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Global Securitisation – Are we heading into a coronavirus credit crisis?

Timothy Lopes, Executive, Vinod Kothari Consultants

finserv@vinodkothari.com

The global financial credit crisis of 2007-08 was a result of severe financial distress arising out of high level of sub-prime mortgage lending. Top Credit Rating Agencies (CRA) downgraded majority securitization transactions, slashing ‘AAA’ ratings to ‘Junk’.

Sub-prime borrowers could not repay, lenders were weary of lending further, investors investments in Mortgage Backed Securities (MBS) were stagnant and not reaping any return.

All these factors led to one of the worst financial crisis that affected global economies and not just the US alone. Recovering from such a crisis takes ample amount of time and efforts in the form of policy measures and financial stimulus / bail out packages of the government.

The rapid spread and depth of Coronavirus (COVID-19) outbreak has had severe impact across the globe in a matter of months. Stock markets are witnessing a global sell off. Countries have imposed complete lockdowns countrywide in order to mitigate the impact of this pandemic. Securitisation volumes are likely to witness a drop in light of the pandemic.

Daily, the situation only seems to be getting worse due to the unprecedented outbreak of COVID-19 and its rapid spread. There is absolutely no doubt that the impact on the financial sector and on economies worldwide is / will be a negative one.

As stated by the RBI Governor, in his nationwide address on 27th March, 2020 –

“The outlook is now heavily contingent upon the intensity, spread and duration of the pandemic. There is a rising probability that large parts of the global economy will slip into recession”

The question here is, “Are we headed for another global financial crisis?” We try to analyse this question in this write up, in light of the present scenario.

Global securitisation impact of COVID-19

Worldwide businesses are affected, due to global travel bans in major economies affecting airlines, local transport, auto industry, hotels, etc. These industries are highly impacted by the spread of COVID-19. This impacts cash flows, liquidity, and capacity to repay liabilities in the short term as well as severely impacting profitability.

In the lending space, lenders have put a halt on lending, since collections from borrowers have stopped. Further, borrowers’ capacity to repay has been affected by the outbreak, leading to a halt in repayments as well. Since companies and individual borrowers will have financial difficulties in a slowed down economy, there is an anticipated increase in defaults, delinquencies and NPA recovery rates as a result of the pandemic.

Amidst the unavoidable circumstances, globally, several relief measures have been initiate by Governments, by providing stimulus/ relief packages to SMEs, student loans, etc., while also urging banks to allow relief to borrowers on repayment of their loans and EMIs. This is the case in several economies including Italy, Hungary, USA, Australia and India as well.

Although these measures will aim to mitigate the adverse effects in the short run, the duration of the pandemic caused crisis is still uncertain. This high level of unusual uncertainty has led to negative outlook for securitisations across the globe.

Rating agencies are downgrading securitisation portfolios as the outlook gets worse each day. The magnitude of impact would depend on the asset class and industry. Thus, ratings would change accordingly.

Issuers and servicers are taking several measures to respond to outbreak in day-today-operations. Lenders have begun implementing their business continuity plans, while banks and financial institutions have started granting payment holidays to help affected consumers.

We cannot foresee the duration of the pandemic, however, at present the situation only seems to worsen by the day, resulting in highly unusual uncertain in global securitisations.

Impact on various asset classes globally

Italy –

Italy is one of the worst affected countries, leading the government to take measures to completely shut down economic activity in the country, banning travel and public gatherings, etc[1].

According to a Moody’s research report[2] the above measures by the Italian government are credit negative for Italian structured finance transactions and covered bonds, with adverse effects on the credit quality of underlying assets because borrowers will face financial difficulties, ultimately increasing delinquencies and defaults. In case of NPLs, recoveries will be delayed.

Further, the Italian Banking Association (IBA) has announced an agreement for a voluntary 12-month moratorium on principal payments of SME loans and leases. According to Moody’s, The agreement between lenders and borrowers would suspend or extend repayments on medium and long-term loans, including mortgages, which could create liquidity pressure for Italian transactions.

Impact on various asset classes in Italy–

Given the above factors, Moody’s expect these issues to increase delinquencies and defaults in portfolios backing RMBS, consumer ABS and covered bonds. Further, NPL transactions primarily backed by mortgages will have delayed recoveries.

Further, Consumer ABS, SME ABS and RMBS portfolios have relatively high concentrations of loans originated in three major regions in Italy (Lombardy, Emilia-Romagna and Veneto), which also happen to be the most virus-affected and locked-down regions. These three regions happen to account for more than 40% of the Italian GDP.

 USA –

Kroll Bond Rating Agency (KBRA) has reported[3] that since the beginning of March, 2020, the US stock market is down approximately 18% and unemployment claims are rising quickly as state governments, including California, New York, and other jurisdictions have directed citizens to shelter in place except for food, health care and essential jobs.

Isolation measures have suddenly and dramatically impacted GDP, with payrolls shrinking rapidly across service sectors. The current consensus GDP decline among investment bank forecasts is -2.4% for 2020.

Impact on various asset classes in the US –

US Residential Mortgage Backed Securities (RMBS) –

According to the KBRA report, for RMBS, broad economic conditions, including unemployment, will likely drive transaction performance and lenders’ continued willingness to extend credit. To the extent targeted actions address unemployment and/or loss of income, as well as mitigate widespread defaults and loan modifications, they can be supportive of mortgage market liquidity and stabilization. However the following impacts are likely –

  • Increased delinquency rates as a direct impact of increased unemployment, due to industries affected by social distancing measures.
  • Increased likelihood of modification following a period of delinquency, based on the duration of the contagion.
  • Lengthening foreclosure and liquidation timelines due to foreclosure and eviction moratoria.
  • Varied effects on prepayment rates for certain collateral, due to rate movements and liquidity constraints.

US Whole Business Securitisation

According to S&P Global ratings[4], the negative impact on whole business securitizations (WBS) from the coronavirus outbreak in the U.S. will almost certainly be substantial, particularly for the restaurant sector. S&P Global Ratings expects the COVID-19 pandemic to result in a material negative sales impact for many U.S. whole business securitization (WBS) issuers.

The country has recently reported large number of growing coronavirus cases, leading it to be the highest in the world, even crossing China. This only leads to more uncertainty, as markets expect high delinquencies and defaults in payments as well as slow-down in collections.

China –

As per a Moody’s report[5] securitisation transactions in China are moderately vulnerable to disruptions caused by the virus. Mainly because, consumer loans such as residential mortgages, auto loans and credit cards are the main collateral type. Consumer loan asset quality will deteriorate. However, negative implications will vary depending on the extent of asset deterioration and transactions’ structural features.

