Only 1 NBFC sought bank licence in last 4 years even though RBI has offered it ‘on tap’

Becoming banks would give NBFCs access to low-cost deposits. But even after IL&FS crisis led to rising borrowing costs, no company applied for a bank licence.

Representational Image of Indian banks | Vivek Prakash | Bloomberg

Mumbai: Last week, there was huge excitement in the financial sector when the Reserve Bank of India made public a working group report that recommended that well-run large non-banking financial companies (NBFCs), with an asset size of Rs 50,000 crore and above, including those which are owned by a corporate house, should be considered for conversion into banks.

Stocks of NBFCs such as Shriram Transport, Edelweiss, Cholamandalam and M&M Financial Services went up in the hope that some, if not all of them could transform themselves into banks sooner or later.

But if the last four years are anything to go by, that hope may not translate into reality as NBFCs have shown little interest in becoming banks.

In 2016, RBI changed its policy on universal bank licences, making them available ‘on tap’ instead of during specific periods, as the practice earlier was. But only one NBFC — UAE Exchange and Finance Services, now renamed Unimoni — has since applied for such a licence, showing the reticence of the sector, sometimes referred to as ‘shadow banks’.

The question is, why are NBFCs so reluctant to become banks considering the shift would give them access to low-cost deposits?

NBFCs depend heavily on banks for funds, and in the aftermath of the IL&FS crisis of 2018, commercial banks choked financing to this sector. Even after the IL&FS crisis resulted in NBFCs’ borrowing costs going through the roof as the sector faced a crisis of confidence, no company applied for a bank licence.

Why are NBFCs not taking the leap?

The regulatory architecture for NBFCs is much less stringent than that for commercial banks. For example, NBFCs are not required to maintain cash reserve ratio (CRR) or statutory liquidity ratio (SLR); there are much fewer restrictions for lending to some sectors like real estate. By converting themselves into banks, NBFCs face the prospect of being tightly regulated, which could hamper their business expansion.

“RBI’s IWG (internal working group) report to review extant ownership guidelines & corporate structure has provided recommendations, and I expect more debate on these until guidelines are finalised,” said Umesh Revankar, MD & CEO, Shriram Transport Finance.

“The regulator had opened doors for on-tap universal banking licence in 2016 and for small finance bank licence in 2018, so what we are seeing in terms of opening up the sector is not a first from RBI, but opening up candidature for large corporate/industrial houses and well-run large NBFCs for converting to a private sector bank is a progressive step indeed,” Revankar said.

According to Shriram Transport, the cost structure for a bank is much higher than a shadow bank.

“Shriram Transport Finance, being a large NBFC predominantly in the vehicle finance space, has built pan-India reach with strong last-mile connectivity, all while delivering a focused product portfolio backed by speed & quality to mostly the underbanked & unbanked customers,” Revankar explained.

“In contrast, a bank has to provide a very wide range of services, maintain SLR & CRR requirements, and operates at a much higher cost structure compared to NBFCs. So an NBFC will have to weigh the pros and cons after final guidelines, and understand the impact for stakeholders (shareholders, employees, customers) before considering conversion to a bank,” he said.

Corporate houses ownership clause the only new thing

Analysts said the recommendations of the RBI working group have nothing new for NBFCs, except that those companies backed by large corporate houses will be eligible for a bank licence.

“We do not find anything practically exceptional in IWG’s recommendation of converting large NBFCs into banks, except for allowing corporate-run NBFCs also to be included here,” Emkay Global Financial Services said in a note to its clients.

“On-tap universal banking licence is anyhow available to most NBFCs and other players for the past few years; however, none have opted for going down the banking route so far,” it added.

According to Emkay, the current circular does not specify anything about fulfilling SLR/CRR requirements for NBFCs, which will play an important role in decision-making for most of these lenders.

“The impact of SLR/CRR will have a severe negative impact on NBFCs’ margin profiles, as well as current cash flow patterns of all these lenders,” the note said.

RBI’s reservations

The reservations of regulator RBI in granting bank licences to NBFCs, is well documented. While there are NBFCs that have been awarded bank licences — like Bandhan, Kotak Mahindra and IDFC — but they are few and far between.

The central bank’s apprehension is also evident in cases such as awarding Lakshmi Vilas Bank to DBS Bank India Ltd, the Indian subsidiary of Singapore’s DBS Bank. The RBI had rejected an offer for the Chennai-based LVB from Indiabulls Financial Services, a large NBFC engaged in mortgage financing.

Even when LVB was in talks with Clix Capital — an NBFC founded by Pramod Bhasin, who previously headed GE Capital in India and Asia — for a buyout, RBI announced DBIL as the troubled lender’s suitor.

If anything, the RBI working group’s recommendations have sought to tighten the norms for NBFCs sponsored by a bank. The proposal that a bank and its existing subsidiaries or associates (or joint ventures) should not be allowed to engage in similar activity that a bank is permitted to undertake departmentally, could see some of the housing finance companies like PNB Housing, Can Fin Homes and ICICI Home Finance — the home loan arms of Punjab National Bank, Canara Bank and ICICI Bank respectively — be merged with the bank.

The working group has further suggested that if a group entity desires to undertake any lending activity, the same shall not be undertaken by the bank departmentally, and the group entity shall be subject to the prudential norms as applicable to banks for the respective business activity.

This will mean the NBFC which is a part of the banking group will face much tighter regulations, like banks.