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INTEREST RATE POLICYIntroductionRBI vide Master Directions RBI/DNBR/2016-17/45 Master Direction DNBR. PD. 008/03.10.119/2016-17dated September 01, 2016 under its Fair Practices Code advised NBFC to lay out appropriate principlesand procedures so that usurious interest, including processing and other charges are not levied on loansand advances. The Master direction also prescribes fixing an appropriate ceiling on the interest &processing fees.HDB Customer SegmentHDB caters to the growing needs of India’s increasingly affluent middle market. These segments areusually not the core target segment for commercial banks. HDB now offers a number of products andsolutions to address the requirements of its target segment.Some of the customer characteristics are1. Income Criteria – The middle market customers typically have lower income in comparison to theprime customers targeted by commercial banks. As these customers are not the core market forthe banks, their loan requirements are not met by banks. HDB’s product suite includes unsecuredloans, secured loans and loans for purchase of income generating assets such as commercialvehicle and construction equipment. Inconsistent and variable cash flows is one characteristic ofmiddle market customers unlike, the salaried segment who have consistent and highlypredictable cash flows.2. Credit History - This segment may have little or no prior credit history with organised lenders. Thisrequires detailed credit appraisal for relatively small value loans. It will be appropriate to state thatthis segment will have higher credit risk and hence, higher credit losses. This segment has in thepast, relied on borrowing from the unorganised sector.3. Technology – This segment may not wish to deal with a financial institutions through moderndelivery methods such as phone and internet based applications due to lack of access or comfortwith direct channels. Hence it is very important to have a “High-touch” method to understand andservice this customer segment. However, given the growth of Internet and penetration ofSmartphone’s, HDB offers loans to customers’ through offline, assisted and digital channels. TheCompany thus provides products and services in offline and online modes through branches, webapplications and Apps.Business ModelHDB has a differentiated business model to deliver efficiencies and contain risk based on therequirements of the target segment. Our business has the following characteristics:1. Branch based lending with the branches being located in customer catchment areas which arecloser to and convenient for customers.2. Sales Finance and Vehicle Loans are offered through dealerships.3. The Company also provides an option to customers to make applications online. This reduces thetime taken to process loan applications.4. Loans are structured based on customer needs, the cash flows and assets of the customer.HDB Interest Policy Version 1.3 May 2020

5. Higher operating costs (due to lower average loan size) and loss rates as compared to equivalentproducts offered by banks.6. Loans are sanctioned after personal discussions with the customer for specific loan productswhere the customer has no credit history. Hence an element of judgment is involved in assessingthe credit worthiness of the applicant.7. Credit decisions are decentralised with employees having credit underwriting authorities at thebranches.8. Credit risk is managed by ensuring that underwriters adhere to a set of centrally developed butflexible policies. At the central level, management uses analytics and economic judgment to setthese guidelines and monitor the risk equation.9. A clear set of operational risk control procedures are also embedded in the branch workflow toensure process adherence and adherence to credit and operating policy10. Review at multiple levels so as to quickly identify and correct micro inefficiencies.11. The entire application, credit appraisal and disbursement process is managed using a workflowsoftware that enables quick information sharing and also addresses operational risk issues12. The loans and advances on the Company’s balance sheet are disbursed at fixed rate and / orfloating rate of interestThe product-wise interest type allocation is tabulated below.#123456789101112ProductsLoan Against SecurityLoan Against PropertyLoan Against Shares**Commercial VehiclesLoan against GoldLoan Against Rent ReceivablesConstruction EquipmentsCar LoansEnterprise Business LoanPersonal LoanTwo WheelerConsumer Durables ( Digital Products / Two Wheeler)Interest typeFloating / FixedFloating / Fixed / Combo*Floating / Fixed / Combo*FixedFixedFloating / FixedFixedFixedFloating / FixedFixedFixedFixed13TractorFixed14Micro FinanceFixed*Combo pricing refers to loans where the fixed interest is charged for a particular tenor and floatinginterest is charged for the remaining tenor of a loan. The tenor for fixed and floating interest rates aredetermined at the time of loan sanction and conveyed via a sanction letter to the borrower.** The Company has discontinued fresh disbursement of loan against shares effective Jan 30, 2019 andis servicing existing borrowers’ upto loan maturity.Associated costsThere are two components of cost that need to be priced into a loan1. Upfront costs – The following costs are incurred by HDB before a customer takes his loandisbursement.a.Acquisition costs – The cost of sales channel and sales promotion expenses.HDB Interest Policy Version 1.3 May 2020

