RESARCH PROJECT REPORT ON RISK ASSESMENT AND FINANCIAL PERFORMANCE OF NON BANKING FINANCIAL INSTITUTION

Submitted in partial fulfillment of the requirements for the degree of Master of Business Administration Submitted to Department of Management Studies Submitted By RAJAT DHAWAN Roll No. 1109170033

JSS ACADEMY OF TECHNICAL EDUCATION NOIDA 201301 Mahamaya Technical University, Noida (2011-2013)

JSS MAHAVIDYAPEETHA JSS ACADEMY OF TECHNICAL EDUCATION, NOIDA DEPARTMENT OF MANAGEMENT STUDIES

CERTIFICATE

This is to certify that RAJAT DHAWAN has successfully completed the Resarch Project Report titled RISK ASSESMENT AND FINANCIAL PERFORMANCE OF NON BANKING FINANCIAL INSTITUTION as the partial fulfillment of the requirement for the award of degree of Masters of Business Administration (M.B.A.) by Mahamaya Technical University during batch (2011-2013). Dr. M.K.Sharma
Head, Department of Management Studies, JSSATE, Noida

PLAGIARISM DECLARATION CERTIFICATE

To the best of my knowledge and belief, this Resarch Project Report is my own work, all sources have been properly acknowledged, and the report contains no plagiarism. I have not previously submitted this work or any version in full or part of it, for assessment in any other University or institution for any degree or diploma program. I acknowledge that this Summer Training Project Report may be transferred and stored in a database for the purposes of data-matching to help detect plagiarism.

Students Signature : _______________________________________

Date of signing :

________________________________________

ACKNOWLEDGEMENT

I would like to acknowledge and thank from the deepest portion of my heart to all the people who were always behind me, whenever I needed any help for successful completion of my report. To start with I would like to thank my institute, JSS ACADEMY OF TECHNICAL EDUCATION,NOIDA for providing me this

opportunity. I would like to thank my course coordinator, who not only gave me valuable inputs but also helped me as much as he could do during my project work. I would like to thank here Prof. TAPAS DAS, who gave me his valuable inputs so that I could start my study from the right direction. He gave me valuable tips of training. I would like to thank my all team mates for being great team members to work with. Without their support I wouldnt be able to perform as fine I have done now. Last but not the least; I would like to thank my parents and teachers for supporting me to achieve this level.

(RAJAT DHAWAN)

TABLE OF CONTENTS

S.NO

TOPIC

PAGE.NO

1. 2. 3. 4. 5. 6. 7.

INTRODUCTION LITREATURE REVIEW RESARCH METHODOLOGY DATA ANALYSIS & FINDINGS CONCLUSION & RECOMMENDATIONS BIBLIOGRAPHY ANNEXURE

List of tables:

Table 1: Liquidity Risk Assessment Table 2: Market Risk Assessment Table 3: Credit Risk Assessment Table 4: Risk Assessment Of Project Finance Table 5: The Scoring Guide Table 6: Most Reliable Source Of Information

Table of figures: Figure 1: The Most Trusted Ratig Agency Figure 2: Major Hurdle For The Growth Of NBFC

EXECUTIVE SUMMARY

EXECUTIVE SUMMARY Non-banking financial companies (NBFCs) form an integral part of the Indian financial system. The NBFC Industry in India have always faced under-regulation followed by over-regulation. Policy makers have swung from one extreme position to another in their attempt to set controls and then restrain them so that they do not curb the growth of the industry. This report covers the Non banking financial sector, the risk they carry while lending. Most of these NBFCs are operating with high risk of lending. More often NBFCs lend credit to Small and Medium size enterprises, which are categorized as high risk class of Assets. To assess such high risk assets we need to have a comprehensive model. In this study the commercial vehicle finance segment has been studied. This project aim is to build Risk Assessment Model for NBFCs based on both qualitative and quantitative aspects of the client. This model will help to avoid the limitation associated with simplistic and broad classification of applicants into good or bad category. The ris has been classified into 4 risk categories. Each risk category is measured separately and is also expressed as a percentage, which would help to measure the risk easily. Based on the final score the company is given a rating by referring to the scoring guide of the model. Thus completing the process and evaluating the risk associated with the borrower.

INTRODUCTION

1. INTRODUCTION

The financial system comprises of financial institutions, financial instruments and financial markets that provide an effective payment and credit system and thereby facilitate channelizing of funds from savers to the investors of the economy. In India considerable growth has taken place in the Non-banking financial sector in last two decades. Over a period of time they are successful in rendering a wide range of services. Initially intended to cater to the needs of savers and investors, NBFCs later on developed into institutions that can provide services similar to banks. In India several factors have contributed to the growth of NBFCs. They provide tailor made services to their clients. Comprehensive regulations of the banking system and absence or relatively lower degree of regulation over NBFCs have been some of the main reasons for the growth momentum of the latter. It has been revealed by some research studies that economic development and growth of NBFCs are positively related. In this regard the World Development Report has observed that in the developing counties banks hold a major share of financial assets than they do in the industrially developed countries1. As the demand for financial services grow, countries need to encourage the development of NBFCs and securities market in order to broaden the range of services and stimulate competition and efficiency. In India the last decade has witnessed a phenomenal increase in the number of NBFCs. The number of such companies stood at 7063 in 1981, at 15358 in 1985 and it increased to 24009 by 1990 and to 55995 in 1995.2 The main reason for deposits with NBFCs are greater customer orientation and higher rate of interest offered by them as compared to

banks. With such a dramatic growth in the numbers of NBFCs it was thought necessary to have a regulatory framework for NBFCs. Slowly the RBI came out with set of guidelines for NBFCs. In one of such step RBI gave definition of NBFCs.

