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CRISIL event on NBFCs
We attended CRISIL’s conference yesterday which delved on ramifications of the prevailing tight liquidity conditions on Nonbanks, their pertinent role in credit delivery, resilience displayed during prior challenging periods, key learnings from current turbulence and their indispensability in credit ecosystem. Within CRISIL and across the invited panelists there was concurrence about growth moderation in short-term, some margin compression and possible impact on asset quality in real estate lending, LAP and SME loans. Profitability in gold loans and unsecured credit could be unaffected, while it can get moderately impacted in housing and vehicle finance.
The positive repercussions are likely to be right pricing of risks in few product segments and a structurally strengthened focus on liability and liquidity management. NBFCs/HFCs are already in pursuit of diversifying their funding base by tapping alternate long-term resources. While this could mean some compression in trend profitability, it will instill durability in growth. CRISIL expects Non-banks to grow by 15% in FY20 and resume market share gains thereafter. Key session-wise takeaways are enlisted below:
Opening remarks by Ashu Suyash (MD/CEO - CRISIL)
* Non-banks (NBFCs which are not government owned + HFCs) have become an integral part of the credit ecosystem over the past decade. In the total credit worth Rs115tn as of FY18, they contributed 18%. Having grown assets much faster than overall system, Non-bank’s credit share has risen sharply from 13% in FY14.
* Importantly, the number of NBFCs with >Rs0.5tn AUM has increased from 2 to 13 in the past five years. And now six NBFCs have an AUM greater than Rs1tn. Non-banks’ market share in the largest product segment, home loans, has risen to 43%.
* NBFCs have been innovative with deeper distribution than banks; exhibited in their strong market position in microfinance, vehicle finance and home credit products.
Presentation by Krishnan Sitaraman (Senior Director - CRISIL Ratings)
Topic: Evolving Landscape & Key Imperatives for NBFCs
* Non-Banks witnessed 18% pa asset growth over the past decade. Their share in total credit increased to 18%.
* During H1 FY19, the growth was higher at 20% yoy. However, considering the current challenges, their growth is likely to moderate to 10% yoy for H2 FY19. During Sept 2018-March 2019, their assets are expected to grow by 5%.
* Product segments that are expected to witness severe growth deceleration in H2 FY19 are real estate & structured finance and LAP. Vehicle finance and home loans would be lesser impacted and growth in products like gold loans and unsecured credit would remain largely unaffected.
* In long run though, Non-Banks will continue to play a key role in credit growth and start gaining market share again. In FY20, their assets are projected to grow by 15% yoy. Barring wholesale funding and LAP, all other products are estimated to grow at healthy pace during FY19-21.
* Customer connect, local knowledge, high responsiveness, tailored underwriting and innovation will continue to drive secular growth for NBFCs.
* Liability challenges are gradually easing; however, consistent access to bank funding remains key. ALM management would become a central focus which will strengthen liability side. Alternate funding avenues are being tapped viz. retail bonds, securitization, ECBs, etc.
* Retail asset quality will continue to hold-up, be it in gold loans, unsecured loans, vehicle loans and home loans. Wholesale funding, LAP and SME loans could see increase in delinquencies.
* Fortunately, CRISIL never rated ILFS and any of its entities.
Panel Discussion on Evolving Landscape & Key Imperatives for NBFCs
* Delivery of credit has become more heterogenous over the past two decades.
* Post-demonetization, liquidity became easy and yield curve got steeper which lead to higher reliance on CPs
* Industry has been able to withstand the current challenge so far. NBFCs bring a lot of equity on the table; about ~Rs4tn which is equal to equity base of private banks (NBFC’s equity share is at ~30%). And they have demonstrated resilience time and again
* NBFCs are efficient in every area of lending i.e. origination, underwriting and collection. There is a need to segment/compartmentalize NBFCs as ALM structure and business model are starkly different across players. One cannot extrapolate the failure of ILFS to other NBFCs.
* There is no crisis as such; only the borrowing cost has shot-up which has not happened for the first time. The regulator can look at having different requirement and regulations for different NBFCs.
* In construction finance, the underlying asset is self-liquidating unlike an infra project finance. Till economy and home sales does well there should be no problem in asset quality. Transiently, real estate funding will slow down and so would the pace of new launches, leading to higher sales from inventory. Want of liquidity can drive rationalization of price by developers. In comparison, NBFCs were more worried after demonetization as it had an overall impact on economic activity and consumption.
* In CV industry, the size of trucks has dramatically moved towards higher tonnage and thus industry growth should be measured in this context. The future implementation of BS VI norms could lift the prices of heavy trucks by ~Rs0.5mn.
* For many NBFCs, the liability situation has been stress tested and their liability model will evolve more strongly from here. ALM risk for some players has proved to be costly and less productive.
* NBFCs need to be prepared for a ‘rainy day’ and tight ALM management, diversification of funding and liquidity buffer can come to rescue.
* Profitability of NBFCs could get hit in the short-term. However, the business model has some elasticity to recoup profitability in the longer run. Players have little control over borrowing cost and pricing should have a tight control on the credit cost.
* Regulatory arbitrage between banks and NBFCs disappearing (NPL rules tightened, regulatory supervision on large NBFCs, etc.). A glass ceiling size could be between Rs1-1.5tn. NBFCs would need bank’s cost of funds to participate in many products.
Presentation by Rama Patel (Director - CRISIL Ratings)
Topic: Strengthening of liquidity management a structural imperative
* Higher reliance on CPs created ALM mismatch; led to dependence on their successful rollover and refinancing. As compared to 7% and 4% reliance on CPs as of FY14, NBFCs and HFCs dependence increased to 15% and 12% respectively as at the end of Sept 2018.
