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5.1. INTRODUCTION

This chapter discusses the role of NBFCs by analyzing performance and

soundness of NBFC from both the external and internal perspective. The

external yardstick for measuring soundness is the supervisory tool used by

Regulators and supervisors called the CAMEL model. The only difference is

that in this research analysis the source of inputs for CAMEL is purely

secondary data collected from balance sheets and annual reports of the selected

30 companies for the ten-year period. The internatl perspective used in this

research is the SWOT analysis for which the inputs are taken from the

questionnaire distributed to 30 selected companies.

5.2. ANALYSIS OF SELECT NBFCs – CAMEL MODEL

Most analysts and credit rating agencies go by the CAMEL model when

they evaluate the soundness of NBFCs. The acronym: “C” stands for Capital

adequacy, “A” stands for Asset quality and asset profile in the context of

evaluating NPAs, “M” for Management quality of the NBFC, “E” stands for

Earning and “L” for Liquidity. The various marks given for each item in this

analysis is discussed overleaf:

CAPITAL ADEQUACY

To assess the adequacy of capital the following ratios were used:

i) Capital to Risk Weighted Assets Ratio

Reserve Bank has stipulated 12 per cent CRAR for equipment leasing and the

hire purchase companies with credit rating and 15 per cent for those without

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rating as adequate for accessing public deposits. Taking this as a bench mark,

this analysis has assigned marks for assessing soundness.

ii) Ratio of retained earnings to net profit

Companies plough back their profits to strengthen the fundamentals of the

company Guidelines are prescribed by the Companies Act, 1956 and Reserve

Bank of India Act 1934 for transferring profits into general reserve and

statutory reserve. Taking these into account, the ratio at one has been assigned

the highest mark.

iii) Yearly Growth in Capital Funds

Companies raise capital by issue of shares and continuous injection of capital

will ensure adequacy of capital to meet contingencies as and when they arise

and also help in meeting CRAR requirements, when the assets of the company

increase. An annual increase of five more has been allotted the highest mark.

iv) Public deposit as a percentage of owned funds

Reserve bank linked acceptance of public deposits to net owned fund along

with CRAR and credit rating. The leverage ratio of three times was given as

the maximum points.

ASSET QUALITY

Net NPA is taken as a criterion for assessing the soundness of the NBFCs, Any

NPA level below 5 per cent is considered as good for this analysis.

MANAGEMENT EXCELLENCE

The key to success of any enterprise is the quality of its management, which

should reflect in high level of transparency and integrity in its policies and

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practices. With this in view, management formulates policies and ensure these

are translated in to techniques and strategies to achieve results. Corporate

governance is a system by which businesses are monitored, managed and

controlled in a transparent manner. Good corporate governance is one that

encourages symbiotic relationship among shareholders, executives and Board

of Directors. Companies that are managed efficiently earn profits, which are

shared among shareholders and stakeholders (public deposit holders and

employees). Clause 49 of the listing Agreement with Stock Exchanges requires

companies to furnish crucial information to directors and all stakeholders. In

terms of para 9 of Notification dated 13th January 2001, companies having

assets of Rs. 50 crores and above are to constitute audit committees. Section

292A94 of the companies Act, 1956 stipulates that every public limited

company having paid-up share capital of not less than Rs. 5 crores shall

constitute an Audit committee. The companies Act, 195695 prescribes the

minimum number of members in the Board as also the minimum number of

times the board should meet. Taking these into account and also the need for

interaction with members to strategise the business planning and discuss

findings of audit, internal external inspections and the like, the number of

members on the Board, number of times the Board met and number of

committees of the Board are considered critical to assess the efficiency and

efficacy of the management and accordingly graded. Compliance with the

provisions of the Companies Act, 1956 and RBI Act, 1934, adverse comments

of Auditors in the annual accounts of the companies and adverse comments of

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credit rating agencies are also considered for assessing soundness of NBFCs.