According to Reserve Bank (Amendment act, 1997) A Non Banking Finance Company (NBFC) meansi) ii) a financial institution which is a company; a non banking institution which is a company and which has as its principal business the receiving of deposits under any scheme or arrangement or in other manner a lending in any manner; iii) such other non banking institution or class of such institutions as the bank may with the previous approval of the central government specify.

The role of NBFCs as effective financial intermediaries has been well recognized as they have inherent ability to take quicker decisions, assume greater risks, and customize their services and charges more according to the needs of the clients. While these features, as compared to the banks, have contributed to the proliferation of NBFCs, their flexible structures allow them to unbundle services provided by banks and market the components on a competitive basis. At present, NBFCs in India have become prominent in a wide range of activities like hirepurchase finance, equipment lease finance, loans, investments, etc.

Classification of NBFCs based on the Nature of its business:

The NBFCs that are registered with RBI are basically divided into 4 categories depending upon its nature of business: equipment leasing company; hire-purchase company; loan company; investment company; Infrastructure finance company.

Funding sources of NBFCs:

Funding sources of NBFCs include debentures, borrowings from banks and FIs, Commercial Paper and inter-corporate loans. Table below provides for funding sources of Non Banking Financial Companies Non Deposit Taking Systematically Important:

Banks are also a major source of funding for NBFCs either directly or indirectly. So in a way NBFCs have a dependence on banks making them vulnerable to systemic risks in the financial system.

Funding by NBFCs:

Historically, banks have played the role of intermediaries between the savers and the investors. However, in the last few decades, the importance and nature of financial intermediation has undergone a dramatic transformation the world over. The dependence on bank credit to fund investments is giving way to raising resources through a range of market based instruments such as the stock and bond markets, new financial products and instruments like mortgage and other asset backed securities, financial futures and

derivative instruments like swaps and complex options. Besides transferring resources from savers to investors, these instruments enable allocation of risks and re-allocation of capital to more efficient use. The increase in the breadth and depth of financial markets has also coincided with a pronounced shift among the ultimate lenders who have moved away from direct participation in the financial markets to participation through a range of intermediaries. These developments in international financial markets have been mirrored in the financial market in India. NBFCs account for 11.2% of the assets of the total financial system2. NBFCs have emerged as an important financial intermediary especially in the small scale and retail sector. There are a total of 12,630 NBFCs (end of June 2010) registered with RBI consisting of NBFCs-D and NBFCs-ND. Of the 11.2%, asset finance companies held the

largest share of assets of nearly 74.5% and also held the largest share of deposits amongst the NBFCs-D segment by end of March, 2010.

NBFCs are typically into funding of:

Construction equipment Commercial vehicles and cars Gold loans Microfinance Consumer durables and two wheelers Loan against shares, etc.

List of major products offered by NBFCs in India:

Funding of commercial vehicles Funding of infrastructure assets Retail financing Loan against shares Funding of plant and machinery Small and Medium Enterprises Financing Financing of specialized equipment Operating leases of cars, etc

Types of instrument generally executed:

Loans Hire purchase Financial lease Operating lease

1.1 OBJECTIVE OF THE STUDY

Most of this NBFCs are operating with high risk of lending and more often NBFCs lend credit to Small and Medium size enterprises, which are categorized as high risk class of Assets. To assess such high risk assets we need to have a comprehensive model. This paper aim is to build Risk Assessment Model for NBFCs based on both qualitative and quantitative aspects of the client.

To understand the various risks faced by non- banking financial institutions. To study how to manage risks faced by non-banking financial institutions. To study the financial performance of non-banking financial institution.

1.2 NEED FOR STUDY

Non-banking financial companies (NBFCs) form an integral part of the Indian financial system. The history of the NBFC Industry in India is a story of under-regulation followed by over-regulation. Policy makers have swung from one extreme position to another in their attempt to set controls and then restrain them so that they do not curb the growth of the industry. This report covers the industry. Non-banking financial companies (NBFCs) have seen considerable business model shift over last decade because of regulatory environment and market dynamics. In the early 2000s, the NBFC sector in India was facing following problems: 1) High cost of funds 2) Slow industrial growth 3) Stiff competition with NBFCs as well as with banking sector 4) Small balance sheet size resulting in high cost of fund and low asset profile 5) Non performing assets

Majority of NBFCs were not able to face the pressure created on and were wiped out. However, since FY2001-2002, there has been significant improvement in the business model of existing NBFCs with improvement in overall business environment. NBFCs have been able to expand their resource profile by diversifying the funding avenues. Further a strict control on asset quality and overheads, coupled with use of innovative borrowing tools such as securitization has resulted in improved profitability of NBFCs. The following table shows the number of NBFCs registered with the Reserve Bank of

India and the trend of registration of companies as NBFC since the last decade. The table as given below also indicates registration of deposit accepting NBFCs of the total NBFCs registered with RBI.

