This document provides an overview of non-banking financial companies (NBFCs) and microfinance in India. It discusses the evolution of NBFCs and microfinance in India from traditional money lenders and chit funds to the establishment of regulatory bodies like RBI and SEBI. Key committees that shaped regulations for NBFCs are highlighted. NBFCs are classified into different categories and their permitted activities including fund based activities like lending are described at a high level.

1. Non-Banking Financial Companies
&
MICROFINANCE
VISHNURAJ C R
T5 MBA
RBS

2. Unit - 1
Pre 1951
1. Control of Money Lenders
2. No Laws / Total Private Sector
3. No Regulatory Bodies
4. Hardly any industrialization
5. Banks – Traditional lenders for Trade and that too short term
6. Main concentration on Traditional Agriculture
7. Narrow industrial securities market (i.e. Gold/Bullion/Metal but largely linked to London Market)
8. Absence of intermediatary institutions in long-term financing of industry
9. Industry had limited access to outside saving/resources.
1951 to 1990
Moneylenders ruled till 1951. No worth-while Banks at that time. Industries depended upon their own money.
1951 onwards 5 years PLAN commenced.
PVT. SECTORS TO PUBLIC SECTOR – MIXED ECONOMY
1st 5 year PLAN in 1951 – Planned Economic Process. As part of Alignment of Financial Systems – Priorities
laid down by Govt. – Policies.
MAIN Elements of Fin. Organisations
i. Public ownership of Financial Institution
ii. Strengthening of Institutional Structure
iii. Protection to Investors
iv. Participation in Corporate Management
v. Organisational Deficiencies.
1951-1990 Nationalization
RBI 1948
SBI 1956 (take-over of Imperial Bank of India)
LIC 1956 (Merges of over 250 Life Insurance Companies)
Banks 1969 (14 major banks with Deposits of over Rs. 50 Crs.nationalised) 1980 (6 more Banks)
Insurance 1972 (General Insurance Corp. GIC by New India, Oriental, united and National.
1951-1990 Development
• Directing the Capital in conformity with Planning priorities
• Encouragement to new entrepreneurs and small set-ups
• Development of Backward Region
• IFCI (1948)
• State Finance Corporation (1951)
• IDBI (1964)

3. • ICICI (1966)
• UTI (1964)
• IRCI (1971)
POST 1990 INDUSTRIES
• Rise & Growth of Service Sector industries.
• Reliance & Dependence on technology.
• E-mail & mobile made sea-change in communication, data collection etc.
• Computerization – a catch phrase and inevitable need of an hour.
• Dependent on Capital Market rather than only Debts dependency.
• Scalability of operations through globally competitive size.
• Broad basing of Board.
• Professional Management.
Indian Financial System
• Indian financial system consists of formal and informal financial system.
• Based on the financial system financial market, financial instruments and financial intermediation can
be categorized depending upon functionality.
Financial
institution(int
ermediaries)
Formal (organized financial system) Informal (unorganized financial system
Regulators
Indian financial system
Money lenders,
local bankers,
traders
Financial
services
Financial
instrument
Financial
market
Banking
institution
Non-banking
institution
MOF
RBI
SEBI
IRDA
PublicPrivate
Fund Based
Fee Based
Organized unorganized
Money
market
Capital
Market

4. Formal and Informal Financial System
The financial systems of most developing countries are characterized by co-existence and co-operation
between the formal and informal financial sectors. The formal financial sector is characterized by the
presence of an organized, institutional and regulated system which caters to the financial needs of the modern
spheres of economy.
a) financial intermediary/institutions
A financial intermediary is an institution which connects the deficit and surplus money. The best example of
an intermediary is a bank which transforms the bank deposits to bank loans. The role of the financial
intermediary is to distribute funds from people who have extra inflow of money to those who don’t have
enough money to fulfil the needs. Functions of Financial Intermediary are are as follows:
• Maturity transformation: Deals with the conversion of short-term liabilities to long term assets.
• Risk transformation: Conversion of risky investments into relatively risk free ones.
• Convenience denomination: It is a way of matching small deposits with large loans and large deposits
with small loans.
Banking institutions
• Banking institutions mobilize the savings of the people.
• They provide a mechanism for the smooth exchange of goods and services.
• Basic categories of banking institutions are commercial banks, co-operative banks, developmental
banks
Non-banking financial institutions
• Nonbanking financial institutions also mobilize financial resources directly or indirectly from the
people.
• They lend funds but not create credit Companies like LIC, GIC, UTI, Development Financial
Institutions, Organization or Funds etc. fall in this category.
• Nonbanking financial institutions can be categorized as investment companies, housing companies,
leasing companies, hire purchase companies, specialized financial institutions (EXIM Bank etc.)
investment institutions, state level institutions etc
b) financial markets
Financial market deals in financial securities (or financial instruments) and financial services. Financial
markets are the centers or arrangements that provide facilities for buying and selling of financial claims and
services. These are the markets in which money as well as monetary claims is traded in. Financial markets
exist wherever financial transactions take place. Financial transactions include issue of equity stock by a
company, purchase of bonds in the secondary market, deposit of money in a bank account, transfer of funds
from a current account to a savings account etc.

5. The financial markets are classified into two groups:
I. Money Market
A market where short-term funds are borrowed and lend is called money market. It deals in short term
monetary assets with a maturity period of one year or less. Liquid funds as well as highly liquid securities
are traded in the money market. Examples of money market are Treasury bill market, call money market,
commercial bill market etc.
II. Capital Market
Capital market is the market for long term funds. This market deals in the long term claims, securities and
stocks with a maturity period of more than one year. The stock market, the government bond market and
derivatives market are examples of capital market.
c) Financial Instruments
Financial instruments are the financial assets, securities and claims. They may be viewed as financial assets
and financial liabilities.
Financial assets: represent claims for the payment of a sum of money sometime in the future (repayment of
principal) and/or a periodic payment in the form of interest or dividend.
Financial liabilities: are the counterparts of financial assets. They represent promise to pay some portion of
prospective income and wealth to others.
Types of financial instruments
The financial instruments may be capital market instruments or money market instruments or hybrid
instruments.
• Capital Market Instruments: Financial instruments that are used for raising capital through the capital
market. It includes include equity shares, preference shares, warrants, debentures and bonds.
• Money Market Instruments: financial instruments that are used for raising and supplying money in a short
period not exceeding one year through money market are called money market instruments. It includes
treasury bills, commercial paper, call money, short notice money, certificates of deposits, commercial bills,
money market mutual funds.
d) Financial Services
Financial Services are concerned with the design and delivery of financial instruments, advisory services to
individuals and businesses within the area of banking and related institutions, personal financial planning,
leasing, investment, assets, insurance etc.
e) Regulators
The formal financial system comes under the regulations of the ministry of finance (MOF), reserve Bank of
India (RBI), Securities and Exchange board of India (SEBI) and other regulatory bodies.

