Transcript
CURRICULUAM & SYLLABI
BA9258 MERCHANT BANKING AND FINANCIAL SERVICES
UNIT – I MERCHANT BANKING 5Introduction – An Over view of Indian Financial System – Merchant Banking in India – Recent Developments and Challenges ahead – Institutional Structure – Functions of Merchant Bank - Legal and Regulatory Framework – Relevant Provisions of Companies Act- SERA- SEBI guidelines- FEMA, etc. - Relation with Stock Exchanges and OTCEI.
UNIT – II ISSUE MANAGEMENT 12
Role of Merchant Banker in Appraisal of Projects, Designing Capital Structure and Instruments – Issue Pricing – Book Building – Preparation of Prospectus Selection of Bankers, Advertising Consultants, etc. - Role of Registrars –Bankers to the Issue, Underwriters, and Brokers. – Offer for Sale – Green Shoe Option – E-IPO, Private Placement – Bought out Deals – Placement with FIs, MFs, FIIs, etc. Off - Shore Issues. – Issue Marketing – Advertising Strategies – NRI Marketing – Post Issue Activities.
UNIT – III OTHER FEE BASED SERVICES 10
Mergers and Acquisitions – Portfolio Management Services – Credit Syndication – Credit Rating – Mutual Funds - Business Valuation.
UNIT – IV FUND BASED FINANCIAL SERVICES 10Leasing and Hire Purchasing – Basics of Leasing and Hire purchasing – Financial Evaluation.
UNIT – V OTHER FUND BASED FINANCIAL SERVICES 8Consumer Credit – Credit Cards – Real Estate Financing – Bills Discounting – Factoring and Forfeiting – Venture Capital.
TEXT BOOKS
1. M.Y.Khan, Financial Services, Tata McGraw-Hill, 11th Edition, 2008
2. Nalini Prava Tripathy, Financial Services, PHI Learning, 2008.
REFERENCES:
1. Machiraju, Indian Financial System, Vikas Publishing House, 2nd Edition, 2002.
2. J.C.Verma, A Manual of Merchant Banking, Bharath Publishing House, New
UNIT – I MERCHANT BANKING
Introduction – An Over view of Indian Financial System – Merchant Banking in India – Recent Developments and Challenges ahead – Institutional Structure – Functions of Merchant Bank - Legal and Regulatory Framework – Relevant Provisions of Companies Act- SERA- SEBI guidelines- FEMA, etc. - Relation with Stock Exchanges and OTCEI.
INTRODUCTION –INDIAN FINANCIAL SYSTEMS
The financial system is concerned about money, credit and finance. Money is
used as a medium of exchange and standard of value. Credit is a sum of
money and it should return with interest. Finance is the basic foundation to
all kinds of economic activities. Finance is the money at the time it is
wanted. It comprises debt and ownership funds of the state, company or
person. Therefore, money, credit, finance are the lifeblood of economic
development.
The financial system of a country refers to a set of closely linked
complex network of institutions, agents, practices, markets, transactions,
claims and liabilities in the economy. Finance is the study of the nature,
creation, behavior, regulation and administration of money. Financial system
includes all those activities dealing in finance, organized in to a system. The
financial system consists of financial institutions, markets, financial
instruments and the services provided by the financial institutions.
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FINANCIAL INTERMEDIARIES
FINANCIAL MARKETS
BORROWERS
(Investable funds)SAVER
CHARACTERISTIC FEATURES OF INDIAN FINANCIAL SYSTEM
The characteristic features of Indian Financial systems are:
Financial system provides an ideal linkage between depositors and
investors encouraging both savings and investments
It facilitates expansion of financial markets over space and time.
It promotes efficient allocation of financial resources for socially
desirable and economically productive purpose.
It influences both quality and pace of economic development.
AN OVERVIEW OF INDIAN FINANCIAL SYSTEM
The evaluation of Indian financial system has been briefly reviewed over 70
years. The Indian financial system can be studied through three phases.
First phase (prior 1950)
Second phase (organization 1951-1990)
Third phase (policies and reforms 1991 to …..)
First Phase (prior 1950)
Currency and money
Banking systems
Small savings
Insurance funds
Stock markets
Fixed deposits
Govt. securities
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Second phase (organization 1951-1990)
Financial development
Equity culture
Secondary markets
Third phase (policies &Reforms 1991 to…..)
Financial reforms –policy, capital, Banking, Global financial system.
Monetary policy
Financial sector reforms – monetary measures, credit delivery mechanism, money
market, govt. securities, NBFCs.
COMPONENTS OF INDIAN FINANCIAL SYSTEM
The financial structure refers to shape, constituents and their order in the
financial system. The financial system deals about (a) various financial
institutions, (b) with their financial services, (c) financial markets which
enable individual, business and government concerns to raise finance; and
(d) various instruments issued in the financial markets for the purpose of
raising financial resources. Thus, financial system consists of:
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FINANCIAL SYSTEMS
Financial Institutions
Financial Markets
Financial Instruments
Financial services
CONCEPTS OF INDIAN FINANCIAL SYSTEM
An understanding of the financial system requires an understanding of the
following important concepts.
i. Financial assets
ii. Financial intermediaries
iii. Financial markets
iv. Financial rates of return
v. Financial instruments
vi. Financial guarantee market
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FINANCIAL INTERMEDIAR
Y
FINANCIAL MARKETS
Financial Rate of Return
FINANCIAL INSTRUMENT
S
FINANCIAL ASSETS
FINANCIAL GUARANTEE
MARKET
1. FINANCIAL ASSETS:
In any financial transaction, there should be creation or transfer of financial
asset. Hence, the basic product of any financial system is the financial asset.
A financial asset is one which is used for production or consumption or
further creation of assets. For instance, A buys equity shares and these
shares are financial assets since they earn income in future.
In this context, one must know the distinction between financial assets and
physical assets. Unlike financial assets, physical assets are not useful for
further production of goods for earning income. For example X purchases
land and buildings or gold and silver. These are physical assets since they
cannot be used for further production. Many physical assets are useful for
consumption only. It is interesting to note that the objective of investment
decides the nature of the asset. For instance, if a building is bought for
residence purposes, it becomes a physical asset. If the same is bought for
hiring it becomes a financial asset.
Classification of Financial Assets
Financial assets can be classified differently under different circumstances.
One such classification is:
Marketable assets
Non- marketable assets
Other assets.
1. Marketable Assets:
Marketable assets are those which can be easily transferred from one
person to another without much hindrance. For examples: Shares of
Listed companies, Government securities, Bonds of public sector
Undertakings etc.
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2. Non – Marketable Assets:
On the other hand, if the assets cannot be transferred easily, they come
under this category. Examples: Bank Deposits, Provident Funds, Pension
Funds, National saving certificates, Insurance policies etc.
3. Other Assets:
a. Cash Assets:
In India, all coins and currency notes are issued by the R.B.I. and the
Ministry of Finance, Government of India. Besides, commercial banks can
also create money by means of creating credit. When loans are
sanctioned, liquid cash is not granted. Instead an account is opened in the
borrower’s name and deposit is created. It also kind of money asset.
b. Debt Asset:
Debt asset is issued by a variety of organizations for the purpose of
raising their debt capital. Debt capital entails a fixed repayment schedule
with regard to interest and principal. There are different ways of raising
debt capital. Example: issue of debentures, raising of term loans, working
capital advance, etc.
c. Stock Asset:
Stock is issued by business organizations for the purpose of raising their
fixed capital. There are two types of stock namely equity and
preference. Equity share holders are the real owners of the business
and they enjoy the fruits of ownership and the same time they bear the
risks as well. Preference share holders, on the other hand get a fixed
rate of dividend (as in the case of debt asset) and at the same time they
retain some characteristics of equity.
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2. FINANCIAL INTERMEDIARIES
The term financial intermediary includes all kinds of organizations which
intermediate and facilitate financial transactions of both individuals and
corporate customers. Thus, it refers to all kinds of financial institutions
and investing institutions which facilitate financial transactions in financial
markets. They may be in the organized sector or in the unorganized
sector.
Classification of Financial Intermediaries
Financial intermediaries can be classified differently under different
circumstances. One such classification is:
Capital Market intermediaries
Money Market intermediaries
1. Capital Market Intermediaries:
These intermediaries mainly provide long term funds to individuals and
corporate customers. They consist of term lending institutions like financial
corporations and investing institutions like LIC.
2. Money Market Intermediaries:
Money market intermediaries supply only short term funds to individuals and
corporate customers. They consist of commercial banks, co-operative banks,
etc.
3. FINANCIAL MARKETS
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Generally speaking, there is no specific place or location to indicate a
financial market. Wherever a financial transaction take place, it is deemed to
have take place in the financial market. Hence the financial markets are
pervasive throughout the economic system. For instance, issue of equity
shares, granting of loan by term lending institutions, deposit of money into a
bank, purchase of debentures, sale of shares and so on.
However, financial markets can be referred to as those centers and
arrangements which facilitate buying and selling of financial assets, claims
and services. Sometimes, we do find the existence of a specific place or
location for a financial market as in the case of stock exchange.
Classification of Financial Markets
The classification of financial markets in India. One such classification is:
Unorganized Markets
Organized Markets.
1. Unorganized Markets:
In these markets there are a number of money lenders, indigenous bankers,
and traders etc., who lend money to the public. Indigenous bankers also
collect deposits from the public. There are also private finance companies,
chit funds, etc., whose activities are not controlled by the RBI. Recently RBI
has taken steps to bring private finance companies and chit funds under its
strict control by issuing non- banking financial companies (Reserve Bank)
Directions, 1998. The RBI has already taken some steps to bring the
unorganized sector under the organized fold. They have not been successful.
The regulations concerning their financial dealings are still inadequate and
their financial instruments have not been standardized.
2. Organized Markets:
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In the organized markets, there are standardized rules and regulations
governing their financial dealings. There is also a high degree of
institutionalization and instrumentalization. These markets are subject to
strict supervision and control by the RBI or other regulatory bodies.
These organized markets can be further classified into two. They are:
Capital market
Money market
1. Capital Market:
The capital market is a market for the financial assets which have a long
or indefinite maturity. Generally, it deals with long term securities which
have a maturity period of above one year. Capital market may be further
divided into three namely:
Industrial securities market
Government securities market and
Long term loans market
1. Industrial Securities Market
As the very name implies, it is a market for industrial securities namely: (i)
Equity shares or ordinary shares, (ii) preference shares, and (iii) Debentures
or bonds. It is a market where industrial concerns raise their capital or debt
by issuing appropriate instruments. It can be further subdivided in to two.
They are:
i. Primary market or New issue market
ii. Secondary market or Stock exchange.
