Last week, the Reserve Bank of India (RBI) pulled the plug on India’s largest Residuary Banking Company (RBC), Sahara India Financial Corporation. (What happened??)

An RBC is a financial company, which is not really a bank. It’s just that getting a license to set up an RBC is easier than getting a banking license; it calls for fewer regulations and compliances.

So, companies that don’t want to go the banking way opt to be an RBC. In Sahara’s case, they appear to have failed these compliances.

What went wrong according to RBI

• Sahara did not comply with the minimum interest rate requirement. The minimum interest rate that an Non Banking Financial Corporation must offer is 5 per cent per annum on term deposits and 3.5 per cent per annum on daily deposits. If reports are to be believed, some depositors got interest as 1 per cent per annum.
• They did not have the complete details of the agents involved in deposit collection.
• They did not follow all KYC (Know Your Customer) norms. Under these, the company must collect documents like PAN card copy, address proof etc, from depositors.
• They did not inform depositors about when their deposits would mature.

Note: It is essential for RBCs to follow these rules, so that you, the depositor or investor, are protected. Read all rules.

RBI’s verdict

Though initially, RBI put a complete ban on all future deposits, it later toned down the sentence. Now, Sahara needs to wind down its deposit base within seven years. Sahara will also no longer issue fresh deposits that mature beyond June 2011.

With this, once again, the spotlight is on the millions that investors pour into various avenues, without adequate knowledge and research. What’s more disheartening is that most investors and depositors don’t know their rights are.

Now, for those who have their monies locked into Sahara, there’s no cause to worry. The RBI is here to protect the rights of investors and depositors. Even if there had been a complete ban on Sahara to accept any fresh deposits, common investors will not suffer.

But there’s an opportunity to learn, here. Being aware of what’s happening around you will help you to avoid making mistakes with your money. Here’s what I learned: four cardinal rules of investing.

Exercise your rights

Every time you give your money to somebody else, you have a right to know what is going to happen with it. You have the right to see balance sheets, offer documents and other financial documents and ask any question you might have. When you see these documents, look at these four important details of the company finances:

1. Case flow statement: Every company has an annual report with the balance sheet, profit statement and a cash flow statement. A company with positive historic cash flows, is preferred.

2. Revenues: Look at sales/ revenues and see if they are growing at a healthy rate. Compare this with peer companies.

3. Profit margin: Is the company maintaining a steady profit margin? This will tell you if it is controlling costs. Again, compare with peers.

4. Loans: A company with less loans is always better. Imagine you have two friends, one who is always in debt and the other who borrows less and repays fast. Who would you lend to? The answer: obviously, the latter! Same logic for companies.

Now, these are just basic guidelines. It always helps to learn more. Learn the business model, profits, cash flows, the total assets and how much debt they have taken and what are the risks related to the business.

Get real!
Take promises of high, guaranteed returns with a pinch of salt.

If anyone does promise you a high guaranteed return, which is significantly more than what the Government or nationalised banks are offering, try to find out what’s different here.

Ask yourself, ‘Iif I was running a deposit scheme like this how would I be able to guarantee returns of 200 per cent? What is my business model? Is it logical or is it just a scam?’ Don’t forget that the RBI is not liable to protect you, if you behave irresponsibly and lose your money to dubious companies.

Check management credibility
Whom would you give your money to? A company ridden with controversies? So, check for management credibility when you invest.

Read magazines and newspapers, regularly. The Internet has made life easier, too. Look up the company’s name on search engines and read all the information, it throws up.

Check credit ratings
RBCs are required to get a rating from a rating agency like CRISIL or ICRA, without which they cannot raise deposits. So, check the offer document to see the rating. However use this only as a tool to help you decide. It must not be the only basis for your decision. In the past, several Initial Public Offerings (IPO) with excellent credit ratings, have failed.

Play detective!
Being an investor is akin to being a detective who needs all the information. The better you get, the more you will be rewarded. The world of finance is extremely rewarding for those who know the rules of the game. For those who don’t, it’s pretty risky. So, respect your money and keep your eyes and ears open.

Keep smiling. And yes, happy wealth creation!

Author: Yogesh Chabria, GSIFS.com
Source: Wealth, MoneyControl.