Bank-NBFC co-lending model yet to take off as more tweaks may be needed

"Our co-lending book stood at Rs750 crore as on June 30, 2022, and we aim to grow it three times to Rs2,000 crore by the end of FY23,” says Shachindra Nath, vice-chairman and managing director (MD) of U GRO Capital. The shadow bank has signed 18 co-lending partnerships, including with the State Bank of India (SBI) and IDBI Bank.

Co-lending (and its earlier avatar, co-origination) is an arrangement in which banks and non-banking financial companies (NBFCs) tango in a 80:20 ratio on loan exposures.

SBI, on its part, is looking to build a co-lending book of Rs10,000 crore in FY23 — it will cover personal loans; micro, small and medium enterprises; and agriculture. C S Setty, MD for retail and digital banking told Business Standard in March this year that the bank plans to have 25 co-lending tie-ups (up from 14); and that FY23 will be the first full year to grow this activity.

Flight of fancy?

Now, you may think that co-lending is on fire, with the likes of U GRO Capital (which says it has built 21 per cent of its book through this route) and SBI deciding to go full throttle on it. The reality is very different.

While just about every other state-run bank (and select private banks) did talk of setting up dedicated co-lending verticals, there is little to write home about. There is no aggregate data on how much credit has been advanced at the systemic level through co-lending. That is surprising, because a lot rode on this scheme when it was unveiled.\\

When the live-in arrangement between banks and NBFCs was flagged off on September 21, 2018, it was for co-origination. The underlying idea was to carve out the risks between banks and NBFCs with an emphasis on long-term structural reforms.

But a good bit of the time that elapsed after the issuance of the September 21, 2018 circular was taken up by the principals involved in ironing out the creases that followed in the wake of the blowouts in shadow banking at the Infrastructure Leasing & Financial Services, and Dewan Housing Finance Corporation.

They also took time to work on the finer aspects of the model. Based on the feedback received, Mint Road tweaked the arrangement and made it a co-lending model on November 5, 2020.

Nearly two years on, we are still jogging in the same spot.

“So many agencies — banks, small finance banks, regional rural banks and NBFCs — were created to cater to different segments. Now, market integration is being attempted through the co-lending model,” notes Ajoy Nath Jha, executive director and chief risk officer at IDBI Bank. But the issue is the complex detailing needed to make this work: “Given the gaps between the segments — be it the quality of accounting, or cash flows — it will need more time to take off.”

The devil in the details

“There has to be a convergence of interest between banks and NBFCs. For instance, in our case, we would like to grow in the middle- to upper-layers of the credit market, even if it comes at a lesser margin. But this is a segment where banks do well anyway,” says Y S Chakravarti, MD and chief executive officer (CEO) at Shriram City Union Finance (SCUF).

For all you know, there may be even less incentive for the Shriram group to explore the co-lending route with banks from here on. It has just received the Competition Commission of India’s nod for the merger of SCUF and the promoter-entity Shriram Capital, with Shriram Transport Finance Company, another group company. The newly-minted entity — Shriram Finance — will be the country’s largest retail NBFC, with assets under management of Rs 1.65 trillion at end-June 2022.

“The emerging landscape will enable banks and NBFCs to co-exist. I don’t think banks can reach the lowest strata of society,” Chakravarti emphasises.

Other NBFCs have taken a different tack.

According to Aseem Dhru, founder and CEO of SBFC Finance, “We are into co-origination, not co-lending. Whatever we co-originate for ICICI Bank, they can reject if they feel the credit exposure is not up to standard.”

He adds: “As I see it, co-lending is more akin to securitisation, without the six-month minimum waiting period after which you can sell down loans. The point is that it’s very important that the quality of the asset is good, whether through co-origination or co-lending.”

The nuances involved here are critical. In co-origination, the bank and the NBFC agree upfront to split the loan in the ratio 80:20; in co-lending, the bank takes up its share only after the latter has first given out the entire loan; and there’s a good chance that the NBFC may be stuck with the entire loan on its books.

Add the fact that there has to be a fine sense of what’s good for each partner, and the logic behind the co-lending scheme becomes all the more difficult to grasp. That is because banks and NBFCs operate at different ends of the risk spectrum.

This calls for policies to be agreed upfront between the two. Banks are more comfortable funding fleet operators, NBFCs with the new-to-credit and commercial vehicle owners. Banks service loans largely out of branches; NBFCs are fine with field decisions.

Furthermore, banks like to play big brother. They are not comfortable with NBFCs’ underwriting process, which makes their co-lending relationship not too different from banks’ business-correspondent structure. And when changes are proposed, shadow banks’ field teams find it hard to switch between sole lending and co-lending mid-way through the underwriting process.

For now, co-lending is stuck between yours’ and mine. Ours’ is stillborn.