6. Reserve Bank of India is the apex monetary Institution of India. It is also called as the central bank of the
country. The Reserve Bank of India was established on April 1, 1935 in accordance with the provisions of the
Reserve Bank of India Act, 1934. The Central Office of the Reserve Bank was initially established in Calcutta
but was permanently moved to Mumbai in 1937. The Central Office is where the Governor sits and where
policies are formulated. Though originally privately owned, since nationalization in 1949, the Reserve Bank
is fully owned by the Government of India. All financial institutions are under the control of RBI.
Securities and Exchange Board of India: Apart from RBI, SEBI also forms a major part under the financial
body of India. This is a regulator associated with the security markets in Indian Territory. Established in the
year 1988, the SEBI Act came into power in the year 1992, 12th April. The board comprises of a Chairman,
Whole time members, Joint secretary, member appointed, Deputy Governor of RBI, secretary of corporate
affair ministry and also part time member. There are three groups, which fall under this category, and those
are the investors, the security issuers and market intermediaries. The financial markets are under the control
of SEBI.
The Informal Financial Sector is an unorganized, non-institutional and non-regulated system dealing with
traditional and rural spheres of the economy.
The informal financial system consists of:
• Individual money lenders such as neighbors, relatives, land lords, traders, store owners and so on.
• Groups of persons operating as funds or ‘associations’. These groups function under a system of their own
rules.
• Partnership firms consisting of local brokers, pawn brokers and non-banking financial intermediaries such
as finance, investment, chit fund companies.
Comparison Chart
BASIS FOR
COMPARISON
NBFC BANK
Meaning An NBFC is a company that
provides banking services to
people without holding a bank
license.
Bank is a government authorized financial
intermediary that aims at providing banking
services to the general public.
Incorporated under Companies Act 1956 Banking Regulation Act, 1949
Demand Deposit Not Accepted Accepted

7. Foreign Investment Allowed up to 100% Allowed up to 74% for private sector banks
Payment and
Settlement system
Not a part of system. Integral part of the system.
Maintenance of
Reserve Ratios
Not required Compulsory
Deposit insurance
facility
Not available Available
Credit creation NBFC do not create credit. Banks create credit.
Transaction services Not provided by NBFC. Provided by banks.
Unit – 2
Non-Banking Financial Companies (NBFCs)
Evolution of Indian financial system:
The Indian Financial System was transpired from the traditional Barter system to the money lenders, the
Nidhis and Chit Funds. In the later stages the concept of cooperatives was started and the same was introduced
in India during 1904 by way of “Cooperative Society Act” and it paves the way in introduction of cooperative
banking institutions in India.
The concept of nidhis and chit funds are played key role in Indian financial system and it worked as bridge
between the age old financial practices and the modern banking system. It is also stated that even today the
chit fund industry is playing major role in reaching the public and it has become a major substitute to the banks
where ever the Bank is not able to reach and cater their needs, such places the chit fund companies and nidhis
are inhandy to them.
Definition
Section 45-I(f) of the RBI Act, 1934 (“RBI Act”) defines an NBFC as:
i. a financial institution, which is a company;
ii. a non-banking institution which is a company and which has as its principal business the receiving of
deposits, under any scheme or arrangement or in any other manner, or lending in any manner;
iii. such other non-banking institution or class of such institutions, as the Bank may, with the previous
approval of the Central Government and by notification in the Official Gazette, specify;

8. HISTORICAL BACKGROUND
• The Reserve Bank of India Act, 1934 was amended on 1st
December, 1964 by the Reserve Bank
Amendment Act, 1963 to include provisions relating to non-banking institutions receiving deposits
and financial institutions.
• With a view to review the existing framework and address these shortcomings, various committees
were formed and reports were submitted by them.
The suggestions/recommendations made, by them in the context of the contemporary financial scenario,
formed the basis of the formulation of policy measures by the regulatory authorities/Reserve Bank of India
(RBI). The committees that deserve specific mention in this regard are the:Bhabatosh Datta study group
(1971), James Raj study Group (1975), Chakravarthy Committee (1985), Vaghul committee (1987),
Narasimham Committee on Financial systems (1991) and Shah committee 1992)). The Shah committee, as a
follow-up to the Narasimham committee, was the first to suggest a 80 comprehensive regulatory framework
for NBFCs. While, in principle, endorsing the Shah Committee’s frame work of regulations for NBFCs, the
RBI had implemented a number of its recommendations and incorporated them in the RBI Directions that
regulate and supervise the working and operations of such companies. The Khanna Group, 1996, had
suggested a supervisory framework for NBFCs. In pursuance of its recommendations, the RBI Act was
amended in January 1997. As a further follow-up, the RBI Acceptance of public deposits directions, the RBI
NBFCs Prudential norms directions and the RBI NBFCs auditors report directions were modified /issued in
January 1998. The RBI acceptance of public deposits directions were modified in December 1998, as
recommended by the Vasudev Task Force Group
James Raj Committee (1974)
✓ It was formed by the Reserve Bank of India in 1974.
✓ Suggested for a ban on Prize chit and other schemes.
✓ Based on these suggestions, the Prize Chits and Money Circulation Schemes (Banning) Act, 1978 was
enacted.
Dr. A.C. Shah Committee (1992)
✓ Agenda for reforms in the NBFC sector.
✓ Wide ranging recommendations covering
✓ compulsory registration of large sized NBFCs,
✓ prescription of prudential norms for NBFCs
✓ more statutory powers to Reserve Bank for better regulationof NBFCs.
Vasudev Committee (1998)
✓ RBI should consider measures for easing the flow of credit frombanks to NBFCs
✓ Consider prescribing a suitable ratio as between secured and unsecured deposits for NBFCs.
✓ Appointment of depositors’ grievance redressal authorities with specified territorial jurisdiction.

9. ✓ A separate instrumentality for regulation and supervision of NBFCs under the aegis of the RBI should
be set up, so that there is a great focus in regulation and supervision of the NBFC sector.
Classification of NBFCs
Classification of NBFCs as given in the Reserve Bank Amendment Act 1997,
1) Equipment leasing company (ELC): Carrying on as its Principal Business, the activity of leasing of
equipment.
2) Hire Purchase finance company (HPFC): Carrying hire purchase transactions (or) financing of such
transactions.
3) Housing finance company (HFC).
4) Investment Company (IC): Carrying the business of acquisition of securities.
5) Loan Company (LC): Financing by making loans and advances. (Does not include ELC, HPFC, HFC).
6) Mutual Benefit companies (MBFC).
7) Residual non-banking company (RNBC): Company which receives any deposit under any scheme or
arrangement, in one lump sum or in installments by way of contributions or subscriptions or by sale
of units or certificates or other instruments or in any other form according to definition of NBFC.
8) Miscellaneous non-banking companies (MNBC): Managing, conducting or supervising as a promoter
foreman or agent of any transaction or arrangement. Ex: conducting any other form of Chit and Kuri
which is different from type of business mentioned above.
After the above classification the Non-Banking Financial companies were re-classified
twice, during 1998 it was classified as four types they were
1) Equipment leasing,
2) Hire Purchase,
3) Investment Company and
4) Loan Companies.
During 2006 the NBFCs were reclassified as three types they are
1) Asset Finance companies (in this both Equipment Leasing and Hire Purchase companies were
merged),
2) Investment Companies and
3) Loan Companies Apart from those classifications, in order to operate these NBFCs smoothly certain
regulations/directions were issued they are
a) Regulations for deposits for NBFCs accepting deposits,
b) Regulations for NBFCs not accepting deposits and
c) Regulations for core investment companies to smooth functioning of their businesses as well as to
give confidence to the participants as well as operators.

