FS-SEM I-NBFC

8/13/2019 FS-SEM I-NBFC

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C E R T I F I C A T E

This is to certify that the project entitled “Non-Banking Financial Companies”

Submitted by Ms. Sayli Shashikant Nafde Roll No. 258 student of M.Com. (Part-I)

Accountancy / Management / Banking & Finance (University of Mumbai) Semester – I

examination has not been submitted for any other examination and does not form a part of

any other course undergone by the candidate. It is further certified that he / she has

completed all required phases of the project. This project is original to the best of our

knowledge and has been accepted for Internal Assessment.

Internal Examiner External Examiner

Co-ordinator Principal

College seal


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DECLARATION BY THE STUDENT

I, Sayli Shashikant Nafde student of M.Com. Part-I Banking and Finance, Roll No. 258

hereby declare that the project for the Paper Financial Services titled, “Non-Banking Financial

Companies” submitted by me to University of Mumbai, Semester – I examination during the

academic year 2012-2013, is based on actual work carried by me under the guidance and

supervision of Prof.Dr. Seema Malankar.

I further state that this work is original and not submitted anywhere else for any examination.

Signature of student


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ACKNOWLEDGEMENT

At the beginning, I would like to thank GOD for his shower of blessing. The desire of

completing this project was given by my guide Prof.Dr. Seema Malankar. I am very much

thankful to her / him for the guidance, support and for sparing her / his precious time from a busy

schedule.

I would fail in my duty if I don‟t thank my parents who are pillars of my life. Finally I would

express my gratitude to all those who directly and indirectly helped me in completing this

project.

(Signature of the student)


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INDEX

CHAPTER

NO.

SUBJECT PAGE NO.

1 Introduction 6-8

2 Historical Background 9-11

3 Meaning, Definition, Factors, and Regulation of NBFCs 12-14

4 Classification of NBFCs 15-23

5 Role of NBFCs 24-26

6 Function of NBFCs 27-28

7 Commercial Bank v/s Non- Banking Financial Companies 29-30

8 RBI Guideline for Asset and Liability Management System

in NBFCs

31-34

9 Liquidity Risk Management 35

10 Financial Companies Regulation Bill, 2000 36

11 Appraisal of Financial Companies Regulation Bill,2000 37

12 Norms for NBFCs 38-39

13 Current Status of NBFCs 40-41

14 Financial Linkage Between Bank and NBFCs 42-43

15 List of NBFCs 44

16 Conclusion 45

17 Bibliography 46


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1. INTRODUCTION:

We studied about banks, apart from banks the Indian Financial System has a large number of

privately owned, decentralized and small sized financial institutions known as Non-banking

financial companies. In recent times, the non-financial companies (NBFCs) have contributed to

the Indian economic growth by providing deposit facilities and specialized credit to certain

segments of the society such as unorganized sector and small borrowers. In the Indian Financial

System, the NBFCs play a very important role in converting services and provide credit to the

unorganized sector and small borrowers.

NBFCs provide financial services like hire-purchase, leasing, loans, investments, chit-fund

companies etc. NBFCs can be classified into deposit accepting companies and non-deposit

accepting companies. NBFCs are small in size and are owned privately. The NBFCs have grown

rapidly since 1990. They offer attractive rate of return. They are fund based as well as service

oriented companies. Their main companies are banks and financial institutions. According to

RBI Act 1934, it is compulsory to register the NBFCs with the Reserve Bank of India.

The NBFCs in advanced countries have grown significantly and are now coming up in a very

large way in developing countries like Brazil, India, and Malaysia etc. The non-banking

companies when compared with commercial and co-operative banks are a heterogeneous

(varied) group of finance companies. NBFCs are heterogeneous group of finance companies

means all NBFCs provide different types of financial services.

Non-Banking Financial Companies constitute an important segment of the financial system.


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NBFCs are the intermediaries engaged in the business of accepting deposits and delivering

credit. They play very crucial role in channelizing the scare financial resources to capital

formation.

NBFCs supplement the role of the banking sector in meeting the increasing financial need of the

corporate sector, delivering credit to the unorganized sector and to small local borrowers. NBFCs

have more flexible structure than banks. As compared to banks, they can take quick decisions,

assume greater risks and tailor-make their services and charge according to the needs of the

clients. Their flexible structure helps in broadening the market by providing the saver and

investor a bundle of services on a competitive basis.

Non Banking Finance Companies (NBFCs) are a constituent of the institutional structure of the

organized financial system in India. The Financial System of any country consists of financial

Markets, financial intermediation and financial instruments or financial products. All these

Items facilitate transfer of funds and are not always mutually exclusive. Inter-relationships

Between these are parts of the system e.g. Financial Institutions operate in financial markets and

are, therefore, a part of such markets.

NBFCs at present providing financial services partly fee based and partly fund based. Their fee

based services include portfolio management, issue management, loan syndication, merger and

acquisition, credit rating etc. their asset based activities include venture capital financing,

housing finance, equipment leasing, hire purchase financing factoring etc. In short they are now

providing variety of services. NBFCs differ widely in their ownership: Some are subsidiaries of


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large Manufacturers (e.g., T.V. Motors T.V. Finances and Services Ltd). Many others are owned

by banks such as ICICI Banks, ICICI Securities Ltd, SBI Capital Market Ltd, Muthoot Bankers

Muthoot Financial Services Ltd a key player in Kerala financial services. Other financial

institutions are IFCIs IFCI Financial Services Ltd or IFCI Custodial Services Ltd (Devdas,

2005).