End June

Number of Registered NBFCs

Number of NBFCs-D

Number of NBFCs- ND-SI

2005 2006 2007 2008 2009 2010

13261 13014 12968 12809 12740 12630

506 428 401 364 336 308

149 173 189 234 260

1.3 SCOPE OF THE STUDY

The relatively lucrative spreads in the retail financing market will attracts both banking companies and NBFCs, thus intensifying competition and in turn bringing pressure on spreads. However the RBI has provided relaxation to non banking financial firms which can give them an edge over other financial institutions or banks. In todays scenario NBFCs (Non Banking Financial Companies) are facing a lot of competition from the banking sector nationalized as well as from the foreign banks. In liberalized economy, service differentiation has become insignificant and companies are trying to differentiate their offer by various augmentations in the service level.

1.4 RISK ASSESSMENT

Risk assessment can be done from 2 aspects: Quantitative aspect: Quantitative aspect refers to managing the credit risk by using the quantitative tools and techniques such as ratio analysis, and reaching a concrete number for every loan which would indicate the magnitude of risk and expected returns, on a case by case basis. Qualitative aspect: Qualitative aspect is taking a holistic view by a bank at its overall portfolio, deciding the lending limits to a sector, setting up the broad policies and procedures, and so on.

LITERATURE REVIEW

2. LITERATURE REVIEW

Vadde (January 2011): This article analyses the performance of non-government financial and investment companies (other than banking, insurance and chit-fund companies) during the year 2008-09. The study is based on the audited annual accounts of 1,215 companies, which closed their accounts during the period April 2008 to March 2009.

Gumparthi (June, 2010): He states that tMost of NBFCs are operating with high risk of lending and more often NBFCs lend credit to Small and Medium size enterprises, which are categorized as high risk class of Assets. To assess such high risk assets we need to have a comprehensive model. This paper aim is to build Risk Assessment Model for NBFCs based on both qualitative and quantitative aspects of the client.

Dardac & Chiriac (2010): The Management of Operational Risk Specific to Nonbanking Financial Institutions in the Context of Actual Financial Crisis. The main purpose of this study is to present the best techniques and methods of managing this risk, less addressed problem in the literature from our country. the need for the nonbanking financial institutions to implement the corporative governance principles as an important risk management measure, especially related to the operational risk.

The purpose of adopting such governance, a correlation between the management bonuses and the effective due profit obtaining must exist. Kantawala: The financial system comprises of financial institutions, financial instruments and financial markets that provide an effective payment and credit system and thereby facilitate channelizing of funds from savers to the investors of the economy. In India considerable growth has taken place in the Non-banking financial sector in last two decades. Over a period of time they are successful in rendering a wide range of services. Initially intended to cater to the needs of savers and investors, NBFCs later on developed into institutions that can provide services similar to banks. In India several factors have contributed to the growth of NBFCs. They provide tailor made services to their clients. Comprehensive regulations of the banking system and absence or relatively lower degree of regulation over NBFCs have been some of the main reasons for the growth momentum of the latter. On the basis of the study, it can be concluded that there exists a significant difference in the profitability ratios, leverage ratios and liquidity ratios of various categories of NBFCs.

Md. Nehal Ahmed Mainul Islam Chowdhury , (March 2007): Non-Bank Financial Institutions (NBFIs) in Bangladesh are gaining increased popularity in recent times. Though the major business of most NBFIs is leasing some are also diversifying into other lines of business like term lending, housing finance, merchant banking, equity financing and venture capital financing. The

purpose of this paper is to highlight different features of NBFIs, their contribution to the overall economy and the product base of NBFIs. The paper also describes the performance of NBFIs as measured by different financial indicators, along with the effects of banks entry into the non-bank financing area. Special emphasis has been given to identify the challenges faced by NBFIs in Bangladesh. And finally, development of NBFIs as well as their role in strengthening the financial system of Bangladesh has been discussed. It is found that despite several constraints, the industry as a whole is performing reasonably well. Given appropriate support, NBFIs will be able to play a more significant role in financial intermediation.

Chernobai & yu. (august 30. 2010): They examine the incidence of operational losses among U.S. financial institutions using publicly reported loss data from 1980 to 2005. They have proved that most operational losses can be traced to a breakdown of internal control, and that from these losses tend to be younger, more complex, and have higher credit risk, more antitakeover provisions, and CEOs with higher stock option holding and bonuses relative to salary. These findings highlight the correlation between operational risk and credit risk, as well as the role of corporate governance and proper managerial incentives in mitigating operational risk.

Cheng (April 10, 2006): His paper shows that banking development spurs growth, even in a country with a high growth rate such as China. Employing data of 27 Chinese provinces over the period 1995-2003, it study whether the financial development of two different types of institutions banks and non-bank financial institutions have a (significantly different) impact on local economic growth. The findings show that banks outperform non-bank financial institutions. Only banking development exerts a statistically and economically significant positive impact on local economic growth. This effect becomes more pronounced when the financial sector is less concentrated.

Kainth (2208): NBFC have penetrated into those areas where banks could not due to procedural constrictions. They took the risk, both operational and regulatory and ventured into areas where banks did not dare. NBFCs industry had undergone many ups and downs in the post liberalisatio era. However, in the aftermath of comprehensive regulatory mechanism put in place by the RBI during 1997 and 1998, the sector has matured and played a major role in indin economic development.

