are complementary to the banking
system and not competitors. The economy is in a process of rapid churning,
and the nation would require judicious integration of the reach of the
banking system and the zeal of the NBFCs.
The recent announcement for freeing of interest rates on fixed deposits is
the first indication of change of heart at RBI. This move will make many
NBFCs conform to prudential norms. It intends to reward prudency and
performance and is a step in the right direction to separate the grain from
the chaff. In a fiercely competitive industry like ours, the efficient ones
would rise rapidly while the laggards gradually fade away.
However, we must learn to exercise freedom with caution. Freedom should
not be treated as a licence, but, treated as a privilege. Freedom has a
tendency to unfold to the limits of logic, and this is a greater threat. It
must be ensured that freedom to offer interest rate on deposits i not
misused, so also the freedom to deploy resources in imprudent schemes, as
both will prove detrimental to the interest of depositors.
Apart from freedom to offer interest rate on deposits, another benefit that
RBI-certified deposit-taking NBFCs enjoy is to accept deposits without
limit. However, the latter benefit is of no use to highly rated
/companies. Apart from the fact that the deposits is a short term resource,
rating agencies do not allow Triple A rated companies to have a debt equity
gearing of more than 5. It is, therefore, necessary to introduce a few more
incentives to RBI certified deposit taking NBFCs. One that comes to mind,
is to extend deposit insurance to the depositors of such companies. Yet
another is to lower Statutory Liquid Reserve requirement to 10% and make
its maintenance on fortnightly basis, instead of daily, now.
NBFCs AND BANKS/FINANCIAL INSTITUTIONS
It appears, RBI has not shifted its stance on NBFCs' relationship with
banks and financial institutions. In September 1994, RBI slashed NBFCs'
eligibility for finance from banks and financial institutions. The recent
policy change announced by RBI indicates that it does not have the same
fears or reservations on NBFCs, more particularly those complying with
prudential guidelines, as it had in September 1994. With high credentials,
sound financials, profitable performance, no default and overdues, NBFCs,
particularly those complying with prudential accounting norms and high
credit rating, have established their credentials for better treatment from
banks and financial institutions. No NBFC figure in the list of defaulters
of banks released to the Press recently. In addition, NBFCs pay interest
higher than manufacturing companies. NBFCs, as RBI admits, "bridge the
credit gaps in several sectors which the traditional institutions are
unable to fulfil". NBFCs finance assets that go in capital formation.
Then, why this discrimination and reservation, particularly, when credit
offtake of the banking system has slackened.
NBFCs - REGULATION ND LEGISLATION
RBI is sitting on the horns of a dilemma, when it is expected to supervise
40,700 NBFCs. The general public cannot be faulted for assuming that NBFCs
are regulated effectively by RBI. The chief deterrent to the regulatory
efficiency is the sheer number of NBFCs, apart from unwieldy geographical
This is excluding unincorporated bodies, which are not companies
incorporated under the Companies Act. Worse, the numbers keep growing
exponentially each month. Worse still, is the anomalous state of affairs in
the operation of NBFCs - a free highway for entry but none to force
defaulter to the exit. The situation is tailor-made for chaos. is it not
signaled from the fact that only 8634 financial companies provided summary
details of deposits to RBI. How does one regulate without data?
The proposed amendment to Section 3(B) of the RBI Act does solve the
problem but only to a limited extent. It extends RBI's jurisdiction to
unincorporated bodies. Regulations governing the NBFCs have been issued in
piece-meal. Today, the products offered by NBFCs go beyond equipment
leasing or hire purchase. Have we provided a definition to the term "Non
Banking Financial Company". What is really meant by 'non banking'.
Whereas, NBFCs are not looking for exclusivity in products and services
offered by them, several products offered by NBFCs overlap with banks.
Besides, absence of exclusive legislation for NBFCs, has created hurdles in
their growth and functioning. A NBFC, in many respects, is governed by the
Companies Act, which does not define a "finance company". That is why
archaic regulations, like, Section 370 and 372 of the Companies Act cause
embarrassment to both the NBFCs and regulators.
Considering the sheer size of the industry, its perceived alarming growth
and inadequacy of the existing legal framework, it is high time, that a
comprehensive legislation is enacted, either on the lines of Financial
Services Act - 1986 of U.K., which regulates the entire investments and
investment business, or at home, on the lines of the Banking Regulation
In January 1996, the Supreme Court has suggested to the Union Government to
consider creation of a separate instrumentality for regulation and
supervision of NBFCs and extension of deposit protection measures. It is
heartening to note that RBI has set up a Working Group to examine all
related issues. The terms of reference are wide, far reaching and timely.
