More sinned against than sinning

Sanjiv Shankaran

FOR THE NBFCs the mid-1990s were heady days: Rapid industrial growth, relaxed resource-raising regulations, and eager investors ready to put their savings into any finance company.

Money flowed in at such pace that the NBFCs invested vastly not wisely. For they had to make money to pay the high interest rates they had contracted to pay.

But things began to change in 1997. Disasters waiting to happen happened. The biggest one being the CRB incident. Many weak and reckless NBFCs were unable to honour their obligations. To complicate matters, a painful industrial slowdown began.

The real disaster struck: First, the rating agencies pulled the plug by suddenly downgrading quite a few companies. This was followed by the RBI tightening the resource-raising and prudential norms, in January 1998. For many finance companies this was body-blow.

Companies in hire-purchase and leasing businesses for years were also affected as they had to reduce the public deposit component in their balance-sheet to conform to the RBI guidelines. The rest is too well-known to bear repetition

Officials of finance companies that are active in hire purchase and leasing think that the RBI was harsh. They say that the RBI is not willing to acknowledge the role played by private sector finance companies in disbursing credit to segments that remained untouched by banks and financial institutions.

But, then, the NBFCs' role in credit delivery is not a recent phenomenon but has existed for decades. Some of the top finance companies have been mobilising public deposits for years and on-lending to other sectors. In fact, companies such as Sundaram Finance and Lakshmi General Finance have achieved a quasi-institutional status. The outcome of that development is that even when a credit-rating agency downgraded their rating, these companies offered on one-year deposits interest rates much in line that offered by a couple of banks.

The essence of the NBFC argument is that in India the economy functions in many layers and obsolescence is a delayed process. In this environment, the `institutional' layer of the financial sector, such as banks and FIs, may not be able to cater to every level of the economy.

To emphasise this, the industry points to the thriving market in used commercial vehicles. Top NBFCs generally finance a new commercial vehicle. After a period, the vehicle is sold in and is used for short hauls. After some time, the vehicle changes hands once again to carry lighter freight and so on. At each level, a financial intermediary funds the purchase of the vehicle. According to industry officials, this way even 20-year-old vehicles play a role in the economy. This type of financing no bank or FI would do, and to tar all NBFCs with the same brush, because of the misdemeanour of a few, is unfair, they say.

The industry also questions the wisdom of a spate of legislation to protect the investors who, in their greed, threw caution to the winds while chasing promises of spectacular returns.

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While this is a valid point, because greed did play a major role in investors putting their savings in dubious companies, the established NBFCs too seemed to turn a blind eye to the consequences of the reckless deposit-mobilisation by the new operators in the mid-1990s. Says an investor: ``Surely, the industry associations could have highlighted the danger present then.'' When caution was thrown to the winds, established players seldom take a pro-active approach, and any number of draconian laws, post-facto, hardly helps.

Another bone of contention is the lack of uniformity in regulations governing the resource-raising avenues of the financial intermediaries. While the different intermediaries compete head-on in funding assets, the cost of funds differs because of the unique evolution of each.

Recently, Development Financial Institutions (DFIs) argued through a committee report that they needed to be treated on a par with commercial banks when it came to raising resources. By virtue of mobilising demand deposits, commercial banks have the lowest cost of funds in the financial sector. But other obligations tend to impart a modicum of balance in the different cost of funds for the intermediaries.

Of the lot, the NBFCs are worse off when it comes to the cost of funds. But it is unlikely the situation is going to change in the near future. There are no indications that the current set of benefits and obligations on the resource-raising front will change. In this environment, the NBFCs will have to rely on their nimbleness to survive and succeed.