Ahmad, Akram, Raza & Amjad (APRIL 2011): Financial institutions play an important role in the economy by channelizing funds and thus act as prominent stakeholders. The intention of this study is to analyze the financial performance of those non-bank finance companies (NBFCs) which are providing the services of investment advisory (IAS), asset management (AMS), leasing and investment finance (IF) for last two years.

Ratio analysis method has been used to analyze the financial performance of nonbank financial institutions. The study concludes that the financial performance of NBFCs was better in 2008 as compared to the overall decline in 2009 caused by many factors. This study can be helpful for investors for sake of knowledge and to take long term investment decisions.

Saeid (2010): in his article discussed that the non-banking financial companies (NBFC's) have emerged as substantial contributors to the Indian economic growth by having access to certain deposit segments and catering to the specialized credit requirements of certain classes of borrowers which banks cannot. He further said that a non-banking institution which is a company and which has its principal business of receiving deposits under any scheme or arrangement or any other manner, or lending in any manner is also a non-banking financial company. Thus NBFCs have been rendering many useful services, several adverse but unhealthy features of their working have also have been observed. He emphasizes that protection of savers from malpractices is one of the most important issues.

Mohan (2008) in his research paper explains additional feature of prudential actions of the Reserve Bank relate to the tightening of regulation and supervision of Non-banking Financial Companies (NBFCs), in which the regulatory arbitrage between these companies and the banking system is minimized.

Toms, Manu (2011): in an article explained why non-banking finance companies (NBFCs) are upset over new regulatory recommendations from a Reserve Bank of India panel which wants them to increase their cash cushion by redefining what constitutes a substandard loan. They elaborated on RBI working group's suggestion to make asset classification norms similar to banks, according to that norm NBFCs will have to classify loans that involve due payments of more than 90 days as "substandard" and make provisioning of 15% with respect to their assets.

RESARCH METHODOLOGY

3. RESEARCH METHODOLOGY

3.1Need For Study

Non-banking financial companies (NBFCs) form an integral part of the Indian financial system. The history of the NBFC Industry in India is a story of underregulation followed by over-regulation. Policy makers have swung from one extreme position to another in their attempt to set controls and then restrain them so that they do not curb the growth of the industry. This report covers the industry. Non-banking financial companies (NBFCs) have seen considerable business model shift over last decade because of regulatory environment and market dynamics. In the early 2000s, the NBFC sector in India was facing following problems: 1) High cost of funds 2) Slow industrial growth 3) Stiff competition with NBFCs as well as with banking sector 4) Small balance sheet size resulting in high cost of fund and low asset profile 5) Non performing assets

3.2

Objective Of The Study

To study various risk associated with Non Banking Financial Institutions. To evaluate how these risk could be managed so that the growth of the industry is not hampered. To study the financial performance of non banking financial institution.

3.3

Research Design 3.3.1 Nature of the Study:

A exploratory research design followed by Descriptive Research design would be adopted as the variables to be studied are known from the literature reviewed and work undertaken earlier which thus defines the sampling framework. Exploratory research includes the RBI prudential norms, sources of funds, financial products NBFC are dealing in, etc. this exploratory research will be followed by the personnel interview of the NBFC personnel to have in indepth analysis of the procedure followed. Further descriptive research will be carried.

3.4

Sampling design

The institutions extending credit in this area are considered. Convenience sampling, as the name implies, is based on the convenience of the statistician who is to select a sample. The researcher chooses the sampling unit on the basis of convenience or accessibility. The number of institutions extending credit in this area are considered.

Data Collection:
Secondary data are collected from various issues of RBI Bulletin regarding Financial and Investment companies. Personal interview method is used for collection of primary data from the NBFC personnel. The instrument used for the survey is questionnaire.

Sample size:
The number of officers with whom the judgmental survey was conducted is 15.

Data Analysis Tools:

Financial ratios were used to measure the strength and managerial acumen of Both quantitative and qualitative aspects need to be taken into consideration while computing the risk levels. In the case of corporate clients, detail study of the balance sheet is one of the main instruments. Ratio analysis helps us determine whether the loans have to be extended in case required by the customer. But, past performance is not an ideal indicator of the future performance. This raises the necessity to consider other qualitative parameters such as technological status, reputation, repayment track with others.

3.5

Variables identified

LIQUIDITY RISK

Liquidity risk is the non-availability of cash to pay a liability that falls due. A company is deemed to be financially sound if it is in a position to carry on its business smoothly and meet all the obligations - both long term as well as short term - without strain. Assessment of the efficiency with which the funds are put to use is very important for credit analysis. The study of efficiency of debt-service management becomes essential to banks as the ratios reveal: Whether the profit of the firm is enough to cover not only the interest payment, but also to provide a reasonable cushion against future uncertainty Whether the profit is sufficient to provide enough coverage for repayment obligations Whether the assets of the firm provide adequate security for loans sanctioned. In short, the coverage ratios show the relationship between the debt servicing commitments and the sources for meeting these burdens.

Debt Equity Ratio

The ratio brings out the extent to which the firm is dependent on outsiders for its existence and indicates the proportion of the owners stake in the business. A high ratio means that claims of creditors are greater than owners funds.