Credit rating is considered as an important parameter for assessing the validity

and reliability of the credit instrument. Credit rating agencies while rating an

instrument, rate the management also and therefore this is taken as an yardstick

to measure management.

EARNINGS

Health of any company depends on its earnings and profitability. Earnings are

dependant on proper deployment of funds and its efficient recovery. Earnings

when retained increase the net worth of the NBFC. In order to build up capital

by way of reserves through retained earnings, a company should have sufficient

Assets) and return on equity (PAT/ Equity) are taken into account for assessing

earnings.

LIQUIDITY

Liquidity is an important indicator of financial management. More particularly,

for para banking institutions such as NBFCs it is a critical issue, as the

confidence a company enjoys in the market depends directly on its successful

liquidity management practices. It shows the ability of the company to pay its

present and future depositors as and when claims arise. Liquidity of a company

to meet its cash obligations at any point of time, more particularly, in the short

run. Two important criteria, one liquid assets ratios and the other cash and

bank balances to public deposits was taken as indicators of liquidity. The

criteria adopted and the marks allotted are given in the following table:

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Table 5.1: The Overall Ranking Parameters to Find the Soundness of

NBFCs

Supervisory rating Marks Marks

Capital 25

CRAR 10

Ratio of retained earnings to Net Profit 5

Public deposit as a% of owned fund 5

Yearly Growth in capital funds 5

Asset Quality 15

Net NPA 15

Management 25

Compliance with Companies Act Provision 5

No of committees 5

Adverse remarks by Auditors in the Annual report/ Adverse

comments of Rating Agencies

5

Credit Rating 10

Earnings 20

Return on assets = PAT/Total Assets 10

Return on equity = PAT / Equity 10

Liquidity 15

% of Liquid assets to Public Deposit 10

Bank & Cash balances to public deposits 5

100 100

Soundness of company

<50 Very risky

51-60 Moderate risk

61-70 Satisfactory

>71 Very satisfactory

Source: Computed from Secondary Data.

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The following paragraphs give the soundness of the companies

(i) Category wise

(ii) During the ten-year period and in the pre and post 2007 era.

An analysis of his kind also shows how the techniques adopted in resource

mobilization and the strategies involved in funds deployment have yielded

results in the form of strength and soundness to the company and the

companies standing in the eyes of the supervisor.

5.3 RESULTS OF CAMEL CRITERIA

Based on the criteria given above and using cross tabs the following

result is arrived at

In the case of government companies, their areas of risk appear to be

asset quality, management and liquidity in that order but their capital

base appears to be satisfactory.

In the case of small companies, management and liquidity appear to be

areas of risk and their capital base seems to be eroding.

For top companies assets and earnings appear to be satisfactory and their

management quality has improved during the period of research.

Taking all the factors, the overall performance has shown an

improvement for all categories of companies. The satisfactory and very

satisfactory category has increased in the case of government and top

companies from 32 per cent and 63 per cent to 45 per cent and 74 per

cent respectively and the position of small companies has remained at 49

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per cent. On the whole management is the area that needs greater

concentration for all categories of companies.

The result based on the CAMEL for the three time slots are indicated below.

TABLE 5.2 SOUNDNESS OF COMPANIES BASED ON CAMEL – CRITERIA – WISE

(No of companies as a% to that category)

