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New buyback norms by SEBI may safeguard NBFC from systemic risks
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Earlier this year, SEBI came under criticism for rejecting a proposed 90-bln-rupee share buyback of L&T on grounds that the debt-to-equity (D/E) ratio of the consolidated entity exceeded the maximum permissible level. The criticism was that it was making an error by holding L&T to the sword over the D/E ratio mandate even as the consolidated entity included a NBFC (L&TFH), which, by nature of its business, has to borrow more to grow. Currently, SEBI guidelines on share buyback mandate that the consolidated D/E ratio, a measure of indebtedness of a company, should not exceed 2:1 at the consolidated level.
 
SEBI responded to the criticism by proposing that the mandated D/E ratio of any company that has a non-bank lending subsidiary be applicable on a standalone basis for a share buyback. However, as an additional measure, the regulator has proposed that the non-bank lending subsidiary must have a D/E ratio of 5:1 and a credit rating of AAA. By limiting the D/E ratio of a non-bank lending subsidiary to a level that is lower than that 7:1 required by the RBI, the regulator appears to be safeguarding such companies from future systemic risks by demanding that they hold a certain level of cash on their books.
 
After the default of IL&FS in August, the cost of borrowing blew up as market lost confidence in NBFCs, making it difficult for them to rollover their debt. The asset-liability mismatch that ensued has threatened to unravel the entire domestic financial system. SEBI cannot regulate non-bank lenders on the ALM as that is the RBI's jurisdiction. However, by demanding that NBFC subsidiary of a company that wishes to buyback its stocks have a much tighter D/E ratio than that demanded by RBI, SEBI appears to be thinking of the long-term benefit of investors and the market at large. 
 
 
The author may have positions in the stocks as mentioned in the article above, please assume us to be biased. This is not a recommendation to buy or sell securities. This is purely information about the company mentioned.  Equity investing contain risks and please consult your financial adviser for any buy and sell securities!
 

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