# NBFCs, housing finance and non-bank lenders — sector playbook

Use this when: the company earns most of its income by lending its own balance sheet — NBFCs, HFCs, gold-loan and microfinance lenders, vehicle and CV financiers, LAP/SME lenders, consumer and fintech lenders, US/EU specialty finance, consumer and mortgage originators, BDCs and thrifts.

A lender's balance sheet *is* its product line. Money is the raw material, interest expense is cost of goods, and the loan book is inventory that can silently rot for 12–24 months before it shows up in any reported ratio. That single fact breaks the generic industrial ratio set at the definitional level — not at the "different benchmark" level — and it means the two things that actually kill lenders (funding and credit) are both largely invisible in the P&L until they are terminal. Analyse this sector as: margin (NIM) minus credit cost, on a funding base that must not run, on capital that must fund growth.

All ranges below are **indicative only**. They shift with the rate cycle, product mix, regulatory regime and country. A lender's own 5–10 year history and its closest sub-sector peers override every absolute band in this file.

## Contents

- [Why the generic ratio set fails here](#why-the-generic-ratio-set-fails-here)
- [The metrics that actually matter](#the-metrics-that-actually-matter)
- [How to value companies in this sector](#how-to-value-companies-in-this-sector)
- [Peer set construction](#peer-set-construction)
- [Sector-specific red flags](#sector-specific-red-flags)
- [Cycle and structural context](#cycle-and-structural-context)
- [India vs global notes](#india-vs-global-notes)
- [Checklist](#checklist)

## Why the generic ratio set fails here

Do not compute the following for a lender. If a screener or data provider hands them to you, discard them explicitly and say why.

**OPM / EBITDA margin / EV-EBITDA / EV-Sales — undefined in economic substance.** EBITDA adds back interest expense. For a lender, interest expense is the cost of raw material: money bought wholesale, sold retail. Adding it back produces a number with no meaning, and any "operating margin" computed on gross interest income is an artefact of leverage rather than efficiency. Equally, Enterprise Value is undefined: debt is operating float, not a claim to be netted against equity value. Never compute EV, net debt or EV/Sales for a lender. The correct analogue of gross margin is **Net Interest Margin**; of operating margin, **pre-provision operating profit / assets**.

**Debt/Equity — a regulatory input, not a risk signal, and often inverted.** NBFCs typically run 4–7x, HFCs 7–11x, banks higher still. A D/E screen mechanically rejects the entire sector. Worse, the sign is unreliable: 9x leverage on a well-provisioned prime mortgage book can be far safer than 3x on an unsecured book with no collateral and 100% LGD. The real solvency measures are risk-weighted and regulator-defined — **CRAR, Tier 1, CET1**, plus a simple leverage backstop where the regulator imposes one.

**Free cash flow and DCF-on-FCFF — structurally negative and sign-inverted.** Under Ind AS 109 / IFRS 9 presentation, loan disbursements sit in *operating* cash flow. A fast-growing, perfectly healthy lender therefore reports hugely negative CFO and negative FCF every single year, while a shrinking, dying lender reports strongly positive FCF as the book runs off. Screening for positive FCF in this sector selects for terminal decline. Equity value must be built from **FCFE, dividend discount, or residual-income/excess-return** models, where "investment" is the regulatory capital consumed by growth.

**ROCE — a trap, especially on Indian screeners.** Screener-style ROCE = EBIT / (equity + borrowings) collapses, for a lender, to approximately the **gross yield on assets**. A gold-loan or microfinance NBFC yielding 20% shows a spectacular "ROCE" that says nothing about profitability after funding cost, opex and credit cost. It systematically ranks the highest-risk lenders highest. Use **ROA and DuPont-decomposed ROE** only.

**Working-capital metrics — no counterparties exist.** Current ratio, cash conversion cycle, inventory turnover, debtor days, asset turnover and capex/sales have no meaning on a lender's balance sheet. Interest coverage is also meaningless — interest is revenue-side, not a fixed charge to be covered. What replaces working capital entirely is the **ALM maturity bucket table**.

**"Sales" / revenue growth — the wrong top line.** Reported revenue is gross interest income, which rises with both book size *and* portfolio risk. A lender can double revenue by migrating from 9% prime home loans to 24% unsecured personal loans while destroying value. Use **NII, NIM, and risk-adjusted NIM (NIM minus credit cost)** as the real revenue lines.

**P/E — defined, but pro-cyclical and dangerous.** Reported PAT for a lender is a policy variable: it is whatever remains after a discretionary provisioning decision (ECL staging, PD/LGD assumptions, management overlays). Credit cost is near zero at the top of a cycle, so lenders look statistically cheapest on trailing P/E precisely when the loss cycle is about to turn. Trailing-P/E screens systematically buy the top. Anchor on **book value and sustainable ROE** instead.