Primary Market or New Issue market:
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Primary market is a market for new issues or new financial claims. Hence, it
is also called New Issue market. The primary market deals with those
securities which are issued to the public for the first time. In the primary
market, borrowers exchange new financial securities for long term funds.
Thus, primary market facilitates capital formation.
There are three ways by which a company may raise capital in a primary
market. They are:
Public issue
Rights issue
Private placement
The most common method of raising capital by new companies is through
sale of securities to the public. It is called public issue. When an existing
company wants to raise additional capital, securities are first offered to the
existing shareholders on a pre- emptive basis. It is called rights issue.
Private placement is a way of selling securities privately to a small group
of investors.
Secondary Market or Stock Exchange
Secondary market is a market for secondary sale of securities. In other
words, securities which have already passed through the new issue market
are traded in this market. Generally, such securities are quoted in buying
and selling securities. This market consists of all stock exchanges in India are
regulated under the securities contracts (Regulations) Act, 1956. The BSE is
the principal stock exchange in India which sets the tone of the other stock
markets.
2. Government Securities Market
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It is otherwise called Gilt – Edged securities market. It is a market where
Government securities are traded. In India there are many kinds of
Government securities – short -term and long- term. Long- term securities
are traded in this market while Short – term securities are traded in the
money market. Securities issued by the central Government, State
Governments, Semi Government authorities like City Corporations, Port
Trusts etc. Improvement Trusts, State Electricity Boards, All India and State
level financial institutions and public sector enterprises are dealt in this
market.
The Government securities are in many forms. These are generally:
Stock certificates or inscribed stock
Promissory Notes
Bearer Bonds which can be discounted.
Government securities are sold through the Public Debt office of the RBI
while Treasury Bills (Short term securities) are sold through auctions.
Government securities offer a good source of raising finance for the
Government exchequer and the interest on these securities influences the
prices and yields in this market. Hence this market also plays a vital role in
monetary management.
3. Long – Term Loans Market
Development banks and commercial banks play a significant role in this
market by supplying long term loans to corporate customers. Long –term
loans market may further be classified into:
Term loans market
Mortgages market
Financial guarantees market.
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Term Loans Market
In India, many industrial financing institutions have been created by the
government both at the national and regional levels to supply long – term
and medium term loans to corporate customers directly as well as
indirectly. These development banks dominate the industrial finance in
India. Institutions like IDBI, IFCI, ICICI, and other state financial
corporations come under this category. These institutions meet the
growing and varied long- term financial requirements of industries by
supplying long – term loans. They also help in identifying investment
opportunities, encourage new entrepreneurs and support modernization
efforts.
Mortgages Market
The mortgages market refers to those centers which supply mortgage
loan mainly to individual customers. A mortgage loan is a loan against the
security of immovable property like real estate. The transfer of interest in
specific immovable property to secure a loan is called mortgage. This
mortgage may be equitable mortgage or legal one. Again it may be a first
charge or second charge. Equitable mortgage is created by mere deposit
of title deeds to properties as securities where as in the case of a legal
mortgage the title in the property is legally transferred to the lender by
the borrower. Legal mortgage is less risky.
4. FINANCIAL RATES OF RETURN
Most house holds in India, still prefer to invest on physical assets like land,
buildings, gold and silver etc. But, studies have shown that investment in
financial assets like equities in capital market fetches more return than
investments on gold. It is imperative that one should have some basic
knowledge about the rate of return on financial assets also.
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The return on Government securities and Bonds are comparatively less
than on corporate securities due to the lower risk involved therein. The
Government and RBI determine the interest rates on Government
securities. Thus, the interest rates are administered and controlled. The
peculiar feature of the interest rate structure is that the interest rates do
not reflect the free market forces. They do not reflect the scarcity value of
capital in the country also. Most of these rates are fixed on adhoc basis
depending upon the credit and monetary policy of the Government.
Generally, the interest rate policy of the government is designed to
achieve the following:
To enable the government to borrow comparatively cheaply
To ensure stability in the macro – economic system
To support certain sectors through preferential lending rates
To mobilize substantial savings in the economy.
The interest rate structure for bank deposits and bank credit is also
influenced by the RBI. Normally, interest is a reward for risk undertaken
through investment and at the same time it is a return for abstaining from
between alternative uses. Unfortunately, in India the administered interest.
Unfortunately, in India the administered interest rate policy of the
Government fails to perform the role of allocating scarce resources between
alternatives uses.
Recent Trends
With a view to bringing the interest rates nearer to the free market rates, the
government has taken the following steps:
T he interest rates on company deposits are freed.
The interest rates on 364 days treasury bills are determined by auctions and
they are expected to reflect the free market rates.
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The coupon rates on government loans have been revised upwards so as to
be market oriented.
The interest rates on debentures are allowed to be fixed by companies
depending upon the market rates.
The maximum rates of interest payable on bank deposits (fixed) are freed for
deposits of above one year.
Thus, all attempts are being taken to adopt a realistic interest rate policy so
as to give positive return in real terms adjusted for inflation. The proper
functioning of any financial system requires a good interest rate structure.
5. FINANCIAL INSTRUMENTS
Financial instruments refer to those documents which represent financial
claims on assets. As discussed earlier, financial asset refers to a claim to the
repayment of a certain sum of money at the end of a specified period
together with interest or dividend. Examples: bill of exchange, promissory
note, Treasury bill, government bond. Deposit receipt, share, debenture, etc.
the innovative instruments introduced in India have been discussed later in
the chapter “financial services”.
Financial instruments can also be called financial securities. Financial
securities can be classified into:
Primary or direct securities.
Secondary or indirect securities.
Primary securities
These are securities directly issued by the ultimate investors to the ultimate
savers .e.g., shares and debentures issued directly to the public.
Secondary securities
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These are securities issued by some intermediaries called financial
intermediaries to the ultimate savers. e.g. unit trust of India and mutual
funds issue securities in the form of units to the public and the money pooled
is invested in companies.
Again these securities may be classified on the basis of duration as follows:
Short term securities
Medium term securities
Long term securities
Short term securities are those which mature within a period of one year.
E.g. bill of exchange, Treasury bill, etc. Medium term securities are those
which have a maturity period ranging between one and five years. E.g.
Debentures, maturing with in a period of five years. Long term securities
are those which have a maturity period of more than five years. E.g.
Government Bonds maturing after 10 years.
CHARACTERISTIC FEATURES OF FINANCIAL INSTRUMENTS
Generally speaking, financial instruments possess the following characteristic
features:
Most of the instruments can be easily transferred from one hand to
another without many cumbersome formalities.
They have a ready market, i.e., they can be bought and sold frequently
and thus, trading in these securities is made possible.
They possess liquidity, i.e., some instruments can be converted in to
cash readily. For instance, a bill of exchange can be converted into
cash readily by means of discounting and re-discounting.
Most of the securities possess security value, i.e., they can be given as
security for the purpose of raising loans.
Some securities enjoy tax status, i.e., investments in these securities
are exempted from Income Tax, Wealth Tax, etc., subject to certain
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limits. E.g. public sector Tax Free Bonds, Magnum Tax saving
certificates.
They carry risk in the sense that there is uncertainty with regard to
payment of principal or interest or dividend as the case may be.
These instruments facilitate futures trading so as to cover risks due to
price fluctuations, interest rate fluctuations, etc.
These instruments involve less handling costs since expenses involved
in buying and selling these activities are generally much less.
The return on these instruments is directly in proportion to the risk
under taken.
These instruments may be short term or medium term or long
term depending upon the maturity period of these instruments.
6. Financial Guarantees Market
A Guarantee market is a centre where finance is provided against the
guarantee of a reputed person in the financial circle. Guarantee is a
contract to discharge the liability of a third party in case of his default.
Guarantee acts as a security from the creditor’s point of view. In this case
the borrower fails to repay the loan, the liability falls on the shoulders of
the guarantor. Hence the guarantor must be known to both the borrower
and the lender and he must have the means to discharge his liability.
Though there are many types of guarantees, the common forms are: (i)
Performance Guarantee and (ii) Financial Guarantee. Performance
guarantees cover the payment of earnest money, advance payments,
non- completion of contracts etc. on the other hand financial
guarantees cover only financial contracts.
In India, the market for financial guarantee is well organized. The financial
guarantees in India relate to:
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Deferred payments for imports and exports
Medium and long- term loans raised abroad
Loans advanced by banks and other financial institutions.
These guarantees are provided mainly by commercial banks, development
banks, Governments both central and state and other specialized guarantee
institutions like ECGC(Export Credit Guarantee Corporation) and DICGC
(Deposit Insurance and Credit Guarantee Corporation). This guarantee
financial service is available to both individual and corporate customers. For
a smooth functioning of any financial system, this guarantee service is
absolutely essential.
ECGC (Export Credit Guarantee Corporation):
Export Credit Guarantee Corporation of India Ltd. (ECGC) has announced
introduction of its non-recourse maturity export factoring. The scheme has
certain unique features and does not exactly fit into the conventional mould
of maturity factoring. The changes devised are intended to give the clients
the benefits of full factoring services through a maturity factoring scheme,
thus effectively addressing the needs of exporters to avail themselves of pre-
finance (advance) on the receivables, for their working capitals
requirements.
One of the major deviations in this regard is the very important role and
special benefits envisaged for banks, under the scheme.
The services provided by ECGC under its export maturity factoring scheme
are 100 per cent credit guarantee protection against bad debts, sales
register maintenance in respect of factored transactions, and regular
monitoring of outstanding credits, facilitating due collection in the due date
of recovery, at its own cost, of all recoverable bad debts.
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Payments would be received by the exporter, in his account, through normal
banking channels. In the event of non-realization of dues on factored export
receivables, ECGC will promptly make the payment in Indian currency of an
equivalent amount, immediately upon the crystallization of dues by the bank
(exchange rate applicable, as on the date of crystallization).
The Corporation would facilitate easier availability of bank finance to its
factoring clients by rendering such advances to be an attractive proposition
to banks. The factoring agreement that would be concluded by ECGC with its
clients has an in-built provision incorporating an on-demand guarantee in
favor of the bank without any payment or compliance or other requirements
to be satisfied by the bank.
The following are the benefits for exporters under the scheme :
Option to give easier credit terms to customers – better protection
than an ILC, without the need to insist on establishing one.
More friendly delivery terms offered, like direct delivery to the
customer (as against DP/DA) without any risk.
Reduced foreign bank handling charges on documents.
Substantial cost savings and complete freedom in monitoring and
follow up (telephones, faxes, follow-up visits) of receivables, overdue
bank interest on delayed collections and recovery expenses relating to
bad debts.