Current Ratio
The current ratio is an index of the concerns financial stability since it shows the extent of the working capital, which is the amount by which the current assets exceed the current liabilities.

Liquidity Ratio
This ratio is also an indicator of the short-term solvency of a firm. Ideal ratio is 1:1. A comparison of current ratio to liquid ratio indicates inventory hold-ups.

Interest Coverage Ratio

It tells the analysts the extent to which the firms current earnings are able to meet current interest payments.

Debt service coverage ratio

The standard ratio is 1.5. The level of these ratios reflects the result of business risk drivers and the funding policies. Generally speaking, higher the level of coverage, higher is the rating.

OPERATIONS RISK

In a competitive market, it is critical for any business unit to control its costs at all levels. They measure how efficiently the firm is employing the assets. They also represent the relationship between profit and sales, and between profit and investment. Net profit trend, the final profit figure arrived at after charging all the expenses of the firm against all its income is called net profit.

Fixed Assets Turnover Ratio

This ratio measures the sales per rupee of investment in fixed assets or the efficiency with which fixed assets are employed. A high ratio indicates a high degree of efficiency in asset utilization and a low ratio reflects inefficient use of assets.

Total Assets Turnover Ratio This takes the total view of the business as a producing unit. It determines the produce ability of the assets of the business, which also indicates the managerial capacity of the entrepreneur in putting the assets to best use.

Return on Investments
The ROI is the key factor of profitability of a business. It matches the operating profit with the assets, which earn this profit. Efficient utilization of assets will have a relatively high return, while a less efficient use will have a low return. Higher profitability implies greater cushion to debt holders.

Free Assets to Total Assets

This ratio is critical to firms employing commercial vehicles and construction equipments as it determines the level of assets available to a banker in case of default. The higher the ratio more secured the funding would be.

Revenue per KM/HR

Expected revenue generated on the financed vehicle will form one of the criteria for assessing the viability. This will show the banker whether the customer will be in a position to repay the loan.

Operating Cost per KM/HR

The operating cost may be classified into fixed and variable cost. Study under this classification helps in arriving at the optimal level of utilization of the equipment. However, the operating cost and revenue for the vehicle cannot be measured in isolation. The profitability of the equipment is what matters at the end of the day.

Fleet Strength
Fleet strength is the number of equipments/vehicles held by the customer and gives an idea about the size of the business. A lender generally looks at a small business with high caution, as there are only few assets to turn to incase the debts turn bad.

Work orders on Hand

The number of work orders that one has helps to check how well the business is progressing. It also shows the trend of the business in the market.

CREDIT RISK

Credit risk is risk resulting from uncertainty in a counter partys willingness to meet his contractual obligations. The business character of a borrower rests on traits as trustworthiness and commitment.

Repayment track with others

The repayment track of the borrower with others determines how well they have carried out their business in the past years. A business with prompt payment has less credit risks than those whose reputation is a question mark in the market.

Resale value of the asset financed

The customers are generally divided into two categories, namely A and B. Category A represents equipments that command high resale value and category B represents low resale value equipments. In case of default on the part of customers to repay the loan, the bankers will look to seize the asset and rnealize the due amount from it. Thus, a category represents a safer investment for the bankers.

Percentage funding to total cost

This helps us measure the level of financial commitment of the borrower in the proposal. Lower ratio means more contribution from the borrower and the risk on the bankers end is low.

Value and liquidity of collateral offered

As a driving note collateral must not drive lending decisions. Whenever, the bank is forced to foreclose the collaterals, it demonstrates that the lending decision in the first place had been unsound.

Timely submission of information

The customers are required to be prompt in submission of information. Customers who are always regular in submitting the information score over those who have an irregular track for submission.

MARKET RISK
The factors influencing the relative competitive position of the customer are examined in detail. The result of these factors is reflected in the ability of the issuer to maintain or improve its market share. Some of these factors include :

Nature of the Business

The kind of business in which the customer is in will greatly influence the risk associated with him

Net Worth to Netsales

Net worth is the risk capital. When compared to the sales of the business, it shows the efficiency with which the capital is rotated in the business.

Reputation of Promoters
The promoters are the ones who initiate a business idea successfully. The background of the promoters gives an idea of their business expertise and their talents.

Technology Status
Obsolescence is another problem that an industry faces. A firms competitive position is decided based on the technological competence it possesses.

Effect of Business Cycle

Almost every industry suffers from some amount of cyclical fluctuations. It is important for a banker to know on which side of the cycle a borrowing unit is operating to adjust to the credit needs of the borrower and the riskiness of his fund.

Government Policies
The pace and pattern of growth in a country depends largely on various policies of the Government. When the government policies are friendly and favorable towards the industry, then the growth prospects are high.

