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Failure of any large NBFC may translate into a risk to its lenders: RBI Dy Governor M Rajeshwar Rao

October 22, 2021 root Banking & Finance

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The reputation of the non-banking financial sector has been dented in recent times by failure of certain entities due to idiosyncratic factors, said Reserve Bank of India Deputy Governor M Rajeshwar Rao.

The challenge, therefore, is to restore trust in the sector by ensuring that few entities or activities do not generate vulnerabilities which go undetected and create shocks and give rise to systemic risk through their interlinkages with the financial system.

“Forestalling and where necessary, decisively resolving such episodes becomes a key focus of our regulatory and supervisory efforts,”Rao said at the CII NBFC Summit.

There are 9651 NBFCs across twelve different categories focussed on a diverse set of products, customer segments, and geographies.

As on March 31, 2021, the non-banking finance company (NBFC) sector (including housing finance companies/ HFCs) had assets worth more than ₹54 lakh crore, equivalent to about 25 per cent of the asset size of the banking sector.

“Therefore, there can be no doubt regarding its significance and role within the financial system in meeting the credit needs of a large segment of the society,” Rao said.

Over the last five years the NBFC sector assets have grown at cumulative average growth rate of 17.91 per cent.

The Deputy Governor underscored that: “Now, the non-banking sector has grown significantly and several NBFCs match the size of the largest Urban Cooperative Bank or the largest Regional Rural bank.

“In fact, few of them are as big as some of the new generation private sector banks. Further, they have become more and more interconnected with the financial system.”

He said NBFCs are the largest net borrowers of funds from the financial system and banks provide a substantial part of the funding to NBFCs and HFCs.

Therefore, failure of any large NBFC or HFC may translate into a risk to its lenders with the potential to create a contagion.

Failure of any large and deeply interconnected NBFC can also cause disruption to the operations of the small and mid-sized NBFCs through domino effect by limiting their ability to raise funds.

Rao emphasised that liquidity stress in the sector triggered by failure of a large CIC (core investment company) broke the myth that NBFCs do not pose any systemic risk to the financial system.

SBR framework

The Deputy Governor said a scale-based regulatory (SBR) framework, proportionate to the systemic significance of NBFCs, may be optimal approach where the level of regulation and supervision will be a function of the size, activity, and riskiness of NBFCs.

As regulations would be proportional to the scale of NBFCs, it would not impose undue costs on the Regulated Entities (REs).

Rao explained that: “While certain arbitrages that could potentially have adverse impact would be minimised, the fundamental premise of allowing operational flexibility to NBFCs in conducting their business would not be diluted.

“…There has been a consistent and conscious understanding that a “one size fits all” approach is not suitable for NBFC sector, which are a diverse set of financial intermediaries, with different business models, serve heterogenous group of customers and are exposed to different risks.”

The Deputy Governor urged NBFC promoters/ managements to create a culture of responsible governance in their respective organisations where every employee feels responsible towards the customer, organisation, and society.

He felt that good governance is key to long term resilience, efficiency and survival of the entities.

Customer protection

Rao underscored that protecting customers against unfair, deceptive, or fraudulent practices has to become top priority of every entity and permeate the organisation culturally and become a part of its ethos.

“Customer service would mean, amongst many other things, that a customer has similar pre-sale and post-sale experience, she/he is not disadvantaged vis-à-vis another customer because he or she approached the financial entity through a different delivery channel, and he or she has a right to hassle-free exit from the contractual obligation.

“This issue has been deliberated often enough and it’s time to act now,” the Deputy Governor said.

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Leave a comment CIC, Customer segments and Geographies, Deputy Governor, Interlinkages with the financial system, lenders, M Rajeshwar Rao, nbfc, RBI, risk

Should you invest in Hawkins Cooker FD opening for booking on September 15?

September 15, 2021 root Personal Finance

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With interest rates bottoming out, fixed income investors have been scouting for options with higher returns. But higher returns invariably mean higher risk. Consider the case of the FD scheme of Hawkins Cookers. The company is offering 7.5 per cent per annum for deposits with a tenure of 12 months. For deposits of 24 and 36 months, the rates offered are 7.75 per cent and 8 per cent per annum, respectively. These rates are higher than many others in the market today.