Capital Asset Management Earnings Liquidity Total

Government

2003

2007

2012

2003

2007

2012

2003

2007

2012

2003

2007

2012

2003

2007

2012

2003

2007

2012

Very Satisfactory 75 75 0 0 0 25 0 0 0 25 25 25 0 0 0 5 0 25

Satisfactory 0 0 75 0 0 0 0 0 25 25 0 25 0 0 0 5 0 25

Risky 25 0 25 0 0 0 25 75 25 25 50 25 0 0 0 15 25 15

Very Risky 0 25 0 100 100 75 75 25 50 25 25 25 50 50 50 50 45 40

Small

Very Satisfactory 77 77 38 69 46 46 8 8 8 77 77 46 0 38 54 46 49 38

Satisfactory 15 15 46 0 23 0 0 0 8 0 0 0 0 8 0 3 9 11

Risky 0 0 0 0 0 0 15 31 31 0 0 31 0 0 0 3 6 12

Very Risky 8 8 15 31 31 54 77 62 54 23 23 23 100 54 46 48 35 38

Top

Very Satisfactory 69 54 15 100 100 92 15 8 46 100 100 92 8 38 62 58 60 62

Satisfactory 15 15 23 0 0 0 8 38 31 0 0 8 0 0 0 5 11 12

Risky 0 23 15 0 0 0 15 15 0 0 0 0 0 0 0 3 8 3

Very Risky 15 8 46 0 0 8 62 38 23 0 0 0

92

62 38 34 22 23

All

Very Satisfactory 73 67 23 73 63 63 10 7 23 80 80 63 10 40 57 49 51 46

Satisfactory 13 13 40 0 10 0 3 17 20 3 0 7 0 3 0 4 9 13

Risky 3 10 10 0 0 0 17 30 17 3 7 17 0 0 0 5 9 9

Very Risky 10 10 27 27 27 37 70 47 40 13 13 13 90 57 43 42 31 32

Source : Calculated from secondary data.

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Taking the total score for all factors of CAMEL viz capital, Asset,

Management, Earnings and Liquidity, the trend shows that

GOVERNMENT COMPANIES

(i) The soundness of Government companies has improved in the post 2007

era when compared to the pre 2007 period as they continued to enjoy the

patronage of the government.

SMALL COMPANIES

(i) The number of companies in the satisfactory and very satisfactory

category is the same in 2003 and 2012 (49 percent of companies)

(ii) The very risky category is on the increase from 31 to 38 per cent in the

post 2007 period, showing that conscious efforts needs to be made to

reduce this category.

TOP COMPANIES

(i) The number of companies in the very satisfactory category has increased

during the period but has fallen from a peak of 65 per cent of companies

during the years 2010 and 2012.

(ii) The number of very risky companies at 23 per cent on 2012 was needed

to be rectified so that economic development was not hindered.

ALL COMPANIES

(i) In the year 2003companies in the risk zone was around 47 per cent and

this has been reduced to 41 per cent after the 2007 regulation.

(ii) The number of companies in the very satisfactory zone has been reduced

from the 2007 position from 49 to 46 per cent.

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(iii) The number of companies in the satisfactory zone has increased from 4

per cent to 13 per cent.

The following table gives the position of all companies for all the years

after combining all the factors taken for the study.

Table 5.3 Soundness of Companies Based on CAMEL

(No of companies as a% to that category)

Year 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Government

Very Satisfactory

30 30 25 25 30 40 40 30 40 20

Satisfactory 5 5 10 10 0 5 5 15 5 25

Risky 20 25 20 20 25 10 20 15 15 15

Very Risky 45 40 45 45 45 45 35 40 40 40

Small

Very Satisfactory

46 48 46 48 49 54 49 51 52 38

Satisfactory 6 5 12 11 9 9 11 9 5 11

Risky 6 3 3 3 6 6 8 9 9 11

Very Risky 42 45 38 38 35 31 32 31 34 38

Top

Very Satisfactory

58 58 66 66 60 63 68 68 63 62

Satisfactory 5 5 6 5 11 12 9 6 8 12

Risky 8 12 8 8 8 3 6 6 9 3

Very Risky 29 25 20 22 22 22 17 20 20 23

All

Very Satisfactory

49 50 52 53 51 56 56 55 55 46

Satisfactory 5 5 9 8 9 10 9 9 6 13

Risky 9 10 7 7 9 5 9 9 10 9

Very Risky 37 35 31 32 31 29 26 27 29 32

Source: Prepared from Secondary data

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The above position is depicted graphically