Increase in export sales, thanks to more competitive terms offered to
customers.
Better security than letters of credit.
Elimination of uncertainties relating to realization of accounts
receivables resulting in better cash management to meet working
capital requirements.
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Full attention to procurement/production, marketing and sales and
growth of business, due to freedom from chasing receivables.
For banks, it would be a win-win situation all the way. Advances given
against ECGC-factored export receivables could become the most preferred
export advance portfolio for a bank, even better than the advances granted
under an ILC. There is 100 per cent credit protection, free of cost.
The other benefits for banks are:
Prompt and immediate payment by ECGC of the full amount
outstanding on the receivables to the bank, within three days of
crystallization of the dues, in the event of non-realization of factored
receivables on the due date, without any protracted processing or
scrutiny and without raising any queries.
Savings on post-shipment guarantee premium to be paid to ECGC, if
any.
No pre-disbursal risk assessment or post-disbursal monitoring required
of the bank. Full risk is on ECGC, with regard to repayment of the
amount due (in rupees).
Opportunity to build ‘zero-risk assets’, since the bank would not run
any risk on the borrower, the country or on the buyer.
Banks could earn interest on a priority sector lending, without any of
the attendant risks or hassles.
Opportunity to satisfy additional working capital needs of the customer
by sanctioning additional limits without enlarging the exposure risks.
Banks would be furnished with a certified copy of the factoring agreement
concluded between the client and ECGC. When a limit is established by ECGC
on an overseas customer in favor of an exporter-client, the Corporation
would directly communicate to the concerned bank branch all relevant
details of the limit available to the exporter on that specified overseas
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customer, and would confirm in writing its obligations to the bank in respect
of advances it may grant against such ECGC-factored export receivables.
The bank’s role lies in encouraging exporter-customers to explore the
possibility of availing of the factoring facility from ECGC. Factoring, being a
high-risk premium product, could be made available only in respect of
receivables due from select customers.
Banks may consider sanctioning of additional limits to exporters against risk-
free advances when ECGC communicates setting up of the factoring facility
and the permitting limit in respect of individual buyers.
Banks also could help ECGC to collect factoring charges on each of the
factored invoices. ECGC covers every facet of the exporter’s risks. It is the
only corporation that is committed to taking your exports higher.
EXPORT SCENARIO
Like the standard policy, this policy is based on the whole-turnover principle.
An exporter availing him of it will be able to exercise the options that are
available under the standard policy with regard to exclusion of shipments
against letters of credit and also those to associates.
Further, in respect of policyholders who are trading houses and above, the
option available under the standard policy for exclusions of specified
countries or specified commodities or any combinations of the same will
continue.
Premium
Based on the projected turnover, the amount of premium payable for the
year will be determined. The basic premium rates will be those applicable for
the standard policy. Exporters holding the standard policy will be given a
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turnover discount of 10 percent in addition to the "no-claim bonus" enjoyed
by them under their policy, subject to a minimum total discount of 20 per
cent.
For exporters not holding, the standard policy, a discount of 20 percent will
be granted in the premium.
The premium calculated on the projected turnover will be payable in four
equal quarterly installments. However, payment through monthly
installments will be considered on a case-to-case basis. The first installment
of premium is payable within 15 days from the date the premium is called
for. Subsequent installments will have to be paid within 15 days from the
beginning of the relevant period.
At the end of the policy period, after the policyholder submits the statement
for the fourth quarter, the premium payable for the actual exports effected
during the year will be worked out. In case the premium payable based on
the actual turnover is less than that paid on the basis of projections, the
excess amount paid will be carried over to the next policy period and could
be adjusted in the premium for the first month/quarter for the renewed
policy.
If the actual premium exceeds the projected premium by not more than 10
per cent, the excess is not required to be paid (Thus there is a built-in
incentive in the scheme for the exporters to increase their export turnover).
If the actual premium exceeds the projected premium by more than 10
percent, the exporter will be advised to remit the premium amount in excess
of 10 per cent. In case the exporter fails to pay the premium within 30 days
from the date it is called for, cover for any loss in respect of the policy would
be limited to the turnover in respect of which premium has been paid.
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Monthly declarations of shipments will not be required to be submitted under
the policy. Instead, a statement of shipments made during the quarter in the
prescribed format has to be furnished by the policyholder within 30 days
from the end of the quarter.
Declarations of payments remaining overdue for more than 30 days as at the
end of the month are to be made on or before 15th of the following month.
ECGC’s specific buyer-wise policy
Export Credit Guarantee Corporation of India Ltd. (ECGC) has been offering
different polices to exporters according to their requirement. One such new
innovation is the "specific buyer-wise policy". This is meant for those
exporters who want to cover exports made to selective buyers from whom
they have regular orders.
Exporters who want to cover their shipments made to a buyer or a set of
buyers can avail of this policy. Those holding the SCR policy also can take
advantage of this policy to get he cover in respect of buyers, shipments to
whom are in the excluded categories like L/C, Country, commodity, etc., as
applicable. The policy is valid for one year.
Risk covered
Commercial risks covered are insolvency of the buyer/LC opening bank (as
applicable); default by the buyer/LC opening bank to make payment within
four months from the due date; and the buyer’s failure to accept the goods,
subject to certain conditions/bank’s failure to accept the bill drawn on it
under the letter of credit opened by it.
Political risks covered are the imposition of restriction by the Government
action which may block or delay the transfer of payment made by the buyer;
war, civil war, revolution or civil disturbances in the buyer’s country; new
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import restrictions or cancellations of a valid import license; interruption or
diversion of voyage outside India resulting in payment of additional freight or
insurance charges which cannot be recovered from the buyer; and any other
cause of loss occurring outside India, not normally insured by general
insurers and beyond the control of both the exporter and the buyer.
Premium is payable on the projected turnover for each quarter in advance.
Important obligations of the exporter are the declaration of shipments made
during the quarter within 15 days after the end of the quarter and that of
payments overdue for a period of 30 days or more from the due date as at
the end of the month by the 15th of the succeeding month.
The exporter should, in consultation with ECGC, take effective steps for
recovery of the debt. All amounts recovered, net of recovery expenses, shall
be shared with ECGC in the same ratio in which the loss was shared.
Turnover policy offers extra benefits
The turnover policy of ECGC is a variation of the standard policy introduced
for the benefits of large exporters who contribute not less than Rs. 10 lakhs
per annum towards premium. The policy envisages projection of the export
turnover by the policyholder for a year and the initial determination of the
premium payable on that basis, subject to adjustment at the end of the year
based on the actual.
It provides additional discount in premium with an added incentive for
increasing the exports beyond the projected turnover and also offers a
simplified procedure for premium remittance and filing of shipment
information.
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The turnover policy can be availed of by any exporter whose anticipated
export turnover would involve payment of not less than Rs. 10 lakhs per
annum towards premium. The policy is valid for one year.
DICGC (Deposit Insurance and Credit Guarantee Corporation):
Deposit insurance, as we know it today, was introduced in India in 1962.
India was the second country in the world to introduce such a scheme - the
first being the United States in 1933. Banking crises and bank failures in the
19th as well as the early 20th Century (1913-14) had, from time to time,
underscored the need for depositor protection in India. After the setting up of
the Reserve Bank of India, the issue came to the fore in 1938 when the
Travancore National and Qulin Bank, the largest bank in the Travancore
region, failed. As a result, interim measures relating to banking legislation
and reform were instituted in the early 1940s. The banking crisis in Bengal
between 1946 and 1948, once again revived the issue of deposit insurance.
It was, however, felt that the measures be held in abeyance till the Banking
Companies Act, 1949 came into force and comprehensive arrangements
were made for the supervision and inspection of banks by the Reserve Bank.
It was in 1960 that the failure of Laxmi Bank and the subsequent failure of
the Palai Central Bank catalyzed the introduction of deposit insurance in
India. The Deposit Insurance Corporation (DIC) Bill was introduced in the
Parliament on August 21, 1961 and received the assent of the President on
December 7, 1961. The Deposit Insurance Corporation commenced
functioning on January 1, 1962.
The Deposit Insurance Scheme was initially extended to functioning
commercial banks. Deposit insurance was seen as a measure of protection to
depositors, particularly small depositors, from the risk of loss of their savings
arising from bank failures. The purpose was to avoid panic and to promote
greater stability and growth of the banking system - what in today’s argot
25
are termed financial stability concerns. In the 1960s, it was also felt that an
additional the purpose of the scheme was to increase the confidence of the
depositors in the banking system and facilitate the mobilization of deposits
to catalyst growth and development.
When the DIC commenced operations in the early 1960s, 287 banks
registered with it as insured banks. By the end of 1967, this number was
reduced to 100, largely as a result of the Reserve Bank of India’s policy of
the reconstruction and amalgamation of small and financially weak banks so
as to make the banking sector more viable. In 1968, the Deposit Insurance
Corporation Act was amended to extend deposit insurance to 'eligible co-
operative banks'. The process of extension to cooperative banks, however
took a while it was necessary for state governments to amend their
cooperative laws. The amended laws would enable the Reserve Bank to
order the Registrar of Co-operative Societies of a State to wind up a co-
operative bank or to supersede its Committee of Management and to require
the Registrar not to take any action for winding up, amalgamation or
reconstruction of a co-operative bank without prior sanction in writing from
the Reserve Bank of India. Enfolding the cooperative banks had implications
for the DIC - in 1968 there were over 1000 cooperative banks as against the
83 commercial banks that were in its fold. As a result, the DIC had to expand
its operations very considerably.
The 1960s and 1970s were a period of institution building. 1971 witnessed
the establishment of another institution, the Credit Guarantee Corporation of
India Ltd. (CGCI). While Deposit Insurance had been introduced in India out
of concerns to protect depositors, ensure financial stability, instill confidence
in the banking system and help mobilize deposits, the establishment of the
Credit Guarantee Corporation was essentially in the realm of affirmative
action to ensure that the credit needs of the hitherto neglected sectors and
26
weaker sections were met. The essential concern was to persuade banks to
make available credit to not so creditworthy clients.
In 1978, the DIC and the CGCI were merged to form the Deposit Insurance
and Credit Guarantee Corporation (DICGC). Consequently, the title of Deposit
Insurance Act, 1961 was changed to the Deposit Insurance and Credit
Guarantee Corporation Act, 1961. The merger was with a view to integrating
the functions of deposit insurance and credit guarantee prompted in no small
measure by the financial needs of the erstwhile CGCI.
After the merger, the focus of the DICGC had shifted onto credit guarantees.