But the flipside is that FDs of Hawkins are rated ‘MAA’/Stable rating by ICRA. While this rating implies high credit quality and low credit risk, it is a couple of notches below the highest rating of ‘MAAA’ — indicating that the Hawkins deposit has higher risk than the safest deposits in the market today.

Investors who can take such higher risk for higher returns can consider the FD scheme of Hawkins that opens on Wednesday, September 15, 2021. Interested investors should note that they should pre-register for the FDs on the company’s website (https://www.hawkinscookers.com/fd2021.aspx), beginning 9:30 am. Once you register, you will get a pre-acceptance number and the payment has to be made within 10 days, with a filled in FD application form. If the pre-accepted numbers cross the threshold amount (₹28.17 crore) which the company intends to raise through FDs, you will be put on a wait-list. Wait-listed applications will be considered if pre-approved applicants fail to pay within the stipulated time.

At the current juncture, locking into deposits with longer tenures could mean missing out on higher returns when the rate cycle begins to move up. A one- to two-year time-frame hence, seems better, as this could perhaps give the opportunity to reinvest at higher rates later on.

Why FD investors get the short end of the stick under waterfall mechanism

The company accepts a minimum of ₹25,000 as deposit and in multiples of ₹1,000 thereafter — up to a maximum of ₹20 lakh. Investors can choose from the cumulative and non-cumulative options. Under the former, interest will be compounded at monthly rests and paid on maturity, along with the principal. A deposit of ₹25,000 will fetch ₹26,941/ 29,177/31,756, at maturity, for tenures of 12/24/36 months, respectively. For non-cumulative deposits, interest will be paid out on half-yearly basis.

Given the relatively higher risk, it is recommended that investors restrict their investments to the minimum amount. Also, it will suit those with a bigger investible surplus on hand as they can park only a portion of their surplus here.

Better rates than others

The interest rates offered by Hawkins are relatively higher across tenures. For a 12-month deposit, while public sector banks offer 4.25-5.15 per cent, private banks offer up to 6 per cent, and small finance banks (SFBs) offer up to 6.5 per cent — Hawkins offers 7.5 per cent. For tenures of 24/36 months, banks currently offer up to 7 per cent, while Hawkins offers 7.75 and 8 per cent, respectively.

But the relatively lower rates offered by banks on their deposits are commensurate with their relatively higher safety. FDs with banks (including those with SFBs) are covered under the deposit insurance offered by DICGC, for up to ₹5 lakh per bank. This cover is not available for corporate FDs such as those of Hawkins.

The rates offered by Hawkins are 150 to 220 basis points higher than those offered by NBFCs, such as Bajaj Finance and Sundaram Finance. But these deposits have a higher credit rating (AAA), indicating better safety.

Even among its peers with about similar rating, the rates offered by Hawkins score better. For instance, Shriram Transport Finance’s deposits, rated MAA+ by ICRA (also rated FAAA by CRISIL), offer 6.5/6.75/7.5 per cent per annum and tenures of 12/24/36 months, respectively. JK Paper has a similar rating (‘FAA’/Stable by CRISIL), but the interest rates offered by it are 50-75 basis points lower than those offered by Hawkins, across tenures.

About the company

Hawkins is one of the leading manufacturers of pressure cookers in India with a wide distribution network (the brand has second highest market share of 34.9 per cent). The company has also diversified its product portfolio into other cookware products that constitute about 20 per cent of its turnover.

However, Hawkins is a small company, both in terms of turnover and market capitalisation (₹3,281 crore).

While the company’s revenue grew by 10.3 per cent compounded annual growth rate (CAGR) over FY16 to FY19, the growth was muted in FY20 — 3.2 per cent (y-o-y) to ₹674 crore, owing to the Covid-19 lockdown restrictions in March quarter. In FY21, however, with the company upping its online presence, sales saw a re-bound and grew by 14 per cent (y-o-y) to ₹768 crore.

Net profit grew by 14.5 per cent CAGR over FY16 to FY21 to ₹80.6 crore.

Hawkins plans to meet its working capital requirements from this FD scheme, apart from using the money as a buffer for any unforeseen exigencies. The company has unencumbered cash and liquid investments of ₹167 crore in FY21 compared to ₹48.5 crore as of March 31, 2020, owing to shorter debtor turnover days during the year (revised policy in FY21). Besides, as per ICRA’s rating rationale, the company also has largely unutilised working capital limits, which provide a liquidity cushion.