Chart 5.1. Soundness of Companies Based On Camel

0

20

40

60

80

100

120

2003 2007 2012

Very Risky Risky

Satisfactory

Very Satisfactory

0

20

40

60

80

100

120

2003 2007 2012

Very Risky

Risky

Satisfactory

Very Satisfactory

0

20

40

60

80

100

120

2003 2007 2012

Very Risky Risky

Satisfactory

Very Satisfactory

0

20

40

60

80

100

120

2003 2007 2012

Very Risky Risky Satisfactory

Very Satisfactory

Government Companies Small Companies

Big Companies All Companies

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This analysis shows that RBI regulation has ensured that only serious

players with commitment are in business and other fly by night operations and

not so serious players have quit the market. Consolidation and restructuring

have changed the profile of the sector. Today’s players are larger, stronger and

compete on multiple platforms.

5.4. SWOT OF SELECT NBFCs

A scan of the internal and external environment is an important part of the

strategic planning process.

SWOT Analysis framework

The SWOT analysis helps to identify strategies and techniques that need

to be adopted for increasing strengths and reducing weakness and to counter

threats and turn them into opportunities. Environmental factors internal to the

Environmental Scan

Internal

Analysis

External

Analysis

Strengths Weakness Opportunities Threats

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institution usually are classified as strengths (S) or weaknesses (W) and those

external to the institution are classified as opportunities (O) or threats (T).

Such an analysis of the strategic environment is referred to as a SWOT

analysis. Respondents have identified the following SWOT factors.

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Table 5.4. SWOT Factors Number of Companies As A Per Cent To Total In That Category

Government Small Top

STRENGTHS Government guarantee 25 Brand image 69

Performance of the company 25 8 Size 25 8 Risk management strategies 8

Corporate governance policies 8 31 Consistent rewarding of shareholders 8 31 Depositors’ confidence 25 23 23

Individualized customized services 25 23 23

High quality assets 25 15

Knowledge of Client 8 31

Product mix 8 Low cost of funds 23

Experience staff 50 31 Compliance with regulation 8

WEAKNESS Small size 38 Negative market perception towards NBFCs 8 15 Taking time to adjust to changes because of conservation 15

Competition 25 8

Want of managerial staff 8

Market capitalization 8

Cost of funds 25 23 Dependence on retail resources 23 Low spread on lending rate 25 8

High concentration in lending 25 8 38 Legal hindrances in recoveries 23 15

OPPORTUNITIES Entry into new fields/ newer areas/ niche markets 25 92 95 Competitive rates as compared to interest paid by banks 25 Caters to basic infrastructure industry 23

Growth in sales of smaller goods carries like LCVs/3 wheelers in metro areas

31 15

Increasing trend in conversion of cash sales to financed sales 15

Infrastructure leasing 15 Consolidation in the NBFC industry has reduced competitive pressure Cash in on the constraints faced by banks in penetrating the specialized vehicle finance segment

8

Tie ups 25 Superior governance 8

THREATS Investment in small savings Government guaranteed bonds, Tax free bonds of RBI by existing and forth coming depositors

25

Competition from banks and FIs in Commercial vehicle financing – hitherto the forte of NBFCs. Competitors with low cost funds.

85 85

NPAs 23 8

Source: Primary data

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The above SWOT analysis is subjective as it is the perception of the

NBFCs. However, SWOT analysis done by the NBFCs themselves helps to

identify where they stand and where they can go in future. This analysis helps

NBFCs

To identify strengths and strategies to enhance and use them.

To identify weakness and techniques to reduce and eliminate them.

To identify opportunities and device ways and means to seize them.

To identify threats and strategies to convert these as challenges to

overcome and come out victorious.

This analysis done for the sample companies can be taken to represent the

views of the entire NBFC sector and can form the basis of policy support that

authorities need to give this sector. The response to various items indicates that

none of the items under any of the categories of strengths, weakness,

opportunities and strength appear to be highly significant for Government

companies.

STRENGTHS

Possession of experienced staff (50 percent of companies) appears to be a

major strength for small companies. Quite expectantly, brand name and

performance are the major strengths for 69 per cent of top companies. For

Government companies no single factor contributes significantly to their

strength. Other factors identified Include. The strengths of NBFCs lay in the

reputation, experience and interest of the Promoters directors and strong brand

image and goodwill developed over the years.