10. ACTIVITIES OF NBFC
a) FUND BASED ACTIVITY
In fund based activities funds are arranged for the customers and the financial intermediary charges interest
for the amount of funds utilized. The fund outlay happens in the form of sanction of credit facility to the
borrower.
Fund based Services The fund based or asset-based services include the following:
• Hire purchase:
A hire purchase is a method of buying goods through making installment payments over time. The term hire
purchase originated in the United Kingdom and is similar to rent-to- own arrangements in the United States.
Under a hire purchase contract, the buyer is leasing the goods and does not obtain ownership until the full
amount of the contract is paid.
• Equipment Leasing:
Equipment leasing is basically a loan in which the lender buys and owns equipment and then rents it to a
business at a flat monthly rate for a specified number of months. At the end of the lease, the business may
purchase the equipment for its fair market value (or a fixed or predetermined amount), continue leasing, lease
new equipment or return it. Advantages include getting your hands on needed equipment without paying the
costs up front. Lines of credit stay freed up because the leases are not bank loans, and lease payments can
potentially be deducted as a business expense. It is also possible to easily upgrade equipment once a lease
expires.
• Bill Discounting:
The group of companies gives the bills which are to be discounted to NBFC and NBFC discounted that bills
before the maturity date. The rate at which the bills are discounted is the return to the NBFC.
• Loans/ Investment:
A loan is a type of debt. Like all debt instruments, a loan entails the redistribution of financial assets over
time, between the lender and the borrower. Investment: Investment company is any financial institution whose
primary business is the acquisition of securities of other companies purely for investment purpose. The
investment company invests money on behalf of its shareholders who in turn share in the profit and losses.
• Housing Finance:
The shelter sector of the Indian financial system remained utterly under developed till 1980. The lack of
adequate institutional supply of credit for house building was the main gap in the process of financial
development in India. The Indian housing industry is highly fragmented, with the unorganized sector,
comprising small builders and contractors, accounting for over 70% of the housing units constructed. The

11. suppliers of housing loans in India are: HUD O, SHFSs, Central and State governments, HDFC, Commercial
banks, and NHB.
b) FEE BASED ACTIVITIES
The service of NBFC provide services on the basis of non-fund activities also. Such services are also known
as fee-based services. These include the following:
• Issue Management:
Like ordinary issue, the process of issue management is same. It is, however, the duty of the Non-Banking
Financial Company to supply a complete set of services and must try to improve and develop the process of
marking the issues by which the network of the promoters will be extended.
If the issues are not subscribed the same may be closed on the earliest closing date. In order to overcome this
difficulty, these companies join with others and form a club taking 5 to 10 merchant bankers (those who are
authorized) who must take a minimum corpus of funds.
• Portfolio Management
Portfolio management implies the investment of funds taken from numbers/clients in various securities and
an adequate return should be given to them. In other words, it is a scheme by which the portfolio manager
raise funds from his clients/members with a commitment in order to operate the securities market together
with the information, in well explained terms relating to the composition of portfolio, annual return,
appropriation of capital, the extent of risk etc.
• Loan/Lease Syndication
When a company finds it difficult to procure funds who has some problems, weakness and is not able to get
various services, these firms appear in the picture and act as an intermediary between the institution and the
company as well In this particular case, NBFC, can play a very prominent role for procuring funds and assist
them in various ways, can supply the necessary services for those clients.
• Corporate Counselling
The corporate counselling is an another attractive fee based service. At the time of diversification, expansion
and development, a medium size company needs the service of an expert relating to the above for which they
seek the advice from various institutions. The institutions also come forward to assist them as soon as they
receive the formal request from such firms.
• Advising on Acquisition and Mergers
NBFC should pay the proper attention in this field. In order to consolidate the firm and to form a new one or
to enjoy the benefits of economies of large scale, many companies are interested to amalgamate. The matter
is very clear and simple if the management of both the companies is ready to do so.

12. • Project Counselling
Project counselling includes preparation of project reports, deciding upon the financing pattern to finance
the cost of the project and appraising the project report with the financial institutions or banks. It also
includes filling up of application forms with relevant information for obtaining funds from financial
institutions and obtaining government approval.
Unit – 3
SOURCE OF FINANCE
• Amount raised in the form of share capital or contributed in capital by partners of a firm.
• Amount received from scheduled banks, co-operative banks , IDBI etc.
• Amount received from financial institutions.
• Amount received by a registered money lender other than a body corporate.
• Amount received from mutual funds.
• Amount brought in by the promoters by way of unsecured loan.
• Amount received by issuance of commercial paper.
• Amount received from shareholders by private company.
• Amount received from director of NBFC
INVESTMENT POLICIES OF NBFC
• FDI in NBFC has been allowed upto 100% since 1997 subject to the minimum capitalization norms issued
by the government.
• The foreign exchange management act,1999 &Foreign Exchange Management Regulation ACT,2000 and
the RBI regulations govern the provision relating to foreign loans.
FOREIGN LOANS
• Loan from foreign institutions are called External Commercial Borrowing(ECB).
• To obtain foreign loans to NBFC, it only requires to comply with the prudential requirements. There is no
need of approval of RBI availing the loans.
MODE OF BRINGING FOREIGN
INVESTMENT
• A NBFC can bring foreign investment not only in liquid currency.
• For a loan whose average mandatory period is 3-5 years, interest would be 3.5%& if more than 5 years the
interest would be 5%.
• When an NBFC is unable to repay its loan, it can convert some or all of its debt into equity after taking the
consent of the lender.
• Foreign investment is allowed in the following activities:
➢ Merchant baking

13. ➢ Underwriting
➢ Portfolio Management Services
➢Financial Consultancy
➢Stock Broking
➢Asset Management
➢Venture Capital
➢Custodian Services
➢Factoring
➢Housing Finance
➢Micro credit & Rural credit
RBI GUIDELINES ON NBFC
The RBI regulates different types of NBFC’S under the provision of Chapter111-B and Chapter 111-C
• Corporate NBFC fall under Chapter 111-B, and
• Incorporate NBFC fall under Chapter 111-C.
The Requirements for Registration with RBI
A company incorporated under the Company Act, 1956 or Companies Act,2013 and desirous of commencing
business of non-banking financial institution as defined under section 45(a) of the RBI Act, 1934 should
comply with the following:
I. It should be a company registered under the Companies Act, 1956 or Companies Act,2013
II. It should have a minimum net owned fund of Rs 200 lakhs.
THE FOLLOWING RBI GUIDELINES ARE: -
1.REGISTRATION:
• Apply online.
• Submit a physical copy of the application along with the necessary document.
• Application can be submitted online by accessing
• RBI’s secured website http://cosmos.rbi.org.in
Documents Required for NBFC Registration
1. The certificate of company incorporation.
2. Bank Account with minimum paid up equity share capital of INR 2 crore
3. The MoA and the AoA of the applicant company or firm
4. Document related with location of the company
5. Duly filled in up and signed Annexure 1 ,2, and Annexure 3