In the context of multiple laws applicable to NBFCs, some of them indeed
being archaic and multiple agencies regulating them, it is a step in the
right direction. In fact, a single comprehensive legislation and a single
regulatory authority, will do a lot good to effective monitoring of NBFCs.
NBFCs - DISMAL REGULATORY COMPLIANCE
Strengthened supervisory system is an essential pre-requisite for the
success of the reforms process. Such supervisory policies should be
combined with a regulatory framework which would reward prudent operations
and expeditiously penalise imprudent practices.
Notwithstanding the fact that two years ago, RBI made it mandatory for
registered NBFCs to submit half yearly prudential returns and obtain a
minimum credit rating, of the 745 registered companies, only 352 companies
have submitted them and around 250 companies have filed credit rating. It
is believed that although more than 250 companies have been rated by rating
agencies, they are witholding submission of rating to RBI, for the rating
is below the minimum acceptable level. Apart from poor compliance of RBI's
mandatory directives, the absence of minimum acceptable rating for nearly
one-third of the registered companies speaks none-too-good for the
financial health, capital adequacy, asset quality and related parameters of
the NBFCs. If that be so, is it not time to show the stick to such
companies. Half-baked prudence does not guarantee the safety of depositor.
Some of the NBFCs have chosen not to avail of the opportunity offered by
the freedom to fix interest rate on deposits and lower statutory liquidity
requirement. They propose to continue to fight RBI certified deposit -
taking companies by offering exorbitant upfront brokerage and other
incentives in violation of RBI rules. It must be ensured that imprudent
operators do not undermine regulatory discipline.
MONITORING OF NBFCs :
THE MOST EFFECTIVE SOLUTION
Whereas, prudential norms do facilitate a more effective monitoring of
existing companies, if may not solve the problem that is caused by
indiscriminate mushrooming of NBFCs. The solution lies in stemming the
crowd. There are two ways in which the investing public interacts with
NBFCs - when they enter the capital market or when they accept fixed
deposits. In my view, the most effective wry of combating this spectre of
growing numbers amongst NBFCs, Is to raise the entry barriers for those
accepting fixed deposits, since those for accessing the capital markets
have already been raised.
No NBFC should be allowed to accept fixed deposits unless it has a minimum
paid up capital of Rs. 10 crores and a rating of 'AA' (high investment
grade). We can draw inspiration from the rules governing Deposit Taking
Companies in Hong Kong, Singapore and Malaysia. For accepting deposits, if
a private sector bank needs to have a minimum equity capital of Rs. 100
crores, for NBFCs the sum of Rs. 10 crores, itself is a substantial
concession. Besides, the company must have attained capital adequacy of 8%
at least for 2 years; the Company must be registered with RBI as per the
RBI Guidelines and must have filed prudential returns to RBI regularly.
Another aspect of monitoring NBFCs effectively is the need for a singular
regulatory authority. Today, NBFCs are governed by the RBI, Companies Act
and SEBI. A single legislation governing all aspects of NBFCs and a single
regulatory authority will make monitoring of NBFCs effective.
NBFCs - SELF REGULATION
No legislation or regulations can ever meet total compliance, unless
complemented by self-regulation. In fact, the need for a strong self-
regulatory organisation (SRO) for NBFCs, has also been highlighted by the
Shah Committee. The increasing pace of liberalisation and financial sector
reforms and further deepening of financial market, have made SROs
important. They have to ensure that individual members observe the
guidelines of regulatory authorities and function on prudential basis. A
SRO would facilitate the continuous dialogue and constant interaction
between NBFCs and RRI, leading to more orderly growth and a more meaningful
and effective monitoring by RBI.
Last year, one association has been very actively espousing the cause of
its members, be it problems with CBDT or RBI. To begin with, let this
association be converted into a SRO.
NBFCs & CAPITAL MARKETS
The stiffing of the secondary market has suffocated the primary market. The
non-existence of primary issues bodes ill for the economy. Enterprise
should be encouraged, not suppressed for some short-term designs. The NBFCs
should be tapped for introducing remedial measures. The concept of mark-t
maker needs to be given an image of greater legitimacy for it to earn the
respect of the investor which helps build trust for the system. Merchant
bankers and NBFCs could take up the task, if appropriate bank funding lines
are provided. In fact, the NBFCs should also be encouraged for inducting
greater depth and activity in the debt market in days to come.
