The Reserve Bank of India (RBI) on Wednesday granted 10 entities in-principle licences to open so-called small finance banks—another move towards expanding access to financial services in rural and semi-urban areas.
- Ujjivan Financial Services Pvt. Ltd,
- Janalakshmi Financial Services Pvt. Ltd and
- Equitas Holdings Ltd are among the 10 entities. The others are
- Au Financiers (India) Ltd,
- Capital Local Area Bank Ltd,
- Disha Microfin Pvt. Ltd,
- ESAF Microfinance and Investments Pvt. Ltd,
- RGVN (North East) Microfinance Ltd,
- Suryoday Micro Finance Pvt. Ltd, and
- Utkarsh Micro Finance Pvt. Ltd.
Larger financial services firms such as Dewan Housing Finance Ltd, IIFL Holdings Ltd, SKS Microfinance Ltd and UAE Exchange and Financial Services Ltd did not qualify for the licences. No publicly traded entities have been included in the list.
Small finance banks will offer basic banking services, accepting deposits and lending to unserved and underserved sections including small business units, small and marginal farmers, micro and small industries, and entities in the unorganized sector, RBI said when it released guidelines for such banks in November.
Eight out of the 10 entities granted the in-principle approval, which is valid for 18 months, are microfinance institutions. The exceptions are Capital Local Area Bank Ltd, which operates in five districts of Punjab, and Au Financiers. Local-area banks are institutions that lend in contiguous districts, mobilizing rural savings and making them available for local investments. Au Financiers is a non-banking financial company.
For microfinance firms that give tiny loans to low-income earners, the key incentive for converting into small finance banks will be the access they gain to deposits; they will also be able to offer a wider range of loan products to customers.
The licensing of small finance banks follows 11 payment bank licences given out by RBI last month to provide basic savings, and deposit, payment and remittance services to people without access to the formal banking system. Payments banks will not be in the business of lending.
Both initiatives are aimed at furthering financial inclusion, which the Bharatiya Janata Party-led National Democratic Alliance government has made one of its top priorities since it assumed office in May 2014.
It has launched the Pradhan Mantri Jan Dhan Yojana (PMJDY) to ensure a bank account for every household, offering accidental insurance cover of Rs.1 lakh, life insurance cover of Rs.30,000 and easy transfer of money across India as sweeteners. As of 12 August, 175.7 million bank accounts had been opened under the scheme, according to the PMJDY website.
In a statement released on Wednesday, RBI said it had selected the 10 candidates to start small finance banks after three different committees conducted a detailed case study of each applicant.
“Going forward, the Reserve Bank intends to use the learning from this licensing round to appropriately revise the guidelines and move to giving licences more regularly, that is, virtually ‘on tap.”’
After setting up a bank, it would take nearly two years to merely stabilize the operation, said Samit Ghosh, founder and managing director, Ujjivan Financial Services. Ujjivan’s loan book stands at about Rs.3,300 crore and it plans to continue its focus on smaller borrowers, he said.
“The next 18 months are going to be a lot of hard work. We have to figure out ways to bring down the 90% foreign shareholding in the company since RBI has strict guidelines for it. We will be looking at various options including private placements,” said Ghosh.
According to the current policy, the aggregate foreign investment in a private sector bank from all sources is capped at 74% of its paid-up capital.
Ahmedabad-based Disha Microfin said its focus will be to expand in the central and western Indian states where there is a huge base of unbanked customers.
“The initial challenge will be to restructure and transform into a bank from a non-banking financial institution and offer multiple banking products,” said Rajeev Yadav, director of Disha group, which runs the Ahmedabad-based microfinance company.
In total, 72 entities applied for a small finance bank licence. The applications were reviewed by a committee headed by former RBI deputy governor Usha Thorat.
“It is clear from the list (of licensees) that the RBI’s bias is towards people who have proved themselves in the priority lending space. Since larger banks have always felt it to be a drag on their books, these entities will be able to fill that gap and serve smaller customers,” said Abizer Diwanji, partner and national leader, financial services, EY.
According to Diwanji, the ability to maintain a full-fledged treasury department would be one of the advantages of turning into a small finance bank, apart from access to deposits and the opportunity to offer a wider range of loan products.
“But these will also be the biggest challenges, since these are players who have not had much experience in these services,” Diwanji said.
To be sure, the transformation will not be easy.
“For the initial few years, lives are going to be difficult for the licensees. Some extremely large challenges include the ability to form a sustainable business model and gaining trust from the depositors. However, this sector is capable of achieving these things,” said Alok Prasad, industry expert and former chief executive officer of Microfinance Institutions Network, an industry body for microlenders.
One challenge will be the prudential norms they have to adhere to. Small finance banks will be subject to most of the prudential norms that scheduled commercial banks have to adhere to. For instance, they need to maintain a cash reserve ratio (CRR), or portion of deposits to be set aside with the central bank, and statutory liquidity ratio (SLR), or the portion of deposits to be invested in government securities, as stipulated for commercial banks.
Seventy-five percent of the credit advanced by small finance banks will need to go to sectors that are considered part of the so-called priority sector, which includes agriculture, small enterprises and low-income earners. Commercial banks have to mandatorily lend 40% of their net bank credit to such sectors.
Small finance banks will also have to ensure that 50% of their loan portfolio constitutes advances of up to Rs.25 lakh, said RBI. Such banks can eventually apply to RBI to transit into universal banks once they have established a satisfactory track record. Such a transition would be subject to due diligence by the banking regulator.
The minimum paid-up equity capital for small finance banks was set at Rs.100 crore and the minimum initial contribution from promoters fixed at 40%.