Chinese auto loan ABS asset quality will deteriorate, with delinquency rates increasing in the first half of 2020 or even longer as the coronavirus outbreak hurts the Chinese economy. In January, the 30+ days delinquency rate for Chinese auto ABS we rate increased to 0.17%, the highest since 2016 but still a low level.

However, strong portfolio characteristics, including prime quality borrowers and geographically diverse pools, will mitigate asset risks.

Australia –

Policymakers in Australia have announced stimulus measures to dampen increasing financial hardship. Australian banks have announced support measures for households and small business customers affected by the coronavirus, including temporary relief from home-loan repayments.

As per the aforementioned Moody’s report, the collateral credit quality of Australian residential mortgage-backed securities (RMBS) and other consumer loan ABS will also deteriorate. Loans to small-and-medium businesses and self-employed borrowers will pose the most risk, given many such borrowers will likely face material disruptions to their business operations, employment prospects and cash flow. Overall, the risks posed to deal credit quality are moderate, although lower-ranked tranches with smaller credit enhancement cushions may come under some pressure in more severe downside scenarios.

These measures could prove effective, however, there will be disruptions in cash flows and repayments to the issuer, especially in case of RMBS where the only regular cash flows arise from collections from the underlying borrowers.

The Indian Scenario

The Indian Government has taken aggressive measures and imposed a complete 21 day countrywide lockdown. There have been substantial rate cuts announced by the Reserve Bank of India. The RBI has also permitted banks and financial institutions to allow a 3 month moratorium for borrowers to make repayments on term loans.

We have covered the details of moratorium permitted by RBI in a separate set of FAQs[6] and write ups[7].

However, as per Moody’s, Indian ABS are highly vulnerable to coronavirus-related disruptions, because their credit quality is heavily dependent on sponsors’. Indian asset-backed securities (ABS) transactions, which are mostly commercial vehicle and small business ABS deals, are highly vulnerable to the bankruptcy of their sponsors, which are also typically the transactions’ servicers. Indian sponsors are now facing a funding issue, which is exacerbated by the rapid and widening spread of the coronavirus, and a deteriorating global economic outlook. The sponsor’s bankruptcy would disrupt cash collections given that, in their capacity as servicers, they largely collect loan payments through their collection agents in person and in cash.

In addition, ABS pass-through certificates would likely default if sponsors go bankrupt, because bankruptcy administrators would take control of the cash in the first-loss credit facility, which serves as both credit enhancement and liquidity in the deals. The assets in the deals also pose a moderate risk to credit quality of the transactions because slowing economic growth weakens demand for commercial vehicle operators, and small business owners. However, declining oil prices reduce operating costs for commercial operators, partially mitigating risks.

Conclusion

The International Monetary Fund (IMF) Managing Director had earlier announced that the global economy has entered a recession as bad as or worse than 2009.

The outbreak has certainly caused unprecedented impact on global economies. Given the high level of uncertainty and negative outlook, there is high probability of a credit crisis in the world of structured finance which could replicate or be even worse than the global financial crisis of 2008.

In case of securitisation structures, the originators/ servicers do not have a right to impose a moratorium. There has to be concurrence of investors and the trustee in the matter. Credit enhancements will have to be dipped into in most transactions.

Ultimately, the impact on securitisation will depend upon the duration of the pandemic, which is very uncertain and unpredictable. One cannot predict but can only wait to see how these events unfold.

[1] http://www.trovanorme.salute.gov.it/norme/dettaglioAtto?id=73629&completo=true;

[2] https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBS_1218335

[3]https://www.krollbondratings.com/documents/report/32289/rmbs-coronavirus-covid-19-u-s-rmbs-and-residential-real-estate-ramifications

[4] https://www.spglobal.com/ratings/en/research/articles/200318-u-s-whole-business-securitizations-under-stress-from-covid-19-11391612

[5] https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBS_1219586

[6] http://vinodkothari.com/2020/03/moratorium-on-loans-due-to-covid-19-disruption/

[7] http://vinodkothari.com/2020/03/rbi-moratorium-on-term-loans-impact-on-sec-and-da-transactions/

Consensual restructuring of debt obligations, due to COVID disruption, not to be taken as default, clarifies SEBI

Vinod Kothari

finserv@vinodkothari.com

The global economy, as also that of India, is passing through a systemic disruption due to the COVID crisis. The Reserve Bank of India in its Seventh Bi-monthly Monetary Policy Statement 2019-20 dated March 27, 2020[1] has permitted banks and non-banking financial institutions to provide a moratorium to borrowers for a period of 3 months.

As a result, cashflows of banks and financial institutions from underlying loans will be disrupted, at least for the period of the moratorium. It is a different thing that the disruption may actually prolong, but 3 months as of now is what is explicitly regarded by the RBI has COVID-driven.

The financial sector is admittedly one the major issues of debt securities in India. Therefore, an issue that has arisen is, if the financial sector entities, or other issuers of debt obligations, are not able to repay the same on a due date, due to the pandemic crisis, will the same be a case of a default, and will the credit rating agencies (CRAs) report the same as a default?

In response, SEBI, vide Circular dated March 30, 2020[2], addressed to the CRAs, has clarified as follows:

  • If the delay in payment of interest/ principal has arisen solely due to the lockdown conditions creating temporary operational challenges in servicing debt, including due to procedural delays in approval of moratorium on loans by the lending institutions, CRAs may not consider the same as a default event and/or recognize default.
  • The above shall also be applicable on any rescheduling in payment of debt obligation done by the issuer, prior to the due date, with the approval of the investors/ lenders.
  • The above relaxation is extended till the period of moratorium by RBI.

The above circular is, though, addressed to the CRAs, the intent of the regulator is quite clear. If a restructuring of debt obligations happens due to the disruption caused by the pandemic, it is not a case of default.

“Default” is a credit event, mostly analogously referred to as “failure to pay”. A “failure to pay” is a credit event under ISDA Master Agreement, globally followed as the standard for derivatives documentation. Even under ISDA master agreement, there is an exception in case of a force majeure event. It is being contended, and with lot of force according to the author, that the widespread disruption in activity due to the COVID 19 constitutes a force majeure event[3]. If the same is taken as a “default’ leading to serious implications for the issuer, it will be exacerbating the problem of the present disruption. Therefore, a clarification from the regulators that any failure to pay under the present circumstances, solely connected with the disruption, is not itself a credit event.

On a reading of the definition of default under Guidelines for CRAs issued by SEBI[4] it can be derived that “Debt obligations” refers to an obligation to repay a debt on the scheduled repayment date, failing which, the same will be treated as default. If the payment is not required to be made as per contractual terms between the borrower and lender in the first place, then the same is not a debt obligation.