b.c.d.e.Verification costs – A verification of information supplied by customer in application formsuch as residence and employment details may be required. Additionally, verification maybe required through credit bureaus.Legal / valuation charges – For products such as “Loan against property”, “used VehicleFinance” and gold loans, expenses are incurred towards verification of title documents,valuation of property / vehicle / jewellery, verification of assets etc. HDB uses theservices of specialized agencies, such as a registered chartered engineers / valuers /lawyers to provide valuation and legal opinion. In such cases, to defray these expenses,HDB will collect application fees will be collected from customer at the time of application.This will be non-refundable in nature.Credit appraisal costs – The Company needs to invest in competent resources that cancarry out credit appraisal of the customer’s application.Technology costs: Financial services business require extensive investment in Hardware,software, storage and analytics for efficient operations. These investments are ongoing innature given the rapid changes in the technology industry and given the consumerexpectations.It may be noted that most of these expenses are incurred irrespective of the outcome of thecustomer’s application. For example, verification costs are incurred even if the customer’sapplication is finally rejected by the company.The company recovers some of these costs through a processing fee payable at the time ofloan sanction.2. Ongoing expenses – The following expenses are incurred during the life of the loana. Funding costs – HDB uses a mix of debt and equity to fund its loans. This funding needsto match with the tenor of the loan and involves costs.b. Servicing cost – This includes cost of managing repayments, books of accounts andaddressing any customer queries on an ongoing basis.c. Collection costs – Effort is required to call / address customers who may default in theirrepayments and prepare remedial plansd. Management costs – Cost of Management overheads, IT infrastructure and softwarelicenses and other overheadse. Record keeping – Documents pertaining to loans have to be stored in safe custody asthese are legal documents.f. Customer Service – This includes cost of servicing customer requests such as interestcertificate, statements, address change requests and other miscellaneous queries fromcustomers3. Other expensesa. Loan Losses and Provisions - The retail loan business works on a portfolio managementmodel. The company needs to create provisions for bad loans and write off loans that arenot recoverable based on the Product / Customer mix.4. The distribution & operating costs to service this segment are high and get even more amplifieddue to the small lending size of each transaction.HDB Interest Policy Version 1.3 May 2020

Our Pricing Strategy1. The ROI to the customer is determined based on cost coverage and reasonable returns to theorganisation as measured through a targeted return on assets (ROE) and return on equity (ROE)and its shareholders.2. The risk premium is determined through a comprehensive risk assessment and riskcategorisation of the borrowers. We believe that risk assessment needs to be done throughanalytics based models that predict future portfolio losses. Our pricing methodology will continueto evolve and be more and more refined as we get more insights into risk levels of each subsegment.3. Given the higher cost of funds, operating costs, expected credit losses and investments requiredto build a strong model, our pricing will be higher as compared to banks.4. We will offer both fixed rate and floating rate loans to our customers depending on the tenor /Product.Floating reference rate (FRR) – The FRR is reset at the beginning of each quarter. The Floatingrate Reference Rate (FRR) is determined considering the average cost of borrowing floating ratefunds from banks and FI’s.5. The experience of the company has been that its target segment prefers fixed rate loans as thisgives them predictability of their liabilities. However the Company offers products such as loanagainst property (LAP) for tenures up to 180 months. To ensure that the Company does not carryundue interest rate risks, loans of tenor of over 48 months will be typically offered as floating rateloans. This will help the Company to manage its Asset-Liability gaps and help it in offeringcompetitive pricing to customers.6. The Company will also offer a Combo pricing (Initial fixed rate and then floating rate) product thathelps address market uncertainties.7. The company’s offering in the market will be in line with the offering from other key players in thissegment and reasonable as compared to other informal sources of funds that the targetedsegment has availed in the past.8. As certain costs are fixed irrespective of the size of the loan, the company benefits fromeconomies of scale when customers take a larger value loan. Hence customers, subject to creditrisk, will be charged lower rates for higher value loans. Similarly customers will be charged lowerrates for a loan with longer tenor and vice-versa.i.e the loan with a short tenor of less than twoyears may carry a higher rate of interest owing to certain fixed loan servicing costs.9. HDB offers loan rates based on on risk categorisation of the borrower, loan size, perceived creditrisk, nature and value of collateral and credit history with other FIs. Existing customers who take arepeat loan from the Company will also get benefit of lower rates as they have a demonstratedtrack record. Various other parameters like income source of customer, risk profile of asset,geographical variations, government policies, method of sourcing, bureau records, pasttransactions with the borrower are also considered while determining the rate of interestHDB Interest Policy Version 1.3 May 2020