This owed in part to the fact that most large banks were nationalized. With
the financial sector reforms undertaken in the 1990s, credit guarantees have
been gradually phased out and the focus of the Corporation is veering back
to its core function of Deposit Insurance with the objective of averting panics,
reducing systemic risk, and ensuring financial stability.
(1)Roles and Functions of the Deposit Insurance System:
Deposit Insurance plays a key role in maintenance of financial stability by
sustaining public confidence in the banking system in India through
protection of depositors, especially small and less informed depositors,
Against loss of deposit to a significant extent. The deposit insurance system
in India is subject to the Deposit Insurance Law (enacted in 1961). Deposit
Insurance and Credit Guarantee Corporation (DICGC), which was established
with funding from the Reserve Bank of India is the main body that operates
the deposit insurance system, in India.
(2) Insured Banks:
27
All commercial banks including the branches of foreign banks
functioning in India, Local Area Banks and Regional Rural Banks are
covered under the deposit insurance scheme.
All eligible co-operative banks as defined in Section 2(g) of the DICGC
Act are covered by the deposit Insurance Scheme. All State, Central
and Primary co-operative banks functioning in the states/Union
Territories which have amended their Co-operative Societies Act as
required under the DICGC Act, 1961, empowering Reserve Bank to
order the Registrar of Co-operative Societies of the respective
States/Union Territories to wind up a co-operative bank or to supersede
its committee of management and requiring the Registrar not to take
any action for winding up, Amalgamation or reconstruction of a co-
operative bank without prior sanction in writing from the Reserve Bank,
are treated as eligible Co-operative banks. At present all co-operative
banks, other than those in the State of Meghalaya and the Union
Territories of Chandigarh, Lakshadweep and Dadra & Nagar Haveli are
covered under the System
(3) Registration of new banks as insured banks:
In terms of Section 11 of the DICGC Act, 1961, all new commercial
banks are required to be registered with the Corporation soon after
they are granted license by the Reserve Bank under Section 22 of the
Banking Regulation Act, 1949. Following the enactment of the Regional
Rural Banks Act, 1976 all Regional Rural Banks are required to be
registered with the Corporation within 30 days from the date of their
establishment, in terms of Section 11A of the DICGC Act, 1961.
A new co-operative bank is required to be registered with the
Corporation soon after it is granted a license by the Reserve Bank.
When the owned funds of a primary co-operative credit society reaches
the level of Rs. 1 lakh, it has to apply to the Reserve Bank for a license
to carry on banking business as a primary cooperative Bank and is to
28
be registered with the Corporation within 3 months from the date of its
Application for license.
A co-operative bank which has come into existence after the
commencement of the Deposit Insurance Corporation (Amendment)
Act, 1968, as a result of the division of any other co-operative society
carrying on business as a co-operative bank, or the amalgamation of
two or more co-operative societies carrying on banking business at
the commencement of the Banking Law (application to co – operative
societies) Act, 1965 or at any time thereafter is to be registered within
three months of its making an application for license. However, a co-
operative bank will not be registered, if it has been informed by the
Reserve Bank in writing, that a license cannot be granted it. In terms of
section 14 of the DICGC Act, after the corporation registers a bank as
an insured Bank, it is required to send, within 30 days of such
registration, intimation in writing to the bank to that effect. The letter
of intimation, apart from the advice of registration and registration
number, gives details about the requirements to be complied with by
the bank, the rate of premium payable to the corporation, the manner
in which the premium is to be paid, the returns to be furnished to the
corporation, etc.
(4) Scope of Insured Deposits, etc.
DICGC insures all bank deposits, such as savings, fixed, current, recurring,
etc. except the following
Types of deposits.
Deposits of foreign Governments;
Deposits of Central/State Governments;
Inter-bank deposits;
Deposits of the State Land Development Banks with the State co-
operative banks;
29
Any amount due on account of any deposits received outside India;
Any amount which has been specifically exempted by the Corporation
with the previous approval of the Reserve Bank.
(5) Amount of Coverage (Protection)
Under the Scheme, in the event of liquidation, reconstruction or
amalgamation of an insured bank e very depositor of that bank in all
branches is entitled to repayment of his deposits held by him in the same
capacity and right in that bank up to a monetary ceiling of Rs.1,00,000/-.
(6) Deposit Protection Scheme
There are two methods of protecting deposits by DICGC when an insured
bank fails: (i) a method of transferring business to another sound bank
(merger or amalgamation) and (ii) a method where the DICGC pays
insurance proceeds to depositors (insurance pay-out method).
(7) Insurance Premium
The consideration for extension of insurance coverage to banks is payment
of an insurance premium. The premium is collected in advance at half yearly
intervals at the rate of 10 paisa per annum per hundred rupees with effect
from the year 2005-06.
The premium paid by the insured banks to the Corporation is required to be
borne by the banks themselves so that the benefit of deposit insurance
protection is made available to the depositors free of cost.
(8) Interest Charged due to Default / Delay in Payment of Premium
An insured bank is required to remit premium not later than the last day of
May (for half year ending March) and November (for half year ending
September) each year. If it does not pay on or before the stipulated date the
30
premium payable by it or any portion thereof, it is liable to pay interest at
the rate of 8%above the Bank Rate on the default amount of such premium
or on the unpaid portion thereof, as the case may be, from the beginning of
the half-year till the date of payment.
(9) Cancellation of Registration
In terms of Section 15A of the DICGC Act, the Corporation has the powers to
cancel the registration of an insured bank if it fails to pay the premium for
three consecutive half-year periods. However, the Corporation may restore
the registration of the bank, which has been de-registered for non-payment
of premium, if the concerned bank makes a request in this behalf and pays
all the amounts due by way of premium from the date of default together
with interest. Registration of an insured bank stands cancelled if the bank is
prohibited from receiving fresh deposits; or its license is cancelled or a
license is refused to it by the Reserve Bank; or it is wound up either
voluntarily or compulsorily; or it ceases to be a banking company or a co-
operative bank within the meaning of Section 36A(2) of the Banking
Regulation Act, 1949; or it has transferred all its deposit liabilities to any
other institution; or it is amalgamated with any other bank or a scheme of
compromise or arrangement or of reconstruction has been sanctioned by a
competent authority and the said scheme does not permit acceptance of
fresh deposits. In the
Case of a co-operative bank, its registration also gets cancelled if it ceases to
be an eligible cooperative bank. In the event of the cancellation of
registration of a bank, other than for default in payment of premium deposits
of the bank as on the date of cancellation remain covered by the insurance
scheme.
(10) Settlement of claims
31
In the event of the winding up or liquidation of an insured bank, every
depositor of the bank is entitled to payment of an amount equal to the
deposits held by him in the same capacity and in the same right at all
the branches of that bank put together, standing as on the date of
cancellation of registration as insured bank (i.e. the date of
cancellation of license or order for winding up or liquidation) subject to
set-off of his dues to the bank, if any [Section 16(1) and (3) of the
DICGC Act]. However, the payment to each depositor is subject to the
limit of the insurance coverage fixed from time to time.
When a scheme of compromise or arrangement or re-construction or
amalgamation is sanctioned for a bank by a competent authority, and
the scheme does not entitle the depositors to get credit for the full
amount of the deposits on the date on which the scheme comes into
force, the Corporation pays the difference between the full amount of
deposit or the limit of insurance cover in force at the time, whichever is
less, and the amount actually received by the depositor under the
scheme. In these cases also the amount payable to a depositor is
determined in respect of all his deposits held in the same capacity and
in the same right at all the branches of that bank put together subject
to the set-off of his dues to the bank, if any, [Section 16(2) and (3) of
the DICGC Act].
Under the provisions of Section 17(1) of the DICGC Act, the liquidator
of an insured bank which has been wound up or taken into liquidation,
has to submit to the Corporation a list showing separately the amount
of the deposit in respect of each depositor and the amount set off, in
such a manner as may be specified by the Corporation and certified to
be correct by the liquidator, within three months.
In the case of a bank in respect of which a scheme of amalgamation/
reconstruction, etc. has been sanctioned, a similar list has to be
submitted by the Chief Executive Officer of the concerned transferee
bank or insured bank as the case may be, within three months from
32
the date on which the scheme of amalgamation/reconstruction, etc.
comes into effect [Section 18(1) of the DICGC Act.
The Corporation is required to pay the amount payable under the
provisions of the Act in respect of the deposits of each depositor within
two months from the date of receipt of such lists.
The claim lists are to be prepared in accordance with the guidelines
issued by the Corporation and got certified by the chartered
Accountants appointed for the purpose.
The Corporation generally makes payment of the eligible amount to
the liquidator/Chief Executive officer of the transferee/ insured bank,
for disbursement to the depositors. However, the amounts payable to
the untraceable depositors are held back till the liquidator/ chief
executive officer is in a position to furnish all the requisite particulars.
(11) Recovery from Settled Claims
As per DICGC Act the liquidator or the insured bank or the transferee bank as
the case may be, is required to repay to the Corporation out of the amounts
realized from the assets of the failed bank and other amounts in hand after
making provision for the expenses incurred, as soon as such amounts are
sufficient to pay to each depositor one paisa or more in a Rupee.
FUNCTIONS OF INDIAN FINANCIAL SYSTEM
The functions of financial systems can be classified in to two categories.
They are:
Provision of Liquidity
Mobilization of savings.
1. Provision of Liquidity:
The major function of the financial system is the provision of money and
monetary assets for the production of goods and services. There should not
33
be any shortage of money for productive ventures. In financial language, the
money and monetary assets are referred as liquidity. The term liquidity
refers to cash or money and other assets which can be converted into cash
readily without loss of value and time. Hence, all the activities in a financial
system are related to liquidity – either provision of liquidity or trading in
liquidity. For example, in India the R.B.I. has been vested with the monopoly
power of issuing coins and currency notes. Commercial banks can also
create cash (deposit) in the form of ‘credit creation’ and other financial
institutions also deal in monetary assets. Over supply of money is also
dangerous to the economy. In India the R.B.I. is the leader of the financial
system and hence it has control the money supply and creation of credit by
banks and regulates all the financial institutions in the country in the best
interest of the nation. It has to shoulder the responsibility of developing a
sound financial system by strengthening the institutional structure and by
promoting savings and investment in the country.
2. Mobilization of Savings:
Another important activity of the financial system is to mobilize savings and
channelize them into productive activities. The financial system should offer
appropriate incentives to attract savings and make them available for more
productive ventures. Thus, the financial system facilitates the transformation
of savings into investment and
consumption. The financial intermediaries have to play in a dominant role in
this activity.
MERCHANT BANKING
Merchant Banking is a relatively new concept in the area of financial services
in India. It caters to the needs of the trade and industry by acting as
intermediary, consultant, financial and liaison agency.
