The pandemic’s lingering effects were a test for small finance banks
SFBs bring certain unique characteristics to their approach to banking
The pandemic’s lingering effects were a test for small finance banks (SFBs). Some of the most important players came together at the Business Standard BFSI Insight Summit in October 2021, to talk about how they continue to navigate this unprecedented crisis. Those who took part were: Jana Small Finance Bank Managing Director (MD) and Chief Executive Officer (CEO) Ajay Kanwal; Suryoday Small Finance Bank MD & CEO R Baskar Babu; Fincare Small Finance Bank MD & CEO Rajeev Yadav; Ujjivan Small Finance Bank Director Samit Kumar Ghosh; Equitas Small Finance Bank MD & CEO PN Vasudevan; and Microfinance Institutions Network (MFIN) CEO Alok Misra. They talked about challenges for the industry, and the enduring opportunities for it in the wake of Covid-19. Edited excerpts:
Can small finance banks make it big?
Ajay Kanwal: I don’t think there really is a question about small finance banks becoming big. If you look at their history, even for Jana, we were a functioning non-banking financial company-micro finance institution (NBFC-MFI) since 2009. We have over a decade of history functioning as a financial services company. It is an organisation which has scale, built over the years. We have a presence in 22 states and 650 branches — that’s very unlike a startup bank. All credit to what we were — large, functioning financial institutions before we became banks.
SFBs bring certain unique characteristics to their approach to banking. We have to be highly connected to customers in the microfinance space. Now, you bring that into banking, being customer-centric, highly connected and focused on the customer, and I think that you bring a special feature into banking, which most customers would like. Secondly, we can’t serve a large customer base without being digitised. So, the combination of being so focused on customers and highly digitised should make us bigger as we go along. I think the big question at Jana is not how big we become, given that the market is so large. The most important thing is how good we are. We want to be best in class in the services we provide, in governance and digitisation.
How has Covid-19 affected you?
Kanwal: I have never felt employee safety and health to be as important as I learnt it to be during Covid-19, and I don’t think that will ever escape me. It has forced us to be more digital than ever. Customer connectivity has been very important. As you know in our business, if you are not connected with customers, getting repayments can be very tough. Having that last-mile connectivity was crucial. I think strong capital came in, as a very important feature. Finally, having a diversified and secured book came to the fore. It has certainly changed us significantly in a few areas.
R Baskar Babu: The business was about investing in three or four things before the pandemic: capital, technology, people and assets. We were all addressing each of these independently, and it was all building up. Covid-19 has delivered what can probably be considered a shock. Non-performing assets (NPAs) were 1.9 per cent for the entire SFB industry before Covid-19. The industry went almost through a baptism of fire because of the pandemic. Most SFBs were probably saved by the fact that they had far more capital than was required. The balance sheet and liquidity aspects have played out pretty well. What probably has been affected is a year or two of pre-operating profits for provisioning. The good news is that, unlike earlier, when a circumstantial default quickly translated into an intentional default, this time we haven’t really seen that. We have seen customers who have been delinquent for six months coming back, as things improve.
How was digitisation affected?
Baskar Babu: The digital acceleration we have seen would otherwise have taken three or four years. Many of us have really moved, like Equitas and AU have done extremely well, in terms of getting into a segment like small-ticket secured loans, which has never happened in the banking industry. People have Rs 6-7 lakh of assets and need Rs 3-4 lakh of funding. So, probably, it is also allowing us to innovate. Earlier, any product where delinquency seemed more than 3 per cent wouldn’t really have been attempted.
In terms of being big, we are already making an impact. Close to 3 per cent of Indian households today are served by SFBs, though it is probably less than 1 per cent in terms of banking balance sheet assets.
How has your asset-liability franchise been affected?
Rajeev Yadav: It’s been a phenomenal challenge for everyone, but it has made us stronger. On the liability franchise, it has been a boon to almost all banks. And SFBs, which were lower on deposits and far lower on CASA (current account-savings account) ratios, have shown a significant improvement. That’s been a great boost to all SFBs. On the asset franchise, the portfolio is broken into two parts — secured and unsecured. The unsecured part has played true to its nature.
Our unsecured segment follows a “high touch” model. Unsecured tends to have greater losses, though with greater margins to absorb those greater losses. What has played out well in this phase is that our customers have been very good customers. They are paying us, and they are coming back and there has been no real disturbance in the country overall. It has just been a question of revival of their environment and its stability with regard to lockdowns. A lot of them are rural customers and therefore, they are part of essential services. So, their business was less impacted even during serious lockdowns.
These products tend to grow reasonably fast. And the buoyancy of that growth tends to come in after a crisis. That is what we are experiencing right now. The secured portfolio is a “low touch” model and is generally performing quite well on its delinquencies.
Were SFBs born in a difficult period?
Samit Kumar Ghosh: We have gone through two major crises since the birth of small finance banks. One is demonetisation. The other is the Covid-19 crisis, which is an unprecedented one. It is a testimony to the resilience of SFBs that we have gone through both of these crises. Obviously, there is going to be a serious credit cost with which we have to cope. Fortunately, most of us are very well-capitalised, from that perspective. It took 18 months at Ujjivan to completely recover from demonetisation. So, it will take some time from a business perspective.
All of us have survived for five years, and we continue to survive on an individual basis, and do quite well. If we compare the private sector banks which were given licences a few decades ago, many of them did not survive. We are all intact and moving ahead quite well. I think that’s a remarkable achievement, having gone through two crises.