It may therefore be implied as follows:

  • Debentures/ Bonds – In case delay in payment of interest/ principal components of debentures by borrowers, is solely due to the lockdown conditions which create temporary operational challenges in servicing debt, the same may not be considered as a default event;
  • Commercial Paper – The above is implied even in case of commercial paper;
  • Pass through certificates – any rescheduling in payment obligation, if the waterfall clause is modified to reflect the reschedulement of the underlying cashflows, done by the issuer, prior to the due date, with the approval of investors/lenders shall not be treated as a default in PTCs, during the period of moratorium.

[1] https://www.rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=49582

[2] https://www.sebi.gov.in/legal/circulars/mar-2020/-relaxation-from-compliance-with-certain-provisions-of-the-circulars-issued-under-sebi-credit-rating-agencies-regulations-1999-due-to-the-covid-19-pandemic-and-moratorium-permitted-by-rbi-_46449.html

[3] See an article by Richa Saraf on this issue here:  http://vinodkothari.com/2020/03/covid-19-and-the-shut-down-the-impact-of-force-majeure/

[4] https://www.sebi.gov.in/legal/circulars/nov-2016/enhanced-standards-for-credit-rating-agencies-cras-_33585.html

COVID- 19 AND THE SHUT DOWN: THE IMPACT OF FORCE MAJEURE

-Richa Saraf (richa@vinodkothari.com)

 

COVID- 19 has been declared as a pandemic by the World Heath Organisation[1], and the Ministry of Health and Family Welfare has issued an advisory on social distancing[2], w.r.t. mass gathering and has put travel restrictions to prevent spreading of COVID-19. On 19th February, 2020, vide an office memorandum O.M. No. 18/4/2020-PPD[3], the Government of India has clarified that the disruption of the supply chains due to spread of coronavirus in China or any other country should be considered as a case of natural calamity and “force majeure clause” may be invoked, wherever considered appropriate, following the due procedure.

In view of the current situation where COVID- 19 has a global impact, and is resulting in a continuous sharp decline in the market, it is important to understand the relevance of force majeure clauses, and the effect thereof.

Meaning Of Force Majeure:

The term has its origin from French, meaning “greater force”. Collins Dictionary[4] defines “force majeure” as “irresistible force or compulsion such as will excuse a party from performing his or her part of a contract

The term has been defined in Cambridge Dictionary[5] as follows:

“an unexpected event such as a war, crime, or an earthquake which prevents someone from doing something that is written in a legal agreement”.

In Merriam Webster Dictionary[6], the term has been defined as “superior or irresistible force” and “an event or effect that cannot be reasonably anticipated or controlled”.

In light of COVID- 19, a pertinent question that may arise here is whether COVID- 19 shut down will be regarded as a force majeure event for all the agreements, providing a leeway to the parties claiming impossibility of performance? Further, whether such non-compliance of the terms of the agreement will neither be regarded as a “default committed by any party” nor a “breach of contract”?  The general principle is that an event will be regarded as a force majeure event on fulfilment of the following conditions:

  • An unexpected intervening event occurred: The event should be one which is beyond the control of either of the parties to the agreement, similar to an Act of God;
  • The parties to the agreement assumed such an event would not occur: A party’s non-performance will not be excused where the event preventing performance was expected or was a foreseeable risk at the time of the execution of the agreement; and
  • The unexpected event made contractual performance impossible or impracticable: For instance, can the issuer of debentures say that there is no default if the issuer is unable to redeem the debentures? Whether an event has made contractual performance impossible or impracticable has to be determined on a case-to-case basis. It is to be analysed whether the problem is so severe so as to deeply affect the party, and thereby creating an impossibility of performance. This has to be, however, relative to the counterparty so as to create an impossibility of performance.
  • The parties have taken all such measures to perform the obligations under the agreement or atleast to mitigate the damage: It is required that a party seeking to invoke force majeure clause should follow the requirements set forth the agreement, i.e. to provide notice to the other party as soon as it became aware of the force majeure event, and should concretely demonstrate how the said situation has directly impacted the performance of obligations under the agreement.

To understand this further, let us discuss the precedents laid down in several cases.

Principles in Other Jurisdictions:

Prior to the decision in Taylor vs. Caldwell, (1861-73) All ER Rep 24, the law in England was extremely rigid. A contract had to be performed after its execution, notwithstanding the fact that owing to an unforeseen event, the contract becomes impossible of performance, which was not at the fault of either of the parties to the contract. This rigidity of the common law was loosened somewhat by the decision in Taylor (supra), wherein it was held that if some unforeseen event occurs during the performance of a contract which makes it impossible of performance, in the sense that the fundamental basis of the contract goes, it need not be further performed, as insisting upon such performance would be unjust.

In Gulf Oil Corp. v. FERC 706 F.2d 444 (1983)[7], the U.S. Court of Appeals for the Third Circuit considered litigation stemming from the failure of the oil company to deliver contracted daily quantities of natural gas. The court held that Gulf- as the non- performing party- needed to demonstrate not only that the force majeure event was unforeseeable but also that the availability and delivery of the gas were affected by the occurrence of a force majeure event.

Illustrations: When Is An Event Not Considered As Force Majeure?

Inability to sell at a profit is not the contemplation of the law of a force majeure event excusing performance and a party is not entitled to declare a force majeure because the costs of contract compliance are higher than it would have liked or anticipated. In this regard, the following cases are relevant:

  • In the case of Dorn v. Stanhope Steel, Inc., 534 A.2d 798, 586 (Pa. Super. Ct. 1987)[8], it was observed as follows:

“Performance may be impracticable because extreme and unreasonable difficulty, expense, injury, or loss to one of the parties will be involved. A severe shortage of raw materials or of supplies due to war, embargo, local crop failure, unforeseen shutdown of major sources of supply, or the like, which either causes a marked increase in cost or prevents performance altogether may bring the case within the rule stated in this Section. Performance may also be impracticable because it will involve a risk of injury to person or to property, of one of the parties or of others, that is disproportionate to the ends to be attained by performance. However, “impracticability” means more than “impracticality.” A mere change in the degree of difficulty or expense due to such causes as increased wages, prices of raw materials, or costs of construction, unless well beyond the normal range, does not amount to impracticability since it is this sort of risk that a fixed-price contract is intended to cover.”

