Dec 14 - 20, 2009

If one glances over the list of public limited companies, dozens of names of investment banks, modaraba operators, and leasing companies are there. However, most of them are carrying burden of huge accumulated losses, their shares are quoted at a heavy discount to par value, and investors cannot offload their holdings because hardly any one is interested in buying shares of non-banking finance companies (NBFCs), with the exception of a few.

The example of strength of commercial banks operating in Pakistani is often cited. However, without undermining the contribution of these institutions, one could say that commercial banks are thriving only because of vanishing development finance institutions (DFIs) and NBFCs. Some of the financial sector experts go to the extent of saying that the cartelization of commercial banks is responsible for the disappearance of DFIs and extinction of NBFCs. Yet another group holds Securities and Exchange Commission of Pakistan responsible for the current dismal performance of NBFCs in the country.

It is to remind that government of Pakistan permitted establishment of separate institutions like DFIs, commercial banks, investment banks, leasing companies, and modarabas as each type of entity has a specific mandate. However, commercial banks are openly flouting the rule by undertaking activities out of their original mandate. It has already resulted in the virtual death of investment banks and leasing companies. Modarabas have survived because they are regulated under a different framework. However, the number of operating modarabas is on the decline.

A question often comes to the minds that whose undertaking should be the consumer financing? Of commercial banks or leasing companies. The proponents of universal banking system argue that commercial banks should be allowed to undertake all types of financing operations because they have huge deposit base and therefore the cost of funds becomes very low. However, the opponents of this policy contend that universal banking would ultimately lead to the death of NBFCs. It is simply because NFBCs are not allowed to accept deposits and their cost of funds is certainly much higher.

Cost of fund of commercial banks is low mainly because of availability of billions of rupees cost free deposits. Larger share in total deposits is because of greater outreach. Availability of funds at extremely low cost allows them to acquire stake in insurance companies and establish asset management companies. However, they abstain from establishing separate entities for leasing business.

One of the reasons of the success of leasing companies and modarabas was prompt processing of papers and better quality of service. The borrowers are willing to pay relatively high interest rate because DFIs are not keen in catering such clients. Leasing became a preferred mode of financing because no collateral was demanded and rental being treated as an expense resulting in tax advantage for the borrowers. As the concept got acceptance, commercial banks and even investment banks embarked on to create mess.

Since October last year, leasing companies have been in a fix because banks stopped disbursing funds to them. As a result, leasing companies also stopped underwriting new business and have to live on rental received for discharging their liabilities. The point of concern is that the central bank has not intervened so far in to the matter. Thanks to the recessionary trend, which has decreased credit flows, else interest rate would have skyrocketed.

Ideally, leasing companies and modarabas cater to the needs of micro enterprises and SMEs, who are normally not served by the commercial banks. However, involvement of both the leasing companies and modarabas in 'big ticket leasing' in the past drifted them away from their globally recognized mandate. While some sponsors of leasing companies and modarabas are still not happy, others have moved their focus from large corporate to SMEs, micro enterprises and even the individuals.

For years, leasing companies have been pleading that undertaking leasing business gives banks an undue advantage over leasing companies, mainly due to extremely low cost of funds. They are not demanding any restriction on commercial banks but only want them to create separate subsidiaries for undertaking leasing business. However, the central bank has not accepted their demand. It is believed if the situation persists on DFIs and leasing companies would become extinct.

One of the serious issues is that unless leasing companies succeed in obtaining credit lines on competitive rates they cannot compete and cash crunch would continue to affecting their profitability. In the prevailing scenario as a first step, the central bank should arrange credit lines for the leasing companies. It should also ask the commercial banks to establish independent subsidiaries to undertake leasing business.

The players are advised in their own best interest to come up with appropriate business models for the sustained development of their businesses. Since all the leasing companies are listed at the stock exchanges, entrepreneurs could also explore them for the potential takeover. May be the country does not need a long list of leasing companies but these entities should not be allowed to go bankrupt because of some bad decisions.

For accelerating GDP growth rate and attaining higher exportable surplus fresh investment in new productive facilities is necessary. This requires massive mobilization of capital and leasing companies can play an important role, as they are the only provider of medium term finance. Banks must remain confined to their core activity of provision of short-term financing.