Motilal Oswal sector of the week: NBFCs; REC, PFC among top bets

Business Standard

23-06-2025

India's NBFC sector has received much-needed regulatory clarity with the Reserve Bank of India (RBI) releasing its final guidelines on project finance, effective for loans sanctioned from 1st October 2025. The new framework, formulated after consultations with stakeholders including banks, NBFCs, and government bodies, is significantly softer than the earlier draft, especially with regard to provisioning norms for under-construction projects.
One of the most critical aspects of the final guidelines is their non-retrospective nature. Under-construction projects that have already achieved financial closure will remain governed by the existing provisioning norms. This move ensures a seamless transition for lenders and protects existing loan books from sudden provisioning shocks.
For new loans sanctioned on or after 1st October 2025, standard asset provisioning has been eased considerably. NBFCs are now required to set aside 1 per cent for standard under-construction project loans, including infrastructure and CRE-RH (commercial real estate - residential housing), and 1.25 per cent for under-construction CRE loans. Once projects reach the operational phase—i.e., repayment of principal and interest begins—the provisioning falls to 0.4 per cent for general project finance, 0.75 per cent for CRE-RH, and 1 per cent for CRE.
To further support infrastructure and long-gestation projects, the RBI has allowed delays in the Date of Commencement of Commercial Operations (DCCO)—up to three years for infrastructure projects and up to two years for non-infrastructure projects, including CRE. However, additional specific provisions will be required during the deferment period: 0.375 per cent per quarter for infrastructure loans and 0.5625 per cent per quarter for non-infrastructure loans. These can be reversed once commercial operations begin.
From a sectoral perspective, the impact on NBFCs is expected to be manageable. Large project financiers like PFC and REC already carry standard asset provisions in excess of 1 per cent, which cushions them from any meaningful hit. For others with exposure to project finance, the incremental provisioning burden may be partially passed on to borrowers through loan pricing, thus limiting the impact on profitability.
In conclusion, the RBI's final guidelines are a well-balanced and constructive reform. They provide regulatory certainty, support infrastructure financing, and promote financial stability without being disruptive. For NBFCs, the new norms enhance visibility and strengthen the risk-reward framework in project lending.
REC – Targte Price: ₹460
REC reported healthy performance in FY25, with a 5 per cent Y-o-Y profit after tax (PAT) growth in 4QFY25 supported by one-offs in interest income. While loan growth guidance has been revised to 12–13 per cent due to elevated prepayments, spreads improved 70bp Q-o-Q and NIMs remained steady at 3.63 per cent. Asset quality strengthened, with GS3 at 1.35 per cent and a target of net-zero NPAs by FY26. Under the revised RBI project finance guidelines, REC remains well cushioned with Stage 1 and 2 provisioning at 0.95 per cent. We model FY25–27 PAT CAGR of 11 per cent, RoA/RoE of 2.6 per cent/20 per cent, and a 5.7 per cent dividend yield by FY27.
PFC – Target Price: ₹485
PFC delivered strong operational performance in FY25, with 20 per cent Y-o-Y PAT growth to ₹173.5b, driven by healthy disbursements, improved asset quality, and a ₹12b write-back from the KSK Mahanadi resolution. The final RBI guidelines on project finance are favorable, with lower provisioning norms and no retrospective application. PFC is well placed under the revised framework, with Stage 1 and 2 provisioning at 1.13 per cent as of Mar'25. We estimate an FY25–27 PAT CAGR of 8 per cent, RoA/RoE of 3 per cent/18 per cent, and a dividend yield of 5 per cent in FY27E. =========================