34
DEFINITION:
Merchant Banker:
An organization that underwrites corporate securities and advises clients on
issue like corporate mergers, etc. involved in the ownership of commercial
ventures.
Merchant Banking:
According to the Securities Exchange Board of India (Merchant Bankers)
rules, 1992. “A merchant banker has been defined as any person who is
engaged in business of issue management either by making arrangements
regarding selling, buying, underwriting or subscribing to the securities as
underwriter, manager, consultant, advisor, or rendering corporate advisory
services in relation to such issue management.”
According to Charles P.Kindleberger, “Merchant banking is the
development of banking from commerce which frequently encountered a
prolonged intermediate stage known in England originally as merchant
banking.”
MERCHANTBANKING IN INDIA
In India prior to the enhancement of Indian companies Act 1956,
management agents acted as issue of houses for securities, evaluated
project reports, planned capital structure and to some extent provided
venture, capital for new firms. Few share broking firms also functioned
as merchant bankers.
35
Specialized Merchant Banking service was felt in India with the rapid
growth in the number and size of the issue made in the primary market
Merchant banking services started by foreign banks namely the
National Grind lays Bank in 1967; city Bank in 1970.
The Banking commission in its report in 1972 recommended the
setting up of merchant banking institutions by commercial banks and
financial Institutions.
Merchant Banking services were offered along with banking
regulation act was amended permitting commercial banks to offer a
wide range of financial services.
In 1972, Merchant Banking Division – SBI & Indian Bank
In 1973 later ICICI set up its Merchant Banking Division by BOI, BOB,
canara Bank, PNB, and UCO Bank
In 1980’s 33 Merchant Bankers belonging to 3 segments – commercial
banks, financial Institutions, and private firms.
In 1983 – 84 prominence / due to new issue boom.
The process of economic reforms and deregulation of Indian economy
in 1991.
No. of Merchant Banks increased to 115 by the end 1992-93
300 by the end of 1993-94 and 501 by the end of August 1994.
All merchant bankers registered with SEBI under four different
categories include 50 commercial banks, 6 all India financial
institutions – ICICI, IFCI, IDBI, IRBI, TFCI, ILFS, and private Merchant
bankers.
Category Activities & Responsibilities
FIRST (2.5
lakhs paid
annually for
Issue management
Preparation of prospectus
Financial structure
36
first 2 years
commence
from the date
of initial
registration.
1- lakh to
keep the
registration
in force)
Tie –up of financiers
Financial allotment and refund of the subscription
amount
Manager, consultant to an issuer or advisor
Portfolio manager
Underwriter
SECOND (1.5
lakh paid
annually for
first 2 years
commenceme
nt from the
date of initial
registration.5
0000 to keep
the
registration
in force)
Co –manager
Advisor
Consultant
Underwriter
Portfolio manager
Capacities & concerned with an issue
THIRD (1.0
lakhs paid
annually for
first 2 years
commenceme
nt from the
date of initial
registration.2
Underwriter
Advisor
consultant
37
5000 to keep
the
registration
in force)
FOURTH
(5000 paid
annually for
first 2 years
commenceme
nt from the
date of initial
registration.1
000 to keep
the
registration
in force)
Advisor
Consultant
SCOPE OF MERCHANT BANKING
The scope of Merchant Banking consists of
In channelizing the financial surplus of the general public into
productive investment avenues
To coordinate the activities of various intermediaries to the issue of
shares such as the registrars, bankers, advertising agency, printers,
underwriters, brokers, etc.
To ensure the compliance with the rules and regulations governing the
securities market.
SERVICES RENDERED BY MERCHANT BANKER
38
Merchant banks in India carry out the following services:
1. Corporate counseling
2. Project counseling
3. Pre- investment studies
4. Capital restructuring
5. Credit syndication and project finance
6. Issue management and underwriting
7. Portfolio management
8. Working capital finance
9. Acceptance credit and Bill Discounting
10. Mergers, Amalgamations and Takeovers
11. Venture capital
12. Lease Financing
13. Foreign currency finance
14. Fixed Deposit Broking
15. Mutual funds
16. Relief to sick Industries
17. Project Appraisal
FUNCTIONS OF MERCHANT BANKING
Merchant banks in India carry out the following functions:
39
Management of Debt and Equity offerings
Promotional activities
Placement and Distribution
Corporate Advisory services
Project Advisory services
Loan syndication
Providing venture capital and Mezzanine financing
Leasing finance
Bought out Deals
Non – Resident Investment
Advisory services relating to mergers and Acquisitions
Portfolio management
INSTITUTIONAL STRUCTURE – MERCHANT BANKING
In India merchant bankers a large number of reputed international merchant
bankers like Merrill Lynch, Morgan Stanley, Goldmansochs, and
Jardie.Fleming Kleinwort Benson etc. are operating in India under
authorization of SEBI. As a result of proliferation Indian Merchant banker
faced with severe competition not only among themselves but also with the
well developed global players.
A chart represents the Merchant Bankers registered with SEBI
classified according to the category.
40
MERCHANT BANKERS
LEGAL & REGULATORY FRAMEWORK – RELEVANT
PROVISIONS: COMPANIES ACT, SCRA, SEBIGUIDELINES,
FEMA
41
PUBLIC SECTOR PRIVATE SECTOR INTERNATIONAL BANKS
10
CO.BANKS
24
FIs
6
SIs
4BANKS
10
FINANCE &
INVESTMENT
231
LEASING
INSTITUTIONAL STRUCTURE OF MERCHANT BANKERS
(A)COMPANIES ACT 1956
The company law deals with the issue formalities of securities. The shares
in India are issued by public limited companies. The public is generally
interested in buying shares. The shares which are offered by the
companies will be purchased by the investors in public issue. The issuing
company shall have to fulfill some formalities before coming to public. The
following factors will reveal about the issue of shares process before
approaching for raising finance.
Issue of shares – MOA, AOA, Prospectus
Buy back the shares (Repurchase of shares)
Issue of share certificates
Prospectus – part –I, II, III.
(B) SECURITIES CONTRACT REGULATION ACT 1956
The securities contract act regulation provides the broad framework of the
functioning of Stock exchange in India. The first legislative measures were
enacted in 1925. This act known as The Bombay Securities Contract Act,
1925. The acts were regulated and control certain contracts for sale and
purchase of securities in the Bombay city. The Govt. had appointed an expert
committee in 1951. Under the chairmanship of A.D. Gorawala committee had
prepared a draft bill on the stock exchange regulation in India. Another
committee was appointed in 1954 under the chairmanship of Gorawala. The
recommendations of the committee were culminated in the enactment of
Securities Contract Regulation Act 1956. It provides the broad
framework of the present scheme of the stock exchange regulation in India.
Stock exchange means, it is a place where the securities are purchased and
sold by the investors in a specified time. It regulates the business of buying,
selling or dealing in securities.
42
The objective of the SCRA is to present malpractice in securities transactions
by regulating the business. The act specifies the following instruments as
“securities”
Shares, scrip, stocks bonds, debentures stock or other marketable
securities like a nature in or of any incorporated company or other
body corporate
Government securities
Rights or interests in securities
Derivatives, units or any other instrument issued by collective
investment scheme
Any other instruments such as specified by the SEBI
The SCRA framed the general framework of control regarding the market. It
provides the government with a flexible apparatus for the regulation of stock
market in India. The Securities Contract Regulation Act can be divided into
the following aspects
Recognized stock exchanges
Contracts and options in securities
Listing of securities
Penalties
Misc.or other matters
(C) SECURITES AND EXCHANGE BOARD OF INDIA
GUIDELINES, 1992
The securities and exchange board of India was established in April 1988. It
has been functioning under the overall administrative control of the
government of India. It works under the guidance of Ministry of finance. It is
the agent of the central government in capital market. It is established for
the regulation and orderly functioning of the stock exchanges. It also works
for protecting the investor’s rights, prevents malpractices in security trading
43
and promotes healthy growth of the capital markets. It was granted statutory
status in 1992 under the SEBI Act. It has the full authority to control,
regulate, monitor and direct the capital markets. It is the watchdog of the
securities market. It is the most powerful organ of the central government in
the capital market.
After the repeal of the capital issue control act and abolition of CCI
(Controller of Capital Issue) the SEBI was given full powers on new issue
market and stock market. It has been issuing guidelines since. April 1992 for
all financial intermediaries in the capital market. The guidelines have been
issued with the objective of investor protection. The guidelines also include
the obligations of merchant bankers in respect of free pricing, disclosure of
all correct and true information and to incorporate the highlights and risk
factors in investment in each issue through prospectus. It has been
established for the healthy development and regulation of the capital
market.
Objectives of Merchant Banking Regulations
Authorized Activities – Issue management, Corporate advice,
Managing, Consultation and advising, Portfolio Management services
Method of Authorization
Terms of Authorization
Prospectus
Categories of Merchant Banking
Registration Fee to be a Merchant Banker
Renewal Fee
Lead Manager
Code of conduct
Obligation and Responsibilities of Merchant Banker
Responsibilities of Lead Manager
Acquisition of shares
Procedure for Inspection
44
Enquiry
Action by SEBI
(D) FOREIGN EXCHANGE MANAGEMENT ACT ,1999
The Foreign Exchange Management Act (1999) or in short FEMA has been
introduced as a replacement for earlier Foreign Exchange Regulation Act
(FERA). FEMA came into act on the 1st day of June, 2000.
An Act to consolidate and amend the law relating to foreign exchange with
the objective of facilitating external trade and payments and for promoting
the orderly development and maintenance of foreign exchange market in
India.
FEMA is applicable to the all parts of India. The act is also applicable to all
branches, offices and agencies outside India owned or controlled by a person
who is resident of India.