* Excluding unutilized bank lines, HFCs and wholesale NBFCs have negative cumulative ALM gap in various <1-year buckets. Players now dipping into sanction and unutilized bank or CC limits to meet CP obligations
* Reorientation of resources has become the need of the hour. Securitization and retail NCDs gaining traction.
* Funding challenges easing at the margin but would take some time for normalcy to restore
* CP roll-over rate has been improving since October courtesy the confidence measures taken by Government, RBI, NHB and SBI. CP rollover rate which was 40% in October jumped to 75% in November and the share of 3-month CPs which had dropped is increasing again. CP issuance stood at Rs0.55tn in November as compared to average ~Rs0.75tn during June-August.
* Reliance on short-term money will come down and the nature of liabilities would be increasingly linked to maturity pattern of assets.
* CRISIL estimates a funding requirement of >Rs4tn for NBFCs and HFCs by 2020 including the money required for growth purposes.
* Gross bank lending to NBFCs has increased from Rs3.1tn as of FY15 to Rs5.5tn as of H1 FY19. Liquidity support from PCA would remain a challenge given their focus on conserving capital and lower RWA. Wholesale NBFCs fall under 100% risk weight asset category.
* As bond market too may not be so amenable, securitization will become a preferred alternative in the interim. Securitization volume this fiscal so far is almost touching the quantum of last fiscal.
* Structural strengthening of liability management is the way forward. It should be premised on maintaining higher on-balance sheet liquidity, largely in the form of very liquid assets. Other measures could include closer monitoring of ALM gaps, cap on overall short-term borrowing and implementation of liquidity ratios.
* Quality of bank lines will become important too. Non-banks need to create diversity in terms of quantum and type of banks. Cash Credit/Overdraft lines must be preferred.
Panel Discussion on ALM & Liquidity
* Credit market has opened for selective names. Existential risk now behind for large/mid NBFCs. There is a need for the market to differentiate NBFCs over a cycle and not in onslaught of a crisis.
* Current crisis will force companies to focus on liabilities. There was excessive focus on growing assets over the past few years and the managements have realized now that liability side is also extremely important. Suddenly, the treasury guy has become more important than a business guy.
* Diversification of funding sources important both from tenor and investor perspective. Banks and MFs have sectoral caps eventually. Insurance companies have a cap expressed as a percentage of investee company’s capital. There is need to deepen debt markets and mobilize retail money through deposits/bonds.
* Currently, NBFCs taking support from securitization which is doorto-door asset-liability matching and carries no pricing/interest rate risk. Presently, banks are preferring DA over PTC as they want to show retail assets.
* Relevance of credit rating which has been hit will improve, and high rating would determine diversification of funding.
* Wholesale and RE loans would require different funding model like AIF, etc. Bank funding may not be suitable.
* When short of capital, NBFCs act as service providers (they originate and distribute). Co-origination model and creation of securitization platform can help in the current scenario.
Presentation by Ajit Velonie (Director - CRISIL Ratings)
Topic: Asset quality and profitability overview
* Retail segment provides solace in an otherwise choppy environment. About 52% of the retail credit pie comprises housing and vehicle finance. In the former product segment, NPLs are <1% exhibiting negligible impact of demonetization, GST and RERA.
* In vehicle finance, the 90-dpd migration impact is behind, and on comparable basis the NPLs are at their lowest level. Unsecured loans experience is very different from 2008 with asset quality remaining steady.
✓ Key areas of risk from asset quality perspective are LAP, SME loans and wholesale lending (construction finance, structured finance, etc.). The pain in real estate finance (ex-LRD) could emerge if access to incremental funds remains tight.
* In housing loans, 2-year lagged NPL stood at 1% as of FY18 and is projected to increase marginally to 1.1-1.2%. When compared to FY15, NPLs in salaried customers were stable at 0.4% in FY18. While for Self-employed customers, NPL ratio has risen from 0.7% to 1.2%.
* Affordable housing NPLs for new entrants continue to climb underpinned by increasing delinquencies. 2-year lagged GNPA stood at 5.1% as of FY18 and is projected to further rise to 6% by FY20.
* 90+ dpd portfolio (excluding captive financiers) in vehicle finance stood at 5.3% at the end of FY18, much lower than 6.7% in FY15. This has been driven by strong focus on collections (with tightening recognition) and recoveries as well as write-offs. Delinquencies in this segment are expected to remain steady till FY20.
* 90+ dpd portfolio for unsecured loans has moved in a narrow range of 2-3% over the past five years and is projected to remain stable in coming years too. During 2009-10 crisis, the ratio had climbed to 11- 12%. Data availability and analytics and evolution of credit bureau has resulted in structural improvement in credit underwriting processes.
* NPLs in the LAP and SME financing combined have risen in recent years and is likely to increase further. For LAP, asset quality trends are divergent across players with the 90+ dpd ratio ranging 0.4-6.8%. In case of unsecured SME, which has grown at faster clip, 90+ dpd is 200bps higher at ~5%.
* As per CRISIL, about 30% of developer finance portfolio is LRD as of September 2018. In construction finance, the risk is partially mitigated via stringent control mechanisms such as creation of an escrow, cross collateralization, promoter personal guarantee, close monitoring, etc. However, funding challenges (inability to refinance) and chunkiness (high customer concentration) can trigger a jump in GNPLs.
* In a nutshell, the current adverse liquidity environment could cause some compression in spread and increase in credit cost for NBFCs. Cost of borrowing is expected to harden by 70-100bps over FY18-20. Segmentally, gold loans likely to be least impacted, home loans and vehicle finance will be moderately impacted and LAP and construction finance would be most impacted in terms of profitability.
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