Thursday, December 13, 2012

RBI proposes far reaching changes for NBFCs

It may be recollected that the Working Group constituted by Reserve Bank of India gave a report in August 2011 (discussed here) making recommendations on changes to the regulation of non-banking financial companies (NBFCs). As a next major step towards implementation several of these recommendations, though in a modified form, are proposed to be implemented. Reserve Bank of India has issued a set of draft Guidelines for public consultation.

On ground level, these proposed amendments are quite far reaching. Today, any company seeking to carry on the business of finance as its principal activity even with own funds and even at a very small scale needs to be registered with Reserve Bank of India. It is proposed now that companies upto a fairly large size need not carry register. Companies that accept public funds (not yet defined in the Guidelines) need not register so long as their total assets do not exceed Rs. 25 crores. If they do not accept public funds, they need not register even if their total assets are upto Rs. 500 crores. Moreover, companies crossing even limit of Rs. 25 crores will need registration  only if at least 75% of their total assets constitute financial assets and at least 75% of their total income is derived from financial assets (unless assets exceed Rs. 1000 crores). Existing companies not meeting these benchmarks will be de-registered, unless they want to continue their registration, in which case they will have to submit a schedule and plan for reaching these benchmarks.

Foreign “owned” companies (not defined yet) will need registration irrespective of size before commencing non-banking financial activity.

Larger sized NBFCs (i.e., having total assets more than Rs. 1000 crores as a group) will be more closely regulated bringing them a few steps closer to banks. The Corporate Governance requirements are particularly interesting. The Reserve Bank of India has, to begin with, proposed to apply Clause 49 of the listing agreement even to unlisted non-banking financial companies. Further, and a few steps ahead of SEBI, it has sought to apply “fit and proper” requirements to directors. Another proposal – not in tune with liberalized environment though sought to bring NBFCs in line with banks – will require prior approval of bank for appointing a CEO.

Interestingly, and perhaps SEBI may take a cue from this too, there is a proposal that requires Independent Directors to sign a covenant agreement with the NBFC. This may be just one step in the direction of making Independent Directors more accountable.

More detailed disclosures to accounts will be required of such large companies.

There are several other amendments proposed, even though they are just a few of the changes recommended by the Working Group. Perhaps more changes will be taken at later stages.

Some concerns remain and it will have to be seen whether these are addressed when Reserve Bank of India notifies the final changes. There are several terms not defined. The amendments are proposed to be made by separate circulars though it would have made sense overhauling the comprehensive Directions on the subjects since most of them will be affected by these significant changes. There are already several existing categories of companies falling in the range between Rs. 25 crores and Rs. 1000 crores such as systemically important companies and it is not clear whether these categories will survive. Reserve Bank of India had issued last year Directions relating to Core Investment Companies. It is not clear whether, to what extent and even why the new requirements will apply to them.

All in all, for a large section of the small and mid-size companies in the finance sector, the law will be simplified though for larger companies, the law will become quite more complex.

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