No Immediate Impact on NBFCs: CARE on RBI’s PCA Framework

Ashish M. Shaji

22 Dec, 2021

One of the rating agencies, Care edge ratings, stated that there would be no NBFCs within its rated universe that would be impacted by the RBI’s new Prompt Corrective Action Framework. The Reserve Bank had issued a PCA framework for NBFCs, earlier this month. This article discusses the views of CARE on RBI’s PCA Framework.

What is CareEdge Ratings?

CareEdge Ratings^[1] is one of the leading credit rating agencies in India. It started its operations in 1993. It emerged as a leading agency in covering different rating segments, including banks, non-financial services etc. It has been rating companies over last three decades and has played a significant role in developing bank debt and capital market instruments including CPs, corporate bonds & debentures, & structured credit.

RBI’s PCA Framework

As NBFCs have been growing in size and considering it has excellent inter-connectedness with other segments of the financial system, the RBI introduced a PCA framework for NBFCs with a view to further strengthen the supervisory tools applicable to the NBFCs.

This framework shall apply to the following:

• All deposit-taking NBFCs;
• All non-deposit taking NBFCs in Middle, Upper and Top Layers;
• Govt. Companies;
• Primary dealers;
• Housing Finance Companies.

The framework for NBFCs will be effective from the next year, based on the position of NBFCs on or after March 31, 2022.

View point of CARE

CARE noted that a similar bank like PCA structure is proposed for Non-Banking Financial Companies to rebuild the operations of the NBFC and/or undertaking actions under IBC or winding up operations of the NBFC. It further said that this regulation is intended to align the NBFC regulations with the bank regulations, particularly for the larger NBFCs. It enables NBFCs to pause and recover. Exiting from the PCA framework continues to remain at the discretion of the Reserve Bank.

CARE also stated that the initial risk thresholds are in line with the RBI circular on dividend pay-out by Non-Banking Financial Companies (restriction on dividend distribution/remittance of profits pay-outs is a mandatory action for Non-Banking Financial Companies entering the PCA framework even under the Risk Threshold 1) dated June 24, 2021.

Further, CARE outlined that with a view to counter the impact of 3-4 years of multiple stress events including demonetisation, covid wave, liquidity crisis, the NBFC sector has strongly focussed on persevering and enhancing capital buffers. Therefore the capital adequacy requirements to be excluded under the PCA framework are met well by the non-bank lenders.

CARE also said that RBI’s updated directions on Income Recognition Asset Classification and Provisioning might result in an average increase of 150 bps in gross NPAs, being a proportion of assets moving from SMA2 buckets. It may also require additional provisioning to ensure comfortable NNPA levels. It observed that some NBFCs with net NPAs of more than 6% in their currently quarterly numbers and could have breached the net NPA criteria, have even otherwise showed their desire to focus on recovery and/or write-offs vis a vis growth to move towards net NPA of lower than 6% in their annual numbers for Financial Year 2022, with a long term target of moving below 4%.

CARE believes that they don’t expect any NBFC within its rated universe to be impacted by the RBI’s PCA framework. As per the data compiled by CARE, as of 31 March, 2021, the NBFC sector (including the Housing Finance Companies), had an asset size of more than 54 lakh crore rupees across 12 categories, and the sector stands currently at 25% of the size of the banks. RBI has released a series of regulations, including Scale Based Regulations and Prudential norms on Income Recognition, Asset Classification and Provisioning related to Advances that are impacting the NBFC sector.

Conclusion

Experts believe that the RBI’s PCA framework for NBFCs may not have any immediate impact on the sector, but it may act as a deterrent and discipline the sector, going forward. The Reserve Bank is harmonising the regulations of the NBFCs with those of banks. It has put in place a scale-based regulatory framework, and it has also prescribed phased introduction of liquidity risk management framework for NBFCs.

Read our article:PCA Framework for NBFCs: An Overview