Small finance banks may need sops to scale up: Ind-Ra

The multiple challenges that small finance banks (SFBs) are likely to face on the liabilities front would make a case for regulatory intervention, as this sector could have a significant role in financial inclusion, said India Ratings.

Regulatory concessions could include allowing SFBs to raise long-term bonds on the lines of infrastructure bonds that scheduled commercial banks (SCBs) are allowed to raise.

In a report, Ind-Ra said: “SFBs have three to five years to ramp up their deposits, further improve their credit profiles, stabilise their loan books (new products) and, thereby, develop a larger investor base interested in their debt capital market instruments.

“Also, the Reserve Bank of India must accelerate the process of recognising SFBs as SCBs, which could enable them to raise certificate of deposits (CDs).”

The credit rating agency observed that MUDRA Bank and other refinancing institutions could play a key role in funding SFBs as well as investing in structured issuances of these entities, especially for providing credit enhancement to deepen the investor pool for such issuances.

SFBs could require up to ₹60,000 crore of non-equity funding, including deposits, by FY 2020, assuming 25 per cent steady state loan growth and 25 per cent off-balance sheet loans, according to the agency’s estimates.

Ind-Ra observed that demonetisation and subsequent measures could mean that landed cost of deposits for SFBs from the existing borrowers could be lower than expected earlier and the opening of savings accounts could gain traction.

SFBs may initially ramp-up their deposits through wholesale funding at rates higher than those of SCBs and gradually replace them with granular retail deposits preferably from non-microfinance customers, it added.

“At a steady state, SFBs could mobilise deposits at about 60 per cent of their balance sheet. If the entire ₹60,000 crore non-equity funds were in the form of deposits, then it would have constituted 10 per cent of the incremental bank deposits from non-metro catchments in FY16,” the report said.

Instead of using bank loans, the agency felt that SFBs would resort to deposits, eligible borrowings, debt capital markets that could constitute over 60 per cent of their balance sheets (about ₹60,000 crore) over the medium term. The composition of liabilities and liquidity strength will primarily depend on the ramp-up of granular deposits.

The agency felt that the appetite of mutual funds for SFBs’ CDs could be limited without a further improvement in their credit profiles.

In case an SFB is unable to ramp-up deposits, it may depend on off-balance sheet transactions beyond Ind-Ra’s assumption of 25 per cent of the total loans under management (LUM) by FY2020

The objectives of SFBs are to further financial inclusion by providing savings vehicles, and supply credit to small business units; small and marginal farmers; micro and small industries; and other unorganised sector entities, through high technology-low cost operations.

On September 15, 2015, the RBI granted approval to 10 applicants — eight microfinance companies, a non-banking finance company and a local area bank — for floating SFBs in the private sector.

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