Non-banking Financial Institutions carry out financing activities but their resources are not

directly obtained from the savers as debt. Instead, these Institutions mobilize the public savings

for rendering other financial services including investment. All such Institutions are financial

intermediaries and when they lend, they are known as Non-Banking Financial Intermediaries

(NBFIs) or Investment Institutions.

The term “Finance” is often understood as being equivalent to “money”. However, final exactly

is not money; it is the source of providing funds for a particular activity. The word system, in the

term financial system, implies a set of complex and closely connected or inter-linked Institutions,

agents, practices, markets, transactions, claims, and liabilities in the Economy. The financial

system is concerned about money, credit and finance. The three terms are intimately related yet

are somewhat different from each other:

Money refers to the current medium of exchange or means of payment. Credit or loans is a sum of money to be returned, normally with interest; it refers to a

debt

Finance is monetary resources comprising debt and ownership funds of the state,company or person.


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2.HISTORICAL BACKGROUND.

The Reserve Bank of India Act, 1934 was amended on 1st December, 1964 by the Reserve Bank

Amendment Act, 1963 to include provisions relating to non-banking institutions receiving

deposits and financial institutions. It was observed that the existing legislative and regulatory

framework required further refinement and improvement because of the rising number of

defaulting NBFCs and the need for an efficient and quick system for Redressal of grievances of

individual depositors. Given the need for continued existence and growth of NBFCs, the need to

develop a framework of prudential legislations and a supervisory system was felt especially

to encourage the growth of healthy NBFCs and weed out the inefficient ones. With a view to

review the existing framework and address these shortcomings, various committees were formed

and reports were submitted by them. Some of the committees and its recommendations are given

hereunder:

1. James Raj Committee (1974)

The James Raj Committee was constituted by the Reserve Bank of India in 1974. After studying

the various money circulation schemes which were floated in the country during that time and

taking into consideration the impact of such schemes on the economy, the Committee after

extensive research and analysis had suggested for a ban on Prize chit and other schemes which

were causing a great loss to the economy. Based on these suggestions, the Prize Chits and Money

Circulation Schemes (Banning) Act, 1978 was enacted


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2. Dr.A.C.Shah Committee (1992):

The Working Group on Financial Companies constituted in April 1992 i.e. the Shah Committee

set out the agenda for reforms in the NBFC sector. This committee made wide ranging

recommendations covering, inter-alia entry point norms, compulsory registration of large sized

NBFCs, prescription of prudential norms for NBFCs on the lines of banks, stipulation of credit

rating for acceptance of public deposits and more statutory powers to Reserve Bank for better

regulation of NBFCs.

3. Khan Committee (1995)

This Group was set up with the objective of designing a comprehensive and effective supervisory

framework for the non-banking companies segment of the financial system. The important

recommendations of this committee are as follows:

i. Introduction of a supervisory rating system for the registered NBFCs. The ratings assignedto NBFCs would primarily be the tool for triggering on-site inspections at various

intervals.

ii. Supervisory attention and focus of the Reserve Bank to be directed in a comprehensivemanner only to those NBFCs having net owned funds of Rs.100 laths and above.

iii. Supervision over unregistered NBFCs to be exercised through the off-site surveillance

mechanism and their on-site inspection to be conducted selectively as deemed necessary

depending on circumstances.

iv. Need to devise a suitable system for co-coordinating the on-site inspection of the

NBFCs by the Reserve Bank in tandem with other regulatory authorities so that they were

subjected to one-shot examination by different regulatory authorities.


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v. Some of the non-banking non-financial companies like industrial/manufacturing units

were also undertaking financial activities including acceptance of deposits, investment

operations, leasing etc to a great extent. The committee stressed the need for identifying

an appropriate authority to regulate the activities of these companies, including plantation

and animal husbandry companies not falling under the regulatory control of Either

Department of Company Affairs or the Reserve Bank, as far as their mobilization of

public deposit was concerned.

vi. Introduction of a system whereby the names of the NBFCs which had not complied with

the regulatory framework / directions of the Bank or had failed to submit the prescribed

returns consecutively for two years could be published in regional newspapers.

4. Narasimha Committee (1991)

This committee was formed to examine all aspects relating to the structure, organization &

functioning of the financial system.

These were the committee‟s which founded non- banking financial companies.


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3.NON-BANKING FINANCIAL COMPANY (NBFC)

-MEANING

Non-Banking Financial Companies (NBFCs) play a vital role in the context of Indian Economy.

They are indispensible part in the Indian financial system because they supplement the activities

of banks in terms of deposit mobilization and lending. They play a very important role by

providing finance to activities which are not served by the organized banking sector. So, most

the committees, appointed to investigate into the activities, have recognized their role and have

recognized the need for a well-established and healthy non-banking financial sector.

Non-Banking Financial Company (NBFC) is a company registered under the Companies Act,

1956 and is engaged in the business of loans and advances, acquisition of

shares/stock/bonds/debentures/securities issued by Government or local authority or other

securities of like marketable nature, leasing, hire-purchase, insurance business, chit business but

does not include any institution whose principal business is that of agriculture activity,

industrial activity, sale/purchase/construction of immovable property.

Non-banking institution which is a company and which has its principal business of receiving

deposits under any scheme of arrangement or any other manner, or lending in any manner

is also a non- banking financial company.


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DEFINITIONS OF NBFC.

Non-Banking Financial Company has been defined as:

(i) A non-banking institution, which is a company and which has its principal business the

receiving of deposits under any scheme or lending in any manner.