FEMA head-office also known as Enforcement Directorate is situated in New
Delhi and is headed by a Director. The Directorate is further divided into 5
zonal offices at Delhi, Bombay, Calcutta, Madras and Jalandhar and each
office is headed by a Deputy Directors. Each zone is further divided into 7
sub-zonal offices headed by the Assistant Directors and 5 field units headed
by the Chief Enforcement Officers
DEFINITIONS UNDER FOREIGN EXCHANGE MANAGEMENT
ACT
In this Act, unless the context otherwise requires,—
(a) "Adjudicating Authority" means an officer authorized under sub-section
(1) of section 16;
45
(b) "Appellate Tribunal" means the Appellate Tribunal for Foreign Exchange
established under section 18;
(c) "authorized person" means an authorized dealer, money changer, off-
shore banking unit or any other person for the time being authorized under
sub-section (1) of section 10 to deal in foreign exchange or foreign
securities;
(d) "Bench" means a Bench of the Appellate Tribunal;
(e) "capital account transaction" means a transaction which alters the assets
or liabilities, including contingent liabilities, outside India of persons resident
in India or assets or liabilities in India of persons resident outside India, and
includes transactions referred to in sub-section (3) of section 6;
(f) "Chairperson" means the Chairperson of the Appellate Tribunal;
(g) "Chartered accountant" shall have the meaning assigned to it in
clause (b) of sub-section (1) of section 2 of the Chartered Accountants Act,
1949 (38 of 1949);
(h) "currency" includes all currency notes, postal notes, postal orders, money
orders, cheques, drafts, travellers cheques, letters of credit, bills of exchange
and promissory notes, credit cards or such other similar instruments, as may
be notified by the Reserve Bank;
(i) "Currency notes" means and includes cash in the form of coins and bank
notes;
(j) "Current account transaction" means a transaction other than a capital
account transaction and without prejudice to the generality of the foregoing
such transaction includes:-
46
(i) Payments due in connection with foreign trade, other current business,
services, and short-term banking and credit facilities in the ordinary course
of business,
(ii) Payments due as interest on loans and as net income from investments,
(iii) Remittances for living expenses of parents, spouse and children residing
abroad, and
(iv) Expenses in connection with foreign travel, education and medical care
of parents, spouse and children;
(k) "Director of Enforcement" means the Director of Enforcement appointed
under sub-section (1) of section 36;
(l) "Export", with its grammatical variations and cognate expressions, means
—
(i) The taking out of India to a place outside India any goods,
(ii) Provision of services from India to any person outside India;
(m) "Foreign currency" means any currency other than Indian currency;
(n) "Foreign exchange" means foreign currency and includes,—
(i) Deposits, credits and balances payable in any foreign currency,
(ii) Drafts, traveller’s cheques, letters of credit or bills of exchange,
expressed or drawn in Indian currency but payable in any foreign currency,
(iii) Drafts, traveller’s cheques, letters of credit or bills of exchange drawn by
banks, institutions or persons outside India, but payable in Indian currency;
47
(o) "foreign security" means any security, in the form of shares, stocks,
bonds, debentures or any other instrument denominated or expressed in
foreign currency and includes securities expressed in foreign currency, but
where redemption or any form of return such as interest or dividends is
payable in Indian currency;
(p) "Import", with its grammatical variations and cognate expressions, means
bringing into India any goods or services;
(q) "Indian currency" means currency which is expressed or drawn in Indian
rupees but does not include special bank notes and special one rupee notes
issued under section 28A of the Reserve Bank of India Act, 1934 (2 of 1934);
(r) "Legal practitioner" shall have the meaning assigned to it in clause (i) of
sub-section (1) of section 2 of the Advocates Act, 1961 (25 of 1961);
(s) "Member" means a Member of the Appellate Tribunal and includes the
Chairperson thereof;
(t) "Notify" means to notify in the Official Gazette and the expression
"notification" shall be construed accordingly;
(u) "Person" includes—
(i) An individual,
(ii) A Hindu undivided family,
(iii) A company,
(iv) a firm,
(v) An association of persons or a body of individuals, whether incorporated
or not,
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(vi) Every artificial juridical person, not falling within any of the preceding
sub-clauses, and
(vii) Any agency, office or branch owned or controlled by such person;
(v) "Person resident in India" means—
(i) A person residing in India for more than one hundred and eighty-two days
during the course of the preceding financial year but does not include—
(A) A person who has gone out of India or who stays outside India, in either
case—
(a) For or on taking up employment outside India, or
(b) For carrying on outside India a business or vocation outside India, or
(c) For any other purpose, in such circumstances as would indicate his
intention to stay outside India for an uncertain period;
(B) A person who has come to or stays in India, in either case, otherwise than
—
(a) For or on taking up employment in India, or
(b) For carrying on in India a business or vocation in India, or
(c) For any other purpose, in such circumstances as would indicate his
intention to stay in India for an uncertain period;
(ii) Any person or body corporate registered or incorporated in India,
(iii) An office, branch or agency in India owned or controlled by a person
resident outside India,
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(iv) An office, branch or agency outside India owned or controlled by a
person resident in India;
(w) "Person resident outside India" means a person who is not resident in
India;
(x) "Prescribed" means prescribed by rules made under this Act;
(y) "Repatriate to India" means bringing into India the realized foreign
exchange and—
(i) the selling of such foreign exchange to an authorized person in India in
exchange for rupees, or
(ii) the holding of realised amount in an account with an authorized person in
India to the extent notified by the Reserve Bank, and includes use of the
realized amount for discharge of a debt or liability denominated in foreign
exchange and the expression "repatriation" shall be construed accordingly;
(z) "Reserve Bank" means the Reserve Bank of India constituted under sub-
section (1) of section 3 of the Reserve Bank of India Act, 1934 (2 of 1934);
(Za) "security" means shares, stocks, bonds and debentures, Government
securities as defined in the Public Debt Act, 1944 (18 of 1944), savings
certificates to which the Government Savings Certificates Act, 1959 (46 of
1959) applies, deposit receipts in respect of deposits of securities and units
of the Unit Trust of India established under sub-section (1) of section 3 of the
Unit Trust of India Act, 1963 (52 of 1963) or of any mutual fund and includes
certificates of title to securities, but does not include bills of exchange or
promissory notes other than Government promissory notes or any other
instruments which may be notified by the Reserve Bank as security for the
purposes of this Act;
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(Zb) "service" means service of any description which is made available to
potential users and includes the provision of facilities in connection with
banking, financing, insurance, medical assistance, legal assistance, chit fund,
real estate, transport, processing, supply of electrical or other energy,
boarding or lodging or both, entertainment, amusement or the purveying of
news or other information, but does not include the rendering of any service
free of charge or under a contract of personal service;
(Zc) "Special Director (Appeals)" means an officer appointed under section
18;
(Zd) "Specify" means to specify by regulations made under this Act and the
expression "specified" shall be construed accordingly;
(Ze) "Transfer" includes sale, purchase, exchange, mortgage, pledge, gift,
loan or any other form of transfer of right, title, possession or lien.
Regulation and Management of Foreign Exchange
Dealing in foreign exchange, etc.
Save as otherwise provided in this Act, rules or regulations made there under, or with the general or special permission of the Reserve Bank, no person shall—
(a) Deal in or transfer any foreign exchange or foreign security to any person not being an authorized person;
(b) Make any payment to or for the credit of any person resident outside India in any manner;
(c) Receive otherwise through an authorized person, any payment by order or on behalf of any person resident outside India in any manner;
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(d) Enter into any financial transaction in India as consideration for or in
association with acquisition or creation or transfer of a right to acquire, any
asset outside India by any person.
Holding of foreign exchange, etc.
Save as otherwise provided in this Act, no person resident in India shall acquire, hold, own, possess or transfer any foreign exchange, foreign security or any immovable property situated outside India.
Current account transactions.
Any person may sell or draw foreign exchange to or from an authorized person if such sale or drawl is a current account transaction:
Provided that the Central Government may, in public interest and in consultation with the Reserve Bank, impose such reasonable restrictions for current account transactions as may be prescribed.
Capital account transactions.
(1) Subject to the provisions of sub-section (2), any person may sell or draw foreign exchange to or from an authorized person for a capital account transaction.
(2) The Reserve Bank may, in consultation with the Central Government, specify—
(a) Any class or classes of capital account transactions which are permissible;
(b) The limit up to which foreign exchange shall be admissible for such transactions:
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Provided that the Reserve Bank shall not impose any restriction on the drawl of foreign exchange for payments due on account of amortization of loans or for depreciation of direct investments in the ordinary course of business.
(3) Without prejudice to the generality of the provisions of sub-section (2), the Reserve Bank may, by regulations, prohibit, restrict or regulate the following—
(a) Transfer or issue of any foreign security by a person resident in India;
(b) Transfer or issue of any security by a person resident outside India;
(c) Transfer or issue of any security or foreign security by any branch, office or agency in India of a person resident outside India;
(d) Any borrowing or lending in foreign exchange in whatever form or by whatever name called;
(e) any borrowing or lending in rupees in whatever form or by whatever name called between a person resident in India and a person resident outside India;
(f) Deposits between persons resident in India and persons resident outside India;
(g) Export, import or holding of currency or currency notes;
(h) Transfer of immovable property outside India, other than a lease not exceeding five years, by a person resident in India;
(i) acquisition or transfer of immovable property in India, other than a lease not exceeding five years, by a person resident outside India;
(j) Giving of a guarantee or surety in respect of any debt, obligation or other liability incurred—
(i) By a person resident in India and owed to a person resident outside India; or
(ii) By a person resident outside India.
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A person resident in India may hold, own, transfer or invest in foreign currency, foreign security or any immovable property situated outside India if such currency, security or property was acquired, held or owned by such person when he was resident outside India or inherited from a person who was resident outside India.
A person resident outside India may hold, own, transfer or invest in Indian currency, security or any immovable property situated in India if such currency, security or property was acquired, held or owned by such person when he was resident in India or inherited from a person who was resident in India.
Without prejudice to the provisions of this section, the Reserve Bank may, by regulation, prohibit, restrict, or regulate establishment in India of a branch, office or other place of business by a person resident outside India, for carrying on any activity relating to such branch, office or other place of business.
Export of goods and services.
Every exporter of goods shall—
(a) furnish to the Reserve Bank or to such other authority a declaration in such form and in such manner as may be specified, containing true and correct material particulars, including the amount representing the full export value or, if the full export value of the goods is not ascertainable at the time of export, the value which the exporter, having regard to the prevailing market conditions, expects to receive on the sale of the goods in a market outside India;
(b) Furnish to the Reserve Bank such other information as may be required by the Reserve Bank for the purpose of ensuring the realization of the export proceeds by such exporter.
The Reserve Bank may, for the purpose of ensuring that the full export value of the goods or such reduced value of the goods as the Reserve Bank determines, having regard to the prevailing market conditions, is received without any delay, direct any exporter to comply with such requirements as it deems fit.
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Every exporter of services shall furnish to the Reserve Bank or to such other authorities a declaration in such form and in such manner as may be specified, containing the true and correct material particulars in relation to payment for such services.
Realization and repatriation of foreign exchange.
Save as otherwise provided in this Act, where any amount of foreign exchange is due or has accrued to any person resident in India, such person shall take all reasonable steps to realize and repatriate to India such foreign exchange within such period and in such manner as may be specified by the Reserve Bank.
Exemption from realization and repatriation in certain cases.
