RBI clamps down on private finance companies

The Reserve Bank of India (RBI) is clamping down on private companies engaged in the same business as non-banking finance companies (NBFCs) but not registered with it, as part of the regulator’s efforts to head off situations in which depositors could lose their money.

The central bank wants to curb such unregulated non-banking finance services in the backdrop of the recent collapse of the West Bengal-based, deposit-taking Saradha Group.

In the past three weeks, RBI has sent letters to several such companies undertaking finance activities, seeking balance-sheet details, according to people familiar with the development.
The central bank has been writing to entities registered with the Registrar of Companies under the financial code, or the category related to finance companies.

They have been asked to register with the apex bank, which wants to ensure that they comply with the existing regulations for such companies, the people said.

Even those companies where financial transactions are limited to their own group have been asked to furnish details as the central bank considers some of these tantamount to non-banking finance activities, according to the people, who requested anonymity because of the sensitivity of the matter.

The central bank’s department of non-banking supervision has asked these companies to submit their latest audited annual reports comprising the balance sheet and profit and loss account, along with the names and contact details of directors.

Companies are required to submit details of group companies as well “in order to enable us to confirm that your company is not carrying on any business which falls under the ambit of non-banking financial activity”, RBI wrote to the companies.

The deadline for responses is seven days from the date of receipt of the communication, failing which promoters would be vulnerable to penal action that could include imprisonment.

Mint has reviewed one such letter. An email sent to RBI on Wednesday seeking its response on the matter remained unanswered.

According to the letter reviewed by Mint, RBI has invoked Section 45-IA of the RBI Act, 1934, under which no company can commence or carry on non-banking finance operations without obtaining a registration from it, to seek details of finance companies, regardless of their asset size.

Experts are sceptical about whether the RBI action will protect vulnerable investors.

“While RBI’s efforts are intended at safeguarding the interest of public by bringing all such companies under the formal regulation, there is ambiguity regarding the definition of an NBFC and the criteria to determine whether a company is an NBFC or not,” said Jayant M. Thakur, a Mumbai-based chartered accountant, who runs his own firm, Jayant M Thakur and Co.
“Since the definition itself is not clear, there are chances of many companies being held to be NBFCs by RBI even if, in a commercial sense, they are not NBFCs,” Thakur said.

This is because RBI’s draft guidelines on NBFCs, issued in December 2012, had exempted all NBFCs with an asset size of less than Rs.25 crore, “whether accepting public funds or not”, from its rules, stating that such NBFCs shouldn’t contribute to any major systemic risks or disruptions in the market.

NBFCs with an asset size below Rs.500 crore and not accepting public funds, directly or indirectly, will also be exempt, the central bank said.

Currently, the central bank regulates all NBFCs, regardless of their size and deposit-taking status. But this time, RBI’s letters have gone even to companies with smaller asset sizes.

Experts see the RBI action as a fallout of the Saradha and Sahara Group episodes.

Saradha, one of eastern India’s biggest deposit-taking companies, collapsed in April and its chairman and managing director (CMD) Sudipta Sen has been held for defaulting on repayments.

Depositors are estimated to have lost about Rs.1,700 crore. Investigations are currently under way.

In the case of Sahara Group, in August 2012, the Supreme Court had asked two group firms—Sahara India Real Estate Corp. Ltd (SIRECL) and Sahara Housing Investment Corp. Ltd (SHICL)—to refund through the Securities and Exchange Board of India (Sebi) more than Rs.24,000 crore to bondholders with interest.

On 5 December, the Supreme Court allowed the group to deposit the money in three installments—Rs.5,120 crore immediately, Rs.10,000 crore within the first week of January 2013 and the remaining by the first week of February. Sahara, however, deposited only Rs.5,120 crore and said this was more than sufficient to meet the outstanding liabilities as it had already refunded more than Rs.20,000 crore to investors directly.

At a 17 July hearing, the Supreme Court pulled up the Sahara group for not refunding the Rs.24,000 crore to investors and said Sahara chief Subrata Roy and directors of its two companies will have to appear before the court if the company didn’t refund the amount.

On its part, market regulator Sebi is gearing up for a closer regulation of companies that collect public funds.

Following a presidential ordinance last week, Sebi will now have powers to regulate any pooling of funds under an investment contract involving a corpus of Rs.100 crore or more and attach assets in case of non-compliance.

This will help Sebi to tighten its hold on companies, which do not fall under any regulated category.

That apart, the chairman of Sebi will have powers to authorize search and seizure operations as part of efforts to crack down on ponzi schemes.

In separate cases, there have been regulatory steps against several other NBFCs.

For instance, early this year, RBI had banned Kerala-based NBFCs, Muthoot Fincorp Ltd and Manappuram Finance Ltd, from accepting public deposits after uncovering irregularities in their operations.

The Indian central bank has been been tightening its grip on NBFCs in the last few years due to the relatively high risk nature of their business, their rapid growth in the last few years and relatively lighter regulations compared with those that govern commercial banks.

More importantly, the central bank is worried about the high exposure of commercial banks to such companies.
On 31 May, banks had lent Rs.2.5 trillion to NBFCs, up from Rs.1.8 trillion in May 2011. But following the regulator’s stance, banks have become cautious about lending to these firms, resulting in a significant decline in the fund flow to the segment.

RBI draft guidelines on the regulation of NBFCs, based on the proposals of a working group headed by former deputy governor Usha Thorat, prohibited NBFCs from accepting deposits unless they are rated.

Existing unrated deposit-taking NBFCs will be given one year to get themselves rated and will not be allowed to accept any fresh deposits or renew existing deposits, unless they are rated by that time.

According to the draft rules, NBFCs with financial entities with an asset size of Rs.1,000 crore or above, holding financial assets that constitute 50% of the total assets or generating at least 50% of financial income as a proportion of gross income, also need to be registered and regulated by RBI, the central bank said. Further, no NBFC shall commence or carry on NBFC business without having net-owned funds of Rs.25 lakh to Rs.2 crore as may be specified by RBI.

The draft rule also required NBFCs to reach a minimum Rs.25 crore of financial assets within a period of two years.

“The idea of RBI is to identify companies which are doing NBFC business but not registered. This is a positive step by the regulator to ensure the safety of the financial system,” said Akeel Master, partner, financial services, KPMG India, an audit and consulting firm.

Sahara has filed a defamation case in a Patna court against Mint’s editor and some reporters over the newspaper’s coverage of the company’s disputes with Sebi. Mint is contesting the case.

Source: LiveMint