14. 6. Detailed information about the directors or partners of the company
7. Documents associated with the administration and management of the company
8. Well audited financial accounts of the company for last three consecutive years
9. Board Resolution in favor of NBFC registration
10. Income tax PAN, etc.
2.NET OWNED FUNDS: Minimum net owned funds of Rs. 25 lakhs to Rs.200 lakhs.
3.MAINTENANCE OF ASSETS: Invest in approved securities in India not less than 5% or higher
percentage specified by RBI.
4.RESERVE FUND: Maintain 20% of its net profit must be transferred before the declaration of any
dividend.
5.POWER OF REGULATION/PROHIBITION: The RBI can by general/special order regulate or prohibit
the issue of by any NBI the issue of any prospects or advertisement soliciting deposits of money from the
public.
6. POWER TO COLLECT INFORMATION FROM ANY NBI’s.
7. POWER TO CALL FOR INFORMATION FI’s AND ISSUE DIRECTIONS.
8. PENALTIES: The penalty is payable within 30 days from the date of issue of the notice.
Products offered by NBFC’s in India and its features
• Asset Financing
• Retail financing
• Loan against shares
• Project finance
• Unsecured personal loans
• Trade finance
• Venture finance
a) Retail Financing
• Retail Financing means lending to micro and small enterprises in form of short-term loan requirements
• Financing for SME growth
• Retail financing is now provided by the NBFC’s also
• They offer wide range of new loan products to their retail customers.
• Between calendar years 2014 and 2017, the share of NBFCs in total loans is estimated to have increased
from 21% to 44%, whereas, for public sector banks, it fell from 49% to 28%.

15. • NBFCs have expanded their share rapidly, particularly in the number of loans disbursed—primarily driven
by their aggressive push to expand and capture market share in certificate of deposits and gold.
• NBFCs are becoming the go-to lenders for youngsters in India.
• NBFCs had the maximum market share of 49%.
Features
• Hassle free credit
• Instant/immediate sanction
• Liberal terms of repayment
• Large number of players-much option
• Improves bottom line
b) Loan against shares
These loans facilitate to capitalize investments by providing liquidity against investments in Shares, Mutual
Funds, and Bonds, without the need to sell the securities. The product includes the portfolio of
• Loan against mutual funds
• Loan against shares
• Loan against securities
• Loan against bonds
• Non-banking financial companies (NBFCs) can lend against shares pledged as collateral
• The financiers will be allowed to lend an amount equivalent to only 50% of the value of shares pledged as
security.
• These lenders will be allowed to accept only so-called Group 1 shares as collateral while giving loans
amounting to Rs.5 lakh and above.
• They are likely to be more liquid and less volatile than other shares trading in the market. – group 1 shares
Features
• Secured Loan - Loan against securities is a secured loan as the bonds, shares, debentures or mutual funds are
kept as collateral security when this loan is advanced.
• Tenure - The tenure of loan against securities is generally one year. It could get renewed as per requirement.
• Rate of Interest - Generally interest rates at which loan against securities is advanced varies from 12% - 15%
per annum but that may also vary from institutions.
• Processing Fees - Banks and financial institutions usually charge approximately 2 % as processing fees.

16. c) Asset Financing
• Asset finance has grown because of its simplicity and flexibility as a funding method for machinery, farm
machinery and other business equipment and a whole range of asset types.
• The simplicity and flexibility of asset finance means that it’s suitable for all types of business from start-ups
buying their first vehicle, to businesses investing in new IT equipment and manufacturers investing in major
new plant and machinery.
• Available tax benefits and the ability to budget more easily, is that on most occasions the asset itself is
security, which makes asset finance very accessible as a form of funding.
These include
• Plant and machinery equipment finance
• Agricultural machinery finance
• Production line finance
• Printing press finance
• Construction machinery finance
d) Project financing
Project financing is continuously used as a financing method in capital-intensive industries for projects
requiring large investments of funds, such as the construction of power plants, pipelines, transportation
systems, mining facilities, industrial facilities and heavy manufacturing plants.
Features
• Capital-Intensive
• Risk Allocation
• Numerous Parties
• Cost of Financing
e) Unsecured personal loans
• Unsecured loans, as indicated by their name are loans that are not attached to any kind of collateral or
security. They are called unsecured because the bank does not have any collateral to fall back on in case a
customer defaults.
• For example, they cannot use one’s LIC policy or cannot sell house to recover the loan amount which a
customer defaults on.

17. • Unsecured loans can be segregated into two broad categories namely personal loans and business loans.
While Personal Loans are funds borrowed for meeting personal financial needs, business loans are taken by
customers who want extra cash to be utilized in fulfilling business needs like expansion, set-up etc.
• While granting an unsecured loan, lending entities look at customers’ credit history and assess the risk
involved in lending money. The rate of interest offered is thus a reflection of the level of risk involved with a
particular customer.
Features
• Easy and convenient loan application
• Quick turn-around time
• Usually, higher rates of interest
• Nil collaterals
• Higher the income, higher the loan amount
• Minimum documentation
f) Trade Finance
• Trade finance signifies financing for trade, and it concerns both domestic and international trade transactions.
A trade transaction requires a seller of goods and services as well as a buyer.
• Various intermediaries such as banks and financial institutions can facilitate these transactions by financing
the trade.
Products of trade finance
• Letter of credit: It is an undertaking/promise given by a Bank/Financial Institute on behalf of the
Buyer/Importer to the Seller/Exporter, that, if the Seller/Exporter presents the complying documents to the
Buyer's designated Bank/Financial Institute as specified by the Buyer/Importer in the Purchase Agreement
then the Buyer's Bank/Financial Institute will make payment to the Seller/Exporter.
• Export
• Import
• Collection and discounting of bills: It is a major trade service offered by the Banks. The Seller's Bank collects
the payment proceeds on behalf of the Seller, from the Buyer or Buyer's Bank, for the goods sold by the Seller
to the Buyer as per the agreement made between the Seller and the Buyer.
Features
• Trade Finance allows to handle international transactions quickly and efficiently.
• Flexible and simple to use
• Data can also be transferred to spreadsheets and be reused in the system, saving you time and minimizing
the risk of errors

