1) Will the regulations sound a "Death knell to the NBFC Industry? 

    Deposits are the basic source of raw material for NBFCs. Any measure which curtails this source will suffocate the industry. While the future inflow of deposits stop on account of the regulations, the companies will have to continue making repayments. 

    There are no alternate avenues available to NBFCs for replacing the deposits automatically. 

    Banks and Financial Institutions would also base their decisions on credit rating and hence they cannot finance unrated or low rated companies. 

    Capital markets are long since dead. 

    RBI has also through an earlier ruling barred NBFCs from accessing external commercial borrowings. 

    Thus the cumulative effect of RBI’s measures have choked the industry from all sides. Deposit was the last remaining avenue of funds for the NBFCs. 

    The choking of funds would result in the stoppage of further lending also. As a result the revenue/cash inflows also would shrink. 

    The credit rating agencies would therefore discount this reduction of revenue and down grade all companies by atleast one notch. Since one notch reduction in credit rating will further reduce the deposit acceptance  eligibility, there would be a chain reaction leading to inevitable closure of all the NBFCs who are close to or exceeding the deposit limits. 

    2. Is there a risk to AAA or AA Companies also? 

    The regulations have hit the root of investor confidence in the industry. Excepting the liquor industry, no other industry has ever been affected by such government regulations en-masse. It is expected that the depositors as well as shareholders will henceforth avoid the industry totally. The closure of a large number of NBFCs will also result in loss of investible surplus in the hands of potential NBFC Investors. The deceleration of deposits and withdrawalswill therefore hit the AAA NBFCs also. 

    If Credit Rating Agencies sense this change in the prospects of the industry, they will have to consider a downgradation of credit rating of companies across the Board. If this happens the induatry giants will also be under a grave danger. 

    For example, Sundaram Finance, Cholamandalam Investments, as well as Lloyds Finance are vulnerable to downgradation of rating, whereby a one notch downgrading would throw up an unmanageable excess in deposits. In respect of Sundaram Finance the excess would be Rs.200 crore. In Lloyds Finance and Cholamandalam the excess could be Rs.100 crore. 

    The future of these companies is therefore in the hands of the wiz-kids from the credit rating agencies who were perhaps not even born when Sundaram Finance started accepting public deposits and whose only claim 

    to this enormous power is an MBA degree. 

    3. Should deposit quantum be linked to credit rating? 

    Credit Rating is a perception of the credit rating agency on the repaying capability of the company. The guideline has created a peculiar link between credit rating and the deposit level. 

    a) If a company does not have a credit rating it cannot receive fixed deposits. If the credit rating improves the deposit acceptance limit increases and vice- versa. 

    b) The deposit acceptance level has no relation to the "Ability to Pay "which depends on the availability of liquid resources. The credit rating mechanism is not today geared towards assessment of liquidity strengths. For e.g., a credit rating agency rates both a one year deposit and a five year deposit with a single rating. It rates a monthly interest scheme and the cumulative interest scheme with a single rating. The inherent differences in these schemes go unrecorgnized by the system. It lays importance on networth and not on the quantum and quality of assets. 

    c) For all companies who are over borrowed today as per the guidelines, credit rating agency has to consider the emerging liquidity constraints and downgrade their rating.This will progressively lead to the eventual closing down of the company. 

    The system is a self fulfilling prophesy which says all companies who have lower than required credit rating are unfit to be in business. 

    4. Will the regulations "Protect" the Depositors? 

    The regulations will only lead to elimination of ‘Deposits’ as an instrument of investment in the NBFC sector. The bottomline is that these regulations if they had been in force would not have protected CRB Depositors or Classic Finance Depositors. In such a case how can they protect depositors in future?. 

    All the existing depositors of NBFCs will run the risk of losing their current investments. It is unlikely that those who are not depositors of NBFCs today will ever become NBFC depositors in future. The regulations will therefore kill one of the most popular investment instruments in the country. 

    The regulations will drive depositors out of some of the strong companies into relatively weaker companies. Companies who have not accepted any deposits so far, suddenly may emerge as a possible investment destination while those who have offered a safe avenue for generations of depositors may overnight would be barred. 

    The scenario has a parallel in what SEBI did to the capital market. SEBI tried to promote mutual funds and replace retail investors to support the capital needs of industries. Today there are no retail investors and mutual funds have failed plunging industrial capital formation to a state of stagnancy. 

    5. Who are the parties affected by the regulations? 

    The Regulations affect 

    a) The NBFCs 

    b) Depositors 

    c) Shareholders of NBFCs 

    d)Professionals working in NBFCs 

    e)Self employed persons such as agents etc working with NBFCs 

    f)User industries in truck, car, two wheeler and white goods industries. 

    There are 37500 NBFCs who have applied for registration as per the notice of RBI a few months back. Of these 18500 are below the net owned funds threshold of Rs.25 lakhs. About 700 companies have so far been rated and more than 200 of these have below ‘A’ rating. 

    So only 500 companies can accept deposits. And nearly 80% of these are already above the limits prescribed. 

    Hence not more than 100 of the 37500 existing NBFCs are permitted to accept deposits for their business. The tremors of shakeout are expected to consume most of these companies also in the next few months. 