PN Vasudevan: Demonetisation had its own impact. But Covid-19 has lasted for much longer. Demonetisation took a few months, and then the event was over, though its effects lingered. In the case of Covid-19, the event continues even now.
The recent performance of large banks is reflective of the kind of customer segment that institutions are dealing with. You take away all the risk. You are dealing with clients who are very low-risk, from an individual or retail perspective. The corporate segment is doing well. So, that is also supporting their performance.
If you look at SFBs, many of us are in segments where the clients are largely from the unorganised sector. The impact of a lockdown on such customers is quite severe and dramatic. A guy is running a shop in a bazaar and it is not allowed to open. What can he do? There is nothing that he can do. His entire income is gone, from Rs 100 to zero.
Such borrowers don’t have a large net worth or great savings. There is very little that they can do to repay loans during a lockdown. They have to slowly rebuild their lives when the lockdown opens. That is what we are all experiencing.
How have your priorities changed after recent events?
Vasudevan: It took us about six months to come back, with no further lockdowns last year. Whether it is three months, five months, six months or eight months, this year would depend on individual banks. Over a period of a few months, I am sure all of us would come back to pre-Covid asset-quality levels. That eases stress on the system. The priority has to be on quality, not so much on fresh disbursement.
The second thing that Covid-19 has really fast-forwarded is the focus on digital. The dialogue has become very intense, strident and focused on digital. That’s a significant change because of Covid-19.
How do you respond to the scepticism around SFBs’ model?
Alok Misra: There is a stated goal of becoming a $5 trillion economy. This means very high year-on-year growth in gross domestic product in real terms. Credit growth in the country has to be strong for that to happen. Growth in traditional banks has been stagnant. They have been dragged down by legacy. The bulk of the work on credit growth, for making India a bigger economy, has to be done by SFBs and NBFCs.
There is an inclusivity argument to this. If the economy becomes a $5 trillion one, but the Gini coefficient (a measure of inequality) goes up, that is not desirable growth. The SFB segment has a big role to play to make it equitable and inclusive.
I was also veering towards scepticism when the SFB experiment began. My scepticism has disappeared five years later. I am bullish because of the numbers. The credit-deposit (C-D) ratio shows that they are not doing lazy banking. They are not just mobilising deposits and investing the money instead of lending it out. In fact, they are lending to one of the most difficult sectors to crack. This sector falls between microfinance institutions and banks, between Rs 2-10 lakh.
Their customer-centricity and digital adoption seems to attract even retired people, who traditionally would look for a public sector bank for safety. This is because of the convenience involved, where a person visits you and your account is opened on a tablet. Other functions like renewals are also conveniently addressed.
What else could the government or RBI have done or should do?
Baskar Babu: The credit history of many people has been affected. Perhaps a credit guarantee scheme can help bring them back into the fold. While credit guarantee schemes do exist, they are not meaningfully useful for small-ticket loans.
Consider access to government deposits. All of us are substantially into the financial inclusion business in those states where each of us has deep penetration. Probably, the liability franchise can be made stronger, a lot cheaper than where we are. We are probably at almost double what the top five private sector banks have in terms of their cost of funds.
Kanwal: I agree that a shopkeeper’s first priority after opening his shop when the lockdown lifts is to borrow some money. He will try to fill his shop with goods or new supplies. He will start selling those and then pay us. Here comes the real challenge. He is a delinquent customer or a restructured customer who needs more money. This will cause a strain on our provisions or the capital we put up for such lending. If we do think through where banks really want to extend working capital, and these are restructured accounts, what could we do so that banks don’t feel the strain?
What other tweaks could have helped existing schemes perform better?
Yadav: Some of our customers come under the agricultural segment and others do not, which can be a problem when we do group lending and make use of something like the ECLGS (Emergency Credit Line Guarantee Scheme). So, we had a situation where we could do ECLGS for some customers in a group but not for others, which broke group harmony. We had a similar issue with the restructuring programme. There could have been a little microfinance tuning for some of these programmes which are typically done in a group.
I think a special programme for those two or three months of the second wave after the effort has been put in could have been done. A lot of institutions saw a dip in their collection efficiency because of lockdowns. Once borrowers have become delinquent, or their loans are restructured, the norms can limit options on how they can be served in the future.
Ghosh: Despite all the crises that we have gone through, there is no leeway on a lot of the timelines that we have to adhere to. We have to go public by a certain date. I think there should be some consideration. I don’t know if everyone can list themselves right now.
How are you preparing yourself for digital disruption?
Vasudevan: I’ll put it into three baskets: assets, liabilities and the back office. Assets and liabilities for most of us are highly digitised, because of the level of transactions that we have always been handling. The time that we took to convert our savings account opening process from paper-based to tablet-based is probably a record, compared to even some of the larger private banks, who probably took a longer time than us. We know that to handle large volumes we need more efficiency.
We have various RBI guidelines which were drafted when fintech collaboration was not available as an option at all. And one is not clear on what might be okay and what might not be okay. Some things you do because you think it is okay, and you avoid others. Someone else might do it and you wonder if you are missing the bus!
Corporate governance is in the limelight. How critical is it?
Misra: I don’t see any red flags on corporate governance, to be frank. SFBs don’t have lower corporate governance standards when compared to big banks, whether private or public sector. For some, the promoter is anathema, when it comes to corporate governance. I think the classical textbook theory cannot be applied when it comes to SFBs. You also have to look at their business model and see the track record of the promoters who are involved, their legacy, commitment and passion.