18. • Can communicate directly and seamlessly with the Bank via two-way communication, and will be notified
when the Bank processes the transactions.
g) Venture Financing
• Startup or growth equity capital or loan capital provided by private investors or specialized financial
institutions.
• Also called risk capital.
• Venture capital is a type of funding for a new or growing business. It usually comes from venture capital
firms that specialize in building high risk financial portfolios.
Features
• High Risk
• Lack of Liquidity
• Long term horizon
• Equity participation and capital gains
• Venture financing are made in innovative projects
• Suppliers of venture capital participate in the management of the company
Unit-4(a)
Major NBFC operating in India
1.HDFC
HasmukhBhai Parekh founded HDFC in the year 1977. This company is one of the best in providing loans
and financial aid for housing in the country. It has over 300 outlets and caters to more than 2,400 towns and
cities. It has provided Rs 2.5 Trillion in loans and financed over 50 lakh cumulative units. Home Loans, Plot
Loans, Home Improvement Loans and Loan against property are some of the products of the company. Its
headquarters is located in Mumbai and the total assets of the company is 3.44 billion dollars. It is one of the
most popular NBFC in the country.
2.BAJAJ FINSERV
Bajaj Finserv founded in the year 2007 is a part of Bajaj Holdings & Investments Limited and is one of the
leading financial companies of India. Bajaj Finserv Limited offers its services in the business of lending,
wealth advisory and insurance. Personal Loan, Doctor Loan, Gold Loan, Home Loan and Business Loan are
some of the products of the company. It has about 20,000 employees and is established in more than 1400
locations in the country.
3.POWER FINANCE CORPORATION LIMITED

19. Managed by Mukesh Kumar Goel (Chairman & Managing Director) the Power Finance Corporation Limited
provides financial aid to the different ongoing power projects of the company. It is a part of the Navratna
Status Company and was established in the year 1986. Projects related to power transmission, Power
generation and distribution are offered financial support by this company.PFC is listed on the Bombay Stock
Exchange (BSE) and the National Stock Exchange (NSE).
4.INDIABULLS HOUSING FINANCE LIMITED
India Bulls was founded in 2000 and is the Winner of Best Housing Finance Company of the Year. It is one
of the top companies which provide financial assistance relating to housing matters. Its headquarters is located
in Gurgaon and its corporate office in Mumbai. This company is also listed in the Luxembourg stock exchange
5.LIC HOUSING FINANCE LIMITED
Life Housing Finance Limited or LIC HFL was founded 1989 and its headquarters is located in Mumbai’s
facilities include loans for construction, repair and renovation of houses and flats. Since the company’s
existence it has provided over Rs 1.39 Lakh Crore in home loans. It has more than 230 offices in the country.
Trends in NBFC
Non-banking financial companies ("NBFC") have undergone significant transformation over the past few
years. Liberalization of the legal regime, increasing digitization and rising financial inclusion have given a
boost to innovation, growth and investment in the financial sector.
1. Regulatory changes
Last year, the government liberalised the financial services sector by permitting 100% foreign direct
investment in the financial sector under the automatic route, subject to the relevant entity being regulated by
the Reserve Bank of India ("RBI") or other financial sector regulators. Further, the benefit of the Securitization
and Reconstruction of Financial Assets and Enforcement of Security Interest Act 2002 was extended to 196
NBFCs allowing such NBFCs to enforce security interests on assets charged to them, without having to resort
to either judicial or arbitral authorities. Now, the government is working towards harmonizing the regulations
applicable to various categories of NBFCs to facilitate ease-of-doing business in this sector. The government
is also taking actions towards a technological revolution in this sector by implementing an information
technology framework and promoting FinTech activities.
2. Operational innovation and growth
With the rising innovation and growth in the sector, newer business models of NBFCs such as 'account
aggregators' and 'peer to peer lending platforms' ("P2P Lending") are catching pace. To clarify, account
aggregator is a form of NBFC engaged in collecting and providing information on a customer's financial
assets, in a consolidated, organized and retrievable manner.

20. Further, P2P Lending is a form of crowd-funding which uses an online platform to match lenders with
borrowers to provide unsecured loans. RBI notified P2P Lending platforms as NBFCs on 24 August 2017 and
recently issued the Master Directions to regulate the P2P Lending platforms on 4 October 2017.
The NBFC sector is also seeing a surge of newer structured products like Market and Credit Linked
Debentures wherein the principal investment of the debenture holder is protected and the interest payment, to
be made at maturity, is linked to the performance of an underlying Index or a stock.
3. Varied investment strategies
Over the years, NBFC sector has witnessed diverse investment structures ranging from strategic investments,
private equity investments to debt funding through NBFC route (including private equity funds establishing
their NBFC arms). Strategic investments provide financial and operating synergy and help NBFCs tap new
markets and provide expertise in operations. However, private equity investments provide capital infusion
which can be utilized for expansion purposes, facilitate technology upgradation and also help in enhancing
corporate governance of NBFCs. Debt funding through NBFCs is another investment strategy whereby
foreign investors set up or acquire NBFCs in India and use such NBFCs to further lend or invest in Indian
companies through structured instruments such as non-convertible debentures (which have an advantage of
protected downside and equity upside by way of redemption premium or coupons). While, a number of
investments have been structured in such a manner, there are divergent views in the market as to whether such
investments through structured instruments could be subject to any issues from the foreign direct investment
policy perspective.
4. Increased market activity with more registrations, approvals and listings
In 2016, RBI introduced a fast track registration process and two categories of applications depending on
acceptance of public funds and customer interface. This fast track process increased activity in the sector in
the form of registration of new NBFCs. Additionally, the number of approvals granted for foreign investment
in investing companies and the number of NBFC listings with the stock exchanges have also increased
substantially. The sector has also witnessed a large number of entrepreneurial initiatives and successes, mostly
aiming at mid to bottom-of-the-pyramid customers.
5. Sector to look out for
The government policy of demonetization acted as a deterrent for the unorganized sector and led to compulsive
financial inclusion. The regulatory changes aimed towards promoting foreign investment also provided a boost
to the financial sector. This sector has evolved significantly in the past few years and the growth of financial
inclusion is expected to be driven further with higher penetration into parts of the economy where public-
sector banks are unable to penetrate.

21. Regulatory / Legal Framework of NBFC in India
The NBFC sector is characterized by its heterogeneity. It is heterogeneous in term of size, business, spread
and ownership. It is more than three decades since RBI has started regulating and supervising the functioning
of the NBFC sector in India. RBI presently regulates the NBFCs whether undertaking, exclusively or in 26
combinations, the activities of asset financing, loaning and investment as their principal business, irrespective
of whether they accept public deposits or not.
NBFCs lend and make investments and therefore their business activities are similar to that of banks; however,
there are a few differences as given below:
• NBFC cannot accept demand deposits;
• NBFCs do not form part of the payment and settlement system and cannot issue cheques drawn on
themselves; and
• Deposit insurance facility of Deposit Insurance and Credit Guarantee Corporation is not available to
depositors of NBFCs, unlike in case of banks.
Regulatory Framework of NBFC
1. Certificate Registration
• It is mandatory that every NBFC should be registered with RBI to commence or carry on any
business of non-business financial institution as defined in clause (a) of Section 45 I of the RBI
ACT,1934
• Should have minimum net owned fund of Rs.25 lakhs.
2. Deposit acceptance related regulations
• All NBFCs cannot accept public deposits.
• Only those NBFCs holding a valid Certificate of Registration can accept public deposits.
• NBFCs are not allowed to accept/renew public deposits for a minimum period of 12 months and
maximum of 60 months.
• They cannot accept deposits repayable on demand.
3. Creation of credit reserves:
• Every NBFCs shall create a reserve fund
• The sum amount should not less than 20% of its net profit.
4. NBFCs cannot offer interest rates higher than the ceiling rate prescribed by RBI from time to time.
5. They have to obtain a minimum credit rating from anyone of the three credit rating agencies.
6. Following norms are applicable for all NBFCs:

22. • Income recognition norms.
• NPA norms
• Restrictive norms
• Accounting standards
7. Disclosure requirements
Unit – 4 (b)
Procedure of application to the Reserve Bank for NBFC Registration
A Non-Banking Financial Company (NBFC) is a company registered under the Companies Act, 1956. A non-
banking institution which is a company and has principal business of receiving deposits under any scheme or
arrangement in one lump sum or in instalments by way of contributions or in any other manner, is also a
nonbanking financial company (Residuary non-banking company). Financial activity as principal business is
when a company’s financial assets constitute more than 50 per cent of the total assets and income from
financial assets constitute more than 50 per cent of the gross income. A company which fulfils both these
criteria will be registered as NBFC by RBI.
REGISTRATION OF NBFC WITH RBI
In terms of Section 45-IA of the RBI Act, 1934, it is mandatory that every NBFC should be registered with
RBI to commence or carry on any business of non-banking financial institution as defined in clause (a) of
Section 45I of the RBI Act, 1934. It must need to register under the Chapter 3B of the RBI in order to work
as NBFC.
PROCEDURE OF APPLICATION TO THE RESERVE BANK FOR NBFC REGISTRATION
1) Submission of application
Application should be made in the form prescribed by RBI, to be filled in accordance with the instruction
contained in the form. Documents required to be enclosed should also be prepared in accordance with the
instructions and should be attached to the application.
It is required to apply online by accessing RBI’s secured website https://cosmos.rbi.org.in
2) Where to submit the application
To the regional RBI office under whose supervision the company’s registered office is situated.
3) Processing by RBI
RBI will ensure that the conditions spelt out in the sub-section 45-IA are fulfilled. These conditions broadly
cover the following areas:
• Capacity of the NBFC to meet the creditor’s claims in full, when the claims accrue.
• Conduct of the affairs of the NBFC in a manner not detrimental to the interests of depositors.
• General character of the management of the NBFC is not prejudicial to the public interest or the interest
of its depositors.
• NBFC has adequate capital structure and earning prospects.

23. • The grant of certificate serves the public interest.
• The grant of certificate will not be prejudicial to the operation and consolidation of the financial sector
consistent with monetary stability, economic growth or other relevant factors.
• Any other condition which, in the opinion of RBI, is necessary to ensure that the business of the NBFC
is not prejudicial to the public interest or the interest of depositors.
4) Issue of Certificate
RBI will thereafter grant a certificate of registration, with or without specified conditions.
5) Appellate remedy
If the application for registration is rejected by RBI, or if the certificate of registration is cancelled by RBI,
the company can prefer an appeal to the central government within 30 days from the date on which the order
was communicated to it. The decision of the central government on the appeal, if any, filed by the NBFC shall
be final. Where no appeal has been preferred by the NBFC within the stipulated time, the decision of RBI
shall be final.
6) Utilization of funds during the interregnum
Till such time as the certificate of registration is interregnum granted by RBI, the NBFC can keep its capital
funds invested in any type of deposits with a bank. Investment in any other type of securities will invite penal
action
PROVISIONS UNDER SECTION 45 IA OF THE RBI ACT, 1934
(1) Notwithstanding anything contained in this Chapter or in any other law for the time being in force, no non-
banking financial company shall commence or carry on the business of a non-banking financial institution
without –
a) Obtaining a certificate of registration issued under this Chapter; and
b) Having the net owned fund of twenty-five lakh rupees or such other amount, not exceeding two
hundred lakh rupees, as the Bank may, by notification in the Official Gazette, specify.
(2) Every non-banking financial company shall make an application for registration to the Bank in such form
as the Bank may specify.
(3) Notwithstanding anything contained in sub-section (1), a nonbanking financial company in existence on
the commencement of the Reserve Bank of India (Amendment) Act, 1997 and having a net owned fund of
less than twenty-five lakh rupees may, for the purpose of enabling such company to fulfill the requirement of
the net owned fund, continue to carry on the business of a non-banking financial institution-
i. For a period of three years from such commencement; or
ii. For such further period as the Bank may, after recording the reasons in writing for so doing, extend,
Subject to the condition that such company shall, within three months of fulfilling the requirement of
the net owned fund, inform the Bank about such fulfillment Provided that the period allowed
continuing business under this subsection shall in no case exceed six years in the aggregate.

24. (4) The Bank may for the purpose of considering the application for registration, require being satisfied by an
inspection of the books of the non-banking financial company or otherwise that the following conditions are
fulfilled:-
a) That the non-banking financial company is or shall be in a position to pay its present or future
depositors in full as and when their claims accrue;
b) that the affairs of the non-banking financial company are not being or are not likely to be conducted
in a manner detrimental to the interest of its present or future depositors;
c) That the general character of the management or the proposed management of the non-banking
financial company shall not be prejudicial to the public interest or the interest of its depositors;
d) That the non-banking financial company has adequate capital structure and earning prospects;
e) That the public interest shall be served by the grant of certificate of registration to the non-banking
financial company to commence or to carry on the business in India;
f) that the grant of certificate of registration shall not be prejudicial to the operation and consolidation of
the financial sector consistent with monetary stability, economic growth and considering such other
relevant factors which the Bank may, by notification in the Official Gazette, specify; and
g) any other condition, fulfillment of which in the opinion of the Bank, shall be necessary to ensure that
the commencement of or carrying on of the business in India by a non-banking financial company
shall not be prejudicial to the public interest or in the interest of the depositors.
(5) The Bank may, after being satisfied that the conditions specified in sub-section 4 are fulfilled, grant a
certificate of registration subject to such conditions which it may consider fit to impose.
(6) The Bank may cancel a certificate of registration granted to a nonbanking financial company under this
section if such company –
i. Ceases to carry on the business of a non-banking financial institution in India; or
ii. Has failed to comply with any condition subject to which the certificate of registration had been issued
to it; or
iii. At any time fails to fulfill any of the conditions referred to in clauses (a) to (g) of sub-section (4); or
iv. Fails –
a) To comply with any direction issued by the Bank under the provisions of this Chapter; or
b) To maintain accounts in accordance with the requirements of any law or any direction or order issued
by the Bank under the provisions of this Chapter; or
c) To submit or offer for inspection its books of accounts and other relevant documents when so
demanded by an inspecting authority of the Bank; or
v. has been prohibited from accepting deposit by an order made by the Bank under the provisions of this
Chapter and such order has been in force for a period of not less than three months: Provided that before
cancelling a certificate of registration on the ground that the non-banking financial company has failed
to comply with the provisions of clause (ii) or has failed to fulfill any of the conditions referred to in
clause (iii) the Bank, unless it is of the opinion that the delay in cancelling the certificate of registration

