If you thought loans against gold were the best thing to happen to mankind since sliced bread, think again. We made trips to various branches of companies which profess to offer ‘quick’ loans against the yellow metal and this is what we unearthed

Over the past few months, advertisements on gold loans have been visible everywhere, from companies like Muthoot Finance, Muthoot Fincorp and Manappuram Finance. These advertisements make pawning gold as easy as eating a piece of cake.

They appeal to all those who need money but only have assets like a house and gold jewellery. Our homes are our most important asset, and gold comes in as a close second. Since pawning a house is tough, pawning gold seems like the easiest option. India is a country which worships gold. Therefore, loans against gold have a mass appeal. At a time when gold is retailing at Rs18,000 for 10 grams, it is easy for people to pledge their gold and raise money. No wonder gold loans are doing roaring business.

A few of these companies are so profitable that they have been able to attract private equity investments. Manappuram is listed on the Bombay Stock Exchange - its shares have shot up from Rs13 in April 2009 to Rs113 (on 12th August), thanks to vigorous growth in turnover and profits. In the June quarter of this fiscal, income surged 177% to Rs18,607 crore while net profits zoomed 225% to Rs4,615 crore.

All the three companies mentioned above have their origins in Kerala, but now have massive nationwide operations. However, it is hard to figure out if their self-proclaimed growth numbers are authentic. Muthoot Fincorp claims that it has a simple and uncomplicated procedure that ensures that you have your loan in 3 minutes depending upon the documents.
 

Moneylife visited all these companies (their Mumbai branches). More on that later.

At the Muthoot Fincorp branch, the sales assistant that we spoke to said that it would take at least 10 to 15 minutes to grant a loan. Such claims are also made by other companies, with Muthoot Finance saying that it would take 5 minutes to get the loan against gold on its website. Not so, in fact it would take 30 minutes and that too if we came in the morning, said its sales assistant. While Manappuram says you'll get the gold loan within a minute, its sales assistant says that you may get it probably in 15 minutes.

But how solid are these gold loan companies? They function as non-banking financial companies (NBFCs) but how closely are they regulated by the Reserve Bank of India (RBI)? Where do they get the money to loan you? If it's borrowed money, could they suffer from an asset-liability mismatch under financial stress? How robust are their business models? Are they reliable? Is your gold safe with them? If gold prices fall, would they sell your gold and recover their money? If not, would they resort to strong-arm tactics? What are the social implications of a failure of these schemes as gold loan companies get larger and larger?

When we started looking at these questions, we discovered to our utter surprise that there has been no thinking along these lines so far. So, Moneylife started to investigate all these issues. The result of this is a three-part investigation. The first part, which follows, is an actual description of how the branches of these three companies lending gold actually function. They all have their branches in Andheri, a bustling suburb of Mumbai. The second part, to be followed a few days later, will examine the financial model of Manappuram Finance whose financial data is available since it is a listed company. The third part will examine the quality of supervision of these NBFCs given that they have become so ubiquitous and large that their failures will cause a lot of turmoil.

Last week, our correspondent Aaron Rodrigues made a trip to the Andheri branches of these three gold loan companies. His first stop was Muthoot Finance. Located very close to Andheri station, its office is on the second floor of Jyoti Estate. The Muthoot Finance branch is surrounded by a clutch of residential buildings, but unlike the other branches of these financial companies, it wasn't deserted. Here is our correspondent's first person report.

The Muthoot Finance branch is small and cramped. At 3:15pm, a few customers were inside the office, either to give some gold or take some of their gold back. The sales assistants are busy and you can hear one customer grumbling loudly; he feels cheated. "I didn't ask for so much of a loan, and what is this rubbish of paying the interest and the principal. It's like I have given more money, then taken (less) money," he says. It's chaotic, at first sight.

Finally I get a chance to speak to a sales assistant. She explains to me how the scheme works. The company will take my gold, give me some money and charge me an interest of 2% per month, making it an annual rate of interest of 24%. The loan is branch-specific. If you give gold to one branch then you can redeem it only from that branch. This is contrary to what most of these companies say in their websites - that the customer can redeem the gold from any of their branches. Under the scheme, you hand over the gold to the branch and the outlet will provide you with cash. If you have gold worth Rs50 lakh and above, then you are given cheques.

She wants to know how many grams of gold I have. I ask her if gold prices were to drop, would that have any impact on my interest amount and principal amount. Her answer is short, "No. Nothing changes when you have taken the loan. Sir, how much grams of gold do you have?" I ask her if I can't repay the loan amount then what? Again, she tells me with her reassuring smile, "Sir, if you can't pay your interest for nearly 18 months, we will put up your gold for auction."

This branch doesn't look all that secure - there is just one guard at the door, there aren't any other security personnel and no camera that I could spot. Is it really safe to have your gold stored here?