(ii) Such other non-banking institutions, as the bank may with the previous approval of the

central government and by notification in the official gazette, specify.

NBFCS provide a range of services such as hire purchase finance, equipment lease finance,

loans, and investments. NBFCS have raised large amount of resources through deposits from

public, shareholders, directors, and other companies and borrowing by issue of non-convertible

debentures, and so on.

Non-banking Financial Institutions carry out financing activities but their resources are not

directly obtained from the savers as debt. Instead, these Institutions mobilize the public savings

for rendering other financial services including investment. All such Institutions are financial

intermediaries and when they lend, they are known as Non-Banking Financial Intermediaries

(NBFIs) or Investment Institutions:

UNIT TRUST OF INDIA. LIFE INSURANCE CORPORATION (LIC). GENERAL INSURANCE CORPORATION (GIC).


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Factors contributing to the Growth of NBFCs:

According to A.C. Shah Committee, a number of factors have contributed to the growth of

NBFCs. Comprehensive regulation of the banking system and absence or relatively lower degree

of regulation over NBFCs has been one of the main reasons for their growth. During recent years

regulation over their activities has been strengthened, as see a little later.

The merit of non-banking finance companies lies in the higher level of their customer

orientation. They involve lesser pre or post-sanction requirements, their services are marked with

simplicity and speed and they provide tailor-made services to their clients. NBFCs cater to the

needs of those borrowers who remain outside the purview of the commercial banks as a result of

the monetary and credit policy of RBI. In addition, marginally higher rates of interest on deposits

offered by NBFCs also attract a large number of depositors

Regulation of NBFCs

In 1960s, the Reserve Bank made an attempt to regulate NBFCs by issuing directions to the

maximum amount of deposits, the period of deposits and rate of interest they could offer on the

deposits accepted. Norms were laid down regarding maintenance of certain percentage of liquid

assets, creation of reserve funds, and transfer thereto every year a certain percentage of profit,

and so on. These directions and norms were revised and amended from time to time.

In 1997, the RBI Act was amended and the Reserve Bank was given comprehensive powers to

regulate NBFCs. The amended Act made it mandatory for every NBFC to obtain a certificate of

registration and have minimum net owned funds. Ceilings were prescribed for acceptance of

deposits, capital adequacy, credit rating and net-owned funds. T he Reserve Bank also developed

a comprehensive system to supervise NBFCs accepting/ holding public deposits.


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4. CLASSIFICATION OF NBFCs:

This classification is in addition to the present classification of NBFCs into deposit-taking and

Non-deposit-taking NBFCs. Depending on the nature their major activity, the non-banking

financial companies can be classified into the following categories, they are:

(1) Equipment leasing companies.(2) Hire-purchase finance companies.(3) Housing finance-companies.(4) Investments companies.(5) Loan companies.(6) Mutual Fund Benefit Companies.(7) Chit fund companies.(8) Residuary companies.

Equipment Leasing Company:(a) Equipment leasing company means any company which is carrying on the activity of

leasing of equipment, as its main business, or the financing of such activity.

(b) The leasing business takes place of a contract between the lessor (lessor means the leasing

company) and the lessee (lessee means a borrower).

(c) Under leasing of equipment business a lessee is allowed to use particular capital equipment,

as a hire, against a payments of a monthly rent.

(d) Hence, the lessee does not purchase the capital equipment, but he buys the right to use it.


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(e) There are two types of leasing arrangements, they are:

(i) Operating leasing: In operating leasing the producer of capital equipment offers his

product directly to the lessee on a monthly rent basis. There is no middleman in

operating leasing.

(ii) Finance leasing: In finance leasing, the producer of the capital equipment sells the

equipment to the leasing company, then the leasing company leases it to the final user of

the equipment. Hence, there are three parties in finance leasing. The leasing company

acts as a middleman between the producer of equipment and the user of equipment.

Benefits/Advantages of Leasing:

(1) 100% finance:

They borrower in the equipment can get up to 100% finance for the use of capital through

leasing arrangement in the sense, that the leasing company provides the equipment

immediately and the borrower need not pay the full amount at once. Hence, the borrower

can use the amount for fulfilling other needs such as expansion development, etc.

(2) Payment is easier:

Leasing finance is costlier. However, the borrower finds it convenient (easy) as he has to

pay in installments out of the return from the investment in the equipment. Hence, the

borrower does not feel the burden of payment.


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(3) Tax concessions:

The borrower can get tax concessions in case of leasing equipments. The total amounts of

rent paid on leased equipment are deducted from the gross income. In case of immediate

purchase, interest on the loan and the depreciation are deducted from the taxable income.

Hire-purchase Finance Companies:

(a) Hire purchase finance company means any company which is carrying on the main

business of financing, physical assets through the system of hire-purchase.

(b) In hire-purchase, the owner of the goods hires them to another party for a certain period

and for a payment of certain installment until the other party owns it.

(c) The main feature of hire-purchase is that the ownership of the goods remains with the

owner until the last installment is paid to him. The ownership of goods passes to the user

only after he pays the last installment of goods.

(d) Hire-purchase is needed by farmers, professionals and transport group people to buy

equipment on the basis of hire purchase.

(e) It is a less risky business because the goods purchased on hire purchase basis serve as

securities till the installment on the loan is paid.

(f) Generally, automobile industry needs lot hire-purchase finance.

(g) The problem of recovery of loans does not occur in most cases, as the borrower is able to

pay back the loan out of future earnings through the regular generation of funds out of

the asset purchased.