DATA ANALYSIS AND FINDINGS

4. DATA ANALYSIS AND FINDINGS

To aid the assessment process and to systematize the entire process, key for assessment has been developed in consultation with people well versed in this field. The key will not only quicken the assessment, but also standardizes it. The parameters in each risk category should be analyzed based on the key and must be given a score. The scores should be multiplied with the weights assigned, in proportion to the importance of the parameter, to arrive at an aggregate for each risk category. Each risk category is measured separately and is also expressed as a percentage, which would help to measure the risk easily. After calculating the risks under each category, they must be summed up and the grand score will be on 1200. To get a single point indicator of the risks, it is divided by 10 and expressed as a score on 120. Based on the final score the company is given a rating by referring to the scoring guide of the model. Here, we employ a numeric rating scale. Numeric scales developed for Risk Assessment Model is such that the lower the risk, the lower is the rating on the scale. The rating scale consists of 6 levels, of which levels 0 to 2 represents various grades of acceptable credit risk and levels 3 to 5 represents various grades of unacceptable credit risk associated with an exposure. The scale, starting from "0" (which would represent lowest level credit risk and highest level of safety) and ending at "5" (which would represent the highest level of credit risk and lowest level of safety), is deployed to standardize, benchmark, compare and

monitor credit risk associated with the bank's loans and give indicative guidelines for risk management activities. The model, the key for assessment and the scoring guide along with the interpretation are illustrated below.

Table 1: Liquidity Risk Assessment

Liquidity risk has been considered the most important parameter while assessing the overall risk. To assess liquidity risk 5 parameters have been identified. S. no Parameters Weights Score Weighted score

Liquidity risk (300) 1 Debt equity ratio 2 Current ratio 3 Liquidity ratio 49 53 40 75 83 300 2 1.5 2.25 2.25 2 98 79.5 90 168.75 166 602.25

4 Interest coverage ratio 5 Debt coverage ratio Sub total

Table 2: Market Risk Assessment

Parameters measuring the market risk are the crucial factors to determine the credibility of the customer. Mentioned below are the 6 factors identified to calculate the market risk associated while grating credit. S. no Parameters Weights Score Weighted score

Market risk (300) 1 Nature of the Business 2 Net Worth to Net Sales 29 52 56 53 59 51 300 2.5 0.5 2 1.5 1.5 2 72.5 26 112 79.5 88.5 102 480.5

3 Reputation of Promoters 4 Technology Status 5 Effects of Business Cycle 6 Government Policies Sub total

Table 3: Credit Risk Assessment

Credit risk depends on the 6 qualitative factors, all of which are regarded important. Credit risk is risk resulting from uncertainty in a counter partys willingness to meet his contractual obligations. The business character of a borrower rests on traits as trustworthiness and commitment.

S. no

Parameters

Weights

Score

Weighted score

Credit risk (300) 1 Resale value of Asset 2 3 % Funding to total cost Repayment track with others 27 62 66 63 41 42 300 2 2 2 1 1.5 1.5 54 124 132 63 61.5 63 497.5

4 Timely submission 5 Value of collateral Offered 6 Liquidity of Collateral Sub total

*the value for operational risk is assumed in the above case, considering the fact that operational risk would take lead role in manufacturing firms. In order to estimate the same, NBFCs would take the assistance of experts.

Table 4: Risk Assessment Of Project Finance

S. no

Parameters

Weights

Score

weighted score

Risk assessment (200) 1 Market risk 2 Liquidity risk 3 Operational risk 4 Credit risk Sub total 52 40 55 53 200 480.5 602.25 1000 497.5 2580.25 24986 24090 55000 26367.5 130443.5

Among the four risk stated above liquidity risk hold the 1st rank followed by market risk , credit risk and operational risk respectively.

Table 5: The Scoring Guide

RISK SCORE (%) 120 110 110 100 100 90 90 80 80 70 Below 70

RISK CATEGORY

EXPLANATION

NATURE OF CASE

0 1 2 3 4 5

Very low risk Low risk Comfortable risk Tolerable risk High risk Undesirable risk

Excellent Very good Good Fair Doubtful Poor

Interpretation RISK CATEGORY 0 - Indicates fundamentally strong position. Risk factors are negligible. There may be circumstances adversely affecting the degree of safety but even such circumstances are not likely to affect the timely payment of principal and interest as per terms.

RISK CATEGORY 1 - The risk factors are more variable and greater in periods of economic stress. Any adverse change in circumstances may alter the fundamental strength and affect the timely payment of principal and interest as per terms.

RISK CATEGORY 2 - Considerable variability in risk factors. The protective factors are below average. Adverse changes in economic circumstances are likely to affect the timely payment of principal and interest as per terms.

R ISK CATEGORY 3 - Risk factors indicate that obligations may not be met when due. The protective factors are narrow. Adverse changes in economic conditions could result in inability or unwillingness to service debts on time as per terms.

R ISK CATEGORY 4 - There are inherent elements of risk. Timely servicing of debts could be possible only in case of continued existence of favourable circumstances.

R ISK CATEGORY 5 - E x t r e m e l y s p e c u l a t i v e . Either already in default in payment of interest and/or principal as per terms or expected to default. Recovery is likely only on liquidation or re-organization.

Table 6: Most Reliable Source Of Information

S.no Parameters Weights Score Weighted score

Most reliable source of information (300) 1 Bank Referrals 2 Financial statement 3 Own records 4 Interview with customer 5 Credit investigation Sub total 60 50 79 72 39 300 0.5 3 2 2 2.5 30 150 158 144 97.5 579.5

Among the various sources of information financial statements are the most reliable source of information followed by the credibility of the respective customer.

