Nbfira S Response to the Industry Comments on the Prudential Rules for Large Micro Lenders

NBFIRA’S RESPONSE TO THE INDUSTRY COMMENTS ON THE PRUDENTIAL RULES FOR LARGE MICRO LENDERS

Non Bank Financial Institutions Regulatory Authority (NBFIRA) has developed prudential rules for large micro lenders as per Section 50 of the NBFIRA Act, 2006. These rules have been developed under Technical Assistance of International Monetary Fund (IMF). In this regard, NBFIRA held meetings with individual large lenders and a consultative workshop with the industry on March 11, 2016. In addition to the comments received in the workshops, NBFIRA received comments separately from some large micro lenders.

The following is a summary of the main comments,relating to the proposed prudential rules, both from the industry and large micro lenders along with NBFIRA’s responses to the same:

INDUSTRY COMMENT/QUERY / NBFIRA’S RESPONSE
Introduction of a separate process for renewal of the licenses instead of having the same process and documentation for new applications and renewal / The licensing process mentioned in the prudential rules is for new entrants; process for renewals will be reviewed separately
Clarification of what is meant by " Fit and proper" / Being competent and appropriate for the job in question, and of high integrity, honest, reliable and solvent
Specification of the maximum permitted loan size. If the loan sizes are implemented, we recommend it to be a cooperative process between the Regulator and the industry / Currently there is no maximum permissible loan size as per NBFIRA Act. The same will be considered in due course in consultation with the Industry as per existing regulations.
It is stated that the board of a large micro lender must have a minimum of four directors at all times. The chairman of the board must not be the CEO of the micro lender. The Board must have at least 50% independent members. Industry view is that 50% independent directors is onerous. Industry recommends the Regulator starts with one independent director instead. Alternatively, industry recommends 50% of non-executive directors. / A minimum of threedirectors will be considered. However number of independent directors will be minimum 1/3 of total number of directors with minimum of 1. It ensures better corporate governance.
It is stated that a large micro lender must have a Risk and Compliance officer. Industry requests clarity as to whether this needs to be a standalone role or it is permitted for this role to allocate to an existing appropriate individual who has other roles in the business. / It is permissible, with prior written approval of the Regulatory Authority, to allocate to an existing appropriate individual who has other non-conflicting roles in the business.
It is stated that the fitness and propriety of a Responsible person must be assessed prior to initial appointment and then re-assessed annually. Our view is that this isonerous. We recommend assessment of Fit and Proper person to be every two (2) years. / The fitness and propriety of a responsible person must be assessed prior to initial appointment and thereafter every two years unless any serious incident happens requiring vetting of the person before two years
It is stated that a minimum Capital Adequacy Ratio (CAR) of 7% of the micro lenders total assets should be maintained. We recommend this ratio to be 5%. In addition, we recommend that the term “assets" be clarified to define what exactly should be included. / 5 % is accepted. The assets included are the normal balancesheetassets less cash and bank balances for a financial institution. Risk weighted asset ratio will be considered in due course.
It is stated that a Chief Risk Officer responsible for risk management across all relevant activities and who is fully independent from the business function must be appointed. Industry seeks clarification as to whether this needs to be a standalone role or it is permitted for this role to be allocated to an existing appropriate individual who has other roles in this business. / It is permissible for this role to be allocated to an existing appropriate individual, with prior written approval of the Regulatory Authority, who has other non-conflicting roles in the business
Point 10 (b) and 10 ( c ) respectively require the following provisions to be held:
10 (b) Substandard - 25% of outstanding principal amount of loan - Industry recommendation is 20% and
11 © Doubtful - 50% of outstanding principal amount of loan - Industry recommendation is 40% / We propose to keep it as it is as provisions need to be high for micro lending industry which is basically unsecured.
It is stated that the micro lenders must submit to NBFIRA each month a schedule of loans showing provisions made for the deterioration in the quality of its loans. Industry proposal is that this schedule be provided in a quarterly basis. / Quarterly submission is accepted
Point 8 state that the outstanding principal amounts of the loans of which their repayments are overdue for thirty (30) days or more should be classified as Non-Performing Loans (NPLs). And Point 14 goes on to say that Non-Performing loans must be placed in interest non-accrual or interest to be credited to interest suspense account. This means that all loans that are in arrears for 30 days or more must be placed on interest non-accrual. This is onerous. It is unreasonable to suspend interest for missing one installment. Industry recommendation is that customers who miss 4 consecutive installments should be placed on interest non-accrualor interest to be credited to interest suspense account. / Loans overdue for 90 days will be classified as non-performing loans and interest will be suspended.