The provisions of sections 4 and 8 shall not apply to the following, namely:—
(a) Possession of foreign currency or foreign coins by any person up to such limit as the Reserve Bank may specify;
(b) Foreign currency account held or operated by such person or class of persons and the limit up to which the Reserve Bank may specify;
(c) foreign exchange acquired or received before the 8th day of July, 1947 or any income arising or accruing thereon which is held outside India by any person in pursuance of a general or special permission granted by the Reserve Bank;
(d) foreign exchange held by a person resident in India up to such limit as the Reserve Bank may specify, if such foreign exchange was acquired by way of gift or inheritance from a person referred to in clause (c), including any income arising there from;
(e) foreign exchange acquired from employment, business, trade, vocation, services, honorarium, gifts, inheritance or any other legitimate means up to such limit as the Reserve Bank may specify; and
(f) Such other receipts in foreign exchange as the Reserve Bank may specify.
RELATION WITH STOCK EXCHANGES
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A stock exchange is an entity which provides "trading" facilities for stock
brokers and traders, to trade stocks and other securities. Stock exchanges
also provide facilities for the issue and redemption of securities as well as
other financial instruments and capital events including the payment of
income and dividends. The securities traded on a stock exchange
include shares issued by companies, unit, derivatives, pooled investment
products and bonds.
To be able to trade a security on a certain stock exchange, it has to be listed
there. Usually there is a central location at least for recordkeeping, but trade
is less and less linked to such a physical place, as modern markets
are electronic networks, which gives them advantages of speed and cost of
transactions. Trade on an exchange is by members only.
The initial offering of stocks and bonds to investors is by definition done in
the primary market and subsequent trading is done in the secondary. A stock
exchange is often the most important component of a stock market. Supply
and demand in stock markets are driven by various factors which, as in
all free markets, affect the price of stocks. There is usually no compulsion to
issue stock via the stock exchange itself, nor must stock be subsequently
traded on the exchange. Such trading is said to be off exchange or over-the-
counter. This is the usual way that derivatives and bonds are traded.
Increasingly, stock exchanges are part of a global market for securities.
ROLE OF STOCK EXCHANGES
Stock exchanges have multiple roles in the economy. This may include the following
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Raising capital for businesses
The Stock Exchange provide companies with the facility to raise capital for
expansion through selling shares to the investing public.
Mobilizing savings for investment
When people draw their savings and invest in shares, it leads to a
more rational allocation of resources because funds, which could have been
consumed, or kept in idle deposits with banks, are mobilized and redirected
to promote business activity with benefits for several economic sectors such
as agriculture, commerce and industry, resulting in stronger economic
growth and higher productivity levels of firms.
Facilitating company growth
Companies view acquisitions as an opportunity to expand product lines,
increase distribution channels, hedge against volatility, increase its market
share, or acquire other necessary business assets. A takeover bid or
a merger agreement through the stock market is one of the simplest and
most common ways for a company to grow by acquisition or fusion.
Profit sharing
Both casual and professional stock investors, through dividends and stock
price increases that may result in capital gains, will share in the wealth of
profitable businesses.
Corporate governance
By having a wide and varied scope of owners, companies generally tend to
improve on their management standards and efficiency in order to satisfy
the demands of these shareholders and the more stringent rules for public
corporations imposed by public stock exchanges and the government.
Consequently, it is alleged that public companies (companies that are owned
by shareholders who are members of the general public and trade shares on
public exchanges) tend to have better management records than privately
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held companies (those companies where shares are not publicly traded,
often owned by the company founders and/or their families and heirs, or
otherwise by a small group of investors).
Despite this claim, some well-documented cases are known where it is
alleged that there has been considerable slippage in corporate
governance on the part of some public companies. The dot-com bubble in
the late 1990's, and the subprime mortgage crisis in 2007-08, are classical
examples of corporate mismanagement. Companies
like Pets.com (2000), Enron
Corporation (2001), Nextel (2001),Sunbeam (2001), Web
van (2001), Adelphia (2002), MCI WorldCom (2002), Parma
at (2003), American International Group (2008), Bear
Stearns (2008), Lehman Brothers (2008), General Motors (2009) and Satyam
Computer Services (2009) were among the most widely scrutinized by the
media.
However, when poor financial, ethical or managerial records are known by
the stock investors, the stock and the company tend to lose value. In the
stock exchanges, shareholders of underperforming firms are often penalized
by significant share price decline, and they tend as well to dismiss
incompetent management teams.
Creating investment opportunities for small investors
As opposed to other businesses that require huge capital outlay, investing in
shares is open to both the large and small investors because a person buys
the number of shares they can afford. Therefore the Stock Exchange
provides the opportunity for small investors to own shares of the same
companies as large investors.
Government capital-raising for development projects
Governments at various levels may decide to borrow money in order to
finance infrastructure projects such as sewage and water treatment works or
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housing estates by selling another category of securities known as bonds.
These bonds can be raised through the Stock Exchange whereby members of
the public buy them, thus loaning money to the government. The issuance of
such bonds can obviate the need to directly tax the citizens in order to
finance development, although by securing such bonds with the full faith and
credit of the government instead of with collateral, the result is that the
government must tax the citizens or otherwise raise additional funds to
make any regular coupon payments and refund the principal when the bonds
mature.
Barometer of the economy
At the stock exchange, share prices rise and fall depending, largely,
on market forces. Share prices tend to rise or remain stable when companies
and the economy in general show signs of stability and growth. An economic
recession, depression, or financial crisis could eventually lead to a stock
market crash. Therefore the movement of share prices and in general of
the stock indexes can be an indicator of the general trend in the economy.
FUNCTIONS & SERVICES OF STOCK EXCHANGE
Stock exchanges play an important role in the capital formation of an
economy paving way for the industrial and economic development of the
country. It induces the public to save and invest in the corporate sector that
is profitable to them. Companies depend upon stock exchanges for raising
finance. Stock exchanges render many important services to the investors
and the corporations alike.
Following are some of the functions and services rendered by a stock
exchange:
i. Common, trading platform
ii. Mobilization of savings
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iii. Safety to investors
iv. Distribution of new securities
v. Ready market
vi. Liquidity
vii. Capital formation
viii. Speculative trading
ix. Sound price setting
x. Economic barometer
xi. Dissemination of market data
xii. Perfect market conditions
xiii. Seasoning of securities
xiv. Efficient channeling of savings
xv. Optimal resource allocation
xvi. Platform for public debt
xvii. Clearing house of business information
xviii. Evaluation of securities
xix. True market mechanism
xx. Investor education
xxi. Fair price discrimination
xxii. Industrial financing
xxiii. Company regulation
STOCK EXCHANGE TRADERS
Only the registered members are permitted to carry out trading on the floor
of a stock exchange. However, for reasons of convenience some other
persons are also permitted to enter the premises and transact business on
behalf of the members. They are:
Recognition of stock exchange
Listing of securities
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Registration of brokers
On line trading
Speculative trading
Stock indices
Margin trading
Specialists
Market –makers
Broker - dealer
OVER THE COUNTER EXCHANGE OF INDIA (OTCEI)
The first electronic OTC stock exchange in India was established in 1990 to
provide investors and companies with an additional way to trade and
issue securities. This was the first exchange in India to introduce market
makers, which are firms that hold shares in companies and facilitate the
trading of securities by buying and selling from other participants.
Over - the Counter Exchange of India (OTCEI) was incorporated in October
1990 under Section 25 of the Companies Act, 1956 with the objective of
setting up a national, ringless, screen-based, automated stock exchange. It is
recognized as a stock exchange under Section 4 of the Securities Contracts
(Regulations) Act, 1956. It was set up to provide investors with a convenient,
efficient and transparent platform for dealing in shares and stocks; and to
help enterprising promoters set up new projects or expand. their activities,
by providing them an opportunity to raise capital from the capital market in
a cost-effective manner. Trading in securities takes place through OTCEI’s
network of members and dealers spanning the length and breadth of India.
OTCEI was promoted by a consortium of financial institutions including:
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Unit Trust of India.
Industrial Credit and Investment Corporation of India.
Industrial Development Bank of India.
Industrial Finance Corporation of India.
Life Insurance Corporation of India.
General Insurance Corporation and its subsidiaries.
SBI Capital Markets Limited.
Canbank Financial Services Ltd.
Salient Features of OTCEI:
1. Ringless and Screen-based Trading: The OTCEI was the first stock
exchange to introduce automated, screen-based trading in place of
conventional trading ring found in other stock exchanges. The network
of on-line computers provides all relevant information to the market
participants on their computer screens. This allows them the luxury of
executing their deals in the comfort of their own offices.
2. Sponsorship: All the companies seeking listing on OTCE have to
approach one of the members of the OTCEI for acting as the sponsor to
the issue. The sponsor makes a thorough appraisal of the project; as
by entering into the sponsorship agreement, the sponsor is committed
to making market in that scrip (giving a buy sell quote) for a minimum
period of 18 months. sponsorship ensures quality of the companies and
enhance liquidity for the scrip’s listed on OTCEI.
3. Transparency of Transactions: The investor can view the
quotations on the computer screen at the dealer’s office before placing
the order. The OTCEI system ensures that trades are done at the best
prevailing quotation in the market. The confirmation slip/trading
document generated by the computers gives the exact price at which
the deals has been done and the brokerage charged.
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4. Liquidity through Market Making: The sponsor-member is required
to give two-way quotes (buy and sell) for the scrip for 18 months from
commencement of trading. Besides the compulsory market maker,
there is an additional market maker giving two way quotes for the
scrip. The idea is to create an environment of competition among
market makers to produce efficient pricing and narrow spreads
between buy and sell quotations.
5. Listing of Small and Medium-sized Companies: Many small and
medium-sized companies were not able to enter capital market due to
the listing requirement of Securities Contracts (Regulation) Act, 1956
regarding the minimum issued equity of Rs.10 crores in case of the
Mumbai stock Exchange and Rs.3 crores in case of other stock
exchanges. The OTCEI provides an opportunity to these companies to
enter the capital market as companies with issued capital of Rs.30
lacks onwards can raise finance from the capital market through
OTCEI.
6. Technology: OTCEI uses computers and telecommunications to bring
members/dealers together electronically, enabling them to trade with
one another over the computer rather than on a trading floor in a
single location.
7. Nation-wide Listing: OTCEI network is spread all over India through
members, dealers and representative office counters. The company
and its securities get nation-wide exposure and investors all over India
can start trading in that scrip.
8. Bought-out Deals: Through the concept of a bought-out deal, OTCEI
allows companies to place its equity with the sponsor-member at a
mutually agreed price. This ensures swifter availability of funds to
companies for timely completion of projects and a listed status at a
later date.
Benefits of getting OTCEI Listing for Companies.
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The OTCEI offers facilities to the companies having a issued equity capital of
more than Rs. 30 lakhs. The benefits of listing at the OTCEI are:
Small and medium closely-held companies can go public.