The company is net-debt free, and its debt to equity ratio is healthy at 0.13 times as of March 2021.

All you wanted to know about NRI bank fixed deposits

While the lockdowns initially impacted the sale of its products, the WFH scenario has helped boost their demand, thereafter. In the recent June quarter, the company’s top line soared by 50 per cent over the year ago period to ₹151.45 crore. Besides, while continuing fixed costs despite abysmal sale volumes and rising input prices dented its profits last year, the company raised prices by 5-10 per cent this year. Following the price rise and sales getting back to normal, its net profits inched up to ₹17.13 crore during June 2021 quarter, compared to ₹6.45 crore in the corresponding quarter last year.

Conservative investors who prefer full safety of capital over returns may avoid this offer, given its lower credit rating and the unsecured nature of the deposits.

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Leave a comment deposits, FD, Hawkins Cooker, higher safety, investors, offered, rates, rating, risk

Should those above 65 go for the National Pension System?

September 4, 2021 root Personal Finance

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The Pension Fund Regulatory and Development Authority (PFRDA) recently raised the maximum entry age for the National Pension System or NPS from 65 to 70 years.

Should those eligible take the opportunity to invest?

Following the recent rule change, those aged over 65 and up to 70 years can start investing in the NPS and remain invested until they turn 75. Those who had closed their NPS accounts in the past too are allowed to open a new account as per the revised norms.

While there is no official clarification on this from the PFRDA yet, the new rules imply that existing NPS subscribers too can continue to remain invested until 75 years of age as against the current 70 years.

What are the investment choices and tenure options for those subscribing after 65 years of age?

Like every NPS investor, such investors can choose between auto or active choice for their corpus. The maximum equity exposure allowed under these options will be 15 per cent (auto) and 50 per cent (active) respectively.

For those entering the NPS after the age of 65, a ‘normal exit’ can be made after three years of joining. That is, on such exit, they will have to invest at least 40 per cent (tax-free) of their accumulated corpus in an annuity of one of the approved annuity service providers for a regular pension. The remaining 60 per cent (tax-free) will be paid out to them as lump sum. In case of an accumulated corpus of only up to ₹5 lakh, however, they can withdraw it entirely as lump sum. Alternatively, they can remain invested in the NPS any time until 75 and choose to excercise one of the three deferment options – defer only the lump sum withdrawal or only the annuity or both – if market conditions are not favourable at the time of exit. Once a subscriber opts for deferment, no further contributions can be made to the NPS.

An exit before three years will be treated as a premature exit for those entering the NPS after 65 years of age. At the time of such exit, the subscriber will have to use at least 80 per cent of the corpus for purchasing an annuity. Only the remaining 20 per cent can be withdrawn as lump sum. However, if the accumulated corpus totals only up to ₹2.5 lakh, then the entire amount can be withdrawn even though it is a premature exit.

If you are over 65, should you take the opportunity to invest in the NPS?

Not necessarily. While the lock-in until 60 years of age offers a young, early subscriber into the NPS the discipline to remain invested, the same logic may not apply to someone entering after 65 years of age. The NPS helps you build a corpus through investment in a mix of equity and debt. This can be achieved via investing in mutual fund schemes too. The latter is preferable if you need the flexibility to withdraw your money whenever needed.

On exit after three years, at least 40 per cent of the accumulated NPS corpus must be locked in an annuity for a lifelong pension that will be taxed at your income tax slab rate.

Based on the prevalent low annuity rates, the post-tax return (pension income) does not appear attractive, especially so for those in the higher tax brackets.

Today, many NPS annuity service providers are offering monthly annuity for life to a 66-year-old individual at rates of only 5.33-6.31 per cent per annum under return of purchase price (ROP) plan. The returns are better at 8.41-9.28 per cent per annum if you do not opt for ROP.

With someone entering the NPS today, having to opt for an annuity only a few years from now, it remains to be seen if the annuity returns at that point in time are good enough. Also, the PFRDA seems to be looking for an alternative to the compulsory annuity option. Thus, the product features are still evolving.

Thirdly, while a short lock-in of three years is tempting, it must be remembered that NPS is a market-linked product. NPS funds invest in a mix of equity and debt instruments (the latter of a relatively longer maturity). A shorter period may peg up the risk. Holding for ten years up to 75 years of age may make more sense.