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Companies identified efficient processing, contemporary technology,

skill up gradation and expanded geographical network as strengths to

serve the customer at his doorstep. A web-enabled process, which will

comprehensively meet future requirements and ensure cost effective

total solution to customers, was put in place by some NBFCs. This apart

from reducing transaction costs enhances internal operational

efficiencies and increases customer satisfaction. Customers desirous of

having up-to-date information on status of their accounts and to transact

business electronically can do so, as the process makes it feasible to

transact from any part of the country. The system has in-built validation

routines and review mechanisms to ensure error free data thereby

enhancing internal efficiencies and better customer relationships.

NBFCs place a significant importance on continuous upgrading of

human resources for sustaining highest levels of customer satisfaction

and maximizing shareholder value. A competency based performance

and potential appraisal system to identify managerial talents for

succession management and for rewards for excellent performance is in

place. Training and development efforts are directed towards building

multi skills and ensuring a strong work force with high levels of

attitudinal and cultural values. Their large customer and deposit base

and large network and sustained growth through increased market

presence are also their strengths.

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Simplified sanction procedures, orientation towards customers,

attractive rate of returns on deposits, flexibility and timeliness in

meeting credit needs of specified sector are some of the strengths of this

sector.

Dynamically changing its business mix and developing effective risk

management systems to leverage opportunities in the market place are

the strengths of this sector. The synergy of the financing operations in

the three areas viz., automobile sales, infrastructure equipment services

and retail resources-_strengthen the NBFC. Their ability to change

product mix and expand product offerings and pioneer status in certain

niche areas are identified as their strengths.

In spite of the competition, some NBFCs do well because of the

automobile dealership available within the group.

A few companies opted to depart from their main business and

concentrate on new ventures and opportunities.

Attainment of highest levels of transparency, accountability and equity

in all facets of its operations and its dealings with shareholders,

employees, customers, lenders, regulators and government agencies and

serving the underlying goal of enhancing overall shareholder value over

a sustained period of time and conforming to and exceeding the

mandatory guidelines on Corporate Governance and reviewing the

Board processes and management systems to improve governance

relating to the above are considered to be strengths of the sector.

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Making profits continually and thereby consistently rewarding the

shareholders, prompt repayment of deposits, individualized customized

services are other strengths.

The "know your customer" approach and good knowledge of economic

activities of the area of operation and its people are also their strengths.

WEAKNESS

Small equity based and small branch network appears to a weakness for

12 per cent of small companies. High concentration in segments like

automobile appears to be a major weakness for 38 per cent of top companies.

Other factors listed below constitute weakness only for 15 to 23 per cent of

companies.

A problem post-CRB is that the NBFCs are faced with a growing

negative public perception. Investors apart, even banks began shying

away from NBFCs. Even good NBFCs are suffering due to the negative

perception and even fundamentally sound NBFCs are finding it difficult

to raise funds at competitive rates. Currently, NBFCs are going through

a painful identity crisis.

NBFC spreads are also getting squeezed. The villain is the rising

incidence of asset-liability mismatch. Most NBFC liabilities are short-

term funds and these funds are largely locked up in assets with a

maturity period of two years and more. They require steady deposit

renewals and inflow of fresh deposits to tide over such crisis. Alas, post-

CRB renewals have declined. In a bid to lure depositors, NBFCs are

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offering higher interest rates and this is inflating the cost of their funds.

It is an unenviable Catch-22 situation.

Recovery of receivables is another area that is keeping the NBFCs

worried. Judicial process for recovery of advances is very slow. At

times, cases are dismissed on flimsy technical grounds, and it takes

years for the courts to decide recovery cases filed by NBFCs as the dice

is heavily loaded against the lender.