The sales assistant again wants to know how many grams of gold I have. I tell her I have 200 grams of gold. But why is she asking me how many grams of gold do I have and not how may carats worth? I tell her, "I have 200 grams of gold and they are all 24 carat worth."

"So you have 200 grams of gold. That should give you a loan of nearly Rs3 lakh," she replies. "I don't need that high a loan, all I need is Rs2 lakh for my sister's operation. So how much gold would I need to give?" I ask. After using the calculator, she replies, "Ok, so you would need to get nearly 150 grams of gold as we measure it (the loan amount) as 1 gram of gold being equal to Rs1,430."

I ask what about the quality of gold? Doesn't that affect the value and the loan amount? It doesn't; the loan value depends on weight. Another key factor is that any gold below 22 carats is not taken for consideration when it comes to a gold loan.

I move to other branches. Unlike Muthoot Finance, these were deserted and were at odd locations. Take Muthoot Fincorp.

Its branch is at an industrial estate. Others occupiers there are mechanics and grain suppliers. When I reached Muthoot Fincorp, it was nearly 4:30pm. Almost time to shut shop. However, I have made my way inside, requesting the guard that I need some details. From what I saw there only three persons were in the branch office, aside from the guard. I walk down to meet the sales assistant, who tells me to sit down and starts explaining the Muthoot Fincorp scheme. The scheme is similar in many ways to that of Muthoot Finance. The only difference is that this scheme gives you the option to pay your interest in a monthly, quarterly, half-yearly or yearly basis - all with different interest margins.

Again, your gold will not be auctioned before 24 months. But what scares you is the location of the branch - and the lack of security. As per their scheme, the customer is charged 2% per month. Again here the weight of the gold is paramount. I tell her that I have 24 carats of gold. Her reply is that her company evaluates the gold on the basis of its weight (not its purity). Only if you have a gold coin, will the gold amount be measured on the basis of the purity of the yellow metal. For example, if you have a 24-carat gold coin, the loan amount will be based on the (24 carat) purity.

However, for gold jewellery the loan depends on the size of the ornament. If you have a gold ring or earring worth 22 carats, the loan amount that Muthoot Fincorp will give you would be Rs 1,350 for a gram. But for larger-size jewellery like a gold bangle, the amount would be Rs 1,450 per gram. If you are carrying along 24-carat gold for a loan, then you better have a gold coin. This will enable you to get a loan amount of Rs1,700 per gram.

Manappuram's branch is located on the Western Express highway, but it is isolated. The building is rundown. All the stores in the building are shut, except for a solitary ATM. As you enter, there is a very dim light guiding you to the office. The guard sitting at the door tells me that the servers are not working. I request him to let me in as I just want details.

The moment you enter, you see a very different office from the ones you have seen before. There are fans running, but no air-conditioning. Some windows are broken and there are paan stains on its walls. There is a room, (actually with a lock). I wonder if it may be the room where the gold is stored.

The usual questions were asked. The person I first spoke to didn't have any knowledge of the schemes, so his colleague intervened. And this is a listed gold loan company.

The loan amount would depend upon the weight of the gold. Manappuram values loan against gold per gram at Rs1,400. However, they only consider 90% of the total weight of gold being submitted for a loan. This would mean your actual loan amount is Rs1,260. The total monthly interest you will pay under this scheme would be 1%.

However, if you want a higher amount of loan against your gold, there are a few more schemes (which charge you higher interest). For a monthly interest of 2.17%, Manappuram will provide you a loan of Rs1,450 per gram (after deducting a margin of 10% as explained above). The interest payout is similar to that of Muthoot Fincorp. You can pay your interest on a monthly, quarterly, half-yearly or yearly basis - which will obviously impact the actual interest that you are paying out.

Again, on 14th August, I made a trip to Muthoot Finance's Mahim branch. The branch is at Ram Mahal Co-operative Housing Society, opposite the railway station. It is near an HSBC ATM machine. I enter the branch by 9:45am. It has just opened. There's a solitary customer in the branch, apart from the staff and a security guard.

As usual, I ask the same questions. Unlike in the Andheri branch (where I was informed that the rate of monthly interest on the loan would be 2%), here they tell me it's 2.04%.

After all the formalities I tell them that I would visit the next day, a Sunday, with my gold. I am told that the Mahim branch is closed on Sundays. This seemed odd, because when I had visited the Andheri branch, I saw a poster stating that they were open on Sunday. A sales assistant confirmed that their branch was open on Sunday. Now why should the Mahim branch be shut on Sunday? The Mahim sales assistant tells me, "It's as per company rules and all branches are not open (on Sundays)."

(In the second part of this three-part series, we will examine the financial model of Manappuram Finance whose financial data is available, since it is a listed company) — Debashis Basu and Aaron Rodrigues