Charts and graph:

The most trusted credit rating agency : Agencies CRISIL ICRA CARE FITCH Rating India Pvt.Ltd Total 15 100 Response 13 2 Percentage 86.66 13.33

Figure 1: The Most Trusted Ratig Agency

Percentage
FITCH Rating India Pvt.Ltd

CARE Percentage ICRA

CRISIL 0 20 40 60 80 100

Major hurdle for the growth of NBFC: Major Hurdles Competition From Banks Strict RBI Restrictions Lack Of Trust In NBFC Any other Total responses 5 2 8 15 percentage 31.25% 12.5% 50% 0% 100%

Figure 2: major hurdle for the growth of NBFC

percentage
lack of trust In NBFC

strict RBI restrictions

percentage

competition from banks

10

20

30

40

50

60

CONCLUSIONS & RECOMMENDATIONS

5.CONCLUSIONS AND RECOMMENDATIONS

5.1 KEY FINDINGS

The following are the key findings based on which the model was developed The qualitative measures interest the bankers more than the quantitative measures Liquidity risk or the inability of the prospect to meet the immediate liability is considered most significant of all kinds of risks While market risk falls in line next, the credit or willingness of the customer to repay is rated third in vitality. Statement provider. Credit investigation and bank referrals information. CRISIL has been rate the most trusted credit rating agency. Return on Investment (ROI) has been considered the best indicator to judge the financial performance of NBFC followed by Net Worth ratio. The major hurdle for the growth of NBFC is lack of trust among the customer. are also known to provide reliable showing financial position rated as top quality information

5.2 RECOMMENDATIONS

Measures to boost up the performance of NBFC in India :

1. Creation of a specialised unit for its governance. RBI should amend some

regulatory changes should be proposed and necessary reforms should be brought in parliament.
2. NBFC could play a significant role in facilitating inclusion, as they are uniquely

positioned in reaching out to the rural poor.

3. Creating awareness among the prospective customers. 4. Tie Ups with allied industries.

5.3 LIMITATIONS
1. The major limitation of this study shall be data availability, as the data is proprietary and not readily shared for dissemination. 2. Due to the restrain of information the financial data studied is of 2009- 2010. 3. The study is confined to vehicle finance. 4. The accuracy of the model depends upon the accuracy of the information provided by the respondents.

BIBLIOGRAPHY

BIBLIOGRAPHY

WEBSITES:
www.wikipedia.com http://en.wikipedia.org/wiki/Non-bank_financial_institution http://en.wikipedia.org/wiki/Non-banking_financial_company

Search Engines www.google.com

BOOKS REFFERED:
Financial Management by I.M.Pandey Financial Management by Khan & Jain

ANNEXURE

ANNEXTURE

QUESTIONNAIRE Name: E.mail: Phone number:

Q1. Out of the four risks listed below rank the following on the parameter of 4, 1 being most important a. Market Risk b. Liquidity Risk c. Operational Risk d. Credit Risk\ Q2. Which credit rating agency do you trust the most ? a. CRICIL b. ICRA c. CARE d. FITCH Ratings India Pvt. Ltd.

Q3. What do you think is the major hurdle in the NBFC growth? a. Competition from the Banks b. Strict RBI guidelines c. Lack of trust in NBFCs d. Others .. (Please specify)

Q4. What is the best indicator according to you to judge the performance of a NBFC? a. ROI b. Net Profit c. Net worth d. Market share

Q5. What are the procedures adopted by NBFC for NPA recovery? a. Securitization b. Reconstruction c. judicial working and proceedings

d. any other .. (please specify)

Q6. Rank the following ratios under liquidity risk on the scale of 6, 1 being most important? a. Debt equity ratio 0.2 1 b. Current ratio 0.3 2 c. Liquidity ratio 0.5 3 d. Interest coverage ratio 0.2 4 9.6 e. Debt coverage ratio 0.6 5 Q7. Rank the following ratios under credit risk on the scale of 6, 1 being most important? a. Resale value of Asset b. % Funding to total cost c. Repayment track with others d. Timely submission e. Value of collateral Offered f. Liquidity of Collateral

Q8. Rank the following ratios under market risk on the scale of 6, 1 being most important? a. Nature of the Business b. Net Worth to Net Sales c. Reputation of Promoters d. Technology Status e. Effects of Business Cycle

Q9 Rank the most reliable source of information on the scale of 5? a. Bank Referrals b. Financial statement c. Own records d. Interview with customer e. Credit investigation

Q10. What measures can you suggest to boost the performance on NBFCs ?

1. TABLE SHOWING THE KEY FOR RISK ASSESSMENT

Table showing the key for assessment Parameters \ Scores Debt Equity Ratings 1 Ratio Current Liquid Ratio 3 Ratio Interest Coverage Debt Ratio Service Fleet Coverage strength Ratio Resale value of %ge Asset 8 Funding to Total Cost Work Orders on hand Reputation of 10 Promoter s Below Many 70% & steady Highly repute d 70 %Fe 80 w % & steady Moderately reputed 80% 85% Moderate 85% Many 90% & unsteady No background Unreputed business backg round Above 4.00 10 to 8 Best Below 1.00 Above 2.50 Above 1.50 8 to 1.0 6 02.0 1.5 00 1.0 2.5 00 2.5 1.5 01.5 4.0 Above 2.50 Very high Very high 00 High 2.5 h 0 High 6 to 4 1.50 2.00 1.33 0.80 2.001.00 1.50 2.50 1.25 Moderate 1.50 Moderate Low Very low Above 90% Few & unsteady 4 to 2 2.00 3.00 1.00 0.50 1.330.80 1.50 1.00 1.00 Low 1.25 2 to 0 Worst Above 3.00 Below 1.00 Below 0.50 Below 1.00 Below Very 1.00 low