25. shall be prejudicial to public interest or the interest of the depositors or the non-banking financial
company, shall give an opportunity to such company on such terms as the Bank may specify for taking
necessary steps to comply with such provision or fulfillment of such condition: Provided further that
before making any order of cancellation of certificate of registration, such company shall be given a
reasonable opportunity of being heard.
(7) A company aggrieved by the order of rejection of application for registration or cancellation of certificate
of registration may prefer an appeal, within a period of thirty days from the date on which such order of
rejection or cancellation is communicated to it, to the Central Government and the decision of the Central
Government where an appeal has been preferred to it, or of the Bank where no appeal has been preferred, shall
be final: Provided that before making any order or rejection of appeal, such company shall be given a
reasonable opportunity of being heard.
FORMATION OF A COMPANY SEC – 3
(1) A company may be formed for any lawful purpose by—
(a) Seven or more persons, where the company to be formed is to be a public company;
(b) Two or more persons, where the company to be formed is to be a private company; or
(c) One person, where the company to be formed is to be One Person Company
That is to say, a private company, By subscribing their names or his name to a memorandum and
complying with the requirements of this Act in respect of registration
(2) A company formed under sub-section (1) may be either—
(a) a company limited by shares; or
(b) a company limited by guarantee; or
(c) an unlimited company.
Unit – 5 Financial Inclusion
Financial Inclusion as defined by RBI Financial Inclusion is the process of ensuring access to appropriate
financial products and services needed by all sections of the society in general and vulnerable groups such as
weaker sections and low income groups in particular at an affordable cost in a fair and transparent manner by
mainstream institutional players.
Financial inclusion-who are this people
• Underprivileged section in rural and urban areas like farmers, small vendors etc.
• Agricultural and industrial labour's
• People engaged in un-organized sector
• Unemployed
• Women
• Children
• Old people

26. Financial Inclusion in India
• Financial Inclusion Plan (FIP) is in progress, April 2010 onwards
i. Opening rural brick and mortar branches
ii. Opening no-frills accounts through BC-ICT
iii. Opening of New Bank Branches with population below 2,000
• Negative gross margin of as high as 41.2 per cent
• Significant cross- subsidizing
• direct cash transfers will translate into a saving of 4-5%
Objectives of financial inclusion
1. It help to rural people to keeping their income secure in the form of savings.
2. It Will reduce the exploitation of rural people, at the hands of money lenders .
3. It Will help in getting institutional credit facilities more easily.
4. People will be able to get insurance facilities.
5. It Will discourage short term unnecessary expenditure and increase their purchasing power in the long
run.
Micro Finance
Microfinance define as “Microfinance is an economic development tool whose objective is to assist the poor
to work their way out of poverty. It covers a range of services which include, in addition to the provision of
credit, many other services such as savings, insurance, money transfer, counseling, etc”
Evolution of Microfinance in India
• Microfinance has been in practice for ages ( though informally).
• Legal framework for establishing the co-operative movement set up in 1904.
• Reserve Bank of India Act, 1934 provided for the establishment of the Agricultural Credit Department.
• Nationalization of banks in 1969
• Regional Rural Banks created in 1975.
• NABARD established as an apex agency for rural finance in 1982.
• Passing of Mutually Aided Co-op. Act in AP in 1995.
Objectives of Micro Finance
• Enhance household income.
– Will increase savings.
– Help households manage cash flows.
– Decrease instances of selling assets in time of need.
• Asset building
– Invest in productive assets like cattle or land.
– Build security through purchase of a home.
– Enjoy the convenience of consumer durables.
• Access to Capital

27. • Entrepreneurship and Self-Sufficiency
• Improved Standards of Living
• Women's Economic Advancement
• Trickle-Down Benefits
Features of Microfinance
• Microfinance is a tool for the empowerment of poor women.
• Loans under microfinance programmes are very small.
• Microfinance targets the poor rural and urban households.
• Credit under microfinance follows thrift i.e. mobilize savings and lend the same.
• Low transaction cost due to group lending’s.
• Transparencies in operation.
• Short repayment period.
• Simple procedure for reviewing, processing and approving loan applications and delivery credit.
• Chances of misutilization are rare and there is assured repayment.
• Peer pressure act as the collateral security required for loans.
• Need based loan disbursement.
• Prompt repayment.
• There is no ceiling from the RBI in respect of minimum and maximum amounts.
Legal & Regulatory Framework Related to Microfinance.
THE MAIN APEX & REGULATORY INSITUTIONS :
• National Bank of Agriculture & Rural Development
• Small Industries Development Bank of India (SIDBI)
• Reserve Bank of India(RBI)
Others
• Ministry of Home Affairs, Government of India
• Registrar at Societies & Trusts
• Registrar at Companies
• Registrar of Cooperatives State/Central
• Central Board Direct Taxes
• Insurance Regulatory Development Authority
• Ministry of Finance, Government of India
Reserve Bank of India
• RBI only regulates those MFI which are registered as non-banking financial companies
• They constitute a small percentage of total number of MFIs in the country
• RBI does not prescribe lending rates for these institutions.

28. Recently Reserve Bank of India has also set up a Sub-Committee of the Central Board of Directors of the
Reserve Bank to study the issues and concerns in this sector, including ways and means of making interest
rates charged by them reasonable.
SEBI
SEBI can monitor them, only if they get listed. SKS Microfinance listing has brought regulatory issues on the
forefront.
• Filling the gap in micro housing
• Banks oppose fresh loan to share micro fin by stanchart.
• One number to rule all transactions.
NABARD
According to recent reports, government has put on fast track the proposed bill to regulate micro-lenders, that
will make NABARD responsible for regulation of all non-profit microfinance institutions structured as trusts,
cooperatives, or mutual benefit societies.
NABARD Policies for Microfinance Activities & Regulations.
• Microfinance seem to be a broader concepts that micro credit
• Annual policy statement of RBI 2005-06 review the existing practices
• The increasing size & growth of MFI seems to warrant a clearer policy framework to cover operations
in financial services
Differences in Lending Methodologies
Microfinance lending Methodologies mainly includes.
• Eligibility Criteria:
The key points to be considered are
– Age of Business
– Age of Client
– Location of Business
– Business Registration
– Loan Purpose
– Back ground check
• Assessment of Credit Worthiness:
– Credit worthiness is the value of the borrower to avail a microfinance loan.
– It is a composite of gross income of the prospect, less its business and personal expenses,
rational of his capacity to repay the loan.
– Loan size must be determined specifically to fit the client's need.
– Estimate capacity to repay.
– Accurate assessment of the prospect is the key to a successful relation with the MFI.