    Some of the major deposit accepting companies who need to stop accepting further deposits are Tata Finance Nagarjuna Finance, Mafatlal Finance, ICDS, Harita Finance, Escorts Finance, Dewan Housing, DCL Finance, Ceat Finance, Birla Global, Ashok Leyland Finance etc, 

    There would be several lakhs of depositors and shareholders whose investments are at risk There are thousands of qualified professionals and innumerable number of self employed marketing agents who may lose their job. 

    Industries with products where financial packages are an integral part of the market mix would be severely affected by the guidelines. Cars, Two Wheelers, White Goods, and Trucks fall into this category. 

    Nearly 60% of all trucks sold in India today are through Hire Purchase schemes. Nearly 99% of second hand trucks and taxis exchange hands through NBFC support. Not less than 75% of two wheelers and 25% of white Goods are sold with NBFC Finance. If NBFCs stop their lending activities there would be a demand recession in each of these industries. 

    6. Can banks replace NBFC funding? 

    Banks have been in existence in India even before NBFCs came into being. All the growth NBFCs have achieved today represent the niche marketing capabilities of NBFCs. NBFC’s superior performance in customer service and recovery management has been acknowledged by banks as well as various committees of RBI which have earlier examined the role of NBFCs. 

    If Banks could do all that NBFCs have done, NBFCs would not have even existed today, let alone manage a growth in their business. Even today inspite of a 5 to 6 percent higher borrowing cost, customers prefer to borrow from NBFCs than banks. 

    Banks are also happy with the arrangements of refinancing the NBFCs since they can deploy their funds in sectors of their choice without the hassle of managing them. 

    7. Does "Rural Credit Delivery" get choked because of the regulation? 

    India is a vast land consisting of many cities and towns beyond the metros. The large number of NBFCs in operation in the country and its vast population. Many of these small NBFCs are in operation in district towns and have built a strong community of clients whom they are serving. In the new order RBI would like to usher in, the small borrowers and the small depositors would both fail to get adequate service from the few companies would be left out. The Rural Borrowers will therefore be deprived of the competitive funding facility for their projects. 

    8. Will the International financial institutions benefit from the regulations? 

    Last year RBI regulations eliminated all the partnership firms and proprietary concerns from the financial market system in the country. 

    This year all but the top few corporate entities are being eliminated from the scene. 

    This can only benefit new players who were waiting to either take over vacating companies or set up a new network. 

    Already SRF Finance and Anagram Finance have fallen into the hands of one of the multinational American Giants. A few Japanese and Korean players are waiting on the wings looking for prey. Soon even the surviving indian companies would find the pressure too hot to stay. 

    The foreign companies who have large funding capabilities and $1=Rs 40 equation would find it easy to gobble up the whole industry. 

    Subsequently just as the capital markets today have become dependent upon FIIs entry, the HP/Lease market would become dependent on the whims and fancies of the foreign companies. 

    The consumer product giants from abroad would have a free day to push their own consumer brands against the local brands leading them to closure.The Bajaj scooters and TVS mopeds may face a different type of competition based on the strengths of the finance schemes. 

    Ambassadors, Fiats, and perhaps Marutis too may become hopelessly over priced to compete in the market place. 

    The net result would be that the Invasion of India by multinational forces would be complete. 

    9. Should NBFCs be prevented from directly accessing the deposit market? 

    NBFCs are companies who also contribute to the mobilization of savings and channelise them into productive areas. 

    Many large banks of today were born as NBFCs (by whatever name they were called) several decades back. 

    Preventing NBFCs from accessing deposits is like telling a car manufacturer that he should buy steel only from the SAIL and not from TISCO or any other source even if SAIL has no steel to sell or is not willing to sell.While the country talks of liberalization in the manufacturing sector, these regulations appear to indicate double speak. It is therefore grossly unfair. 

    10. Are manufacturing companies more secure for depositors? 

    It is an accepted fact that NBFCs who are in HP/Lease business have a steady stream of revenue/cash flow at a predetermined rate. Their capacity to service fixed deposits are far greater than manufacturing companies. Even though there is normally a mismatch of the maturities between the liabilities and the cashflow,it is managed effectively by the normal renewal rate. 

    Even in banks, not all the demand deposits are held as immediately encashable assets. The mismatch is being managed because in the normal course of business not all demand deposits fall due for payment. The fresh 

    inflow even of term deposits is used to take care of repayment of demand liabilities. 

    11. Is RBI guilty of going back on its promise? 

    Having accepted the Khanna Committee report ,and initiating the registration process as well as having recently removed the ceiling on deposit acceptance, RBI had encouraged NBFCs to go ahead and raise deposits. There was therefore an implied promise to allow NBFCs to carry on their business. The current regulations therefore is a clear breach of trust. 

    12. Was this legislation of pressing importance just before the elections? 

    It was surprising that a matter of such far reaching consequence was pushed through by RBI without a proper debate in the industry circles. 

    In the last few months since CRB failure, nothing drastic has happened warranting a new legislation. There was no urgent need therefore for the legislation except perhaps for the party in power to have gained the favor of foreign powers or to twist the arm of local NBFCs for gain which the public don’t know of. 

    13. Are there any other alternate ways to protect depositors? 

    RBI has failed to explore the possibilities of protecting depositors interest through measures such as 

    a) Educating the public 

    b) Introduction of Trustee Deposits 

    c) Introduction of "Insurance of Fixed Deposits" 

    d) Setting up of Self Regulatory Authority for NBFCs 


    If RBI conducts a seminar on this topic and asks experts to present various measures several worth while suggestions will still come forth. 


  Date:January 25 1998