RBI proposes new, stringent liquidity norms for NBFC

The RBI norms introduce LCR for all NBFCs with an asset size of more than ₹5,000 crore

Starting April 2020, nonbanking financial companies (NBFCs) with assets of more than ₹5,000 crore will have to maintain a minimum of 60% of liquidity coverage ratio (LCR)—a requirement that will be increased in a calibrated manner to 100% by April 2024, the Reserve Bank of India (RBI) said on Friday.

The new, stringent norms were part of the much-awaited draft guidelines on liquidity risk management framework for NBFCs and core investment companies (CICs) released by the RBI.

The guidelines come on the back of rating downgrades and debt defaults in the NBFC sector, and the need for a strong asset liability management (ALM) framework. The move comes after several NBFCs were found to have run up serious mismatches in their books by borrowing short-term to fund long-term assets.

The RBI’s new norms on LCR, which is a proportion of highly liquid assets set aside to meet short-term obligations, are applicable to all NBFCs with an asset size of more than ₹5,000 crore.

The regulator also proposed to revise the ALM of NBFCs to ensure that the difference between inflows and outflows during the first seven days is not more than 10% of the total outflows. Similarly, over the next 8-14 days and 15-30 days, the cash flow mismatch should be only 10-20% of the cumulative outflows.

This is to ensure that NBFCs’ reliance on external debt to repay their maturing debt is reduced, given current market conditions where funding from banks and mutual funds has become scarce.

The RBI also asked NBFCs to adopt liquidity risk monitoring tools in order to capture strains in their liquidity position. These include concentration of funding by counterparty/instrument/currency; availability of unencumbered assets that can be used as collateral for raising funds; certain early warning marketbased indicators such as priceto-book ratio and coupon on debts raised; and regulatory penalties for breaches in regulatory liquidity requirements.

The guidelines also proposed to introduce a stock approach to liquidity, which essentially means the regulator is trying to ensure that there are adequate assets to repay any debt.

For instance, the liquidity ratios being proposed are shortterm liability to total assets; shortterm liability to long-term assets; commercial papers to total assets; non-convertible debentures (original maturity less than one year) to total assets; short-term liabilities to total liabilities; and long-term assets to total assets.

“The RBI’s new liquidity management guidelines for NBFCs are clearly intended to ensure a strong liquidity management culture among large NBFCs. A lot of the means elaborated in the guidelines to monitor ALM are akin to those prescribed for banks and demonstrate RBI’s intent to harmonize governance and supervision standards between banks and large NBFCs. At the end of the day, it a balancing act between systemic stability and individual profitability. Akin to an insurance policy, to buy safety, you need to pay a premium” said Nachiket Naik, head (corporate lending), Kirloskar Capital.

RBI has sought comments from NBFCs, market participants and other stakeholders on the draft framework before 14 June.

The central bank has acknowledged the importance of NBFCs in delivering last-mile credit, including to retail and micro, medium and small enterprises.

“NBFCs’ ability to perform their role effectively and efficiently requires them to be financially resilient, well-regulated and properly governed so that they retain the confidence of all their stakeholders, including their lenders and borrowers. The Reserve Bank has always endeavoured to provide and modulate a regulatory archiis tecture consistent with these objectives,” said RBI.

The problems with NBFCs began after Infrastructure Leasing and Financial Services Ltd (IL&FS) defaulted on its obligations last year, resulting in mutual funds with exposure to debt papers of other NBFCs redeeming their holdings in these companies in panic.

This led to a series of rating downgrades, which, in turn, sparked the liquidity crisis.

Source: Livemint