A timeline of the crises that brought India’s $370 billion shadow
banking sector to its knees
June 3, 2020
The Covid-19 outbreak and ensuing lockdown have hurt almost all
industries in India, but for the country’s $370 billion shadow
banking sector, this might be the last nail in the coffin.
Over the past two years, several non-banking financial companies
(NBFC) in India have been dealing with bad news upon bad news,
including a cash crunch, the high cost of capital, and burgeoning
bad loans.
In a recent report, Moody’s said the inability of borrowers to repay
loans amid the Covid-19 crisis, coupled with a six-month
moratorium on repayment allowed by India’s central bank, will lead
to a disruption of inflow for NBFCs, even as outflow will have to
continue.
“Most NBFCs do not have substantial on-balance sheet liquidity
because they primarily manage liquidity by matching cash inflows
from loan repayments by customers with cash outflows to repay
their own liabilities,” the ratings agency said in a report on May 18.
Once praised for reaching every nook and cranny of India, today
NBFCs are struggling for survival. But how did they get here?
It all began in September 2018, when financing behemoth
Infrastructure Leasing & Financial Services (IL&FS) collapsed.
Here’s a timeline of what went wrong for India’s NBFCs:
June 2018: IL&FS defaults for the first time on repayment of
commercial paper (short-term borrowing) and inter-corporate
deposit (unsecured borrowing) worth Rs450 crore ($60 million).
July 2018: Non-executive chairman Ravi Parthasarathy, who
played a pivotal role in the company’s growth, resigns after over 30
years of service at IL&FS. He is swiftly replaced by Hemant
Bhargava, managing director of Life Insurance Corporation of India
(LIC).
While the resignation is an exercise in damage control, news reports
claim that all is not well with IL&FS. A professional in
infrastructure financing space tells Business Standard
newspaper that Parthasarathy’s tenure was “too long and too
opaque.” The article also states that the company is highly
leveraged as its subsidiaries have a large capital requirement.
September 2018: IL&FS defaults on repayment of a Rs1,000
crore short-term loan from Small Industries Development Bank of
India. This alarms credit rating agencies, which start
downgrading the company and its subsidiaries.
CNBC-TV18 reports that the IL&FS group is saddled with a debt of
Rs91,091 crore and is facing losses to the tune of Rs1,887 crore in
the financial year 2018.
News reports also say IL&FS has been funding long-term projects
via short-term borrowing. As the cost of borrowing rises due to an
increase in debt, short-term liquidity dries up and projects get
delayed, and IL&FS finds it difficult to make repayments.
Mumbai-based DSP Mutual Funds dumps Rs300 crore worth of
commercial papers of another NBFC, Dewan Housing Finance
Limited (DHFL), at a discounted rate in September, sparking
speculation that the company is staring at a rating downgrade.
These developments make investors nervous and the market cap of
NBFCs is decimated. Between Sept. 21 and 24, large NBFCs like
Housing Development and Finance Corporation (HDFC) and Bajaj
Finance’s market cap erodes by around Rs18,600 crore and
Rs13,800 crore, respectively. Twelve other NBFCs including L&T
Finance Holdings, DHFL, and Indiabulls Housing Finance
also witness a sharp fall in market cap.
October 2018: The effect of NBFC rout spreads like a wildfire
across the stock and debt markets. On Oct. 11, Nifty and Sensex hit a
six-month low of 10,234 and 34,001, respectively.
Bond prices fall due to the sell-off and yields continue to rise,
making it more expensive for NBFCs to borrow. The average cost of
borrowing for corporates has gone up by 100 basis points since
April 2018, making it harder for NBFCs to borrow, and hits their
ability to stay afloat.
February 2019: Anil Ambani-owned Reliance Home Finance
defaults on loan repayment of Rs40.08 crore to Punjab & Sind
Bank.
April 2019: Another Anil Ambani-owned firm, Reliance
Commercial Finance, is also on the verge of default, according to
CARE Ratings.
May 2019: Investors flock to strong private NBFCs such as HDFC
and quasi-sovereign financing companies like Rural Electrification
Corporation, Power Finance Corp, National Bank for Agriculture
and Rural Development, National Housing Bank, and LIC Housing
Finance.
June 2019: DHFL, one of the leading housing finance companies,
fails to repay commercial paper worth Rs225 crore due to the lack of
liquidity and inability to raise fresh funds.
July 2019: Reserve Bank of India (RBI) governor Shaktikanta
Das says the central bank is taking steps “to ensure a collapse of
another NBFC, especially a large one, doesn’t happen.”
August 2019: Mutual funds, which have been a primary source of
funding for NBFCs for long, turn extremely cautious. The exposure
of debt mutual funds to the sector drops by 20% year-on-year.
September 2019: The cost of borrowing continues to rise for
NBFCs.
Reliance Group decides to shut down Reliance Home Finance and
Reliance Commercial Finance, which had become insolvent.
Real estate financier Altico Capital defaults on interest payment and
credit rating agencies downgrade its debt to junk status.
December 2019: The RBI observes (pdf) that bad loans in the
sector have risen between March 2018 and September 2019, and the
higher cost of borrowing and increased risk aversion has led to a
drop in loan growth.
March 2020: As part of the measures to fight the Covid-19 crisis,
the RBI offers a three-month moratorium for repayment of loans.
But it is unclear if beleaguered NBFCs can avail of it.
April 2020: NBFCs seek clarification from the RBI on whether
they are eligible for a moratorium.
The central bank announces long-term repo operation (offering
money at a cheaper price to banks for lending to a particular sector)
targeted at shadow bankers with a condition that half of the funds
availed by banks must go to small and mid-sized NBFCs. This
attempt fails as the RBI receives a subdued response from banks,
which are trying to stay away from risky moves.
Chennai-based mutual fund house Franklin Templeton shuts
down six debt schemes with around Rs30,000 crore assets under
management. Investors are unnerved. “Mutual funds are lending
only to chosen few NBFCs as there is risk aversion in the market.
And now they are facing redemption pressure so how will they lend
money to other entities?” asks says Pankaj Naik, associate director
of India Ratings and Research.
In a bid to ease NBFCs’ woes, the RBI issues clarification, stating
that banks can decide if they want to offer a moratorium on
repayment of loans to shadow bankers.
May 2020: India’s largest lender State Bank of India and
government-owned Punjab National Bank provide moratorium to
NBFCs.
The Covid-19 lockdown starts impacting even those NBFCs that had
an impeccable record so far. For instance, Pune-based Bajaj Finance
says 27% of its loan book is under moratorium while its net profit
drops sharply as it makes Rs900 crore provisioning for Covid-19
related issues.
The RBI declares it is extending the moratorium on repayment of
loans by another three months till end of August. Moody’s believes
this will end up “weakening solvency of NBFCs (and) in turn will
pose a risk to the stability of the broad financial system because
banks have large direct exposures to them.”
