The RBI’s Co-Lending Model: risks, benefits and, how it works

admin December 16, 2021
Updated 2021/12/16 at 4:10 PM

The Reserve Bank of India (RBI) decision in November 2020 to allow banks to “co-lend with all registered NBFCs (including HFCs) based on a prior agreement” has resulted in odd partnerships, such as the one announced earlier this month between the State Bank of India (SBI) and Adani Capital.

The Co-Lending Model

The Reserve Bank of India (RBI) declared in September 2018 that banks and non-banking financial companies (NBFCs) will “co-originate loans” for lending to the priority sector. The RBI said that “the agreement involved shared contribution of credit at the facility level by both lenders, as well as risk and reward sharing.”

Following comments from stakeholders and in order “to effectively harness the various comparative advantages of the banks and NBFCs in a combined effort,” the central bank gave lenders more operational freedom while still requiring them to follow regulatory requirements.

The RBI said in a circular issued on November 5 last year that the revised scheme’s main goal was to “improve the flow of credit to the unserved and underserved sectors of the economy and make available funds to the ultimate beneficiary at an affordable cost, considering the lower cost of funds from banks and the greater reach of the NBFCs.”

Partnerships between banks and NBFCs

Several banks have signed “master agreements” with NBFCs for co-lending, and others are in the pipeline.

On December 2, SBI, the country’s biggest lender, signed a contract with Adani Capital, a small NBFC owned by a huge corporation, to co-lend to farmers for the purchase of tractors and agricultural tools.

SBI’s massive network spans the nation and comprises 22,230 branches, 64,122 ATMs and cash deposit machines (CDMs), and 70,786 business correspondent (BC) outlets. According to its website, Adani Capital has just 60 outlets and has disbursed roughly Rs 1,000 crore.

Union Bank of India and Capri Global Capital Ltd (CGCL) signed a co-lending agreement on November 24 with the goal of “improving last-mile financing and driving financial inclusion to MSMEs by delivering secured loans between Rs 10 lakh and Rs 100 lakh” initially via “100+ touch points pan-India.”

The risks of co-lending

The decision by large banks to partner with small NBFCs for co-lending has been met with criticism from several quarters.

Under the CLM, NBFCs are required to retain at least a 20% portion of individual loans on their books. This implies that the banks will bear 80% of the risk, as they will be the ones to bear the burden of any default.

The master agreement may stipulate that the banks must take their share of the individual loans originating from the NBFCs on their books, or that they have the option to reject particular loans after due diligence before placing them on their books.

Surprisingly, the RBI rules allow NBFCs to act as a single point of contact for consumers and to enter into loan agreements with borrowers, which should specify the terms of the arrangement as well as the NBFCs’ and banks’ roles and duties. In fact, the NBFC chooses the borrower while the banks finance the majority of the loan.

Corporates in the banking sector

While the RBI has not formally permitted large corporations to enter the banking sector, many non-banking financial companies (NBFCs)—many of which are owned by corporations—have already begun accepting public deposits.Through direct co-lending relationships, they now have additional lending options.

This comes at a time when four major financial institutions—IL IL& FS, DHFL, SREI, and Reliance Capital — that gathered public money via fixed deposits and non-convertible debentures have failed in the previous three years, despite the RBI’s close supervision. These companies owe investors a total of Rs 1 lakh crore.

While the RBI has mentioned “the broader reach of NBFCs,” many bankers argue that banks’ reach in reaching neglected and unserved areas is significantly bigger than small NBFCs with 100-branch networks.

SBI on co-lending

While announcing the cooperation with Adani Capital, SBI chairman Dinesh Khara stated the partnership “would assist SBI to increase its customer base as well as engage with the underserved agricultural section of the country and further contribute to the expansion of India’s farm economy.” “We will continue to collaborate with additional NBFCs to reach out to the largest number of people in far-flung places and offer last-mile banking services,” he added.

Gaurav Gupta, MD & CEO of Adani Capital, said that the company’s goal was to “make affordable loans accessible to India’s micro-entrepreneurs.” It hoped to “contribute to agricultural mechanisation and play a role in enhancing farm production and revenue” via the relationship with SBI.

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