(h) In India, there are many individuals and partnership firms doing this business. Even


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commercial banks, hire-purchase companies and state financial corporation‟s provide

hire-purchase credit.

Housing Finance Companies:

(a) A housing finance company means any company which is carrying on its main business

of financing the construction or acquisition of houses or development of land for housing

purposes.

(b) Housing finance companies also accept the deposits and lend money only for housing

purposes.

(c) Even though there is a heavy demand for housing finance, these companies have not

made much progress and as on 31st March, 1990 only 17 such companies here reported

to the RBI.

(d) The ICICI and the Canara Bank took the lead to sponsor housing finance companies,

namely, Housing Development Corporation Ltd. and the Can fin Homes Ltd.

(e) All the information about the Housing finance companies is available with the National

Housing Bank. Housing finance companies also have to compulsorily to register

themselves with the Reserve Bank of India.

(f) National Housing bank is the apex institution in the field of housing. It promotes housing

finance institutions, both on regional and local levels.

Investment Companies:(a) Investment company means any company which is carrying on the main business of

securities.


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(b) Investment companies in India can be broadly classified into two types:

(1) Holding Companies:

(i) In case of large industrial groups, there are holding companies which buy shares mainly

for the purpose of taking control over another institution.

(ii) They normally purchase the shares of the institution with the aim of controlling it rather

than purchasing shares of different companies.

(iii) Such companies are set up as private limited companies.

(2) Other Investment Companies:

(i) Investment companies are also known as Investment trusts.

(ii) Investment companies collect the deposits from the public and invest them in securities.

(iii) The main aim of investment companies is to protect small investors by collecting their

small savings and investing than in different securities so that the risk can be spread.

(iv) An individual investor cannot do all this on his own, due to lack of expertise in

investing. Hence, investing companies are formed for collective investing. Companies

are formed for collective investments of money, mainly of small investors.

(v) Another benefit of an investment company is that it offers trained, experienced and

specialized management of funds.

(vi) It helps the investors to select a financially sound and liquid security.

Liquid security means a security which can be easily converted into cash.

(vii)In India investment trusts are very popular. They help in putting the savings of people

into productive investments.

(viii)Some of the investment trusts also do underwriting, promoting and holding company


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business besides financing.

(ix)These investments trusts help in the survival of business in the economy by keeping the

capital market alive, active and busy.

Loan company:

(a) A loan company means any company whose main business is to provide finance through

loans and advances.

(b) It does not include a hire purchase finance company or an equipment leasing company or

a housing finance company.

(c) Loan company is also known as a “Finance Company".

(d) Loan companies have very little capital, so they depend upon public deposits as their

main source of funds. Hence, they attract deposits by offering high rates of interest.

(e) Normally, the loan companies provide loans to wholesalers, retailers, small-scale

industries, self-employed people, etc.

(f) Most of their loans are given without any security. Hence, they are risky.

(g) Due to this reason, the loan company charges high rate of interest on its loans. Loans are

generally given for short period of time but they can be renewed.


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Mutual Benefit Financial Company:

(a) They are the oldest form of non-banking financial companies.

(b) A mutual benefit financial company means any company which is notified under section

620A of the Companies Act, 1956.

(c) It is popularly known as "Nidhis".

(d) Usually, it is registered with only very small number of shares. The value of the shares is

often Rs. 1 only

(e) It accepts deposits from its members and lends only to its members against tangible

securities.

Chit-fund Companies: History:

The chit fund schemes have a long history in the southern states of India. Rural unorganized chit

funds may still be spotted in many southern villages. However, organized chit fund companies

are now prevalent all over India. The word is Hindi and refers to a small note or piece of

something. The word passed into the British colonial “lexicon” and is still used to refer to a small

piece of paper, a child or small girl

How Chit Fund Help?

Chit Funds have the advantage both for serving a need and as an investment. Money can be

readily drawn in an emergency or could be continued as an investment.


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Interest rate is determined by the subscribers themselves, based on mutual decisions and varies

from auction to auction.

The money that you borrow is against your own future contributions.

The amount is given on personal sureties too; unlike in banks and other financial institutions

which demand a tangible security.

Chit funds can be relied upon to satisfy personal needs. Unlike other financial institutions, you

can draw upon your chit fund for any purpose - marriages, religious functions, medical expenses,

just anything...

Cost of intermediation is the lowest.

(a) Chit funds companies are one of the oldest forms of local non-banking financial

institution in India.

(b) They are also known as "kuries".

(c) These institutions have originated from south India and are very popular over there.

(d) A chit fund organization is an organization of a number of people who join together and

subscribe (contribute) amounts monthly so that any members who is in need of funds can

draw the amount less expenses for conducting the chit. It is an organization run on co-

operative basis for the benefit of the members who contribute money, the funds are used

by them as and when a particular member needs it.

(e) It helps the persons who save money regularly to invest their savings with good chances

of profit.

(f) Chit funds have many defects as the rate of return given to each member is not the same.

(g) It differs from person to person, this leads in improper distribution of gains and losses.


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(h) Also, the promoters of these funds do everything for their own benefit to get maximum

income.

(I) Hence, the banking commission has made suggestions to pass uniform chit funds laws

for the whole of India.

Residuary Non-banking Companies:

(a) The term "residue" means a small part of something that remains. As the meaning of the

term shows, a residuary company is one which does not fall in any of the above

categories.

(b) It generally accepts deposits by operating different schemes similar to recurring deposit

schemes of banks.