5 6

Repayment 11 Track With Others Timely 12 12 Value of 13 Collateral Liquidity Offered 14 15 of Collateral Technology status Very high Superior High Up dated Very less 16 17 18 Effect of Government Business Bank Policies Cycle References Financial 19 Statements Own 20 Records Interview with 21 the customer Existing customer with Highly excellent favourable track 21 22 Credit Investigation Highly favourable No impact Friendly Very good Very good imp act Very high High Submission Always regular Regular Very sound Prompt

Behind schedule Unpaid

Occasionally irregular

Moderate

Moderate Comfortable

Less impact

Favourable Comfortable Good Good Moderately good Moderately good Existing customers with good track Neutral

Neutral

2. WORKING NOTES:

Tot Q1 Ran k 1 2 3 4 liquidity risk 10 1 2 2 credit risk 1 9 4 1 Operational Risk 2 7 4 2 market risk 5 4 3 3 Weighte d 10 2 6 8 26 1 18 12 4 35 2 14 12 5 8 9 al

8 12 36 34 131

Complied table :
S. no Parameters Weights Score weighted score

Risk assessment (200) 1 Market risk 2 Liquidity risk 3 Operational risk 4 Credit risk Sub total 52 40 55 53 200 480.5 602.25 1000 497.5 2580.25 24986 24090 55000 26367.5 130443.5

Q6 debt Ran equity k 1 2 3 ratio 6 5 3 current ratio 4 6 4 liquidity ratio 9 3 2 interest debt coverag Weighte d 4 2 0 6 10 9 4 12 12 9 6 6 2 10 3 4 4 0 2 4 0 0 1 4 6 0 0 4 16 4 2 5 1 1 0 3 4 5 5 0 15 0 1 2 30 33 5 46 5 8 2 6

coverage ratio e ratio 2 5 1

With the weight of 300

S. no Parameters Weights Score Weighted score

Liquidity risk (300) 1 Debt equity ratio 2 Current ratio 3 Liquidity ratio 49 53 40 75 83 300 2 1.5 2.25 2.25 2 98 79.5 90 168.75 166 602.25

4 Interest coverage ratio 5 Debt coverage ratio Sub total

Q Credit 7 R a n k 1 resale %fundin repayment tracks with others 2 2 timely value of risk liquidit y of collater al 3 Wei ghte d 3 2 2 2 4 3 3 1 1 2 5 6 4 2 5 1

value of g of total assest 2 assets

submis collateral sion 4 offered

3 0 2 8 4 0 6 1 1 1

4 6 5 2 6 9 2 2 2 2

1 8 4 8 0 0 4 1 1 1 1 1 2

4 5 0 0 0 0 0 1 1 2 1

0 0 8 2 4 2 0 2 6 7 6 4 4 9 7 2 8 4 5

With the weights of 300:

S. no Parameters Weights Score Weighted score

Credit risk (300) 1 Resale value of Asset 2 3 % Funding to total cost Repayment track with others 27 62 66 63 41 42 300 2 2 2 1 1.5 1.5 54 124 132 63 61.5 63 497.5

4 Timely submission 5 Value of collateral Offered 6 Liquidity of Collateral Sub total

Q 8 R a n k 1

Market risk nature of busines s 7 net worth to net sales 1 reputation technol effects o of ogy business cycle 1 4 governm ent policies 4 Weig hted 7 1 1 1 1 4 4 1 1 1

promoters status 1

2 4 0 2 2 1 2

2 4 6 6 0 2

0 4 4 8 0 1 2

5 5 0 0 5 1 1 2

0 2 6

6 2 6 2 4 4 5 4 5 4 6 0 7 2 5

With the weights of 300

S. no

Parameters

Weights

Score

Weighted score

Market risk (300) 1 Nature of the Business 2 Net Worth to Net Sales 29 52 56 53 59 51 300 2.5 0.5 2 1.5 1.5 2 72.5 26 112 79.5 88.5 102 480.5

3 Reputation of Promoters 4 Technology Status 5 Effects of Business Cycle 6 Government Policies Sub total

Q9 interview Ra nk 1 2 3 4 5 bank referals 4 4 4 1 2 financial statements 5 6 2 2 0 own with credit investiga tion 1 6 1 5 2 10 2 2 0 1 Weigh ted 4 5 2 1 10 4 6 0 5

records customers 2 1 4 5 3

8 12 12 4 10

2 12 3

6 12

8 20 20 0 15 10

38 31 51 46 25

S.no

Parameters

Weights

Score

Weighted score

Most reliable source of information (300) 1 Bank Referrals 2 Financial statement 3 Own records 4 Interview with customer 5 Credit investigation Sub total 60 50 79 72 39 300 0.5 3 2 2 2.5 30 150 158 144 97.5 579.5

Measure to judge the performance of NBFC:

Q4 Rank 1 2 3 4 ROI 10 2 3 0 Net Profit Net Worth Market Share Weighted 5 6 2 3 4 7 2 2 5 4 2 4 10 4 9 0 23 5 12 6 12 35 4 14 6 8 32 5 8 6 16 35