  • In Aquila, Inc. v. C.W. Mining 545 F.3d 1258 (2008)[9], Justice Neil Gorsuch authored an opinion for the U.S. Court of Appeals for the 10th Circuit, which excused a coal mining company’s deficient performance under a coal supply contract with a public utility only to the extent that partial force majeure, namely labor dispute, caused deficiency.
  • In  OWBR LLC v. Clear Channel Communications, Inc., 266 F. Supp. 2d 1214[10], it was observed- “To excuse a party’s performance under a force majeure clause ad infinitum when an act of terrorism affects the American populace would render contracts meaningless in the present age, where terrorism could conceivably threaten our nation for the foreseeable future”.
  • In Transatlantic Financing Corp. v. U.S. 363 F.2d 312[11], the D.C. Circuit Court of Appeals affirmed a finding that there was no commercial impracticability where one party sought to recover damages because its wheat shipment was forced to be re-routed due to the closing of the Suez Canal. The Court of Appeals held that because the contract was not rendered legally impossible and it could be presumed that the shipping party accepted “some degree of abnormal risk,” there was no basis for relief.

Some Landmark Rulings in India:

Deliberating on what is to be considered as a force majeure, in the seminal decision of Satyabrata Ghose v. Mugneeram Bangur & Co., 1954 SCR 310[12], the Hon’ble Apex Court had adverted to Section 56 of the Indian Contract Act. The Supreme Court held that the word “impossible” has not been used in the Section in the sense of physical or literal impossibility. To determine whether a force majeure event has occurred, it is not necessary that the performance of an act should literally become impossible, a mere impracticality of performance, from the point of view of the parties, and considering the object of the agreement, will also be covered. Where an untoward event or unanticipated change of circumstance upsets the very foundation upon which the parties entered their agreement, the same may be considered as “impossibility” to do as agreed.

Subsequently, in Naihati Jute Mills Ltd. v. Hyaliram Jagannath, 1968 (1) SCR 821[13], the Supreme Court also referred to the English law on frustration, and concluded that a contract is not frustrated merely because the circumstances in which it was made are altered. In general, the courts have no power to absolve a party from the performance of its part of the contract merely because its performance has become onerous on account of an unforeseen turn of events. Further, in Energy Watchdog v. CERC (2017) 14 SCC 80[14], it was observed as follows:

“37. It has also been held that applying the doctrine of frustration must always be within narrow limits. In an instructive English judgment namely, Tsakiroglou & Co. Ltd. v. Noblee Thorl GmbH, 1961 (2) All ER 179, despite the closure of the Suez canal, and despite the fact that the customary route for shipping the goods was only through the Suez canal, it was held that the contract of sale of groundnuts in that case was not frustrated, even though it would have to be performed by an alternative mode of performance which was much more expensive, namely, that the ship would now have to go around the Cape of Good Hope, which is three times the distance from Hamburg to Port Sudan. The freight for such journey was also double. Despite this, the House of Lords held that even though the contract had become more onerous to perform, it was not fundamentally altered. Where performance is otherwise possible, it is clear that a mere rise in freight price would not allow one of the parties to say that the contract was discharged by impossibility of performance.

38. This view of the law has been echoed in ‘Chitty on Contracts’, 31st edition. In paragraph 14-151 a rise in cost or expense has been stated not to frustrate a contract. Similarly, in ‘Treitel on Frustration and Force Majeure’, 3rd edition, the learned author has opined, at paragraph 12-034, that the cases provide many illustrations of the principle that a force majeure clause will not normally be construed to apply where the contract provides for an alternative mode of performance. It is clear that a more onerous method of performance by itself would not amount to a frustrating event. The same learned author also states that a mere rise in price rendering the contract more expensive to perform does not constitute frustration. (See paragraph 15-158)”

General Force Majeure Clauses in Agreements and the Impact Thereof:

While some of the agreements do have a force majeure clause, one question that may arise is whether the excuse of force majeure event be taken only if there is a specific clause in the agreement or event otherwise? Typically, in all the agreements, whether the promisor is under the obligation to promptly inform the promisee in case of occurrence of any event or incidence, any force majeure event or act of God such as earthquake, flood, tempest or typhoon, etc or other similar happenings, of which the promisor become aware, which is reasonably expected to adversely affect the promisor, or its ability to perform obligations under the agreement.

The terms of the agreement and the intent has to be understood to determine the effect of force majeure clause.  In Phillips P.R. Core, Inc. v. Tradax Petroleum Ltd., 782 F.2d 314, 319 (2d Cir. 1985)[15], it was observed that the basic purpose of force majeure clauses is in general to relieve a party from its contractual duties when its performance has been prevented by a force beyond its control or when the purpose of the contract has been frustrated.

The next question that may arise is whether every force majeure leads to frustration of the contract? For instance, if the agreement was hiring of a car on 24th March, the occurrence of COVID- 19 may just have the impact of altering the timing of performance. In some other cases, the event may only affect one part of the transaction. Therefore, the impact of the force majeure event cannot be generalised and shall vary depending on the nature of transaction.

Usually, occurrence of a force majeure event provides the promisee with a right to terminate the agreement, and take all necessary actions as it may deem fit. For instance, in case of lease, if the lessor considers that there is a risk to the equipment, the lessor may seek for repossession of the leased equipment.

Further, in case the force majeure event frustrates the very intent of the agreement, then the parties are under no obligation to perform the agreement. For instance, if the agreement (or performance thereof) itself becomes unlawful due to any government notification or change in law, which arises after execution of the agreement, then such agreements do not have to be performed at all. In such cases, if the agreement contains a force majeure or similar clause, Section 32 of the Indian Contract Act will be applicable. The said section stipulates that contingent contracts to do or not to do anything if an uncertain future event happens, cannot be enforced by law unless and until that event has happened; If the event becomes impossible, such contracts become void. Even if the agreement does not contain a specific provision to this effect then in such a case doctrine of frustration under Section 56 of the Indian Contract Act shall apply. The section provides that a contract to do an act which, after the contract is made, becomes impossible, or, by reason of some event which the promisor could not prevent, unlawful, becomes void when the act becomes impossible or unlawful.

Impact of COVID- 19 on Loan Transactions:

The Reserve Bank of India has, vide notification No. BP.BC.47/21.04.048/2019-20 dated 27th March, 2020[16], has announced that in respect of all term loans (including agricultural term loans, retail and crop loans), all commercial banks (including regional rural banks, small finance banks and local area banks), co-operative banks, all-India Financial Institutions, and NBFCs (including housing finance companies) are permitted to grant a moratorium of three months on payment of all instalments falling due between 1st March, 2020 and 31st May, 2020. Further, in respect of working capital facilities sanctioned in the form of cash credit/overdraft, the lending institutions have been permitted to defer the recovery of interest applied in respect of all such facilities during the period from 1st March, 2020 upto 31st May, 2020.