**Depreciation, capex intensity, gross block, fixed-asset turnover — irrelevant.** This is an asset-light but capital-*consuming* business. The true "capex" is regulatory capital absorbed per unit of AUM growth, and it never appears in the capex line.

## The metrics that actually matter

Ranges are indicative and product-specific; judge intra-segment and against the company's own history.

| Metric | Definition / how to compute | Indicative healthy range | Why it matters |
| --- | --- | --- | --- |
| **Net Interest Margin & Spread** | NIM = NII / average interest-earning assets (or avg AUM). Spread = yield on advances − cost of funds. NIM exceeds spread because part of the book is funded by free equity. Best used as risk-adjusted NIM = NIM − credit cost. | Prime housing 2.5–3.5%; affordable housing 5–7%; LAP/SME 5–7%; vehicle & CV 6–8%; gold 11–14%; microfinance 11–13%; unsecured consumer 12–18%. Spread ≥3% (HFC) / ≥5% (diversified NBFC) is comfortable. DM specialty consumer 8–10% net yield; US mortgage originators far thinner. | The sector's gross margin. At 5–10x leverage a 50bp NIM compression can wipe out a third of ROE. Rising NIM in a *falling*-rate environment usually means the lender moved down the credit curve — the bill arrives as credit cost 12–24 months later. Always decompose NIM change into yield vs cost-of-funds. |
| **Cost of funds & funding mix** | Weighted-average interest cost on borrowings, plus liability composition: bank term loans, NCDs/bonds, CP, ECB, securitisation/direct assignment, public deposits, NHB refinance (India), warehouse lines/ABS/conduits (DM). Compare *incremental* cost of new borrowing vs blended average. | CP under 10–15% of borrowings (hard convention in India post-IL&FS). No single source above ~50–60%. AA+/AAA is the practical threshold for cheap wholesale funding; a slide to A adds roughly 150–300bps. For deposit-takers, retail deposits >30–40% with >70% renewal is a real franchise. | Largest expense line and the primary competitive advantage — the sector's pecking order is decided by who borrows cheapest. Also the main contagion channel: funding is a confidence good, so a downgrade or a peer default raises marginal cost and shuts rollover at the same moment. Incremental vs blended tells you where margin is heading. |
| **ALM gap & liquidity buffer** | Cumulative inflow−outflow mismatch per maturity bucket (1–30d, 1–2m, up to 1y) as % of outflows; plus LCR and on-balance-sheet liquid assets + undrawn committed lines as % of the next 3–6 months of debt repayments. | No negative cumulative gap in any bucket up to one year is the gold standard; regulatory tolerance is roughly −10% to −20% in short buckets. LCR ≥100% (RBI-mandated, phased, for middle/upper-layer NBFCs). Buffer covering 3–6 months of debt servicing with zero new borrowing. | Every large failure here is a liquidity failure *before* it is a solvency failure — IL&FS, DHFL, and in DM Northern Rock and Greensill all reported adequate capital at the point they died. Borrowing short to lend long is a duration bet invisible in the P&L until it kills the company. The single most under-analysed number by generalists. |
| **CRAR / Tier 1 & growth runway** | Regulatory capital as % of risk-weighted assets, split Tier 1 (core equity) / Tier 2 (sub debt, eligible provisions). Pair with runway: years of planned AUM growth the current Tier 1 supports before dilution. | India: RBI minimum 15% CRAR with 10% Tier 1 for NBFC-ICC and HFCs; comfortable is 18–22%+ Tier 1 for a fast grower. DM bank-like lenders 11–15% CET1; US BDC leverage capped ~2:1. Tier 1 below ~13–14% while growing 25%+ implies a raise within 12–18 months. | Growth is only monetisable if it is fundable. Any lender growing faster than ROE × (1 − payout) must issue equity, and issuance below book permanently destroys per-share value. Capital adequacy is also the regulator's kill switch: a breach triggers lending restrictions and forced deleveraging. |
| **ROA and DuPont-decomposed ROE** | ROA = PAT / avg total assets; ROE = ROA × (avg assets / avg equity). Full bridge: NII/assets + fees/assets − opex/assets − credit cost/assets − tax = ROA. | Diversified NBFC ROA 2.5–4%; prime HFC 1.6–2.2%; gold/MFI 4–6% in good years; vehicle 2–3%. ROE 15–18% respectable, 20%+ franchise-quality. DM prime mortgage ROA 0.8–1.5%, ROTE 10–14%. Sub-12% ROE against a 12–14% Indian COE is value destruction. | ROA is the only leverage-neutral read on underwriting and operating quality; ROE alone can be manufactured by gearing up. The DuPont bridge tells you *why* returns moved and whether that driver is durable. An 18% ROE built on 3.5% ROA / 5x leverage and one built on 1.5% ROA / 12x leverage are entirely different risk propositions. |
