Introduction The traditional banking sector has had its share of success in the past and has been effective in providing services to underprivileged sections of society. But the financial landscape has witnessed significant changes over the past few decades, with traditional banking institutions no longer monopolizing the industry. Non-Banking Financial Companies (NBFCs), along with Small Finance Banks (SFBs) and Fintechs have emerged as formidable players, revolutionizing the way financial services are delivered. With their innovative approach and agility, these players are at the forefront of transforming the financial landscape and have emerged as industry disruptors. India has a huge percentage of unbanked population with millions of adults still without a bank account and a sizeable number of them being women. The problem is more severe in rural India, where over 65% of India’s population resides and most of them are deprived of availing formal credit. This chunk of the population has low familiarity with technology and faces unique challenges in financial literacy and a lack of trust in new payment systems.
Beyond the urban-rural gap and the digital literacy divide, there is also a stark gender gap when it comes to financial inclusion. The success of financial inclusion is not simply opening bank accounts but encompasses ensuring participation in the formal economy and enabling access to credit, savings, and other financial products to large sections of the populace, irrespective of their gender, literacy, or social status.
Understanding NBFCs
Non-Banking Financial Companies, as the name suggests, are financial institutions that provide financial services without holding a banking license. NBFCs cannot accept deposits freely like banks. NBFCs having a Certificate of Registration by RBI with a specific license to accept deposits are entitled to accept the deposits for a period ranging from 12 months to 60 months. They engage in various other financial activities such as lending, investment, asset management, and more. NBFCs play a vital role in providing credit to individuals and businesses that may not have access to traditional banking services.
Role of NBFCs
NBFCs, Small Finance Banks, and Fintechs are leveraging technology and innovation to create products and services to help the unbanked and underbanked in the country. NBFCs and small finance banks are collaborating with fintechs to reinvent their business models to better their market penetration. Several NBFCs have been at the forefront of innovation in P2P and MSME lending and have over the years, built a strong ecosystem to serve the unbanked and the underserved. With their targeted approach, Small Finance Banks have improved access to credit for several small farmers and small business units.
Also, the arrival of Fintech has transformed the Indian BFSI space over the last few years and has become the fastest-growing industry. As digital adaptation is on the rise, NBFCs and Small Finance Banks, along with Fintechs hold huge promise in driving the financial inclusion agenda.
NBFCs – Driving Innovation
The digital revolution enabled NBFCs to offer a wide variety of financial products and services that are easily available and accessible to the desired population. The following are some of the strategies adopted to drive innovation.
1. Technology-driven approach: NBFCs leverage technology to deliver financial services efficiently and conveniently. They adopt digital platforms, mobile apps, and online portals to provide seamless customer experiences. This technological integration enables NBFCs to reach a wider customer base and offer personalized financial solutions.
2. Fintech partnerships: NBFCs actively collaborate with fintech startups and other technology-driven companies to enhance their services. These partnerships enable them to leverage innovative solutions such as Artificial Intelligence, Blockchain, and Data Analytics. By incorporating these technologies, NBFCs can streamline operations, assess creditworthiness accurately, and mitigate risks effectively.
3. Product innovation: NBFCs are known for their ability to tailor financial products to meet specific customer needs. They offer a wide range of loan products, investment options, and insurance solutions, catering to diverse segments of the population. Through constant innovation, NBFCs develop flexible and customized products that are not typically available through traditional banking channels.
4. Alternative credit scoring models: One of the significant contributions of NBFCs to the financial landscape is the development of alternative credit scoring models. Traditional banks primarily rely on credit scores provided by credit bureaus, making it difficult for individuals without a credit history to obtain loans. NBFCs, on the other hand, utilize alternative data sources such as utility bill payments, social media behaviour, and transaction history to assess creditworthiness. This enables them to extend credit to previously underserved segments of the population.
Impact on the Financial Industry
1. Financial inclusion: NBFCs have played a crucial role in promoting financial inclusion by reaching out to underserved and unbanked individuals and businesses. Their ability to assess creditworthiness using alternative data has enabled them to provide loans to individuals who would have otherwise been denied access to credit. This has helped in driving economic growth and reducing income disparities.
2. Competition and innovation: The entry of NBFCs has spurred competition in the financial industry, forcing other players, including banks, to innovate and improve their services. This competition has benefitted consumers, who now have a wider range of financial products to choose from, along with better customer experiences.
3. Access to capital: NBFCs have been instrumental in providing access to capital for small and medium-sized enterprises (SMEs) and startups. These businesses often face challenges in obtaining loans from traditional sources due to their limited operating history or lack of collateral. NBFCs, with their flexible lending criteria and willingness to take calculated risks, have become a valuable source of funding for these enterprises.
4. Risk mitigation: NBFCs have developed advanced risk management techniques to mitigate financial risks associated with lending and investments. Through the use of technology and data analytics, they can assess credit risk more accurately, detect fraud, and make informed investment decisions.
Reasons for the Growth of NBFCs
1. Personalized products/ services: Several NBFCs have focused on a limited range of products/ services to serve the target customer segment. With a complete understanding of their target segment, NBFCs have tailored product offerings to cater to distinctive characteristics and focus on meeting the right needs. Also, based on the customer risk profiles, several NBFCs are adopting competitive/ dynamic pricing models.
2. Wider reach: NBFCs are now expanding to reach out effectively to small-tier markets across several customer touchpoints to distribute their products/ services. They are also providing seamless sales and service to their customers through a connected omnichannel experience. The consumer of today is drastically evolving to become more digitally native and NBFCs have embraced new ways to engage with the customer.
3. Customer segment knowledge: By ensuring last-mile delivery of products and services NBFCs have created a niche for themselves through a deep understanding of the needs of their customer segments given their operations in unorganized and underserved segments of the economy.
4. Leveraging technology: The extensive use of the latest available technology has helped for improved efficiency and enhanced experience. To build and maintain strong relationships with their target customer segments, NBFCs are also extensively investing in artificial intelligence and data analytics.
5. Co-lending arrangements: NBFCs are entering into co-lending arrangements with fintechs and commercial banks, aiding in the addition of potential target customers.
6. Robust risk management: Given their focus on lending to targeted customer segments, and regulatory disadvantage in comparison to commercial bank lenders, NBFCs are ensuring enhanced governance through a proactive risk management approach.
Also Read | Reimagining cybersecurity in the banking sector
Conclusion
Non-Banking Financial Companies (NBFCs) have emerged as significant disruptors in the financial landscape, challenging traditional institutions with their innovative approaches. By leveraging technology, fostering fintech partnerships, and developing alternative credit scoring models, NBFCs have transformed the way financial services are delivered. As NBFCs continue to innovate and evolve, they will undoubtedly shape the future of the financial industry, driving further advancements and expanding opportunities for individuals and businesses alike.
Views expressed by Prasanna Babu M R, Research Officer, State Bank of India
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