Domestic Retail-NBFC sector is going through tough times and facing numerous headwinds amidst slowing growth. As per ICRA quarterly sectoral review (Q1 FY2020), the assets under management (AUM) of Retail-NBFCs grew at a much slower pace of 3.5% (over March 2019) in Q1 FY2020 vis-à-vis 6.3% in Q1 FY2019. The return on average managed assets (RoMA) of Retail-NBFCs was also impacted in Q1FY2020 because of rise in funding and credit costs, amidst muted growth, hampered by weak demand from some key segments, namely vehicle (~50% of Retail-NBFC AUM) and LAP+SME (~22%), along with competitive pressure from banks in the prime product and customer categories in these segments. Retail-NBFC AUM stood at Rs. 9.2 trillion as on June 30, 2019, registering a year-on-year (Y-o-Y) growth of 18.5% vis-à-vis growth of ~22% in March 2019 and ~24% in March 2018.
According to Mr. A. M. Karthik, Vice President and Sector Head, Financial Sector Ratings, ICRA Limited, “Most key segments of Retail-NBFC credit, barring personal credit (includes personal loans, consumer durable loans, etc), registered a slower Q-o-Q growth in Q1 FY2020. Retail-NBFC credit growth, excluding the microfinance segment, was ~17% (Y-o-Y) in June 2019 vis-à-vis 20% during FY2019 and ~22% in FY2018.”
There is however some relief to Retail-NBFCs amidst a much slower growth. The net return indicators of the retail non-banking finance companies (Retail-NBFCs) are expected to witness a 25-35 bps benefit due to a cut in effective corporate tax rate from about 34% to 25%. The benefit could be higher, in the range of 40-60 bps, for entities with a better return on average managed assets (RoMA), i.e. 3-5% vis-à-vis the sectoral RoMA of 2.1% (based on ICRA sample entities) reported in Q1 FY2020. Additionally, NBFC earnings would also benefit over the medium term from the removal of debenture redemption reserves and from inclusion under Section 43D of the Income-tax Act.
Banking credit flow to NBFCs is key for near-to-medium-term growth, as funding from other sources, including mutual funds (MFs), is expected to remain relatively moderate. This is because their risk aversion to the sector and tightened MF regulations, which include a cut in sectoral exposure caps and the requirement of high exposure of liquid MFs to highly liquid assets like Government securities (G-Secs), cash, etc.
To support the NBFC sector, the Government of India (GoI) and the Reserve Bank of India (RBI) have taken various initiatives since September 2018 as overall credit flow to the sector was seen to be falling short of the required levels. Recent initiatives include steady systemic liquidity infusion, according priority sector tag for bank credit to NBFCs which on-lend to the agriculture, MSME and affordable housing segments, partial credit enhancement guarantees for public sector banks (PSBs) purchasing assets from NBFCs, and the harmonisation of single borrower NBFC exposure (of banks) with other corporates. These steps augur well for bolstering credit flow from the banking sector to NBFCs. However, as some of these steps are relatively recent, the translation of the same into an improvement in the funding environment is a monitorable.
Over the last year, NBFCs reduced their dependence on short-term (ST) funding and favoured loan sell-downs and funding via other sources including external commercial borrowings(ECB) and retail debt issuances since Q3FY2019. The run-rate of the loan sell-downs, which was observed in Q4FY2019 was sustained in Q1FY2020, while ECB volumes picked up post relaxation of the norms in February 2019.
The 90+ dpd (excluding MFIs) inched up marginally to 4.0% in June 2019 from 3.9% in March 2019. The asset quality pressure is expected to increase as the credit flow to some key segments, namely small and medium businesses, the key target borrowers for NBFCs, has slowed down while borrowers in other segments including vehicle finance face a weaker operating environment, thereby impacting their cash flow and viability. ICRA continues to expect further weakening in the asset quality during the current fiscal.
The capital profile of Retail-NBFCs is adequate, considering the stable internal generation and moderation in growth. ICRA does not expect any significant capital requirement for the segment over the near term, though some entities, registering higher growth, would raise capital.
As for profitability of Retail-NBFCs, the same was impacted in Q1 FY2020 as growth remained muted, cost of funds was high, and entities faced higher credit costs. The PAT dipped to 2.1-2.2% in Q1 FY2020 from 2.5% in Q4FY2019. The provision and credit costs went up sharply in Q1 FY2020, largely due to a few players, because of write-offs and incremental provisions on NPAs/overdues and an overall uptick in early bucket delinquencies. ICRA notes that the operating profit would contract, and the credit cost would increase if the portfolio growth remains more moderate than in the past. However, the reduction in the tax rate would marginally keep the return on managed assets (RoMA) high and is estimated to be 2.2-2.4% for FY2020.
Adds Mr. Karthik, “Going forward, ICRA expects the credit growth to remain moderate in FY2020 vis-à-vis the previous two fiscals as demand remains modest and debt funding remains subdues, especially to mid & small-sized NBFCs. The asset quality is expected to face headwinds with business growth slowing down and with some key asset classes (vehicle and SME segments) likely to witness higher credit quality-related pressure. Reduction in the corporate tax rate, however, would marginally bolster the RoMA of Retail-NBFCs (excluding MFIs) by 25-35bps. The RoMA for FY2020 is estimated to be 2.2-2.4%, notwithstanding the contraction witnessed in Q1 FY2020.”