| **Credit cost** | (ECL impairment charge + write-offs net of recoveries) / avg loans, in bps. Show reported-year *and* through-cycle average spanning at least one full downturn. | Prime housing 10–40bps; LAP/SME 60–120bps; vehicle/CV 150–250bps; used-vehicle & consumer durables 200–350bps; MFI 150–300bps normalised but 600–1200bps in a state crisis; gold 20–80bps. US subprime auto / near-prime consumer 500–900bps net charge-offs, priced accordingly. | The most manipulable and most decisive line in the sector. High-yield lending is not more profitable if losses scale faster than spread — only risk-adjusted NIM matters. Because ECL is model-driven with overlays, reported credit cost embeds discretion: compare cumulative provisions to actual gross write-offs over 3–5 years to detect chronic under-reserving. |
| **GNPA / NNPA / Stage 3 & PCR** | GNPA % of gross advances (Stage 3 under Ind AS); NNPA net of provisions; PCR = Stage 3 provisions / gross Stage 3. Solvency-adjusted version: NNPA as % of net worth. Track Stage 2 separately. | Secured retail NBFC GNPA <3%, NNPA <1.5%, PCR 40–60% (collateral justifies lower coverage). Unsecured/consumer PCR 70–100%. Prime housing GNPA <1.5%. NNPA/net worth >15–20% is a warning; >30% means book value is materially overstated. | Direct input to adjusted book value, the sector's valuation anchor. Low GNPA with low PCR is worse than higher GNPA with high PCR — the former merely defers the loss. Stage 2 (30–89 DPD / significant increase in credit risk) is the feeder pipeline into Stage 3 and the earliest audited number that shows the cycle turning. |
| **True loss rate: GNPA + write-offs + ARC sales + restructured** | Reconstructed stressed book = reported GNPA + cumulative technical/prudential write-offs (2–3 yrs) + loans sold to ARCs net of cash received (security receipts still on book) + restructured/OTR + scheme-based deferrals, as % of the book. | No absolute benchmark — the test is the *gap* versus headline GNPA. Write-offs >30–40% of opening GNPA in a year, or a stressed pool >2x reported GNPA, warrants forensic work. Recoveries from written-off accounts below 10–15% mean the write-offs were real losses, not hygiene. | Reported GNPA is a stock whose *outflow* management controls. Aggressive write-offs remove NPAs from the numerator with no recovery, so a lender can show falling GNPA while destroying capital. Only cumulative loss on the book as originated is honest — which is why vintage analysis is the professional standard. |
| **Vintage / static-pool loss curves & early delinquency** | Losses by origination cohort (FY23 vs FY24 vs FY25 book) at fixed seasoning — 6, 12, 24 months on book. Leading indicators: collection efficiency %, NACH/cheque bounce rate on first presentation, 1+ DPD, 30+ DPD, and bucket-to-bucket roll rates. | Collection efficiency (current-month billing only) >98% secured retail, >97–98% MFI. Bounce rates flat or falling; a 300–500bp rise leads GNPA by 2–3 quarters. Roll-forward 30-60 → 60-90 under 30–40% for a lender with functioning collections. | In a fast-growing book, headline GNPA is suppressed by denominator inflation: new loans have not had time to default, so a book growing 50% can show falling GNPA while every cohort deteriorates. Vintage curves are the only real-time view of underwriting quality. Always pin down the collection-efficiency definition. |
| **AUM growth, mix, on-book vs off-book** | AUM growth split by product, geography and ticket size; disbursement growth; and the split between on-balance-sheet loans and off-book AUM (securitisation, direct assignment, co-lending, managed pools). | Sustainable ≈1.5–2x nominal system credit growth (India: roughly 20–30%). Above 40–50% for multiple years in a new product or geography is the classic pre-blowup signature. Off-book above 25–30% of total, or growing much faster than on-book, requires knowing who holds first loss. | Growth in lending is trivially easy to buy by lowering standards, and the cost arrives with a 12–24 month lag. Mix shift matters more than the headline: a shift from secured vehicle finance to unsecured personal loans changes the risk profile completely while AUM growth looks steady. Co-lending and FLDG/DLG structures can leave economic risk with the originator off balance sheet. |