(c) Deposits are collected from a large number of people by promising them that their

money would be invested in banks and government securities

(d) The collection of deposits is done at the doorsteps of depositors through bank staff, who

is paid commission.

(e) These companies get the funds at low cost for longer terms, at they invest them in

investments which generates good amount of return.

(f) Many of these companies operate with very small amount of capital.

(g) They have some adverse (bad) features, such as:

(ii) Some do not submit periodic returns to the regulatory authority.

(iii) Some of them do not appoint banks, etc.


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5. ROLE OF NON- BANKING FINANCIAL COMPANIES.

(1) Promoters Utilization of Savings:

Non- Banking Financial Companies play an important role in promoting the utilization of

savings among public. NBFC‟s are able to reach certain deposit segments such as unorganized

sector and small borrowers were commercial bank cannot reach. These companies encourage

savings and promote careful spending of money without much wastage. They offer attractive

schemes to suit needs of various sections of the society. They also attract idle money by offering

attractive rates of interest. Idle money means the money which public keep aside, but which is

not used. It is surplus money.

(2) Provides easy, timely and unusual credit:

NBFC‟s provide easy and timely credit to those who need it. The formalities and procedures in

case of NBFC‟s are also very less. NBFC‟s also provides unusual credit means the credit which

is not usually provided by banks such as credit for marriage expenses, religious functions, etc.

The NBFC‟s are open to all. Every one whether rich or poor can use them according to their

needs.

(3) Financial Supermarket:

NBFC‟s play an important role of a financial supermarket. NBFC‟s create a financial

supermarket for customers by offering a variety of services. Now, NBFC‟s are providing a

variety of services such as mutual funds, counseling, merchant banking, etc. apart from their


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traditional services. Most of the NBFC‟s reduce their risks by expanding their range of products

and activities.

(4) Investing funds in productive purposes:

NBFC‟s invest the small savings in productive purposes. Productive purposes mean they invest

the savings of people in businesses which have the ability to earn good amount of returns. For

example – In case of leasing companies lease equipment to industrialists, the industrialists can

carry on their production with less capital and the leasing company can also earn good amount of

profit.

(5) Provide Housing Finance:

NBFC‟s, mainly the Housing Finance companies provide housing finance on easy term and

conditions. They play an important role in fulfilling the basic human need of housing finance.

Housing Finance is generally needed by middle class and lower middle class people. Hence,

NBFC‟s are blessing for them.

(6) Provide Investment Advice:

NBFC‟s, mainly investment companies provide advice relating to wise investment of funds as

well as how to spread the risk by investing in different securities. They protect the small

investors by investing their funds in different securities. They provide valuable services to

investors by choosing the right kind of securities which will help them in gaining maximum rate

of returns. Hence, NBFC‟s plays an important role by providing sound and wise investment

advice.


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(7) Increase the Standard of living:

NBFC‟s play an important role in increasing the standard of living in India. People with lesser

means are not able to take the benefit of various goods which were once considered as luxury but

now necessity, such as consumer durables like Television, Refrigerators, Air Conditioners,

Kitchen equipments, etc. NBFC‟s increase the Standard of living by providing consumer goods

on easy installment basis. NBFC‟s also facilitate the improvement in transport facilities through

hire- purchase finance, etc. Improved and increased transport facilities help in movement of

goods from one place to another and availability of goods increase the standard of living of the

society.

(8) Accept Deposits in Various Forms:

NBFC‟s accept deposits forms convenient to public. Generally, they receive deposits from public

by way of depositor a loaner in any f orm. In turn the NBFC‟s issue debentures, units‟

certificates, savings certificates, units, etc. to the public.

(9) Promote Economic Growth:

NBFC‟s play a very important role in the economic growth of the country. They increase the rate

of growth of the financial market and provide a wide variety of investors. They work on the

principle of providing a good rate of return on saving, while reducing the risk to the maximum

possible extent. Hence, they help in the survival of business in the economy by keeping the

capital market active and busy. They also encourage the growth of well- organized business

enterprises by investing their funds in efficient and financially sound business enterprises only.

One major benefit of NBFC‟s speculative business means investing in risky activities.. NBFC‟s

play a very positive and active role in the development of our country.


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6. FUCTION OF NON BANKING FINANCIAL COMPANIES:-

(1) Receiving benefits:

The primary function of nbfcs is receive deposits from the public in various ways such as issue

of debentures, savings certificates, subscription, unit certification, etc. thus, the deposits of nbfcs

are made up of money received from public by way of deposit or loan or investment or any other

form.

(2) Lending money:

Another important function of nbfcs is lending money to public. Non- banking financial

companies provide financial assistance through.

(a) Hire purchase finance:

Hire purchase finance is given by nbfcs to help small important operators, professionals,

and middle income group people to buy the equipment on the basis on Hire purchase.

After the last installment of Hire purchase paid by the buyer, the ownership of the

equipment passes to the buyer.

(b) Leasing Finance:

In leasing finance, the borrower of the capital equipment is allowed to use it, as a hire,

against the payment of a monthly rent. The borrower need not purchase the capital

equipment but he buys the right to use it.


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(c) Housing Finance:

NBFC‟s provide housing finance to the public, they finance for construction of houses,

development of plots, land, etc.

(d) Other types of finance provided by NBFCs include:

Consumption finance, finance for religious ceremonies, marriages, social activities,

paying off old debts, etc. NBFCs provide easy and timely finance and generally those

customers which are not able to get finance by banks approach these companies.

(e) Investment of surplus money:

NBFCs invest their surplus money in various profitable areas.


