The SFCs Act was enacted in 1951 to establish financial corporations in States as a catalyst for development of SSI units (now micro, small and medium enterprises or MSME sector).

A major amendment to the Act in 2000 gave wider powers to SIDBI along with the inherited supervisory role and more functional freedom to SFCs.

Failures with SFCs cannot be justified by arguing that they are meant to serve the vulnerable MSME sector with development intent. This is because there are ample cross-subsidisation opportunities available, says Manmathan Nair.

SFCs generally have a minimum spread of three per cent between borrowings and lending, which is sufficient to maintain reasonable profit. There is also free money (since no dividend is paid) generated by way of equity capital/recapitalisation.

But their financial health of the has reached a critical stage with most contracting huge accumulated losses, massive non-performing assets and eroded net-worth.

By 2006, only three could record a net profit. SFCs had aggregated non-performing assets of Rs 6,365 crore (65 per cent of total assets of Rs 9,730 crore); accumulated losses of Rs 5,475 crore; and negative net worth of Rs 3,643 crore against share capital of Rs1,423 crore.

Industrial Development Bank of India had already stopped subscribing to share capital by then. Successive State governments were reluctant to adequately recapitalise SFCs.