29. Revenue Models of Micro finance
The following are the variety of delivery models of microfinance in India.
1) Self Help Group (SHG)
The predominant model in the India microfinance context continues to be the SHG linkage model that accounts
for nearly 20 million clients. It started as an Action Research Project in 1989. Under this model, self help
promotion institution usually a NGO, helps groups of 15-20 individuals through an incubation period after
which time they are linked to banks. The SHG had proved their efficacy overtime but they suffer from a
meager resource base which handicapped their capacity to expand the economic activities of their members.
The factors received by the SHG members were the lack of information, time-consuming and expensive
procedures for obtaining bank loans, rigid lending policies of the banks in respect of unit costs, unit sizes and
group guarantee for loans. There are three linking model in the country.
Model - I : SHG formed and financed by banks :- In this model, the banks play dual role of promotion of
SHGs and also provider of credit to SHGs. Up to March 2005, 21% of SHGs financed were from this category.
Model - II : SHGs formed by formal agencies other than banks (NGOs and other) but directly financed
by banks :- In this model, the NGOs and other agencies have played the role of facilitator. Up to March 2005,
72% of SHGs financed were from this category.
Model - III : SHGs financed by banks using NGOs and other agencies as financial intermediaries :- In
this model, the NGOs and other agencies play the role of financial intermediation. Up to March 2005, only
7% SHGs financed were from this category.
Condition required for membership for SHG’S
• Members should be between the age group of 21-60 Years
• From one family, only one person can become a member of an SHG (more families can join SHGs
this way).
• The group normally consists of either only men or only women
• Members should be homogenous ie should have the social and financial background.
• Members should be rural poor.
2) Cooperative Society
A Co-operative Society is formed as per the provision of the Co-operative Society Act, 1912. At least ten
persons having the capacity to enter into a contract with common economic objectives, like farming, weaving,
consuming, etc. can form a co-operative Society.
A co-operative is an autonomous association of persons united voluntarily to meet their common economic,
social, and cultural needs and aspirations through a jointly-owned and democratically-controlled enterprise.
Some cooperatives include member-financing and savings activities in their mandate.
3) Community Banking Model

30. Community Banking model essentially treats the whole community as one unit, and establishes semi-formal
or formal institutions through which microfinance is dispensed. Such institutions are usually formed by
extensive help from NGOs and other organizations, who also train the community members in various
financial activities of the community bank.
These institutions may have savings components and other income-generating projects included in their
structure. In many cases, community banks are also part of larger community development programmes which
use finance as an inducement for action.
4) Village Banking Model
Village banks are community-based credit and savings associations. They typically consist of 25 to 50 low-
income individuals who are seeking to improve their lives through self-employment activities.
Initial loan capital for the village bank may come from an external source, but the members themselves run
the bank: they choose their members, elect their own officers, establish their own by-laws, distribute loans to
individuals, collect payments and savings. Their loans are backed, not by goods or property, but by moral
collateral: the promise that the group stands behind each individual loan.
The Village Banking model is closely related to the Community Banking and Group models. This model is
widely adopted and implemented by FINCA.
5) Grameen Model
• The Grameen Bank started in 1976 by the Nobel Laureate, professor Muhammad Yunus in Bangladesh
• Grameen today has some 2468 branches in Bangladesh, with a staff of 24703 people serving 7-34
million borrowers from 80257 villages
• Grameen’s methods are applied in 58 Countries – including the United States
• Grameen Bank borrowers own 94% of the Bank. The remaining 6% are owned by the government
(January 09)
A bank unit is set up with a Field Manager and a number of bank workers, covering an area of about 15 to 22
villages. The manager and workers start by visiting villages to familiarize themselves with the local milieu in
which they will be operating and identify prospective clientele, as well as explain the purpose, functions, and
mode of operation of the bank to the local population. Groups of five prospective borrowers are formed; in
the first stage, only two of them are eligible for, and receive, a loan. The group is observed for a month to see
if the members are conforming to rules of the bank. Only if the first two borrowers repay the principal plus
interest over a period of fifty weeks do other members of the group become eligible themselves for a loan.
Because of these restrictions, there is substantial group pressure to keep individual records clear. In this sense,
collective responsibility of the group serves as collateral on the loan.

31. Profitability of Microfinance Institution in India
Microfinance institutions need to understand how profitable or financially sustainable they are in order to
effectively manage their services to their clients.
• Portfolio Yield
This metric demonstrates the MFIs ability to generate cash from interest, fees and commission based upon the
average loan book. A decline trend in the yield might indicate a change in product mix, a change in loan
pricing or an issue with increasing arrears.
• Net Interest Margin
This ratio shows the net of interest income less interest expenses over the average earning assets. Tis yield
measures the margin after paying for funds and a decline trend will mean less profit to cover operating
expenses and loan losses.
• Return on Average Assets
This ratio demonstrates how the MFI is managing its assets. A positive ROA indicates how mature the MFI
has become.
• Return on Average Equity
This metric is a good measure of profitability and a mature MFI should generate positive ROE by building
equity through retained earing
• Financial Expense Ratio
This ratio provides a measure of the financial expense an MFI incurs to fund its loan portfolio.
• Operating Expense Ratio
This measure shows the cost of delivering loans to the average loan portfolio. A decline trend may indicate a
more efficient organization or an increasing average loan size.
Efficiency and Productivity of Microfinance institutions
Microfinance institutions need to understand how efficiently they are serving their customers, and how
productive their staff and customers are. Ratio and metrics can help to indicate :
• Portfolio to Assets
This ratio demonstrates how much a MFI has allocated to its loan business. Low levels may indicate inefficient
use of funds and too a high a levels may indicate a problem in liquidity.

32. • Cost Income Ratio
This ratio shows cost as a percentage of revenues and provides an indication of how efficient the MFIs are.
Declining trends or a rising ratio may give an indication of declining efficiency and lower profitability.
• Cost Per Active Client
This ratio expresses operating expenses as a percentage of active clients. Clear policies will be required to
define an active client as clients may have multiple accounts or services.
• Client Drop Out Rate
This metric shows the percentage of clients that had no transaction activity with the MFI in the designated
period. When broken down by members of staff, it can give an indication of how well staffs are serving clients.
Alternatively, it can be broken down by type of client to identify broader patterns and customer service
weaknesses.
• Average Outstanding Loan Size
This measures the average outstanding loan balance per borrower, and can provide an indication of the typical
outstanding financing accessed by clients.
• Average Deposit Account Balance
This average can provide information on socio-economic level of the client base. It can be used as an indicator
for the effectiveness of new client acquisition.
• Average Deposit Account Balance Per Depositor
This average provides a ratio for analyzing client outreach for deposit-taking MFIs
Emerging Issue of Microfinance
• Low Outreach
In India, MFI outreach is very low. It is only 8% as compared to 65% in Bangladesh. Data shows the great
potential of MFIs in increasing their outreach and scale of operation.
• Loan Default
Loan default is an issue that creates a problem in growth and expansion of the organization because around
73% loan default is identified in MFI s.
• Low Education Level
The level of education of the clients is low. So it create a problem in the growth and expansion of the
organization because its percentage is around 70% in MFIs.
• Late Payments
Late payments are an issue that creates a problem in growth and expansion of the organization because late
payments are around 70% in MFIs. This is usually occurs because clients are uneducated and they don’t know
how to manage their debt.
• Debt Management
Client are uneducated about debt management 70% of the client in MFIs are unaware of the fact that how to
manage their debt.

33. • High Transaction Cost
High transaction cost is a big challenge for microfinance institution. The volume of transaction is very small,
whereas the fixed cost of those transactions is very high. It cannot vary with the size of the loan.