It is stated that a lender must at all times maintain sufficient liquidity to meet its obligations as they fall due, and in particular hold high quality assets (HQLA) comprising a minimum of 3 % ( liability excludes shareholder's funds). Point 7 goes on to say that HQLA is defined to include cash and bank deposits. Industry needs clarification whether Overdraft facilities (ODs) are included in the definition of HQLA. / Overdrafts are not assets and therefore cannot be included on the definition of HQLA
It is stated that the micro lender must consult with NBFIRA prior to entering into agreements to outsource or offshore material business activities. Industry recommends the Regulator gives guidance what will constitute material business activities. / Outsourcing brings with it different types of risks and it is for this purpose that the regulator wants to assess the risks to ensure that the mitigation of risks isnot shifted to the third parties. Material business activities are those which have material impact on business like Information technology, asset administration, data management.
Total assets exceeding P25000000. Is this the net loan book or the assets on the balance sheet?
What is the definition for total assets under the prudentialrules?
Is there a set of proposed prudential rules for those entities that do not fall with the P25000000 / Total Assets include all the assets as per financial statements. The prudential rules are only for the larger lenders as defined therefore there will be no prudential rules for the rest currently.
Board approved fitness and proper policy:
Why should vetting of responsible persons be done annually when the proposed review of the fit and proper policy is at least two years?
Why should the two not be aligned? It is not clear if this section implies that the different Micro Lender will now be directly responsible for their own vetting and will not need to send these requests to NBFIRA. / The fitness and propriety of a responsible person must be assessed prior to initial appointment and every two years thereafter unless there is any occurrence of serious events before two years. Micro lenders will be responsible for vetting as part of HR process for own recruitment and will still send the requests to NBFIRA for approval
A lender must regularly review its Risk ManagementPolicy.
The word "regular" should be defined or at least qualified with period to avoid non-compliance and mitigating against double standards in enforcements of non-compliance / Review of Risk Management policy at minimum every year is required
A lender must notify the NBFIRA in the event of a material breach of the Risk Management framework.
Material breach should be defined to avoid enforcement abuse, conflicts and ambiguity.
Voluntary disclosure should attract incentives than penalties as this have been done on good faith in line with the newly introduced NBFIRA Risk Based Supervision / If there is a breach of policy and the entity is not clear whether it is material breach, the entity should advise NBFIRA about the breach and seek guidance whether it is material or not. Voluntary disclosures will be appreciated but make the disclosure eligible for penalty based on seriousness of the breach.
In general, the proposed prudential rules exceed a reasonable level of oversight of micro lendinginstitutions by NBFIRA and amounts to over-regulation. It is industry view that most of the proposed rules do not take into consideration the fact that a micro lender differs from other non-bank financial intermediaries such as asset managers, provident funds or insurers fundamentally. The Non-bank financial intermediaries hold funds or savings and premiums from members of the public, whilst micro lenders are "credit only” financial institutions. Therefore, the level of oversight required by NBFIRA should be lower for micro lenders in line with the lower risk to the public should a micro lender fail. / Large micro lenders have linkages to other financial sectors like banks, capital markets. The Regulator is concerned about financial stability in the whole market and therefore would want to ensure that entities in the sector do not affect other sectors of the economy. Therefore the proposed prudential rules are considered necessary for regulation and are not considered over regulating the industry.
The definition of a large micro lender with assets of P25 million is too low. Industry suggests that this threshold be increased to a much higher figure. It is assumed that NBFIRA has determined the likely cost to a micro lender to implement these proposed prudential rules. A micro lender of a lesser size will simply not have the capacity to afford the associated compliance cost. Considering that NBFIRA has financial information at its disposal of all the registered micro lenders in Botswana, an appropriate cut off that is informed by appropriate financial analysis should be established which will result in a manageable number of large micro lenders in the portfolio that ought to afford the cost of implementing the proposed prudential rules. If the P25 million cut off is maintained, the possible outcome is that most of the micro lenders above this threshold will close shop or alternatively, the interest rate charged by the micro lenders which are already perceived by the public as exorbitant, will go up. NBFIRA needs to strike a balance between having a healthy micro lending sector, the affordability of implementing the proposed prudential rules by micro lenders and pricing implications to the end customers. / An increased threshold of P 50 million will be considered.
These are the requirements to be considered when applying for registration.
Waiver to be sought from NBFIRA for existing Large Micro Lenders / Existing large micro lenders will have transition period to satisfy the requirements.