NBFCs AND TAX LAWS
NBFCs sulfer not only from multiplicity of tax laws, some of them
contradictory in nature, but also from irrational levies and lack of
uniformity among the States.
The Income Tax Department has recently clarified that hire purchase is in
the nature of financing activity and hence, interest tax has to be paid on
finance charge. However, by the constitutional definition and under the
Sales Tax legislation of almost all the States, hire purchase is a deemed
sale" and hence Sales Tax has to be paid. One fails to understand as to how
the same transaction can be both a loan under one legislation and sale
under the other. While the States have been given power to levy sales tax
on hire purchase, how can the Income Tax Authorities, through a circular,
introduce Interest tax on hire purchase finance charge ?
In January 1996, the Income Tax Department has notified that an assessee
has either to adopt accrual basis or cash basis for accounting. This option
runs counter to the provisions of section 209 (3) b) of the Companies Act.
NBFCs are in a dilemma. They have no option but to follow the hybrid
system, since they have to adhere to prudential norms prescribed by RBI for
income recognition. They face a situation, where income is not recognized
on a past due debt, but under Income Tax, it can be treated as income and
taxed, since only one system of accounting i.e. accrual basis is allowed.
An amendment to section 145 (2) of the Income Tax Act, speciifically
exempting 1he BFC from following either of the two accounting systems and
continuing to follow hybrid system of accounting is long overdue, as has
been done in the case of banks.
Interest on government securities has been made subject to interest tax.
Narmally, interest tax paid can be recovered from the borrowers. There is,
however, no provision to recover the interest tax from the government.
Hence, no interest tax should be charged on the interest received by NBFCs
on the government securities invested, to comply with statutory liquidity
The TDS limit for interest at Rs. 2500/- for NBFCs was fixed far back in
1987. In the case of banks, cooperative societies and housing finance
companies, this limit has been raised to Rs. 10,000/-. There is no level
playing field for the NBFCs, in so far as this requirement is concerned.
Since deposit is an important resource for NBFCs, I fail to understand as
to why NBFCs should be discriminated against.
Adoption of a system of VAT by Maharashtra has created utter confusion, as
by virtue of amendment to Sales Tax Act, a hire purchase transaction has
also been covered. World over, a hire purchase agreement is treated as
supply of goods in respect of a physical asset and supply of services in
respect of instalment credit finance provided. Tax laws in U.K. provide
exemption from VAT in respect of finance provided. For tax purpose the most
crucial test is to decide, whether there is a value addition in the
physical attributes of an asset at the point when NBFCs deliver it to the
borrower. While financing a car under hire purchase, NBFCs add no value to
the car. Hire purchase is no different from any other financing transaction
and the question of subjecting hire purchase to VAT should not arise.
Inter-state differences in sales tax is another irritant to NBFCs.
Different rates of sales tax in case of inter-state movements of leased
assets lead to differing interpretations as to the applicability of tax,
and avoidably, therefore, to endless litigations. Besides, there is an
issue of imposition of sales tax on lease rentals by some States, which is
nothing but double taxation once on acquisition of asset and again on
accrual of lease rental. Can't we think of uniform treatment across the
Yet another discrimination is in the case of stamp duty on bills
discounted. Bills of exchange discounted by banks are exempt from stamp
duty but when discounted by NBFCs, stamp duty is payable.
EMPLOYEE STOCK OPTION & SEBI
Currently SEBI does not permit issue of shares to employees under stock
option plan at a price lesser than that issued to the public. Apparently,
there should be no reservation 'd this is approved by the shareholders as a
special resolution and employees are prepared to bear the tax liability.
Recently, employees of Karur Vysya Bank challenged the SEBI rule in the
Madras High Court averring that SEBI guidelines are violative of Article 14
of the Constitution. Another fallacy is that employees cannot be treated as
Employee stock option is a medium to make a company a cooperative
organisation of owners and employees. It is a move to align the fortunes of
employees with that of the organisation. In the face of fierce poaching by
competitors and continuing struggle to retain competent executives,
employee stock option, on a multi-year basis, makes it more expensive for
employees to leave.
It is high time for SEBI to re-consider its rules on employee stock option.
If at all, to ensure fair play, the shares so issued can be subjected to
longer lock-in period and a cap be fixed on shares so issued per employee,
related to his compensation package.
Your Company is seriously contemplating to enter into operating leases and
infrastructure financing. We have also decided to diversify into general
insurance. The search is on for a foreign partner and negotiations are in
progress with four foreign companies and an enabling resolution to
contribute Rs 100 crore capital to the proposed insurance company, will
come up for consideration of the shareholders in the next few minutes.