Detail discussion on the same has been done in our article “Moratorium on loans due to Covid-19 disruption”, which can be accessed from the link below:

http://vinodkothari.com/2020/03/moratorium-on-loans-due-to-covid-19-disruption/

Further, our article “RBI granted moratorium on term loans: Impact on securitisation and direct assignment transactions” can be accessed from the following link:

http://vinodkothari.com/2020/03/rbi-moratorium-on-term-loans-impact-on-sec-and-da-transactions/

 

 

[1] https://www.who.int/emergencies/diseases/novel-coronavirus-2019/events-as-they-happen

[2] https://www.mohfw.gov.in/pdf/SocialDistancingAdvisorybyMOHFW.pdf

[3] https://doe.gov.in/sites/default/files/Force%20Majeure%20Clause%20-FMC.pdf

[4] https://www.collinsdictionary.com/dictionary/english/force-majeure

[5] https://dictionary.cambridge.org/dictionary/english/force-majeure

[6] https://www.merriam-webster.com/dictionary/force%20majeure

[7] https://casetext.com/case/gulf-oil-corp-v-ferc

[8] https://law.justia.com/cases/pennsylvania/supreme-court/1987/368-pa-super-557-0.html

[9] https://www.courtlistener.com/opinion/171400/aquila-inc-v-cw-mining/

[10] https://law.justia.com/cases/federal/district-courts/FSupp2/266/1214/2516547/

[11] https://www.casemine.com/judgement/us/59149a86add7b0493462618f

[12] https://indiankanoon.org/doc/1214064/

[13] https://indiankanoon.org/doc/1144263/

[14] https://indiankanoon.org/doc/29719380/

[15] https://law.justia.com/cases/federal/appellate-courts/F2/782/314/300040/

[16] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11835&Mode=0

 

Further content related to Covid-19: http://vinodkothari.com/covid-19-incorporated-responses/

Contribution to PM CARES Fund qualifies as CSR expenditure

Vinod Kothari & Company

corplaw@vinodkothari.com

Buy-back of shares during Covid-19 Pandemic

By CS Vinita Nair, Senior Partner| Vinod Kothari & Company

corplaw@vinodkothari.com

Share Buy-Back During COVID-19 Pandemic:

 

RBI granted moratorium on term loans: Impact on securitisation and direct assignment transactions

Abhirup Ghosh

abhirup@vinodkothari.com

In response to the stress caused due to the pandemic COVID-19, the regulatory authorities around the world have been coming out relaxations and bailout packages. Reserve Bank of India, being the apex financial institution of the country, came out a flurry of measures as a part of its Seventh Bi-Monthly Policy[1][2], to tackle the crisis in hand.

One of the measure, which aims to pass on immediate relief to the borrowers, is extension of moratorium on term loans extended by banks and financial institutions.  We have in a separate write-up[3] discussed the impact of this measure, however, in this write-up we have tried to examine its impact on the securitisation and direct assignment transactions.

Securitisation and direct assignment transactions have been happening extensively since the liquidity crisis after the failure of ILFS and DHFL, as it allowed the investors to take exposure on the underlying assets, without having to take any direct exposure on the financial intermediaries (NBFCs and HFCs). However, this measure has opened up various ambiguities in the structured finance industry regarding the fate of the securitisation or direct assignment transactions in light of this measure.

Originators’ right to extend moratorium

The originators, will be expected to extend this moratorium to the borrowers, even for the cases which have been sold the under securitisation. The question is, do they have sufficient right to extend moratorium in the first place? The answer is no. The moment an originator sells off the assets, all its rights over the assets stands relinquished. However, after the sale, it assumes the role of a servicer. Legally, a servicer does not have any right to confer any relaxation of the terms to the borrowers or restructure the facility.

Therefore, if at all the originator/ servicer wishes to extend moratorium to the borrowers, it will have to first seek the consent of the investors or the trustees to the transaction, depending upon the terms of the assignment agreement.

On the other hand, in case of the direct assignment transactions, the originators retain only 10% of the cash flows. The question here is, will the originator, with 10% share, be able to grant moratorium? The answer again is no. With just 10% share in the cash flows, the originator cannot alone grant moratorium, approval of the assignee has to be obtained.

Investors’ rights

As discussed above, extension of moratorium in case of account sold under direct assignment or securitisation transactions, will be possible only with the consent of the investors. Once the approval is placed, what will happen to the transactions, as very clearly there will be a deferral of cash flows for a period of 3 months? Will this lead to a deterioration in the quality of the securitised paper, ultimately leading to a rating downgrade? Will this lead to the accounts being classified as NPAs in the books of the assignee, in case of direct assignment transactions?

Before discussing this question, it is important to understand that the intention behind this measure is to extend relief to the end borrowers from the financial stress due to this on-going pandemic. The relief is not being granted in light of any credit weakness in the accounts. In a securitisation or a direct assignment, the transaction mirrors the quality of the underlying pool. If the credit quality of the loans remain intact, then there is no question of the securitisation or the direct assignment transaction going bad. Similarly, we do not see any reason for rating downgrade as well.

The next question that arises here is: what about the loss of interest due to the deferment of cash flows? The RBI’s notification states that the financial institutions may provide a moratorium of 3 months, which basically means a payment holiday. This, however, does not mean that the interest accrual will also be suspended during this period. As per our understanding, despite the payment suspension, the lenders will still be accruing the interest on the loans during these 3 months – which will be either collected from the borrower towards the end of the transaction or by re-computing the EMIs. If the lenders adopt such practices, then it should also pass on the benefits to the investors, and the expected cash flows of the PTCs or under the direct assignment transactions should also be recomputed and rescheduled so as to compensate the investors for the losses due to deferment of cash flows.

Another question that arises is – can the investors or the trustee in a securitisation transaction, instead of agreeing to a rescheduling of cash flows, use the credit enhancement to recover the dues during this period? Here it is important to note that credit enhancements are utilised usually when there is a shortfall due to credit weakness of the underlying borrower(s). Using credit enhancements in this case, will reduce the extent of support, weaken the structure of the transaction and may lead to rating downgrade. Therefore, this is not advisable.

We were to imagine an extreme situation – can the investors force the originators to buy back the PTCs or the pool from the assignee, in case of a direct assignment transaction? In case of securitisation transactions, there are special guidelines for exercise of clean up calls on PTCs by the originators, therefore, such a situation will have to be examined in light of the applicable provisions of Securitisation Guidelines. For any other cases, including direct assignment transactions, such a situation could lead up to a larger question on whether the original transaction was itself a true sale or not, because, a buy-back of the pool, defies the basic principles of true sale. Hence, this is not advisable.

