Non-Banking Financial Company (NBFC)
A corporation that makes loans and advances, buys stocks and bonds, offers hire-purchase insurance, or operates a chit-fund.
What is a Non-Banking Financial Company (NBFC)?
The financial business is not the simplest to comprehend. There are several aspects and sectors to consider, each with its norms and requirements.
This might make attempting to wrap your brain around a financial notion appear difficult, but gaining a better grasp of these factors could help you make better decisions about your money, wages, and expenditures.
NBFIs (non-banking financial institutions) is a financial element that frequently requires more research to comprehend properly.
A Non-Banking Financial Company (NBFC) is a company registered under the Companies Act 1956 engaged in the business of loans and advances.
The term 'non-banking' does not include institutions whose primary business is agriculture, industrial activity, purchase or sale of land, or any other business.
A non-bank financial institution provides financial services but lacks banking licenses and cannot take deposits.
A national or international banking regulatory agency does not oversee NBFIs. Non-bank financial institution operations, on the other hand, are frequently nonetheless governed by the country's banking rules.
Key Takeaways
- NBFC is a corporation that makes loans and advances, buys stocks and bonds, offers hire-purchase insurance, or operates a chit-fund.
- It excludes institutions whose primary business is agriculture, industrial activity, buying or selling items (other than stocks), or providing services.
- They are not part of the settlement and payment system, and they cannot issue cheques drawn on themselves.
- Technology assists these Companies in customizing credit risk assessment models and optimizing business processes, ultimately shortening time to market and improving customer experience.
- These financial companies have started collaborating with a variety of alternative lenders via digital platforms, as well as commercial banks, to expand their intended client base.
- To service the intended consumer category, some NBFCs have concentrated on a restricted line (or, in some instances, a mono-line collection of goods).
- With a deep understanding of their target market, they have created product offerings to suit distinct consumer segment characteristics and focus on satisfying the correct demands.
- The primary goal of a non-banking financial firm is to subscribe for, conditionally or unconditionally underwrite, or otherwise take, hold, deal in, and convert stocks, shares, and securities of all types.
- The corporation may form partnerships for profit-sharing, unity of interests, reciprocal concession, or cooperation with any person, partnership, company, syndicate, or partnership.
Primary Objective of a Non-Banking Financial Company
The primary purpose of establishing this distinguished industry has not been profit. Instead, these organizations exist solely to make financial services available to everyone. The distinct goal distinguished them from banks and propelled them to the forefront of expansion.
This industry is vital to the growth of the country's essential infrastructure. These firms are facilitating the nationwide expansion of significant infrastructure projects by providing faster finances and credit to the trade and commerce industry.
Furthermore, NBFCs fund small enterprises, start-ups, and MSMEs/SSIs. Therefore, as these small enterprises grow, the demand for skilled and unskilled labor rises to meet the increased demand.
As a result, each new NBFC registration indirectly provides more employment possibilities at the macroeconomic level.
The client base of a non-banking financial company vs. a bank is rather diverse. NBFCs serve urban and unorganized rural communities, providing loans to meet various needs. Banks, on the other hand, only lend to the organized sector.
As a result, the sum of money granted by these financial companies to customers has been dramatically higher than that of banks. Moreover, consumer lending has increased recently, with NBFCs accounting for a sizable chunk.
The need for loans is sure to increase as the economy grows. Additionally, non-banking financial firms and banks can significantly boost economic expansion and development.
Functions of Non-Banking Financial Companies
Non-banking financial companies have been a pivotal part of the economy because they provide funds that are further put to use to create employment and wealth maximization and eventually aid in boosting the economy. So let's now dive deeper into the functions of NBFCs.
1. Hire Purchase services
A hire purchase service delivers items to a buyer without relinquishing ownership of the goods. The payment for the items is made in installments. Only ownership of the products is given to the purchaser once all payments have been paid.
2. Retail Financing
Firms that provide short-term money for loans against stocks, gold, and real estate, mostly for consumption.
3. Trade Finance
Companies that provide Dealer/ Distributor financing for working capital, vendor financing, and other company loans.
4. Infrastructural Funding
This is the main category in which major non-banking financial firms operate. Among the many segments, a large chunk of this sector alone accounts for a significant portion of cash lent. This comprises Real Estate, Railways or Metros, Flyovers, Ports, Airports, etc.