| **Cost-to-income & opex/AUM (+ productivity)** | Opex (ex-interest, ex-credit cost) / net total income (NII + fees); and opex as bps of avg AUM. Complement with AUM per branch, AUM per employee, disbursements per branch, customers per field officer, and branch vintage curves. | Prime HFC 15–25% C/I (most efficient model in the sector); diversified retail NBFC 30–40%; gold 35–45% (branch- and cash-heavy); MFI 40–55% (field-force intensive). Opex/AUM 1.5–2.5% secured retail, 5–8% MFI. C/I should fall as branches season. | Distribution cost per rupee lent is the second durable advantage after cost of funds, and it decides whether small-ticket high-yield lending is actually profitable. Flat C/I through an expansion means branches are not maturing — growth is being bought where the lender has no underwriting or collections edge. Check whether DSA/sourcing commissions are expensed or capitalised into EIR. |
| **Underwriting parameters: LTV, FOIR, ticket size, borrower mix** | LTV at origination and current; FOIR/IIR (fixed-obligation- or instalment-to-income); average ticket size and trend; salaried vs self-employed; new-to-credit share; bureau score bands; share of balance-transfer and top-up loans; average tenor. | Housing LTV 65–75% at origination (RBI risk weights step up above 75–80%; DM prime conforming 80% with mortgage insurance above). Gold capped at 75% LTV by RBI. Retail FOIR under 50–55%. Rising self-employed share, ticket size outrunning inflation, or climbing NTC share are risk-migration signals. | The only forward-looking inputs available *before* losses appear. Collateral coverage sets loss-given-default: a 60% LTV mortgage has near-zero LGD, an unsecured personal loan ~100%. Rising ticket size is the most common quiet way to take more risk while every reported ratio stays flat. In gold, slipping LTV discipline or delayed auctions turns a low-risk product into an unhedged commodity bet. |
| **Fee / other income mix and its quality** | Non-interest income as % of total, split into recurring (servicing, processing fees amortised through EIR, insurance/cross-sell commission, BC/collection fees) vs one-off or front-loaded (gain on direct assignment/derecognition, upfront EIS, fair-value gains, one-time recoveries). | 10–20% of total income from genuinely recurring fees is healthy diversification. Upfront assignment/derecognition gains above 10–15% of PBT — or rising as a share of PBT — is a quality-of-earnings problem. Fair-value gains on unlisted or illiquid investments should be immaterial for a pure lender. | Under Ind AS 109 / IFRS 9, direct assignment lets a lender book the entire future excess interest spread as an upfront gain at sale — converting several years of margin into one quarter of profit and flattering ROA and ROE. Sustaining it requires ever-larger assignments: a treadmill. Strip these gains and recompute ROA before any peer comparison. |
| **Concentration: product, geography, borrower, funding** | Share of AUM in top product, top state/region, top-20 borrowers (critical for wholesale/developer/infra books); share of borrowings from the largest single lender or instrument. DM: add channel concentration (broker vs direct) and warehouse-line counterparty concentration. | Top state under 25–30% of AUM; top-20 borrowers under 15–20% of net worth on wholesale books; no funding counterparty above 15–20%. Retail granularity — no borrower above ~1% of net worth — is the strongest structural protection available. | Lending losses are correlated, not independent, and they cluster by geography and product. Indian microfinance has proved this repeatedly (Andhra Pradesh 2010, demonetisation 2016, Assam 2019, Karnataka 2025) — one state ordinance can destroy repayment culture overnight. Wholesale lenders fail differently: chunky bullet-repayment exposures make the book a concentrated equity-like bet dressed as loans. |
| **Book value per share growth & dilution history** | BVPS CAGR over 5–10 years, alongside share-count growth and the price-to-book at which each equity raise was done. Compare BVPS growth to ROE × (1 − payout). | BVPS compounding close to sustainable ROE, with share count growing modestly and raises done above book. Repeated raises below book, or BVPS growth materially below ROE, is the tell. | This is the sector's true compounding measure, and it silently nets out the dilution that headline AUM and PAT growth hide. A lender that grows AUM 30% by issuing equity at 0.8x book is shrinking per-share value while every growth headline looks excellent. |
| **Restructured / modified book and forbearance stock** | Loans restructured, rescheduled, under OTR schemes, moratorium extensions, or (DM) TDRs / loan modifications, plus the provision held against them and their subsequent slippage rate. | Ideally negligible in a normal year. Post-crisis, watch the *slippage rate* out of the restructured pool — 20–30%+ re-defaulting is normal and should already be provided for. | Restructuring is loss deferral with regulatory blessing. The pool's re-default rate is the cleanest evidence of whether the original stress was liquidity or solvency, and it flows straight into adjusted book value. |