[1]https://rbidocs.rbi.org.in/rdocs/Content/PDFs/GOVERNORSTATEMENT5DDD70F6A35D4D70B49174897BE39D9F.PDF

[2] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11835&Mode=0

[3] http://vinodkothari.com/2020/03/moratorium-on-loans-due-to-covid-19-disruption/

Board meetings during Shutdown : How Companies may care less for video-conferencing rules

Vinod Kothari

corplaw@vinodkothari.com

We are in a shut-down mode, but companies still need to work, as business, and of course, life, has to move on. There are lots and lots of matters in the corporate world where board decisions are required. There are matters which mandatorily require board resolutions to be passed in a meeting of the board, and these matters may be quite frequent, for example, borrowing, lending, investing of funds, issue of securities, etc.. Additionally, there may be lots of other matters where approval of boards/ audit committee meetings or other committee meetings may be required.

If the matter requires board concurrence, not necessarily at a meeting, then resolution-by-circulation (RBC) is a good thought. But a bit of reflection may reveal that RBC is not a good solution in the age of technology. RBC is non-interactive. It is almost like sending postal letters for communicating with distant friends and relatives in the bygone age – we would send a letter, sealing in nicely into an envelope, and then drop it into a red box, and then wait. And then, we will receive an answer 15 days later, and eagerly open the envelope in reply. If technology permits today to communicate instantly with many at a time, why rely on the archaic RBC technique?

It is unfortunate that in an age where most business decisions are being taken momentarily using video and voice conferencing, and even major financial transactions are embracing blockchain technology which may replace currency as we know today, there must be a detailed set of rules for use of video conferencing in board meetings. The rules, in MCA’s Companies (Meeting of Board and its Powers) Rules, were actually drafted in the pre-2013 era,  by way of a so-called Green Initiatives of the MCA in 2011[1]. . Thereafter, the rules have been tweaked from time to time, but their stance still remains rather bureaucratically antiquated. Ironically, 2011 was the time for pagers and first generation cellphones. In 2020, in the age of smartphones and what not, the 2011 stance still continues to prevail.

For example, the thought that the chairman will take a roll call – even though the chairman can easily see face to face the persons who are connected on the video call! Or the fact that the proceedings of VC will be recorded. These antiquated rules have deterred companies from using the full potential of VC for board meetings. In fact, the requirement of recording itself is a major deterrent, as most boards do not want all the noise, side comments and off-the-record discussions in a board meeting to be formally recorded.

Right now, from 22nd March, 2020, the entire country is into a shut-down, at least for 3 weeks. Much before this, most companies had gone into a work-from-home mode. There is no option at all of a physical board meeting.

Hence, VC is the only way for board meetings.

In this scenario, we urge companies to come out of the traditional mindset of physical board meetings and allow board proceedings to embrace technology – this is hardly an option today; it is necessity.

There are several questions that arise in the mind of the compliance professional – most of these questions are the by-product of a thinking anchored into the days of physical board meetings. If compliance professionals were a little more avant-garde, we may have far smoother board proceedings through VC.

Some common questions

  1. Considering the crisis situation, if the Company intends to seek Board approval for matters including matters under Section 179, what are the options available?

In our view, the only option is to do board meeting by video conferencing. The old-fashioned way of doing a resolution by circulation, and later have the decision ratified in a proper meeting (as and when the same may be called) may also work, but as we mentioned above, if the entire world of business is working on VC mode, why not board meetings?

  1. In case of BM considered through VC, is there a need to have a physical quorum?

The thought of a “physical quorum” is completely weird in case of a board meeting by VC. Of course, every person who is participating in the board meeting from remote locations are all “physically” there. Quorum is the minimum number required for a collective decision-making in a board meeting. Every person hooked on to the VC participates in the collective decision-making, with their full sensibility. Neither is the attentivity, or no participation, any less in a VC meeting than in a board meeting.

In this regard Section 174 of the Act prescribes that the quorum in case of board meetings shall be 1/3rd of its total strength or 2 directors, whichever is higher, and the participation of the directors by VC or by other audio visual means shall also be counted for the purposes of quorum  However, in the present scenario, while we encourage companies to traverse the old mindset and go for board meetings entirely on VC mode , MCA has also provided relaxation vide its notification dated 19th March, 2020[2] on the requirement of the physical presence of the directors while reckoning the quorum on regular matters requiring board approval,.

  1. Whether all directors, including Chairman, participate through VC?

Of course. If the meeting is happening on VC mode, everyone, including the chairperson, is connected by VC.

  1. What will be the place of meeting?

As per SS, notice of the eeting shall clearly mention a venue, whether registered office or otherwise, to be the venue of the Meeting and all the recordings of the proceedings of the Meeting, if conducted through Electronic Mode, shall be deemed to be made at such place.

As we mentioned before, compliance professionals need to be a bit avant-garde. There is no question of a “place” of a board meeting in case of a meeting by VC. No one is meeting physically at any place. The cloud is the place.

However, if the meeting has to have a place, it is chairperson who is the anchor for the meeting – hence, the chairperson’s place will be the place.

However, to reiterate – the notice for such a meeting will not say – meeting shall be held at XYZ place. It wil say, meeting will take place on VC, and share log-in or call-ins, as it is commonly done in case of meetings on Webex, Zoom or other meeting facilitators.

  1. Whether prohibited items can also be done through VC?

 Yes, in view of exemption by MCA on 19th March, 2020[3], an amendment in the Companies (MBP) Rules has been made. It provides that a meeting on the restricted items specified in Rule 4, including certain items such as approval financials and board’s report etc. which require an immediate consideration in the present time, can be held through video-conferencing till the period ending on 30th June, 2020 and shall not require mandatory physical quorum.

  1. Suppose a Director did not indicate his intention to participate through VC at the beginning of the year, can a Company still send them notice to participate through VC?

As per SS, the director may intimate his intention of participation through Electronic Mode at the beginning of the Calendar Year also, which shall be valid for such Calendar Year.

In the present scenario, the intent of the director does not matter at all. It is a clear case of compulsion, rather than intent. Hence, irrespective of whether the director has intimated his intent of attending through VC or not, every director may hook on

  1. If the director in interested on any agenda item, and participating through VC, how should he abstain from participation?

Not participating does not necessarily mean getting blacked out.

However, if the other directors want to discuss something in incognito mode, that is, by excluding a particular interested director, every VC facility includes an option to disconnect a particular director. So the so-called interested director may be disconnected while discussing the impugned item.

  1. If all directors are participating through VC, how will minutes or other documents requiring signature of Chairman or Directors will be considered?

The minutes will be captured by the company secretary and circulated as usual.

Assuming that it is not possible to get the physical signatures of the chairperson within 30days as required, the minutes will be entered in the minute book and signed as and when possible. The present situation being a force majeure, there cannot be any breach of law for what is anyways an impossibility.