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7.COMMERCIAL BANK VERSUS (V/S) NON-BANKING FINANCIAL COMPANIES

While commercial banks and non-banking financial companies are both financial intermediaries

(middleman) receiving deposits from public and lending them. Commercial bank is called as

“Big brother” while the “NBFC” is called as the “Small brother. But there are some important

differences between both of them, they are as follows:

No. Commercial Banks. Non Bank Financial companies.

1 Issue of cheques:

In case of commercial banks, a cheque

can be issued against bank deposits.

In case of NBFC‟s there is no facility to

issue cheques against bank deposits.

2 Rate of interest:

Commercial bank offer lesser rate of

interest on deposits and charge less rate

of interest on loans as compared to

NBFC‟s.

NBFC‟s offer higher rate of interest on

deposits and charge higher rate of interest

on loans as compared to Commercial

banks.

3 Facilities provided by them:

Commercial banks can enjoy the benefit

of certain facilities like deposit insurance

cover facilities, refinancing facilities, etc.

NBFC‟s are not given such facilities.


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4 Law which governs them:

Commercial banks are regulated by

Banking Regulation Act 1949 and RBI.

NBFC‟s are regulated by different

regulation such as SEBI, Companies Act,

National Housing Bank, Unit Fund Act and

RBI.

5 Types of assets:

commercial banks hold a variety of

assets in the form of loans, cash credit,

bill of exchange, overdraft etc.

NBFC‟s specialize in one types of asset.

For e.g.: Hire purchase companies

specialize in consumer loans while

Housing Finance Companies specialize in

housing finance only.


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strategic management. NBFC‟s are now operating in a fairly deregulated environment

and are required to determine on their own, interest rates on deposits, subject to the

ceiling of maximum rate of interest on deposits they can offer on deposits prescribed by

the Bank; and advances on a dynamic basis. The interest rates on investments of NBFC's

in Government and other securities are also now market related. Intense pressure on the

management of NBFC's to maintain a good balance among spreads, profitability and

long-term viability. Imprudent liquidity management can put NBFC's earnings and

reputation at great risk.

2. NBFC's need to address these risks in a structured manner by upgrading their risk

management and adopting more comprehensive Asset-Liability Management (ALM)

practices than has been done hitherto. ALM, among other function, is also concerned

with risk management and provides a comprehensive and dynamic framework for

measuring, monitoring and managing liquidity and interest rate equity and commodity

price risks of major operators in the financial system that needs to be closely integrated

with the NBFC's business strategy. It involves assessment of various types of risks and

altering the asset-liability portfolio in a dynamic way in order to manage risks.

3. This note lays down broad guidelines in respect of interest rate and liquidity risks

management systems in NBFC's which form part of the Asset-Liability Management

(ALM) function. The initial focus of the ALM function would be to enforce the risk

management discipline i.e. managing business after assessing the risks involved. The

objective of good risk management systems should be that these systems will evolve into


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a strategic tool for NBFC's management.

4. The ALM process rests on three pillars:

ALM Information Systems Management Information Systems Information availability, accuracy, adequacy and expediency ALM Organization Structure and responsibilities level of top management involvement Risk parameters Risk identification Risk management Risk policies and tolerance levels.

ALM INFORMATION SYSTEMS

ALM has to be support by a management philosophy which clearly specifies the risk policies and

tolerance limits. This framework needs to be built on sound methodology with necessary

information system as back up. Thus, information is the key to the ALM process. It is, however,

recognized that varied business profiles of NBFC's in the public and private sector do not make

the adoption of a uniform ALM System for all NBFC's feasible.

NBFC's have heterogeneous organizational structures, capital base, asset sizes management


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profile, business activities and geographical spread.

ALM ORGANISATION

(a) Successful implementation of the risk management process would require strong

commitment on the part of the senior management in the NBFC, to integrate basic

operations and strategic decision making with risk management.

(b) The Asset-Liability Committee (ALCO) consisting of the NBFC's senior management

including Chief Executive Officer (CEO) should be responsible for ensuring adherence

to the limits set by the Board as well as for deciding the business strategy of the NBFC

(on the assets and liabilities sides) in line with the NBFC's budget and decided risk

management objectives.

(c) The ALM Support Groups consisting of operating staff should be responsible for

analyzing, monitoring and reporting the risk profiles to the ALCO. The staff should also

prepare forecasts (simulations) showing the effects of various possible changes in market

conditions related to the balance sheet and recommended the action needed to adhere to

NBFC's internal limits.


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9. LIQUIDITY RISK MANAGEMENT

Measuring and managing liquidity needs are vital for effective operation of NBFCs. By ensuring

an NBFC's ability to meet its liabilities as they become due, liquidity management can reduce the

probability of an adverse situation developing. The importance of liquidity transcends individual

institution, as liquidity shortfall in one institution can have repercussions on the entire system.

NBFCs management should measure not only the liquidity positions of NBFCs on an ongoing

basis but also examine how liquidity requirements are likely to involve under different

assumptions.

Experience shows that assets commonly considered as liquid, like Government securities and

other money market instruments, could also become illiquid when the market and players are

unidirectional.

NBFCs holding public deposits are required to invest up to a prescribed percentage (15% as on

date) of their public deposits in approved securities in terms of liquid asset requirement of

section 45-IB of the RBI Act,1934. Residuary Non-Banking Companies (RNBCs) are required to

invest up to 80% of their deposits in a manner as prescribed in the Directions issued under the

said Act. There is no such requirements for NBFCs which are not holding public deposits. Thus

various NBFCs including RNBCs would be holding in their investments portfolio securities

which could be broadly classifiable as 'mandatory securities' (under obligation of law) and other

'non-mandatory securities'.