## How to value companies in this sector

**Primary method — Price to Adjusted Book, anchored to sustainable ROE.**

The canonical relationship is **P/B = (ROE − g) / (COE − g)**. Book value here is the productive asset base — unlike an industrial, where book is sunk cost — and returns are earned directly on it, so the multiple is a function of how far sustainable ROE exceeds cost of equity. A lender earning 12% ROE against a 13% COE should trade *below* 1x book no matter how fast it grows, because growth at sub-COE returns destroys value and forces dilutive issuance. A 22% ROE franchise with a genuine low-cost funding moat can rationally sustain 4–6x book.

Use **adjusted** book (P/ABV), not reported. Deduct: net NPAs not covered by provisions; the uncovered portion of restructured and ARC-sold exposures (including security receipts carried at inflated values); goodwill and intangibles; deferred tax assets that depend on future profits materialising; capitalised sourcing costs. In DM this is framed as **Price/Tangible Book Value paired with ROTE** — the standard for US and European consumer and mortgage lenders.

Indicative 1-year-forward P/ABV bands (India): high-ROE, high-growth, low-credit-cost franchises 3.5–6x; solid secured retail lenders 2–3x; average diversified NBFCs 1.5–2.5x; prime HFCs 1.5–3x; gold-loan lenders 2–3x; sub-scale, high-credit-cost or governance-impaired names below 1x. DM specialty consumer and near-prime auto typically 0.8–1.6x TBV; prime mortgage originators often below book because ROTE sits near COE.

**Secondary methods.**

- **P/E on normalised credit cost.** Never use trailing P/E raw. Rebuild EPS with a through-cycle credit-cost assumption drawn from at least one full downturn, then apply a multiple. This corrects the classic error of buying at 8x peak-cycle earnings just before losses normalise. Indicative Indian bands: 12–18x for average quality, 25–40x for compounders with cycle-tested underwriting.
- **Residual income / excess return.** Theoretically cleanest: value = current book + PV of (ROE − COE) × book, projected with explicit capital consumption for growth. It sidesteps the FCFF problem entirely and makes the ROE-vs-COE spread the explicit driver.
- **FCFE / dividend discount.** FCFE = earnings − equity capital absorbed by RWA growth. This is the correct DCF for a lender. DDM works well for mature, low-growth, high-payout DM lenders.
- **P/AUM (or EV/AUM in DM deal contexts).** Cross-check and the standard M&A benchmark, especially for microfinance, gold-loan and affordable-housing platforms where the franchise is the distribution network. Indian precedent transactions have spanned roughly 1.5–3.5x book or 20–45% of AUM depending on ROA. Useful for loss-making or early-stage lenders where P/E is undefined, but it ignores asset quality completely — never standalone.
- **Sum-of-the-parts for holding structures.** Many Indian NBFC groups hold stakes in AMCs, insurance, broking or housing subsidiaries valued on entirely different conventions (AUM multiples for AMCs, embedded-value multiples for life insurance). Value each on its own basis and apply a holding-company discount — historically 20–50% in India.

**Do not use:** DCF on FCFF, EV/EBITDA, EV/Sales, EV/EBIT, ROCE-based screens, or any multiple with EV in the numerator. Debt is an operating input, so EV is undefined; and CFO is structurally negative for a growing lender. Any EV/EBITDA quoted for an NBFC is a data-provider artefact — say so and discard it.

**Sensitivity discipline.** At 6–10x leverage, a 25bp move in NIM or a 50bp move in credit cost swings ROE by 200–400bps, which can move justified P/B by a full turn. Always present valuation as a NIM × credit-cost grid, never a point estimate. State the COE you assumed (India: 12–14% is the usual working range; DM lenders 9–11%) because the whole framework hinges on it.

## Peer set construction

A valid comparable in this sector shares **asset class, funding profile and regulatory regime** — not merely the "NBFC" label. Get this wrong and every conclusion inverts, because yield, credit cost, opex and leverage all differ by 3–5x across sub-sectors.

Do not mix these:

- **Prime housing finance** (2.5–3.5% NIM, 10–40bps credit cost, 8–11x leverage, 15–25% C/I) with **affordable housing** (5–7% NIM, higher opex, different customer). They are different businesses sharing a regulator.
- **Secured retail** (vehicle, gold, LAP, mortgage) with **unsecured consumer / personal / digital lending**. LGD differs by an order of magnitude, so identical GNPA means completely different capital consumption.
- **Retail granular books** with **wholesale / developer / infrastructure lenders**. Retail fails gradually and statistically; wholesale fails in discrete, lumpy, correlated events. Loss distributions are not comparable and neither are the valuation multiples they deserve.
- **Microfinance** with anything else. Unsecured, joint-liability, politically exposed, geographically clustered, with regulatory rate and multiple-lending caps. It has its own cycle.
- **Gold loans** with other secured lenders. Short tenor, liquid collateral, auction-driven recovery, LTV capped by regulation, and an embedded gold-price sensitivity that no other product carries.
- **Deposit-taking (NBFC-D / thrifts / banks)** with **wholesale-funded NBFCs**. Deposit franchises have structurally cheaper, stickier funding and heavier regulation. Comparing their cost of funds and their multiples is meaningless.
- **Captive / OEM-linked financiers** with independent lenders — their sourcing cost, credit selection and growth are governed by the parent's product cycle.
- **Balance-sheet lenders** with **originate-to-distribute / fee-based platforms and fintech marketplaces**. The latter carry little credit risk and should be valued on earnings or revenue multiples, not book. Be alert to hybrids that claim to be asset-light while retaining FLDG.