Considering all this, the NPS can only be one of the avenues to park your corpus for your silver years. It is best to diversify beyond it.

What other investment options do those aged over 65 have?

For those interested in exposure to both equity and debt, balanced hybrid funds that invest 40-60 per cent of their assets each in equity and debt can be an option. Those interested purely in debt exposure can consider short-duration funds and corporate bond funds with relatively low average maturity of two years or below. The expense ratios may be higher than those for NPS funds but they are more liquid and SWPs (systematic withdrawal plan) can also be initiated if a regular income is needed.

Those who care utmost for principal safety can consider the 5-year senior citizen savings scheme (SCSS) or the GOI’s 7-year floating rate savings bonds (popularly known as the RBI bonds).

The interest rate on the SCSS is 7.4 per cent per annum, which is paid out every quarter. You can invest only up to ₹15 lakh here. RBI bonds too offer an attractive 7.15 per cent per annum, payable half-yearly. While there is a 7-year lock in, you can get the benefit of rising rates, as the interest rate is pegged to the NSC rate (35 basis points over it) and is reset every half year.

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Leave a comment 65 years and above, accumulated corpus, annuity, elderly, entire, lump sum, new rules, NPS, plan, premature exit, return of purchase price, risk, rop, seniors, smart seniors

RBI issues guidelines on risk-based internal audit for NBFCs, UCBs

February 3, 2021 root Banking & Finance

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The Reserve Bank of India (RBI) on Tuesday issued guidelines on risk-based internal audit (RBIA) framework for Non-Banking Financial Companies (NBFCs) and Primary (Urban) Co-operative Banks (UCBs) which they need to implement by March 21, 2022.

The RBIA framework has been specifically mandated for supervised entities (SEs) — all deposit-taking NBFCs; all non-deposit taking NBFCs (including Core Investment Companies) with asset size of ₹5,000 crore and above; and all UCBs with asset size of ₹500 crore and above — to enhance the efficacy of their internal audit systems and processes.

Audit plan and review

Per the guidelines, RBIA should undertake an independent risk assessment for the purpose of formulating a risk-based audit plan which considers the inherent business risks emanating from an activity / location and the effectiveness of the control systems for monitoring such inherent risks.

The RBIA policy must be reviewed periodically. The risk assessment of business and other functions of the organization shall at the minimum be conducted on an annual basis. Every activity / location, including the risk management and compliance functions, shall be subjected to risk assessment by the RBIA, according to the guidelines.

Also read RBI’s norms will enhance stability of NBFC sector: Fitch Ratings

The SEs RBIA policy should also lay down the maximum time period beyond which even the low risk business activities / locations would not remain excluded for audit.

The Audit Committee of the Board (ACB)/ Board should formulate and maintain a quality assurance and improvement program that covers all aspects of the internal audit function.

The quality assurance program may include assessment of the internal audit function at least once in a year for adherence to the internal audit policy, objectives and expected outcomes.

RBI said a consolidated position of major risks faced by the organization needs to be presented at least annually to the ACB/Board, based on inputs from all forms of audit.

Authority and competence

The regulator wants senior management of SEs to ensure that the RBIA function is adequately staffed with skilled personnel of right aptitude and attitude who are periodically trained to update their knowledge, skill and competencies.

RBI emphasised that the internal audit function must have sufficient authority, stature, independence and resources thereby enabling internal auditors to carry out their assignments properly.

The Head of Internal Audit (HIA) shall be a senior executive with the ability to exercise independent judgment. Except for the entities where the internal audit function is a specialised function and managed by career internal auditors, the HIA shall be appointed for a reasonably long period, preferably for a minimum of three years.

RBI said requisite professional competence, knowledge and experience — including banking/financial entity’s operations, accounting, information technology, data analytics, forensic investigation, among others.– of each internal auditor is essential for the effectiveness of internal audit function. The collective skill levels should be adequate to audit all areas of the SE.

The SEs may prepare a Risk Audit Matrix based on the magnitude and frequency of risk.

RBI said the internal audit function should not be outsourced. However, where required, experts including former employees can be hired on a contractual basis subject to the ACB/Board being assured that such expertise does not exist within the audit function of the SE.

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19 Comments Audit, cooperatives, guidelines, internal, nbfcs, RBI, risk, UCBs