The Reserve Bank of India (RBI) on Tuesday issued a prompt corrective action (PCA) framework for non-banking financial companies (NBFCs) to enable supervisory intervention into troubled lenders at an appropriate time and to restore their financial health.
While a PCA framework for banks has been in place since 2002 and has been revised from time to time, no such framework existed thus far for non-bank lenders. Financial troubles at NBFCs in recent years have resulted in instances of defaults, eventually leading to their resolution under the insolvency law or through other measures.
“NBFCs have been growing in size and have substantial interconnectedness with other segments of the financial system. Accordingly, it has now been decided to put in place a PCA framework for NBFCs to further strengthen the supervisory tools applicable to NBFCs,” the central bank said. The framework will come into effect from October 1, 2022, based on the financial position of NBFCs on or after March 31, 2022.
For deposit-taking NBFCs, excluding state-owned ones, as also all non-deposit taking NBFCs in the middle, upper and top layers of the regulatory pyramid, the parameters to be considered will be capital to risk weighted assets ratio (CRAR), tier-I capital ratio and net NPA ratio (NNPA). For core investment companies (CICs), the indicators to be tracked would be adjusted net worth/ aggregate risk weighted assets, leverage ratio and NNPA.
NBFCs other than CICs will fall under risk threshold 1 if their CRAR falls up to 300 basis points (bps) below the regulatory minimum, if the tier-I capital ratio falls up to 200 bps below the regulatory minimum, and if the NNPA ratio is higher than 6% but less than or equal to 9%.
For CICs, risk threshold 1 will be breached if the adjusted net worth/ aggregate risk weighted assets slips up to 600 bps below the regulatory minimum, if the leverage ratio is more than or equal to 2.5 times but less than three times, and if the NNPA ratio is higher than 6% but less than or equal to 9%. In this case, the companies will face restrictions on dividend distribution or remittance of profits, and promoters and shareholders will have to infuse equity to help reduce leverage. CICs will also face restrictions on issue of guarantees or taking on of other contingent liabilities on behalf of group companies.
NBFCs other than CICs will fall under risk threshold 2 if their CRAR is more than 300 bps but up to 600 bps below the regulatory minimum, if the tier-I capital ratio is more than 200 bps but up to 400 bps below the regulatory minimum, and if the NNPA ratio is higher than 9% but less than or equal to 12%.
For CICs, risk threshold 2 will be breached if the adjusted net worth/ aggregate risk weighted assets is more than 600 bps but up to 1,200 bps below the regulatory minimum, if the leverage ratio is more than or equal to three times but less than 3.5 times, and if the NNPA ratio is higher than 9% but less than or equal to 12%. In addition to the mandatory actions of threshold 1, a company under threshold 2 will also face restrictions on branch expansion.
NBFCs other than CICs will fall under risk threshold 3 if their CRAR is more than 600 bps below the regulatory minimum, if the tier-I capital ratio is more than 400 bps below the regulatory minimum, and if the NNPA ratio is higher than 12%.
For CICs, risk threshold 3 will be breached if the adjusted net worth/ aggregate risk weighted assets is more than 1,200 bps below the regulatory minimum, if the leverage ratio is more than or equal to 3.5 times, and if the NNPA ratio is higher than 12%. In addition to mandatory actions of thresholds 1 and 2, a company under threshold 3 will face appropriate restrictions on capital expenditure, other than for technological upgradation within board-approved limits as well as restrictions or reduction in variable operating costs.
Once an NBFC is placed under PCA, taking it out of the framework will be considered if no breaches in risk thresholds in any of the parameters are observed as per four continuous quarterly financial statements, one of which should be the annual audited financial statement. Exit from PCA will also be based on the supervisory comfort of the RBI, including an assessment on sustainability of profitability of the NBFC.
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