The global ratings agency Fitch Ratings on Thursday placed IIFL Finance Limited’s ‘B+’ Long-Term Issuer Default Rating (IDR) and medium-term note (MTN) programme rating on Rating Watch Negative (RWN).
The RWN follows RBI’s directive on March 4 for IIFL Finance to cease new gold-backed lending and related off-balance-sheet funding transactions.
The impact of the restrictions will depend on their duration and any spill-over effects on the rest of IIFL Finance’s business, it said.
Fitch in its report said the RWN reflects downside risk to IIFL Finance’s franchise, profitability and overall risk profile if regulatory restrictions on new gold-backed lending are prolonged.
The recent developments raise IIFL Finance’s exposure to regulatory compliance and reputational risk. Franchise risk could extend beyond the gold-loan portfolio if the repercussions spill over into the company’s other product lines, Fitch said.
Flag gaps in the entity’s governance framework
The regulatory action cited a number of instances of non-compliance within IIFL Finance’s gold-loan business.
“We believe this signifies gaps in the entity’s governance framework in ensuring sound practices and policies, and in the operational execution of its gold-loan strategy,” Fitch said.
The company says it has remediated the issues raised by the RBI, but Fitch remains uncertain as to when the restrictions will be lifted.
Regulatory action stemming from supervisory findings are not unusual within India’s financial sector, but penalty fees are more commonly imposed, in addition to the necessary remedial action. That said, the RBI has increasingly employed business restriction as an enforcement tool in recent years.
Impact of RBI’s move on IIFL business
Fitch highlighted that the prolonged stoppage on new gold loans is likely to dampen portfolio growth and profitability as the existing loan base runs down.
“We believe the gold-loan segment contributes a significant proportion of IIFL Finance’s revenue and profit, considering the product’s higher yield, at 19% in 3QFY24, compared with 17.2% across the portfolio, and typically better asset quality,” it said.
The gold-loan segment’s GNPA ratio was a modest 0.8% in 3QFY24 and credit losses are typically mitigated by recoveries on the sale of gold collateral.
We expect the consolidated non-performing asset ratio to face modest upward pressure due to the mix effect if gold loans decline significantly relative to consolidated gross loans, Fitch said.
IIFL Finance’s liquidity inflows won’t weaken
Fitch has said that the RBI’s restrictions do not directly weaken IIFL Finance’s liquidity inflows, as loan collections are allowed to continue. This should underpin adequate liquidity to meet scheduled debt repayments.
The restrictions apply to new lending and off-balance-sheet funding activities on gold loans. As such, the company will continue to earn income on its outstanding gold-loan portfolio until the balances mature.
The financial implications of the curbs will depend on the length of the restrictions, balanced against the company’s ability to maintain other lending activities, which have not been cited in the ruling.
Gold loans are a key product for the company, accounting for 32% of assets under management and 18% of gross on-book loans in the third quarter of the financial year ending March 2024 (3QFY24).