Adding to all these woes, banks and financial institutions have on to

NBFCs' turf and are proving to be more muscular competitors. Host of

banks, Indian and foreign, have started offering financial services such

as car finance on more competitive terms. Financial institutions with

their retail initiative are proving to be a real challenge for NBFCs. This

incursion has already pushed small NBFCs out of their traditional areas.

Lack of market capitalization leading to low share prices, which are

not in line with intrinsic performance of the companies as 80 per cent of

shares are held for investment and not trading is identified as a

weakness.

Structural weakness includes those factors like taking time to adjust to

changes because of conservatism and dependence on retail resources.

OPPORTUNITIES

Entry into new fields appears to be the best opportunity for majority of

companies about 92 per cent of small companies and 62 per cent of top

companies. Other areas of opportunities are listed below

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The infrastructure segment and road transport segment have good

growth opportunities. As NBFCs cater to basic infrastructure industry

the opportunities for the sector are great. Infrastructural activities are

poised to push commercial vehicle sales, growth in sales of smaller

goods carriers such as Light Commercial Vehicles/three Wheelers in

metro areas, increasing trend in conversion of cash sales to financed

sales are opportunities for top companies.

With the number of players having been substantially reduced

consequent to the stricter entry point norms and imposition of prudential

norms by RBI, the market is large enough to meet the needs of existing

NBFCs and new entrants like banks and other financial institutions.

Consolidation in the NBFC industry has reduced competitive pressure

and this is an added opportunity to expand.

Cashing in on the constraints faced by banks in penetrating the

specialized vehicle finance segment which leads to the scope for branch

expansion.

NBFCs have diversified into various fee-based activities' which have

synergy with lending activities. Non-fund business such as car rentals,

ticketing, Insurance agency, and export import business are considered

as thrust areas.

New segments- self finance colleges, fast food restaurants, privatization

of transport buses, two wheeler financing, financing at village level are

other Ventures

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IT related industries are another thrust area.

The concept of NBFCs acting as retailers to the banks is gaining ground

and RBI has been issuing directions to banks to extend lines of credit to

strong NBFCs for on-lending to priority sector areas.

THREATS

The threat feared by government companies are in the other investment

opportunities like investment in small savings in post offices, Government

guaranteed bonds, Tax-free bonds of RBI by existing and forthcoming

depositors. This too is threat only to 25 per cent of companies. As could be

inferred, 85 per cent of top companies and same percentage of small companies

have identified Competition from banks and financial institutions in

commercial vehicle financing - hitherto the forte of NBFCs- is a threat as these

competitors have low cost funds. Intensified competition leading to squeeze on

spreads, declining margins, undercutting in rates by certain large players,

reduction in lending rates, all have a bearing on profitability. Only 8 per cent of

top companies and 23 per cent of small companies have considered, NPA as a

threat. Other threat includes Globalisation of Indian market brought several

multinational financial service companies into the market resulting in more

intense competition.

Using weighted average scoring model it is observed that companies

ranked their competitors as (1) Financial institutions, (2) Other NBFCs and (3)

Banks, in that order. Government companies were least affected by

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competition, while small companies considered other NBFCs as their chief

competitors, top companies considered financial institutions as their threat.

5.7. SUMMARY

From the above analysis, it is clear that strategies and techniques

account for changes in performance and soundness. All the categories NBFCs

selected and analysed function in the same environment but variations occur in

their performance. This is due to the interplay of techniques they adopt to bring

in resources and strategies they employ to deploy resources. Those with

proactive strategies and techniques survive. Nevertheless, the survival of this

sector in the Indian financial scene is essential to ensure that not all financial

resources are concentrated in one category of financial institutions. NBFCs

with their brand image, good performance and know your customer strength

and non speculative asset based lending in the form of hire purchase and

leasing are a good alternative financial intermediary, which can complement

the role of banks and DFls. NBFCs have a role to play and they need the

encouragement to function well. Regulatory measures could help them become

stronger by giving them a well levelled play ground to them along with their

competitors and by lending a developmental support from outside and

encouraging them to organize themselves collectively.