NBFCs, which reported strong growth in Q1 FY27, are now facing margin pressure due to higher borrowing costs. While major lenders are shifting their loan mix to higher-yield assets to protect profits, the ability to pass on these costs will be a key factor for investors to monitor in the coming quarters.
Non-Banking Financial Companies (NBFCs) are entering a challenging phase for the remainder of fiscal year 2027. After a period of strong earnings in the first quarter, these lenders are now contending with the reality of rising borrowing costs, which threatens to squeeze the difference between the interest they earn from loans and the interest they pay to borrow funds.
The primary driver of this pressure is the Reserve Bank of India’s continued firm stance on interest rates. As government bond yields remain elevated, the cost for NBFCs to raise money has increased. In previous years, these companies benefited from relatively cheap funding, but that environment is shifting. Market data suggests that funding costs for lenders may climb by 5 to 15 basis points in the coming months, forcing companies to find ways to protect their profitability.
To counter these higher costs, many NBFCs are actively changing how they operate. Instead of relying heavily on corporate bonds, which have become more expensive, firms are increasingly turning to bank borrowings. Current trends indicate that bank funding is expected to account for 44% to 45% of the total funding mix for many lenders. By switching to bank loans, which can sometimes offer more flexible terms than public bond markets, these companies hope to manage their interest expenses better.
Beyond changing how they borrow, lenders are also adjusting what they lend. Many are shifting their focus toward higher-yield assets, such as loans for small businesses and retail customers. These loans typically carry higher interest rates, which helps the NBFC maintain its profit margin even when its own cost of borrowing is higher. Diversified players like Bajaj Finance, Shriram Finance, and Aditya Birla Capital appear to have a stronger ability to manage these changes due to their broad reach and stable asset quality compared to more niche competitors.
However, this strategy comes with its own set of risks. By moving toward higher-yield loans, lenders may inadvertently attract riskier borrowers. If the economy faces unexpected slowdowns, the ability of these borrowers to repay their loans could become a concern. Additionally, these firms face intense competition from public sector banks and new financial technology entrants, who are often able to offer loans at lower rates, putting a ceiling on how much interest an NBFC can charge its customers.
While the industry has limited refinancing risks for the remainder of FY27—since only a small portion of their long-term debt is due for repayment this year—the true test lies in the second half of the fiscal year. Investors should monitor whether these companies can effectively balance their loan books without compromising on the quality of their assets. The ability to maintain stable margins while managing debt costs will be the most important trend to watch in the coming quarterly results.