In the eventuality of a few infra-NBFC being forced to down shutters, the existence of thousands of MSMEs, infrastructure players, healthcare and infra start-ups would get jeopardised
“Business cycles are a type of fluctuation in the aggregate economic activity of nations…a cycle consists of expansions occurring at about the same time in many economic activities, followed by similarly general recessions…this sequence of changes is recurrent but not periodic.” This description of business cycles from the 1946 magnum opus by Arthur F. Burns and Wesley C. Mitchell in Measuring Business Cycles remains definitive even today.
In the last couple of decades, the Indian economy has witnessed some severe business cycles in core sectors like steel, cement, textile, automobile, infrastructure, real estate and power. After a huge expansive phase, following buoyancy in demand and capacity, leading to extensive borrowing by corporates in these sectors.
Banks were forced to repair their balance sheets. This led to many stressed companies landing in Insolvency and Bankruptcy Code (IBC) proceedings. Instead of restructuring, stressed assets getting pushed into the insolvency process became the norm.
The steel sector, in particular, witnessed a major round of consolidation because of this. Although the sector is doing better, banks took haircuts as high as 80%. At the time, within the steel sector, almost six-seven large plants had to undergo changes in management under the insolvency process. This, however, did not mean that these plants were unsustainable or had fraudulent intent. Yet, due to the sector’s distress, these were subject to several investigations on allegations of funds siphoning, impeding their ability to sustain operations and grow.
The power sector too, has been a victim of circumstances. Coal-based power generators have had their share of problems forcing them to opt for debt realignment during the same time. Cheaper renewable energy, non-availability of coal, sizable unpaid dues from state-owned distribution companies, fewer power purchase agreements and inordinate delays in signing them have landed the sector in trouble. Further, with power distribution residing mostly with government and state-owned power distribution companies, payments to power generators have been delayed, with dues touching almost `1 trillion (lakh crore) recently. With receivables rising fast, many private sector power companies are on the verge of shutting operations. At present, quite a few thermal power generators have been forced to idle large generation capacities. Thus, even before the Covid-19 pandemic, the Indian economy was slowing down, with some core sectors in distress. The pandemic exacerbated this distress, turning the clock back for the global economy by at least two years. After many monetary policy-led revival and stimulus measures, governments across the world including that of India, are now banking on a major infrastructure push to revive economic growth. In India, the hope is that infrastructure projects, while reviving business demand, will also address one of its most pressing and persistent challenges - employment of a large, semi-skilled and unskilled labour force, while also opening up myriad entrepreneurship opportunities downstream and upstream, eventually crowding in private investments.
However, for an infra-driven economic revival to become a reality in India, one of the prerequisites is a healthy and vibrant Non-Banking Financial Company (NBFC) sector because it is this segment of our financial ecosystem, and not the banks, which caters to the credit needs of small-time contractors (mostly MSMEs) and entrepreneurs within the infrastructure space involved in activities like construction, transportation and myriad other services. It is these smaller players to whom the big developers outsource their work. Banks do not consider these smaller players creditworthy. Thus, these small operators essentially depend on NBFCs active in the infra financing space.
The pandemic and the resultant changes in the regulatory guidelines, however, have put NBFCs in a very tight spot. Anticipating the hardships that the borrowers were likely to face, RBI declared a moratorium scheme for borrowers, particularly MSMEs, last year. Stressed borrowers were also allowed to opt for a one-time restructuring. Unfortunately, NBFCs weren’t allowed any similar relief by banks and financial institutions. This resulted in a perfect storm for NBFCs. On the one hand, NBFCs’ cash flows from their borrowers got severely constricted, on the other hand, they were required to keep paying their lenders. This resulted in a severe mismatch in cash flows for many NBFCs, adversely affecting their liquidity position during the year.
This pushed several NBFCs to the verge of delay/default, short/temporary though in a critical condition. Bankers, however, turned a blind eye to this distress in a critical component of the infrastructure sector, and raised the possibility of these accounts becoming NPAs. Sadly, the troubled NBFCs are either being labelled defaulters, and are being subject to scrutiny and investigations, further hurting the sector financially and reputationally. It’s a déjà vu of sorts. It is putting a dampener on economic growth and arresting productive deployment of resources. The ground reality is that business houses and NBFCs are wealth and job creators for every nation. But, once subjected to scrutiny and investigations despite all honest intentions of keeping businesses afloat, since decades, they lose their risk-taking appetite to a considerable extent. Prime Minister Narendra Modi has appealed to India Inc. to enhance their risk-taking appetite to reap advantages of the new economic decisions and reforms, demonstrating that he appreciates that risk is central to innovation and growth. Yet, actions by authorities are pointing towards an alternate reality. Recent experiences of many NBFCs have shattered their ability or appetite to take even the usual risks in business.
It appears that while the government has done its best to preserve the health of the banking sector, NBFCs have been relegated to sidelines, even though they too, deserve to be protected, considering the vital role they play promoting financial access and economic inclusion. Given the fact that there exists no IBC-type mechanism for the financial sector yet, it is imperative for the government to quickly work out a relief package for NBFCs. In the eventuality of even a few NBFCs failing, the existence of thousands of MSMEs, infrastructure players, retail and start-ups, may get jeopardised, leading to job losses for millions.
Temporarily distressed NBFCs should ideally have access to refinancing agencies (like the National Housing Bank’s role for the Housing Finance Companies). Also, the TDS exemption needs to be corrected for the NBFCs, just as it has been done for banks. In fact, this TDS issue has prevented co-lending models between banks and NBFCs from taking off in a big way. To enable an infrastructure-driven economic recovery and survival and growth of MSMEs/ Reatailors/ self employment/ startups, the government needs to carry out a series of administrative reforms to revive private sector risk appetite and work out a relief package for infrastructure financing NBFCs to service the credit needs of their borrowers. Otherwise, it is our economic growth and nation building that will be put at risk.