Also align: stage of growth (a 40%-growing lender consuming capital vs a mature payer), country and rate cycle, accounting regime (Ind AS/IFRS 9 ECL vs older incurred-loss regimes vs US CECL), and — in India — listed vs unlisted and bank-promoted vs standalone, since parentage materially changes cost of funds.

## Sector-specific red flags

- **Growth far above system** — AUM compounding 40–50%+ for multiple years, especially in a new product or geography. Rapid growth mechanically suppresses GNPA through denominator inflation and defers loss recognition 12–24 months. Cross-check with vintage curves: if each successive cohort shows worse 12-month-on-book losses while headline GNPA falls, the ratio is lying.
- **Evergreening and disguised restructuring** — top-up loans to borrowers approaching delinquency, refinancing a borrower to clear their own arrears, LAP taken to repay another loan, or interest capitalised into principal on developer exposures so a non-paying loan never stamps a DPD. Tell-tales: a large "interest accrued but not due" balance, non-cash income rising as a share of interest income, bullet/balloon structures on real-estate loans.
- **Related-party, promoter-group or shell-entity lending** — inter-corporate deposits, unsecured loans to entities with no operating business, exposures to the promoter's other ventures. This was the mechanism in both the IL&FS and DHFL failures. Read the related-party note and the largest-exposures list, not the press release.
- **Aggressive write-off policy masking asset quality** — write-offs above 30–40% of opening GNPA, or falling GNPA ratio alongside rising absolute write-offs. Recompute GNPA adding back three years of cumulative write-offs. Likewise, ARC sales where consideration is mostly security receipts retained on book simply defer recognition.
- **Upfront income via direct assignment / securitisation** — booking the entire future excess interest spread as a gain on derecognition. Front-loads years of margin into one quarter and, once started, must be repeated at increasing scale. Above 10–15% of PBT, restate earnings without it before valuing.
- **ECL model discretion** — sudden cuts to PD/LGD assumptions, release of COVID-era or other management overlays into profit, unexplained Stage 2 → Stage 1 migration, or PCR falling while Stage 2 rises. Visible in the ECL note of the annual report, not the investor deck.
- **Funding fragility** — CP above ~15% of borrowings, negative cumulative ALM gap in sub-one-year buckets, dependence on a single bank or instrument, or rollover reliance to fund long-tenor assets. Watch the traded spread on the company's own NCDs versus similarly rated peers: the bond market prices distress before the equity market does.
- **Rating downgrade, negative outlook, or promoter share pledge** — here a downgrade is not a lagging indicator, it is a *causal event* that raises funding cost and can shut market access outright. High promoter pledge adds forced-selling risk that feeds back into funding confidence.
- **Governance and reporting signals** — auditor resignation or qualification, repeated CFO or CRO departures, delayed or restated results, whistle-blower complaints, or a widening gap between standalone and consolidated performance. In lending, governance failure and credit failure are the same event.
- **Concentration and single-event exposure** — one state above ~30% of AUM, wholesale top-20 borrowers above 15–20% of net worth, or a single-product model with no counter-cyclical ballast.
- **Off-balance-sheet risk retention** — co-lending or partnership structures where the NBFC provides first-loss default guarantees (FLDG/DLG) or holds the junior tranche of its own securitisations. AUM growth looks capital-light while economic risk is fully retained. RBI caps DLG at 5% of the portfolio in digital-lending arrangements; check the disclosed retained first loss.
- **Collection-efficiency definition games** — including recoveries of prior-period arrears in the numerator, which can print above 100% while the current book deteriorates. Insist on current-month-billing-only efficiency and cross-check against bounce rates and 30+ DPD.
- **Risk migration hidden inside stable ratios** — rising average ticket size, rising LTV, rising self-employed or new-to-credit share, lengthening tenors to keep EMIs affordable, or a shift toward balance-transfer and top-up volume. Each raises loss frequency or severity while leaving current-period ratios untouched.
- **Borrowing or deposit rates materially above peers** — a lender paying up for retail deposits or wholesale funds is either being priced for risk by the market or funding an asset book whose yield cannot be sustained. A classic late-stage signal in both Indian NBFC-D and DM thrift/specialty failures.
- **Regulatory overhang and supervisory action** — scale-based-regulation reclassification, risk-weight increases (e.g. the November 2023 move to 125% on unsecured consumer credit and on bank lending to NBFCs), gold-loan LTV and auction-norm tightening, digital-lending guidelines, or business-restriction orders against a specific entity. Regulation changes unit economics overnight and is a first-order valuation input, not a footnote.
- **Low effective tax rate or building deferred tax assets** — often loss carry-forwards or aggressive provisioning timing differences. Reduce adjusted book by DTAs that depend on future profits materialising.

