Lured by high margins and scorching growth , investors have been flocking around gold financing stocks over the last two years However, this sector has been had a few challenges cropping up recent times, including tighter regulation, of late by the Reserve Bank of India, greater competition from banks and rising cost of funds. Business Line talked to Mr George Alexander Muthoot, Managing Director of Muthoot Finance and Mr V. P. Nanda Kumar, Chairman of Manappuram General Fin. and Leasing in separate interactions to get some clarity on issues affecting this NBFC segment .

Excerpts from the interview:

Impact of removal of priority lending status for gold finance by NBFCs:

V. P. Nandakumar : Our overall cost of borrowings has gone up by 3-4 per cent. However, that is not because of the removal of the priority sector tag. The rise in the cost of funds was due to banks hiking lending rates. The current rates are 3 per cent higher compared to the previous year. That apart, the actual impact of removal of priority tag by the RBI on Manappuram may be 1 per cent.

George Alexander Muthoot : The impact is greater on banks as they have to find priority lending sector customers to fill the gap. Banks were doing 10 per cent of their priority sector requirements through NBFCs, that include gold loans. As we far as we are concerned, we have always been charging lower interest on these loans. Now that the RBI has taken this tag away, new loans will be priced at the normal rates (that are higher).

Rising competition from banks:

Nandakumar: Around 30-35 per cent of our customers are shifting from the unorganised sector. Because the market is so large, I don't think we will face any real competition in the next two-three years.

Muthoot: The canvas is very big. Indian households have about 18,000 tonnes of gold. Banks and NBFCs may be financing around 1000 tonnes only. Gold loans are cheap when compared with a personal loan or a credit card loan We sometimes give loans at as low a rate as 12 per cent. Historically, people had inhibitions about taking a gold loan. Now that banks are also lending, this product is gaining respectability. Therefore we are able to attract more customers. Despite banks offering lesser rates, people are coming to us because of the convenience of transacting. For small loans, the interest difference is very marginal.

Recovery mechanism:

Nandakumar: The loans are granted for a year. After 100 days, we see 90 per cent of the loans getting pre-closed. For loan defaulters, after one year, we send an ordinary notice followed by a gazetted notice. We also publish the details of these defaulters in local vernacular dailies. After that, we conduct a public auction as per the Indian Contracts Act.

Muthoot: Loans which go beyond one year, is only 3 per cent of the total. And once they are not repaid for 18 months, we auction the gold. This is one per cent of the loan book. After 18 months, the loan becomes an NPA. Until 12 months, the interest accrued, but not received, is recognised as income.

High loan-to value (LTV) increasing risk of default when gold prices fall:

Nandakumar: When we estimate LTV, we take into account only the scrap value. Price of the new ornament has additional components such as making charges, VAT, and so on. The maximum LTV could be around 85 per cent of the scrap value.

Therefore, the cushion is more than 15 per cent to protect against decline in gold prices. Products are tailored based on the customer requirement. In high LTV product the pricing is also accordingly.

Muthoot: Our average loan-to-value is 72 per cent at origination, excluding the making charges. This is why we accept only gold ornaments and not gold bars.

Loans disbursed in 5 minutes:

Nandakumar: Almost 90 per cent of our customers are repeat customers. Only 20 per cent of the customers are new in a matured branch. Of the five customers coming in, only one needs to be closely appraised. Our computers at all the branches are inter-connected. It is possible to check an ornament in maximum 10 minutes.

Muthoot: For checking one ornament, we take five minutes. We take proof of the customer's address, photo id and a webcam photo. If it is one ornament, we can test it in three-four minutes.

Risks if gold prices decline sharply:

Muthoot: It depends on how fast the gold price is falling. If the rates are falling steadily, the new loans get re-priced at low rates. Since the average tenure is low at only four months, declining prices do not have a great impact.

Sentimental value attached to gold ensures that these loans do not get abandoned. In the 1990s, we had a dip when gold prices declined for six-seven months and then picked up. There was no panic seen among gold loan customers while the prices were falling.

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