BL Research Bureau

After granting licenses to ten players to set up small finance banks (SFBs) four years ago, the RBI has announced guidelines for on-tap licencing of SFBs, to widen the competition. Aside from higher minimum capital and revision in timelines for bringing down promoter shareholding, the guidelines for on-tap licensing are similar to that laid down earlier.

Importantly, payments banks can apply for the small finance bank license. This implies that existing players in the payments banks space can convert themselves into a small finance bank. The question is, will they go for it?

Given that payments banks have been constrained by limited revenue streams, small margins and challenging business model, it is likely that many of them would consider applying for the SFB license. Converting into an SFB will allow these players to lend and scale up profitability.

India Post Payments Bank has already stated that it is evaluating the SFB option. Rishi Gupta, MD & CEO, Fino Payments Bank, also says that they are looking at the guidelines to assess the SFB route.

How is it different?

The eligibility criteria, the scope of activities, prudential norms and listing requirements under the on-tap licensing are more or less similar to that laid down in 2014. Hence resident individuals/professionals with ten years of experience in banking and finance; and companies and societies owned and controlled by residents running the business for at least five years are eligible as promoters to set up SFB. Existing NBFCs, MFIs, local area banks and payments banks too can opt for conversion into SFB. Of course, they will have to fulfil the ‘fit and proper’ criteria.

Read also: Why five out of the 11 payments banks have shut shop

As an SFB, these players can lend but will have to meet the norm of extending 75 per cent of loans to the priority sector and have at least 50 per cent of loans up to ₹25 lakh. They will also have to comply with cash reserve (CRR) and statutory liquidity (SLR) requirements from day one of conversion into a bank.

The on-tap guidelines however set a higher capital requirement of Rs 200 crore (Rs 100 crore earlier) and have a different promoter exit timeline. Under the earlier guidelines, shareholding by promoters in the bank had to be brought down to 40 per cent within three years, subsequently to 30 per cent within ten years and to 26 per cent within 12 years.

Under the on-tap licensing guidelines, shareholding by promoters in the bank has to be brought down to 40 per cent within five years, subsequently to 30 per cent within ten years and to 15 per cent within 15 years.

Payments banks to SFB

While the RBI had given payments bank licenses to many as 11 players four years ago, only six are operational currently. Payments banks are challenged by their underlying business model. Unlike traditional banks that lend money raised from deposits, payments banks cannot engage in any lending activity. Their income comprises mostly of interest from investments in safe government securities and fee income that they can earn by distributing simple financial products such as mutual funds and insurance.

As per the RBI guidelines, payments banks are allowed to take deposits only up to ₹1 lakh per account. They also need to invest 75 per cent of their deposits in government securities with maturity up to one year, and the balance 25 per cent can be parked with commercial banks.

Hence they operate on thin margins. On the deposits front, they have to compete with traditional banks as well as existing small finance banks.

Paytm Payments Bank, however, managed to report a ₹19 crore profit for fiscal 2018-19, the first payments bank in India to make a profit. Fino Payments too has been looking at innovative tie-ups to scale-up profitability. For instance, it has tied up with Suryoday Small Finance Bank, offering a sweep facility. Fino Payments expects to turn positive at the operating profit level this fiscal.

“That said, while we have been able to perform well under the current payments model, we will be looking at the on-tap guidelines for SFB. Converting into an SFB may help us scale better and earn higher profits. The model also appears more sustainable,” says Rishi Gupta.

Challenges in SFB

Of the ten players who have been granted SFB licence by the RBI, eight were MFIs. This helped them meet the RBI’s lending norms (75 per cent to priority sector etc.). For any new player, say payments bank, replicating the door-to-door delivery model of MFIs to deliver credit to the weaker sections can be a challenge. Even if a broader reach in rural areas helps some players in ramping up lending activity, doing so in a profitable manner (MFIs have been able to do so in a cost-effective way and by generating strong returns) will be critical.

The key challenge, however, lies in ramping up low-cost retail deposits to improve profitability. Many existing small finance banks continue to offer high-interest rates to draw in deposits and rely heavily on bulk deposits. Hence scaling up low-cost deposits will be a key challenge for new players opting to apply for the small finance bank.