NBFCs may see higher cost of funds as bonds mature: CLSA

The RBI raised the repo rate by 250 basis points (bps) between May and February to 6.5%, before pausing in the April and June bi-monthly monetary policy meetings. One basis point is one-hundredth of a percentage point.

In response, banks have raised the weighted average lending rate on fresh loans by 181 bps, before lowering it 23 bps in April, showed data from RBI.

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Most bank loans to non-bank financiers are linked to the marginal cost of funds-based lending rate (MCLR), an internal benchmark of banks. Analysts said that banks have been passing on the higher rates to non-banking financial companies (NBFCs) but given that the transmission in MCLR is not as instant as repo-linked loans, the effects of the rate cuts, whenever it happens, will also be gradual.

“We believe that the impact of repo cuts in the second half of FY24 will be witnessed more in the first half of FY25, rather than in the second half of FY24, on bank borrowing cost,” CLSA said.

Analysts believe that the current pause by RBI and expectations that it will cut rates sometime early next calendar year would not lead to lower cost of funds for NBFCs.

According to CLSA, less than 50% of borrowings for most large NBFCs are at floating rates, the transmission of which happens with a lag of one to 12 months. Second, 20% each of NBFCs bonds are maturing in FY24 and FY25 each with coupon rates much below current levels. Third, incremental cost of non-convertible debentures (NCDs) is unlikely to come off with repo rate cuts as bond yields are also factoring in repo rate cuts, it said.

The report said that over the past decade, the 3-year AAA NBFC bond yield has averaged 180 bps above the repo rate but is currently 120 bps over the repo rate, suggesting that the market is factoring in rate cuts.

“Most large NBFCs typically have 35-50% of borrowings at fixed rates, primarily NCDs, for an average tenure of about three years. The NCDs issued post-covid (in FY21 and FY22) at very low interest rates will come up for repayment in FY24 and FY25,” the report said, adding that these will be refinanced at about 100 bps higher rates.

While 44% of total NCDs of Shriram Finance would mature over this fiscal and Mahindra and Mahindra Financial Services would see 40% of its NCDs mature in the same period. Mahindra Finance’s bonds maturing in FY24 have an average coupon of 7% and the incremental NCD cost is at 8.2%. Shriram Finance’s bonds maturing in FY24 are at 9%, whereas its incremental cost is lower, at 8.7%.

“The CLSA report mentions that Shriram Finance as somewhat an outlier, as far as capital market borrowings as the replacement cost seems cheaper than the existing cost of bonds. This is primarily because of the merger, wherein the rating differential between entities was the factor of higher cost,” said Parag Sharma, whole-time director and chief financial officer, Shriram Finance Ltd.

Three Shriram Group’s entities – Shriram Transport Finance Company Ltd, Shriram City Union Finance Ltd, and Shriram Capital Ltd – merged to form Shriram Finance Ltd.

Vivek Karve, chief financial officer, Mahindra Finance said: “We are a AAA-rated NBFC with diversified sources of borrowing. The overall market liquidity is also comfortable. In fact, during the first two months of the current fiscal, we have already raised close to Rs. 3,000 crore in the bond market.”

Karve said that NCDs representing less than 10% of the total outstanding borrowing as on 31 March 2023 will come up for redemption during the current year. “While replacement cost will be higher compared to the cost of these NCDs, the overall impact is not very material,” he said.

Others also warned about rising funding costs of non-bank lenders.

“There could be pressure on the net interest margins (NIM) of NBFCs in FY24 owing to higher cost of funds but the credit cost trend is improving and could normalize to pre-covid levels. This could help them maintain profitability levels despite rising cost,” said Jinay Gala, associate director, India Ratings and Research Pvt Ltd.

Updated: 14 Jun 2023, 11:41 PM IST