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10.FINANCIAL COMPANIES REGULATION BILL, 2000.

The Government of India framed the Financial Companies Regulation Bill, 2000 to Consolidate

the law relating to NBFCs and unincorporated bodies with a view to ensured position or

protection. The salient features of this Bill are:

All NBFCS will be known as Financial Companies instead of NBFCs; NBFCs holding public

deposits would not be allowed to carry on any non-Financial business without the prior approval

of RBI; RBI would have the powers to prescribe minimum net-worth norms; unsecured

depositors would have first charge on liquid assets and assets created out of deployment of part

of the reserve fund.

Financial Companies would require prior approval of RBI for any change in name, management

or registered office; Regulation of unincorporated bodies would be in the hands of the respective

State Governments; Penalties have been rationalized with the objective that they should serve as

a deterrent and investigative powers have been vested with District Magistrates and

Superintendents of Police; RBI would be empowered to appoint Special Officer(s) on delinquent

financial companies; Any sale of property in violation of RBI order would be void; The

Company Law Board will continue to be the authority to adjudicate the claims of depositors.

Financial companies would have no recourse to the CLB to seek deferment of the depositors‟

dues. The Bill has been introduced in Parliament in 2000 and has since been referred to the

Standing Committee on Finance. 8.0 Anomalies in the NBFC regulations.


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11. AN APPRAISAL OF FINANCIAL COMPANIES REGULATION BILL, 2000:

THE UNION Government's move to enact a separate law to regulate and control the non-

banking finance companies (NBFC) sector is indeed laudable, after a large number NBFCs had

failed to repay public deposits, ruining thousands of gullible investors, drawn mainly from the

middle class strata of the society. However, a careful perusal of the new bill, introduced in the

Lok Sabha on December 13, shows that this legislation seeks largely to consolidate into a single

stand-alone enactment the regulatory provisions concerning the NBFC sector already existing in

Chapters 111-B and C of the Reserve Bank of India Act, 1934, (RBI Act), as amended in 1997.

Thus the new law, when enacted, will just be old wine in new bottle.

It was in the wake of the CRB scam that left several thousands of depositors high and dry that

the RBI Act was amended in 1997 to empower, inter alia, the Company Law Board (CLB) to

hear and decide complaints from depositors on defaults committed by financial companies.

However, an objective study will reveal that the RBI (Amendment) Act, 1997, which added

Chapter IR-B to the parent Act, has hardly benefited the depositor fraternity. The winding-up

petition filed against CRB by the RBI under the new provisions in 1997 is still pending with the

Delhi High Court. The perpetrators of the CRB fraud have been bailed out and are scot-free.

Many depositors have been devastated. Justice delayed is indeed justice denied.


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12. NORMS for NBFCS.

In public interest and to regulate the credit system in the best interest of India, the RBI has laid

down the following important norms or rules to be followed by NBFCs accepting public

deposits:

(1) What constitutes public deposits?

Public deposit includes fixed or recurring deposits which are received from friends, relative,

shareholders of a public limited company and money raised in issued of unsecured debentures or

bond. It does not include money raised from issue of secured debentures and bond or from

borrowings of banks or financial institutions, deposits from directors or inter- corporate deposits

received from foreign national citizens and from shareholders of private limited companies.

(2) Who is allowed to accept deposits from public?

The NBFCs which have net owned capital of less than Rs. 25 Lakhs will not be permitted to

accept deposit from public. In order to raise funds the NBFC can borrow from some other

sources also.

(3) NBFCs have to submit financial statements:

All NBFCs will have to submit their annual financial statements and returns if they accept public

deposits.

(4) Certain deposits are not regulated by RBI:

The RBI has given directions to NBFCs accepting public deposits to regulate the amount of

deposit, rate of interest, time period of deposits, brokerage and borrowings received by them.


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The directions do not include amount received or generated by central bank or state government.

Amount received from IDBI, ICICI Nabard, Electricity Board and IFCI are also not included in

directions of RBI. Amount received from mutual funds, directors of firm and shareholders also

do not come under the category of amount received for regulation from RBI.

(5) Ceiling (limits on interest):

There is a maximum limit on the rate of interest of deposits. The limit charges with the RBI

directions.

(6) Period of deposits:

The deposits can be accepted for a minimum period of 12 months and a maximum period of 2

year.

(7) Register of depositors:

The NBFCs have to maintain a register of depositors with details like name, address, amount,

date of each deposit, maturity period and other details according to the required by RBI.

(8) Credit rating:

To protect the public NBFCs are required to get themselves approved by the RBI through credit

rating agencies. The NBFCs which have not owned funds of Rs 25 Lakhs can obtain public

deposits if they are credit rated and they receive a minimum investment grade for their fixed

deposits from an approved rating agency.


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13. The current status of Non- Banking Financial Companies.

PRUDENTIAL NORMS:The Reserve Bank put in place in January 1998 a new regulatory framework involving

prescription of prudential norms for NBFCs which deposits are taking to ensure that these

NBFCs function on sound and healthy lines. Regulatory and supervisory attention was focused

on the „deposit taking NBFCs‟ (NBFCs – D) so as to enable the Reserve Bank to discharge its

responsibilities to protect the interests of the depositors. NBFCs - D are subjected to certain bank

– like prudential regulations on various aspects such as income recognition, asset classification

and provisioning; capital adequacy; prudential exposure limits and accounting / disclosure

requirements. However, the „non-deposit taking NBFCs‟ (NBFCs – ND) are subject to minimal

regulation.