Regarding permitted types of activities, Section 2 of the proposed prudential rules refer to ' High risk activities' outside of the micro lending. Clarity on what activities constitute ' high risk activities' and the measurement of such is requested from NBFIRA. Further, Section 5 of the proposed prudential rules refer to “any other activities'' or "proposed activities" must be notified to NBFIRA for prior approval.” Any other activity" done without prior approval of NBFIRA will be treated as illegal and will be liable to the Regulatory action. Clarity on what "any other activities" and "proposed activities" could constitute of its required. / High risk activities or any other activities mean the activities other than for which licence/exemption isissued by the Regulatory Authority.
New products reporting to NBFIRA to be formalized when rules are enacted. / Any new product under an activity outside the licensed activity requires prior written approval of NBFIRA
Reporting requirements to NBFIRA to be formalized when rules are enacted. / Reporting requirements will be both as per the Micro lending Regulations and Prudential Rules. In case of doubt NBFIRA can be approached.
A company listed or belonging to a group having an internal audit function at group with qualified personnel should be waived for the resources to be shared between the Group if any, in order to minimize the cost of compliance / This can be done with prior written approval of NBFIRA which will be based on merits of the case.
A company listed on the BSE or belonging to a group and having its compliance functions at Group should be waived for the resources to be shared between the Group & entity in order to minimize the cost of compliance. / This can be done with prior written approval of NBFIRA which will be based on merits of the case.
Declaration of directors interest is a standing Agenda item for all the board meetings is onerous/ overregulation / This means declaration of interest relating to agenda items at each meeting while declaration of all other interests can be updated annually.
The fit and proper assessment now extends to 'Senior Management' in addition to the board members. There is need to agree with NBFIRA as to the criteria and cut-off for 'Senior Management' as this will differ from one micro lender to the next. / In case of doubt as to whether a position is senior management or not, NBFIRA's advice may be sought
Industry does not see the relevance of prescribing a "Capital Adequacy Ratio" considering that a micro lender does not take deposits. / NBFIRA considers it necessary to prescribe prudential standards including capital adequacy ratio because of the possible impact of the large micro lenders on the financial sector. As they are not deposit taking, the proposed capital adequacy norms have been less stringent than those that are applicable to banks.
The proposed prudential rules prescribe no fewer than 9. policies and frameworks that must be drafted and provided for NBFIRA, namely on:
a) Management of conflicts of interests
b) Management of related party transactions
c) Protection of whistle blowers
d) Risk management framework
e)Credit Risk Management Framework
g) Fit and proper persons
h) Liquidity risk management framework
i) Outsourcing policy
Reservations are expressed regarding policy on 'liquidity risk management and 'Outsourcing policy' / The policies mentioned are for better governance in terms of international best practices and will be part of prudential rules
Some lenders already have Enterprise Risk Management Framework in place
/ The same must be advised to NBFIRA which will examine regarding the adequacy of the same.
Industry agrees with the proposed liquidity risk management framework in so far as it relates to the need for a large micro lender to have a sustainable source of funding. However, it does not see the relevance of the concept of a large micro lender holding 'high quality liquid assets' of 3 percent. / Marginal reduction in the ratio will be considered
Section 7 and 8 of proposed prudential rules for Risk Management refer to “material change", "material breach". Clarity is sought as to what constitutes a material change and breach. Also, Section 6 and 9 of proposed prudential rules for Liquidity Risk Management refers to “sufficient monitoring process". Clarity is required regarding what constitutes sufficient liquidity and sufficient monitoring process / Material change to Risk Management policy is the one which changes the risk appetite and risk profile of the entity. In case of doubt regarding materiality of the change, NBFIRA can be approached for clarification.
Sufficient liquidity is maintaining the minimum liquidity ratio stipulated under the Prudential Rules. Sufficient monitoring is a monitoring level which will ensure maintenance of minimum liquidity ratio as required under Prudential Rules
Regarding obtaining prior authorization from NBFIRA to outsource or offshore “material" business activities, industryconsiders this to be unreasonable. This requirement will frustrate micro lenders and their investors alike and this amount to over-regulation of the industry. Botswana is renowned for its free market enterprise economic policy. Industry suggests that outsourcing be left to open market practices and operator choice. Further, clarity is required for the meaning of “material“business activity in respect of outsourcing. / This is to mitigate the compliance risk. Material business activity is already defined in earlier response.
The following are not necessary for licensing
a) Three year business plan including financial projections
b) Details of the risk management policies, procedures and systems to be used to control and monitor risks in relation to both domestic and offshore operations of the lender and its subsidiaries ( refer to Prudential Rules on Risk Management, Credit Risk Management, liquidity Risk Management, Outsourcing;
c) Details of information and accounting systems (including any outsourcing of data processing and other back office functions);