Asset Management Companies are fund managers (those who invest in equity shares to make money) who invest and actively manage funds pooled by small investors.
Companies that invest in tiny enterprises are still in their early stages. Still, their success rate is strong, and they promise a substantial return in the future.
Non-Banking Financial Companies Sector Significance
Because of its credibility in assisting manufacturing and infrastructural progress and even serving as the backbone for the ordinary man's money, the banking sector will always be the most essential in business.
Despite this, the NBFC industry plays an important function, and its presence in a nation only primarily strengthens the economy.
1. Growth
In terms of year-on-year (YoY) growth rate, this industry outperforms the banking sector in terms of economic contribution each year. In its early phases, this category increased by 22% yearly.
Despite the recent economic slump and many setbacks, the industry is continuously expanding and improving operations.
2. Improving the Financial Market
They serve urban and rural impoverished businesses and contribute to financial inclusion.
By spreading out the risks, enhancing market liquidity, and bringing efficiency to the financial sector, these financial organizations provide the market with much-needed diversity.
They raise awareness of corporate public concerns while offering cash for start-up businesses. The financial market is reliant on the tasks performed by these lending institutions.
3. Employment Growth
As the activities of small industries and enterprises expand, the policies of these financial companies are improving the work situation. Moreover, more job possibilities are emerging with the impact of NBFCs in the private and public sectors.
Private-sector company operations provide additional job prospects and occupation practices. Therefore, these companies are critical to their development and stability.
4. Profitability
Because of reduced expenses, these financial companies have been more lucrative than the banking sector. This encouraged them to provide clients with lower-cost credit.
As a result, the quantity of money provided to clients by NBFCs is greater than that of the banking industry, with non-banking financial companies being preferred by more customers.
5. Infrastructure Financing
They contribute significantly to the economy by lending to infrastructure projects. This is critical for the development of a growing country like India.
The stakes are high, the projects are hazardous, there is no guarantee of returns, and earnings will be realized over time.
These issues discourage banks from funding these initiatives. These companies have provided more infrastructure loans than banks since their beginning.
6. Long-Term Financing
NBFCs play an important role in supplying money to enterprises through equity involvement. Unlike traditional banks, non-banking financial firms provide long-term lending to the commerce and trade industry.
They make it easier to fund huge infrastructure projects and stimulate economic growth. Long-term financing allows for expansion while maintaining steady and low-interest rates. When companies of all sizes succeed, the economy grows.
Challenges Faced by NBFCs
NBFCs have been grabbing market shares and making faster development than banks. However, small NBFCs have struggled to establish themselves due to the existence of a few notable competitors in the NBFC sector.
1. Due to the lack of a refinancing option, finance is a challenge.
Banks all over the world offer several refinancing possibilities. Similarly, house financing firms have refinancing options, and it refinances from the Housing Financing Companies' regulation.
The NBFCs, on the other hand, rely on banks or the financial markets to raise money. This is extremely detrimental to their long-term growth.
Furthermore, it should be emphasized that cash from various sources might run out at any time.
2. Lack of flexibility in NPA loan classification
Non-Performing Assets (NPA) are important for large corporations, but firms with unpredictable cash flow suffer from payment delays.
It is critical to be classified as an NPA and schedule flexibility. The NPA categorization should be determined by the assets funded.
3. Inadequate capacity development
These financial companies must offer a welcoming environment for collective and individual capacity growth. But unfortunately, it is now lacking in these firms, and the void must be filled as quickly as feasible.
4. Several governing bodies
There are several representative bodies in the current scenario. However, it should be noted that the NBFC sector is still developing. As a result, establishing a single representative body may be a good idea.
It is also critical that each segment be sufficiently represented in the apex organization that promotes the balanced expansion of non-banking financial firms.
5. Inadequate defaulter database
Due to a lack of critical information, NBFCs are vulnerable to credit risk. Additionally, the necessary legal changes must be made for these businesses to use the utility payment information in the credit evaluation procedure.
Banks Vs. Non-Banking Financial Companies
We have already understood what NBFCs are in the previous section of the articles. So let's now understand banks and their work.
Banks are financial institutions licensed by the government to undertake banking activities such as receiving deposits, extending credit, controlling withdrawals, paying interest, clearing cheques, and simply providing consumer utility services.