  1. How will the attendance register be maintained in case of directors participating through VC?
  • As per SS, the attendance register shall be deemed to have been signed by the Directors participating through Electronic Mode, if their attendance is recorded in the attendance register and authenticated by the Company Secretary or where there is no Company Secretary, by the Chairman or by any other Director present at the Meeting, if so authorised by the Chairman and the fact of such participation is also recorded in the Minutes.
  • In case of Directors participating through Electronic Mode, the Chairman shall confirm the attendance of such Directors. For this purpose, at the commencement of the Meeting, the Chairman shall take a roll call. Roll call is an antiquated, almost ridiculous requirement.

However, the company secretary may record attendance, which may later be entered into the attendance register. And most of the VC meeting software provide the option of recording as well.

  1. How will the documents required to be placed at the meeting considered in case of VC meetings?

Since there is no question of having physical documents in VC meetings, all such documents which require the approval or consideration of the board at its meeting may be circulated along with the agenda. As regards, the consideration of unsigned documents which require the initials of the CS or chairman, as per clause 7.3.3 of SS-1, the ‘sd/-’ signed copies of the same may suffice.

Further, as per the demand of the situation, BSE/NSE have sent one on one mails to the listed entities stating that ‘sd/-’ signed copies of the submissions to be made to the stock exchange shall be treated as sufficient compliance.

  1. The directors are required to place their disclosures at the first meeting of the board in every FY. How will the same be considered in VC meetings?

Form MBP-1 required to be obtained from each of the directors can be prepared by them and them and any changes therein may be announced during the meeting which will be recorded alongwith the other proceedings.

  1. How will the updation and signing of registers maintained physically, be done?

In the present scenario, where most of the registers of the companies are maintained in electronic mode, the udpation of those will not be an issue. However, in case of registers which were being physically placed before the meeting and signed by the board will now require the entries to be recorded in electronically, with a record of the date and time and can be entered in the physical registers and signed thereafter.

[1]  https://www.mca.gov.in/Ministry/pdf/Circular_28-2011_20may2011.pdf

[2] http://ebook.mca.gov.in/notificationdetail.aspx?acturl=6CoJDC4uKVUR7C9Fl4rZdatyDbeJTqg3L9EJ8UoBYN3JmTfp0IhEpBLz442oQa9O

[3] http://ebook.mca.gov.in/notificationdetail.aspx?acturl=6CoJDC4uKVUR7C9Fl4rZdatyDbeJTqg3L9EJ8UoBYN3JmTfp0IhEpBLz442oQa9O

Further relaxations by SEBI due to Covid-19– third in a row!

Vinod Kothari & Company

corplaw@vinodkothari.com

 

 

 

Moving to contactless lending, in a contact-less world

-Kanakprabha Jethani (kanak@vinodkothari.com)

Background

With the COVID-19 disruption taking a toll on the world, almost two billion people – close to a third of the world’s population being  restricted to their homes, businesses being locked-down and work-from home becoming a need of the hour; “contactless” business is what the world is looking forward to. The new business jargon “contactless” means that the entire transaction is being done digitally, without requiring any of the parties to the transaction interact physically. While it is not possible to completely digitise all business sectors, however, complete digitisation of certain financial services is well achievable.

With continuous innovations being brought up, financial market has already witnessed a shift from transactions involving huge amount of paper-work to paperless transactions. The next steps are headed towards contactless transactions.

The following write-up intends to provide an introduction to how financial market got digitised, what were the by-products of digitisation, impact of digitisation on financial markets, specifically FinTech lending segment and the way forward.

Journey of digitisation

Digitisation is preparing financial market for the future, where every transaction will be contactless. Financial entities and service providers have already taken steps to facilitate the entire transaction without any physical intervention. Needless to say, the benefits of digitisation to the financial market are evident in the form of cost-efficiency, time-saving, expanded outreach and innovation to name a few.

Before delving into how financial entities are turning contactless, let us understand the past and present of the financial entities. The process of digitisation leads to conversion of anything and everything into information i.e. digital signals. The entire process has been a long journey, having its roots way back in 1995, when the Internet was first operated in India followed by the first use of the mobile phones in 2002 and then in 2009 the first smartphones came into being used. It is each of these stages that has evolved into this all-pervasive concept called digitisation.

Milestones in process of digitisation

The process of digitization has seen various phases. The financial market, specifically, the NBFCs have gone through various phases before completely guzzling down digitization. The journey of NBFCs from over the table executions to providing completely contactless services has been shown in the figure below:

From physical to paperless to contactless: the basic difference

Before analysing the impact of digitisation on the financial market, it is important to understand the concept of ‘paperless’ and ‘contactless’ transactions. In layman terms, paperless transactions are those which do not involve execution of any physical documents but physical interaction of the parties for purposes such as identity verification is required. The documents are executed online via electronic or digital signature or through by way of click wrap agreements.

In case of contactless transactions, the documents are executed online and identity verification is also carried out through processes such as video based identification and verification. There is no physical interaction between parties involved in the transaction.

The following table analyses the impact of digitisation on financial transactions by demarcating the steps in a lending process through physical, paperless and contactless modes:

 

Stages Physical process Paperless process Contactless process
Sourcing the customer The officer of NBFC interacts with prospective applicants The website, app or platform (‘Platform’) reaches out to the public to attract customers or the AI based system may target just the prospective customers Same as paperless process
Understanding needs of the customer The authorised representative speaks to the prospects to understand their financial needs The Platform provides the prospects with information relating to various products or the AI system may track and identify the needs Same as paperless process
Suggesting a financial product Based on the needs the officer suggests a suitable product Based on the analysis of customer data, the system suggests suitable product Same as paperless process
Customer on-boarding Customer on-boarding is done upon issue of sanction letter The basic details of customer are obtained for on-boarding on the Platform Same as paperless process
Customer identification The customer details and documents are identified by the officer during initial meetings Customer Identification is done by matching the details provided by customer with the physical copy of documents Digital processes such as Video KYC are used carry out customer identification
Customer due-diligence Background check of customer is done based on the available information and that obtained from the customer and credit information bureaus Information from Credit Information Agencies, social profiles of customer, tracking of communications and other AI methods etc. are used to carry out due diligence Same as paperless process
Customer acceptance On signing of formal agreement By clicking acceptance buttons such as ‘I agree’ on the Platform or execution through digital/electronic signature Same as paperless process
Extending the loan The loan amount is deposited in the customer’s bank account The loan amount is credited to the wallet, bank account or prepaid cards etc., as the case may be Same as paperless process
Servicing the loan The authorised representatives ensures that the loan is serviced Recovery efforts are made through nudges on Platform. Physical interaction is the last resort Same as paperless process. However, physical interaction for recovery may not be desirable.
Customer data maintenance After the relationship is ended, physical files are maintained Cloud-based information systems are the common practice Same as paperless process

The manifold repercussions

The outcome of digitisation of the financial markets in India, was a land of opportunities for those operating in financial market, it has also wiped off those who couldn’t keep pace with technological growth. Survival, in financial market, is driven by the ability to cope with rapid technological advancements. The impact of digitisation on financial market, specifically lending related services, can be analysed in the following phases:

Payments coming to online platforms

With mobile density in India reaching to 88.90% in 2019[1], the adoption of digital payments have accelerated in India, showing a rapid growth at a CAGR of 42% in value of digital payments. The value of digital payments to GDP rose to 862% in the FY 2018-19.