## Cycle and structural context

**Where you are in the credit cycle dominates everything else.** The cycle runs: cheap and abundant funding → competition for growth → underwriting standards loosen → yields compress or lenders migrate to riskier products → a rate or liquidity shock → funding cost spikes and rollover tightens → losses surface 12–24 months after origination → capital erodes → forced deleveraging and consolidation. Reported earnings look *best* just before the turn, because credit cost is at its trough and growth at its peak. Ask explicitly: is this book seasoned, and did this management team run this book through a full downturn?

**Rate cycle mechanics.** Asset repricing lags liability repricing in most Indian NBFC structures (fixed-rate vehicle, gold, MFI and personal loans funded by floating or short-tenor borrowings), so **rising rates compress NIM first and only later flow into loan pricing**. Falling rates do the reverse and can flatter NIM for 2–3 quarters. Separately, floating-rate mortgage books repriced to an external benchmark (India: repo-linked) transmit rate changes faster on the asset side than fixed-book lenders. Model the repricing gap, not just the direction of rates.

**Liquidity events, not slow decay, are how lenders die.** The 2018 IL&FS default froze the Indian NBFC wholesale funding market and killed institutions that were reporting healthy capital days earlier. Northern Rock and Greensill are the DM analogues. Any lender whose survival depends on continuous access to wholesale markets carries an option written against a tail event that is not in its cost of funds.

**Structural and competitive threats.** Bank competition in prime segments compresses HFC and vehicle-finance spreads structurally — banks fund cheaper and can always take the prime customer. Balance-transfer/refinance activity in mortgages erodes portfolio yield and shortens effective duration. Digital and fintech origination has collapsed customer acquisition cost in unsecured lending but also compressed underwriting time and made adverse selection faster. Account aggregators, credit bureaus and UPI-linked data are steadily commoditising the informational edge that used to justify high yields. Ask what the durable advantage is: cost of funds, distribution reach, collections infrastructure, or proprietary underwriting data — and whether it survives digitisation.

**Regulatory direction.** In India, RBI's scale-based regulation (Base/Middle/Upper/Top layers) progressively imposes bank-like norms — LCR, CRAR, board composition, NPA recognition, listing requirements for upper-layer entities — on larger NBFCs. Direction of travel is convergence toward bank regulation, which raises compliance cost and lowers steady-state ROE for the largest players. Globally, regulatory arbitrage between banks and non-banks is the sector's founding rationale and it periodically closes: assume any regulatory gap that a lender's economics depend on will eventually narrow.

**Counter-cyclical positioning.** The best entry points historically follow forced deleveraging, when survivors with capital and funding access buy books cheaply and market share consolidates. The worst are at cycle peaks when trailing P/E looks lowest. Let the credit-cost gap versus through-cycle norms, not the P/E, tell you where you are.

## India vs global notes

**India (NSE/BSE, Ind AS).**
- Regulators split by entity: **RBI** for NBFCs and (since 2019) HFCs, with **NHB** retaining supervision and refinance functions for housing finance. Deposit-taking entities (NBFC-D) face tighter rules than NBFC-ND.
- **Scale-based regulation** classifies NBFCs into Base, Middle, Upper and Top layers, with rising capital, governance, disclosure and listing obligations. Check which layer the company sits in — it determines the regulatory trajectory.
- **RBI November 2021 daily-stamping circular**: NPA upgrade only after full clearance of all arrears. GNPA reported before and after this change is not comparable; do not draw trend conclusions across that boundary.
- **Ind AS 109 ECL** with three-stage classification. RBI additionally requires disclosure of the **gap between Ind AS provisions and IRACP norms**; if IRACP exceeds ECL, the shortfall goes to an impairment reserve. Read that reconciliation — it is a direct check on ECL aggressiveness.
- Numbers in **crore/lakh**; AUM often quoted including off-book. Always confirm whether AUM is on-book, on+off-book, or includes co-lending partner share.
- **Promoter holding and pledge** are first-order: check pledge percentage in the shareholding pattern. Bank- or corporate-promoted NBFCs enjoy materially lower cost of funds than standalone peers.
- **CARO** reporting includes specific clauses on loans granted, related-party transactions, defaults in repayment of borrowings, and (for NBFCs) whether the entity conducted registered activities without a valid RBI registration. Read the CARO annexure and the auditor's key audit matters — ECL is almost always a KAM for a lender.
- **Concalls and investor decks** disclose collection efficiency, bounce rates, Stage 2, product-wise AUM and cost of funds that are not in the financials. Use them, but restate collection efficiency to a current-month-billing basis.
- **Priority sector lending** creates a structural market: banks buy PSL-eligible portfolios (MFI, small-ticket housing, agri) via securitisation/assignment, which is why assignment income is so prevalent in Indian NBFC P&Ls.
- Rating agencies (CRISIL, ICRA, CARE, India Ratings) publish detailed rationales with ALM and liquidity commentary — often the most informative public document on a mid-size NBFC.