Banks are the top organization that governs the country's overall financial system. It serves as a financial mediator between depositors and borrowers, ensuring the smooth operation of the economy.
Banks can be either public or private, domestic or foreign. They are in charge of issuing loans, establishing credit, mobilizing deposits, transferring money in a secure and timely manner, and delivering public utility services. A commercial bank is owned by its shareholders and is operated for profit.
The key differences between the two are:
1. The bank is a government-authorized financial middleman that provides banking to the general public. A non-banking financial firm offers banking services to customers but does not have a bank license.
2. A NBFC is formed under the Indian Companies Act of 1956. In contrast, a bank is formed under the Banking Regulation Act of 1949.
3. Such demand deposits are not permitted to be accepted by a non-banking financial firm, in contrast to banks, which take demand deposits.
4. Banks create credit, while NBFCs are not involved in credit creation.
5. Banks provide consumers with transaction services such as overdraft facilities, traveler's cheques, cash transfers, etc. latter does not give such services.
6. Foreign investment in NBFC is permitted up to 100%. On the other hand, only private sector banks are eligible for foreign investment, which is limited to 74%.
7. Banks are required to maintain reserve ratios such as CRR or SLR. Unlike-banking financial companies, which are not obligated to keep reserve ratios.
8. The Deposit Protection and Credit Guarantee Corporation provides deposit insurance to bank depositors (DICGC). In the case of a non-banking financial company, such a facility is not accessible.
Top Non-Banking Financial Companies
Is there anything quicker, safer, or more productive than a bank? Non-Banking Financial Companies are the answer. They offer financial advice, such as on advances and chit-reserves. As a result, they are responsible for a 12.5% increase in India's GDP.
The general public is highly fond of these financial companies because of their openness, adaptability, and prompt aid with financial needs.
There are many non-banking financial companies in the country; therefore, here is a list of the top non-banking financial firms.
Indian Railways Finance Corporation
The Indian Railway Finance Corporation is the government's largest non-banking financial organization. It is part of Indian Railways' endeavor to meet the country's financial requirements and lends some assistance to the banking industry.
The Indian Railway Finance Corp, or IRFC, is the financial arm of the Indian Railways and the world's largest government-owned financial organization.
The corporation raises funds primarily through financial funding, bonds, and other financial entities such as banks and institutions. It was established in 1987 and is based in New Delhi. It began operations in the middle of 1987.
Reliance Capital Finance Ltd.
Reliance Capital Limited is a diversified financial corporation in India that is part of the Reliance Dhirubhai Ambani Reliance group.
According to data from May 2017, it is one of the nation's top and largest financial institutions and serves more than 20 million clients. It was established in 1986 and is based in Mumbai. However, it was not a non-banking financial corporation when it was created.
It changed its status to a privately held financial institution in December 1998. It expanded into other markets, including personal loans, health insurance, financial services, mutual loans, securities brokerage, and private equity.
Tata Motors Finance Ltd
Tata Motors Finance Limited is the finance arm of Tata Motors and a member of the Tata Group of Companies. It is the country's leading and maybe most preferred financing firm.
Tata Motors Finance Ltd is one of India's major non-banking financial enterprises, offering loans and financing for nearly all car models.
After Bajaj, it is the second biggest finance firm in auto financing. It was founded in 1957, although under a different name.
The TMFL has around 260 and more branches nationwide. Tata Motors Finance Solutions Limited is a wholly-owned subsidiary of TMFL specializing in financial services.
Aditya Birla Finance Ltd
Aditya Birla Finance Limited is a subsidiary of Aditya Birla Financial Services, founded in 1991. The RBI has designated ABFL as a "systemically significant non-deposit taking NBFC." Therefore, it is one of the greatest non-banking financial companies in India.
It provides tailored and accurate solutions ranging from commercial mortgages to corporate financing, structured finance to financial markets.
Industrial Finance Corporation of India
IFCI, or Industrial Finance Corporation India, is a leading non-banking financial institution in India that operates in both the commercial and public sectors. It was founded in 1948 and is presently a component of the NSE and BSE.
It has seven subsidiaries and one affiliate as of 2019. The IFCI, as the name implies, primarily offers financial assistance to the country's industrial expansion.
This includes airports, highways, real estate, the private sector, and many more projects. The IFCI's most notable achievements include mega projects such as NRSS Transmission, Raichur Power Corporation, Adani Mundra Ports, and others.
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