NBFCs lose priority sector tag, see red

Arbitrage, uncertainty over end-use of funds prompted RBI move.

Stocks of most non-banking finance companies (NBFCs) were on a crash course on Wednesday, with the Reserve Bank of India excluding loans given to the sector from the priority sector list.

RBI on Wednesday clarified that bank loans to NBFCs, excluding microfinance institutions which are categorised as NBFC, would not be classified as priority sector loans. This means the cost of funds of most NBFCs will go up.

NBFCs depend on banks for 80 per cent of their credit requirement. About 10-12 per cent of the total bank loans are classified as priority sector loans.

A senior YES Bank executive said the rates on NBFC loans would definitely go up and there would also be some reduction of credit flow to the sector because some of these transactions were happening only because of priority sector classification. “I think credit flow will now shift to agriculture and SME,” the executive said.

The objective behind the RBI move is to plug the arbitrage which arises due to the stringent conditions attached to bank loans to microfinance institutions. For a bank loan to be classified as priority sector loan, banks are required to ensure a margin cap of 12 per cent and an interest rate cap of 26 per cent by the MFI. Since no such conditions are there for all other NBFCs, banks would prefer giving loans to NBFCs rather than MFIs.

RBI Deputy Governor KC Chakrabarty said the central bank would not allow arbitrage position in respect of financing to the NBFCs.

Lack of clarity on the end use of NBFC funds has also led to such a move. “The year-on-year loan growth to NBFCs was rapid last year. A lot of financial institutions were funding car and commercial vehicle loans. There was a huge demand for cars and a large part of it was met by NBFCs. So we thought that we need to look at the ground reality,” said Shyamala Gopinath, deputy governor, RBI.

Though as of now bank loans to MFIs will be tagged as priority sector, the central bank clearly said this was an interim arrangement and banks would have to meet their priority sector obligations on their own.

“Banks are the financial intermediaries. If there is financial inclusion obligation on them, why should they do it through other institutions? Now, microfinance is a vulnerable section of society and banks do not have the capacity to cater to the needs of this segment, so this is an intermediary arrangement. And if banks are to lend to any other NBFC and they are not satisfying the need of priority sector, then this creates an arbitrage situation. So, for now, this has been stopped. We cannot allow arbitrage position in respect of financing to the NBFC,” said Chakrabarty.

NBFCs, however, put on a brave face saying the latest RBI norms would not affect them much. “We are not impacted at all as for us most of the borrowing is on commercial terms where there is no concession on rates,” said R Sridhar, managing director, Shriram Transport Finance Co.

Investors, however, were not too sure. Most of the NBFC stocks fell 3 per cent to 6 per cent on the Bombay Stock Exchange on Wednesday.