**US / global (10-K, EDGAR, GAAP/IFRS).**
- **US GAAP uses CECL** (lifetime expected loss on day one) rather than IFRS 9's three-stage model, so allowance levels and the timing of provisioning differ materially. Do not compare coverage ratios across the two regimes without adjustment.
- Terminology maps: GNPA → **non-performing / non-accrual loans**; credit cost → **provision for credit losses**; write-offs → **net charge-offs (NCOs)**; restructured → **TDRs / modified loans**; PCR → **allowance coverage**; ROE → **ROTE**; P/ABV → **P/TBV**.
- **Delinquency and net charge-off disclosure is far richer in the US**: 10-Ks and 10-Qs give delinquency buckets, NCO rates, and often vintage tables (ASU 2016-13 requires gross write-offs by origination year) — the vintage analysis you must reconstruct manually in India is frequently disclosed directly.
- Funding conventions differ: **warehouse lines, ABS term deals, revolving conduits and deposit funding** replace CP/NCD/bank-term-loan mixes. Watch advance rates and covenants on warehouse facilities — a covenant breach can be as fatal as a downgrade in India.
- Capital rules: **Basel III CET1 stacks** for bank-like lenders; **BDCs** are governed by a simple 2:1 asset-coverage leverage cap rather than risk weights; **mortgage REITs** are valued on book and dividend, with entirely different accounting.
- **Prime US mortgage lenders often trade below book** because ROTE sits near COE — that is rational, not a bargain. Judge it by the ROE-vs-COE spread, not the absolute multiple.
- Consumer-protection regulators (CFPB in the US, FCA in the UK) can impose product-level pricing and collection restrictions that change unit economics as abruptly as RBI action does in India.

## Checklist

- Reject EV/EBITDA, EV/Sales, ROCE, FCF, current ratio and D/E outright; state that they are undefined or inverted for a lender.
- Compute NIM, spread and **risk-adjusted NIM (NIM − credit cost)**; decompose any NIM change into yield vs cost of funds.
- Build the DuPont bridge from ROA to ROE and identify which driver moved and whether it is durable.
- Compare **incremental** cost of funds with the blended average; check CP share, single-source concentration, rating, and rating outlook.
- Read the ALM bucket table; flag any negative cumulative gap inside one year and check the liquidity buffer against 3–6 months of debt servicing.
- Check CRAR/Tier 1 (or CET1) against the minimum, then compute the growth runway to the next equity raise and the P/B at which prior raises were done.
- Reconstruct the true loss rate: GNPA + 3-year cumulative write-offs + ARC/SR exposure + restructured pool; compare to headline GNPA.
- Check PCR against product type and compute NNPA as a % of net worth.
- Pull Stage 2 assets, bounce rates, collection efficiency (current-month billing only) and 30+ DPD roll rates as the leading indicators.
- Build or demand vintage/static-pool loss curves by origination cohort; never judge a fast-growing book on headline GNPA.
- Separate on-book from off-book AUM and identify who holds first loss (FLDG/DLG, junior tranches, co-lending share).
- Strip upfront assignment/derecognition gains and fair-value gains from PBT; recompute ROA and ROE without them.
- Test for risk migration: ticket size, LTV, tenor, self-employed and new-to-credit share, top-up and balance-transfer volume.
- Check concentration by state, product, top-20 borrowers and funding counterparty.
- Read the related-party note, the ECL note, CARO/KAM (India) or the credit-quality and vintage tables (10-K), not just the investor deck.
- Value on **P/adjusted book vs sustainable ROE** using P/B = (ROE − g)/(COE − g); cross-check with residual income and normalised-credit-cost P/E; use P/AUM only as a sanity check.
- Present the valuation as a NIM × credit-cost sensitivity grid and state the assumed cost of equity.
- Locate the position in the credit cycle and ask whether this management has been tested through a full downturn.
- Confirm the peer set shares asset class, funding profile, regulatory regime and accounting basis; never blend HFC, MFI, gold, wholesale and unsecured lenders in one table.