Simultaneously, of the total payments made up to Nov 2018, in India, the value of cash payments stood at a mere 19%. The shift from cash payments to digital payments has opened new avenues for financial service providers.

Need for service providers

With everything coming online, and the demand for digital money rising, the need for service providers has also taken birth. Services for transitioning to digital business models and then for operating them are a basic need for FinTech entities and thus, there is a need for various kinds of service providers at different stages.

Deliberate and automatic generation of demand

When payments system came online, financial service providers looked for newer ways of expanding their business. But the market was already operating in its own comfortable state. To disrupt this market and bring in something new, the FinTech service providers introduced the idea of easy credit to the market. When the market got attracted to this idea, digital lending products were introduced. With time, add-ons such as backing by guarantee, indemnity, FLDG etc. were also introduced to these products.

Consequent to digital commercialization, the need for payment service providers also generated automatically and thus, leading to the demand for digital payment products.

Opportunities for service providers

With digitization of non-banking financial activities, many players have found a place for themselves in financial markets and around. While the NBFCs went digital, the advent of digitization also became the entry gate to other service providers such as:

Platform service providers:

In order to enable NBFCs to provide financial services digitally, platform service providers floated digital platforms wherein all the functions relating to a financial transaction, ranging from sourcing of the customer, obtaining KYC information, collating credit information to servicing of the customer etc.

Software as a Service (SaaS) providers:

Such service providers operate on a business model that offers software solutions over the internet, charging their customers based on the usage of the software. Many of the FinTech based NBFCs have turned to such software providers for operating their business on digital platforms. Such service providers also provide specific software for credit score analysis, loan process automation and fraud detection etc.

Payment service providers:

For facilitating transactions in digital mode, it is important that the flow of money is also digitized. Due to this, the demand for payment services such as payments through cards, UPI, e-cash, wallets, digital cash etc. has risen. This demand has created a new segment of service providers in the financial sector.

NBFCs usually enter into partnerships with platform service providers or purchase software from SaaS providers to digitize their business.

Heads-up from the regulator

The recent years have witnessed unimaginable developments in the FinTech sector. Innovations introduced in the recent times have given birth to newer models of business in India. The ability to undertake paperless and contactless transactions has urged NBFCs to achieve Pan India presence. The government has been keen in bringing about a digital revolution in the country and has been coming up with incentives in forms of various schemes for those who shift their business to digital platforms. Regulators have constantly been involved in recognising digital terminology and concepts legally.

In Indian context, innovation has moved forward hand-in-hand with regulation[2]. The Reserve Bank of India, being the regulator of financial market, has been a key enabler of the digital revolution. The RBI, in its endeavor to support digital transactions has introduced many reforms, the key pillars amongst which are – e-KYC (Know Your Customer), e-Signature, Unified Payment Interface (UPI), Electronic NACH facility and Central KYC Registry.

The regulators have also introduced the concept of Regulatory Sandbox[3] to provide innovative business models an opportunity to operate in real market situations without complying with the regulatory norms in order to establish viability of their innovation.

While these initiatives and providing legal recognition to electronic documents did bring in an era of paperless[4] financial transactions, the banking and non-banking segment of the market still involved physical interaction of the parties to a transaction for the purpose of identity verification. Even the digital KYC process specified by the regulator was also a physical process in disguise[5].

In January 2020, the RBI gave recognition to video KYC, transforming the paperless transactions to complete contactless space[6].

Further, the RBI is also considering a separate regime for regulation of FinTech entities, which would be based on risk-based regulation, ranging from “Disclosure” to “Light-Touch Regulation & Supervision” to a “Tight Regulation and Full-Fledged Supervision”.[7]

Way forward

2019 has seen major revolutions in the FinTech space. Automation of lending process, Video KYC, voice based verification for payments, identity verification using biometrics, social profiling (as a factor of credit check) etc. have been innovations that has entirely transformed the way NBFCs work.

With technological developments becoming a regular thing, the FinTech space is yet to see the best of its innovations. A few innovations that may bring a roundabout change in the FinTech space are in-line and will soon be operable. Some of these are:

  • AI-Driven Predictive Financing, which has the ability to find target customers, keep track on their activities and identify the accurate time for offering the product to the customer.
  • Enabling recognition of Indian languages in the voice recognition feature of verification.
  • Introduction of blockchain based KYC, making KYC data available on a permission based-decentralised platform. This would be a more secure version of data repository with end-to-end encryption of KYC information.
  • Introduction of Chatbots and Robo-advisors for interacting with customers, advising suitable financial products, on-boarding, servicing etc. Robots with vernacular capabilities to deal with rural and semi-urban India would also be a reality soon.

Conclusion

Digital business models have received whole-hearted acceptance from the financial market. Digitisation has also opened gates for different service providers to aid the financial market entities. Technology companies are engaged in constantly developing better tools to support such businesses and at the same time the regulators are providing legal recognition to technology and making contactless transactions an all-round success. This is just the foundation and the financial market is yet to see oodles of innovation.

 

 

[1] https://www.rbi.org.in/Scripts/PublicationsView.aspx?id=19417

[2] https://www.bis.org/publ/bppdf/bispap106.htm

[3] Our write on Regulatory Sandboxes can be referred here- http://vinodkothari.com/2019/04/safe-in-sandbox-india-provides-cocoon-to-fintech-start-ups/

[4] Paperless here means paperless digital financial transactions

[5] Our write-up on digital KYC process may be read here- http://vinodkothari.com/2019/08/introduction-of-digital-kyc/

[6]Our write-up on amendments to KYC Directions may be read here: http://vinodkothari.com/2020/01/kyc-goes-live-rbi-promotes-seamless-real-time-secured-audiovisual-interaction-with-customers/

[7] https://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/WGFR68AA1890D7334D8F8F72CC2399A27F4A.PDF