The application of the prudential guidelines / limits is thus not uniform across the banking and

NBFC sectors and within the NBFC sector. There are distinct differences in the application of

the prudential guidelines / norms as discussed below:

i) Banks are subject to income recognition, asset classification and provisioning norms;

capital adequacy norms; single and group borrower limits; prudential limits on capital

market exposures; classification and valuation norms for the investment portfolio; CRR /

SLR requirements; accounting and disclosure norms and supervisory reporting

requirements.

ii) NBFCs – D are subject to similar norms as banks except CRR requirements and

prudential limits on capital market exposures. However, even where applicable, the


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norms apply at a rigour lesser than those applicable to banks. Certain restrictions apply

to the investments by NBFCs – D in land and buildings and unquoted shares.

iii) Capital adequacy norms; CRR / SLR requirements; single and group borrower limits;

prudential limits on capital market exposures; and the restrictions on investments in land

and building and unquoted shares are not applicable to NBFCs – ND.

iv) Unsecured borrowing by companies is regulated by the Rules made under the Companies

Act. Though NBFCs come under the purview of the Companies Act, they are exempted

from the above Rules since they come under RBI regulation under the Reserve Bank of

India Act. While in the case of NBFCs – D, their borrowing capacity is limited to a

certain extent by the CRAR norm, there are no restrictions on the extent to which NBFCs

– ND may leverage, even though they are in the financial services sector.


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14. FINANCIAL LINKAGES BETWEEN BANKS AND NBFC:

Banks and NBFCs compete for some similar kinds of business on the asset side. NBFCs offer

products/services which include leasing and hire-purchase, corporate loans, investment in non-

convertible debentures, IPO funding, margin funding, small ticket loans, venture capital, etc.

However NBFCs do not provide operating account facilities like savings and current deposits,

cash credits, overdrafts etc.

NBFCs avail of bank finance for their operations as advances or by way of banks‟ subscription to

debentures and commercial paper issued by them.

Since both the banks and NBFCs are seen to be competing for increasingly similar types of some

business, especially on the assets side, and since their regulatory and cost-incentive structures are

not identical it is necessary to establish certain checks and balances to ensure that the banks ‟

depositors are not indirectly exposed to the risks of a different cost-incentive structure. Hence,

following restrictions have been placed on the activities of NBFCs which banks may finance:

i) Bills discounted / rediscounted by NBFCs, except for rediscounting of bills discounted by

NBFCs arising from the sale of –

a) Commercial vehicles (including light commercial vehicles); and

b) Two-wheeler and three-wheeler vehicles, subject to certain conditions;

c) Investments of NBFCs both of current and long term nature, in any company/entity by way

of shares, debentures, etc. with certain exemptions;

ii) Unsecured loans/inter-corporate deposits by NBFCs to/in any company.


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iii) All types of loans/advances by NBFCs to their subsidiaries, group companies/entities.

iv) Finance to NBFCs for further lending to individuals for subscribing to Initial Public

Offerings (IPOs).

v) Bridge loans of any nature, or interim finance against capital/debenture issues and/or in the

form of loans of a bridging nature pending raising of long-term funds from the market by

way of capital, deposits, etc. to all categories of Non-Banking Financial Companies, i.e.

equipment leasing and hire-purchase finance companies, loan and investment companies,

Residuary Non-Banking Companies (RNBCs).

vi) Should not enter into lease agreements departmentally with equipment leasing companies

as well as other Non-Banking Financial Companies engaged in equipment leasing.


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16. CONCLUSION:

NBFCs are gaining momentum in last few decades with wide variety of products and services.

NBFCs collect public funds and provide loan able funds. There has been significant increase in

such companies since 1990s. They are playing a vital role in the development financial system of

our country. The banking sector is financing only 40 per cent to the trading sector and rest is

coming from the NBFC and private money lenders. At the same line 50 per cent of the credit

requirement of the manufacturing is provided by NBFCs. 65 per cent of the private construction

activities was also financed by NBFCs. Now they are also financing second hand vehicles.

NBFCs can play a significant role in channelizing the remittance from abroad to states such as

Gujarat and Kerala.

NBFCs in India have become prominent in a wide range of activities like hire purchase finance,

equipment lease finance, loans, investments, and so on. NBFCs have greater reach and flexibility

in tapping resources. In desperate times, NBFCs could survive owing to their aggressive

character and customized services. NBFCs are doing more fee-based business than fund based.

They are focusing now on retailing sector-housing finance, personal loans, and marketing of

insurance. Many of the NBFCs have ventured into the domain of mutual funds and insurance.

NBFCs undertake both life and general insurance business as joint venture participants in

insurance companies. The strong NBFCs have successfully emerged as „Financial Institutions‟ in

short span of time and are in the process of converting themselves into „Financial Super Market‟.

The NBFCs are taking initiatives to establish a self-regulatory organization (SRO). At present,

NBFCs are represented by the Association of Leasing and Financial Services (ALFS), Federation

of India Hire Purchase Association (FIHPA) and Equipment Leasing Association of India

(ELA). The Reserve Bank wants these three industry bodies to come together under one roof.


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17. BIBLIOGRAPHY

BOOKS:-

1) Statutory guidance‟s for non- banking financial companies. – Taxman.

WEBSITES:-

www.NBFC.com www.RBI.com www. How Stuff Works.com www. Wikipedia.com

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