The OTCEI encourages entrepreneurship.
Companies can get the money before the issue in cases of Bought-out-
deals.
It is more cost-effective to come with an issue of OTCEI.
Small companies can get listing benefits.
Easy issue marketing by using the nation-wide OTCEI dealer network.
Nation-wide trading by listing at just one exchange.
Benefits of Trading on OTCEI for Investors:
The OTCEI trading counters are easily accessible by any investors.
The OTCEI provides greater confidence to investors because of
complete transparency in deals.
At the OTCEl, the transactions are fast and are completed quickly.
The OTCEI ensures security, liquidity by offering two-way quotes.
The OTCEI is an investor friendly exchange with Single Window
Clearance for all investor requests.
Trading on OTCEI:
Trading on OTCEI is the first of its kind in India. It is fully computerized set-up
where trading takes place through a network of computers at the
member/dealer end which in turn are connected to a central computer at
OTCEI, Mumbai.
Initial Allotment: The tradable document on OTCEI is the
Initial/Permanent Counter receipt. The investor who has been allotted a
share on OTCEI would be receiving an Initial Counter Receipt.
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Buying Process in the Secondary Market: An investor desiring to
purchase shares listed on OTCEI in the Secondary market would have
to first get himself registered at any of the counters if he has not
already registered himself. Then he can approach any of the counters
of OTCEI situated in any part of the country and specifies the scrip
name and the quantity that he desires to purchase. The investor can
specify the price range for the scrip he wishes to purchase. When the
transaction takes place, the investor is given a Permanent Counter
Receipt (PCR).
Selling Process in the Secondary Market: An investor, who has
been allotted securities or who has purchased securities in the
secondary market, can approach any of the counters situated in the
country and fill in a Order Request From specifying the scrip name and
the quantity that he desires to sell. The investor has to surrender the
PCR + Transfer Deed (TD) to the counter. In case, the PCR is a non-
transferred PCR, then the investor has only the PCR to surrender. The
counter makes payment to the investor after registrar’s validation of
the signatures on the PCR.
The OTCEI Composite Index:
The OTCEI composite index has been introduced. as a broad parameter for
investors and analysts. It acts as an indicator of the market movement. The
base date for the OTC Composite Index is 23rd July, 1993 when the index
was 100. The scrip’s included in the OTCEl composite index are only listed
equities.
Market Makers on OTCEI:
A market maker on the OTCEI is somewhat akin to a jobber on the regular
stock exchange. Their job is to provide two-way-buy and sell-quotes for a
scrip and provide liquidity. Any OTCEI counter can be a market maker. The
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idea is to create an environment of competition among market makers to
produce efficient pricing and narrow spreads between buy and sell
quotations. The market makers analyse the companies and provide
information about them to their investors thus generating investor’s interest.
The market makers are required to give quotes for a minimum depth of three
market lots. There are three types of market makers: Compulsory Market
Maker (CMM), Additional Market Maker (AMM) and Voluntary Market Maker
(VMM).
“Bought-out-deals” on the OTCEI:
Floating public issue in the primary market involves a lot of formalities and a
time lag of at least 3-4 months. In case, where a company wants to get
money earlier, it can find a member of the OTCEI, who would be interested in
acting as a Sponsor for the Company to get it listed on the OTCEI. As a
Sponsor, the member would ‘buy out’ the total equity which the company
intends to offer to the public. The member would later sell the shares of the
company to the public through an ‘offer for sale’. This method of getting
listed on OTCEI is also called a ‘Bought-out-Deals’. Sponsors can be
authorised members of the OTCEI or a Merchant Banker. They acquire shares
in the bought out arrangement and off-load it at a pre-determined price.
They provide funds to the promoters and make them free of issue
responsibilities. Thus, sponsors act as an important intermediary in
mobilization of savings.
Benefits to a Company listed on OTCEI:
Fast way to get money, as the company does not have to wait for 3-4
months like in regular public issue.
No worry about under-subscription of the issue.
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Issue cost depends on negotiations with members.
A new promoter with no track record can get a premium in the market
if the sponsor finds the project promising.
The company need not have an established name in the market to sell
the issue. The issue sales based on the market reputation of the
sponsor.
Benefits to an OTCEI Member:
Sponsor can buy the shares of the company and sell it at a later time
at a premium. For example, a sponsor has bought shares of a company
at Rs. 10, if the company does well in six months, and the market
conditions of coming out with a public issue are favorable, then the
member can sell the shares at Rs. 16 at a later stage, and thereby
making a profit of Rs. 6 per share.
At the time of the issue, the sponsor need not appoint underwriters to
the issue, and can save on underwriting costs.
The sponsor can time the issue and come in the market when the
market conditions for a primary issue are favorable.
There is no restriction on the holding period. The sponsor can hold the
shares for as long as he wants.
For good projects, the sponsor can help the company to get premium
in the market.
Chapter XIV of the SEBI Guidelines, 2000 deals with the regulation of public
issue at OTCEI.
UNIT - II ISSUE MANAGEMENT
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Role of Merchant Banker in Appraisal of Projects, Designing Capital Structure and Instruments – Issue Pricing – Book Building – Preparation of Prospectus Selection of Bankers, Advertising Consultants, etc. - Role of Registrars –Bankers to the Issue, Underwriters, and Brokers. – Offer for Sale – Green Shoe Option – E-IPO, Private Placement – Bought out Deals – Placement with FIs, MFs, FIIs, etc. Off - Shore Issues. – Issue Marketing – Advertising Strategies – NRI Marketing – Post Issue Activities.
ROLE OF MERCHANT BANKER IN APPRAISAL OF PROJECT
A project proposal for capital investment to develop facilities to provide goods and
services. JARGONS such as project evaluation, appraisal and assessment are used
interchangeably. Project evaluation is used to analyze the soundness of an investment
project. Project analysis is done to implement it. The possible net cash flows of the
investment are the bases for project analysis. Merchant bankers usually carry out the
project analysis for every proposal. The investment proposal may be for setting up a new
unit. It may be an expansion of an existing unit. It many aim at improving the existing
facilities.
Project evaluation is indispensable because resources are scare. The same resources may –
have high yielding alternative opportunities. Project evaluation helps an entrepreneur or a
firm to select the best proposal for investment. Project selection can only be rational if it is
superior to others in terms of commercial viability.
The various appraisals, initiated by the merchant banker as a part of project appraisal, are
depicted in
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1. Management Appraisal
Management appraisal is related to the technical and managerial competence, integrity,
knowledge of the project, managerial competence of the promoters etc. The promoters should
have the knowledge and ability to plan, implement and operate the entire project effectively. The
past record of the promoters is to be appraised to clarify their ability in handling the projects.
2. Technical Appraisal
Technical feasibility analysis is the systematic gathering and analysis of the data pertaining to the
technical inputs required and formation of conclusion there from. The availability of the raw
materials, power, sanitary and sewerage services, transportation facility, skilled man power,
engineering facilities, maintenance, local people etc are coming under technical analysis. This
feasibility analysis is very important since its significance lies in planning the exercises,
documentation process, risk minimization process and to get approval.
3. Financial Appraisal
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Project selection
Project analysis
Financial Appraisal
Economic Apprisal
Project apprisal
Technical Appraisal
One of the very important factors that a project team should meticulously prepare is the financial
viability of the entire project. This involves the preparation of cost estimates, means of financing,
financial institutions, financial projections, break-even point, ratio analysis etc. The cost of
project includes the land and sight development, building, plant and machinery, technical know-
how fees, pre-operative expenses, contingency expenses etc. The means of finance includes the
share capital, term loan, special capital assistance, investment subsidy, margin money loan etc.
The financial projections include the profitability estimates, cash flow and projected balance
sheet. The ratio analysis will be made on debt equity ration and current ratio.
4. Commercial Appraisal
In the commercial appraisal many factors are coming. The scope of the project in market or the
beneficiaries, customer friendly process and preferences, future demand of the supply,
effectiveness of the selling arrangement, latest information availability an all areas, government
control measures, etc. The appraisal involves the assessment of the current market scenario,
which enables the project to get adequate demand. Estimation, distribution and advertisement
scenario also to be here considered into.
5. Economic Appraisal
How far the project contributes to the development of the sector, industrial development, social
development, maximizing the growth of employment, etc. are kept in view while evaluating the
economic feasibility of the project.
6. Environmental Analysis
Environmental appraisal concerns with the impact of environment on the project. The factors
include the water, air, land, sound, geographical location etc.
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DESIGNING CAPITAL STRUCTURE AND INSTRUMENTS
The term capital structure refers to the proportionate claims of debt and equity in the total
long term capitalization of a company. Merchant banker restricts his activities to two major
long – term sources like debt and equity, when he deals with capital structure of a firm.
TAKING DECISIONS ON CAPITAL STRUCTURE
The decisions regarding the use of different types of capital funds in the overall long term
capitalization of a firm are known as capital structure decisions. Any decision concerning
the capital structure of a firm is guided by the following fundamental principles.
Cost principle
Control principle
Return principle
Flexibility principle
Timing principle
FACTORS AFFECTING CAPITAL STRUCTURE DECISIONS
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The following factors significantly influence the capital structure decisions of a firm:
Economy characteristics
Industry characteristics
Company characteristics
ISSUE PRICING
While fixing an appropriate price, the relevant guidelines for capital issues by SEBI from
time to time must be considered. Companies themselves in the consultation with the
merchant bankers, do the pricing of issues. While fixing a price for the security issue, the
following factors should be considered:
Qualitative factors
Quantitative factors
The CCI MODEL
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Economic
Business activity stock marketTaxationRegulationsCredit PolicyFinancial Institutions
Industry
Cyclical FluctuationsLevel Of competition
Lifecycle of industry
Company
size of BusinessAge of companyForm Of OrganizationStability of earningsCredit StandingManagement PhilosophyAsset Structure
Although the CCI was abolished long ago, it would be interesting to discuss the mode of
fixing the price for the issue. The fair value of the share is calculated on the basis of NAV of
the share, profit Earning capacity value and Average Market price.
Safety Net Scheme
This is the most popular method of pricing public issue used by a no. of companies
in India. The method aims at affording a measure of protection while fixing the
price. Some companies, while making public issues at premium, use this scheme.
Under this scheme merchant bankers provide a buy back facility to the individual
investor, incase the price of the share goes below the issue price after listing. This
arrangement is of great help to investors as it reduces losses. In this connection,
SEBI has laid down guidelines for the safety net scheme.
BOOK BUILDING
A method of marketing the shares of a company whereby the quantum and the price of the
securities to be issued will be decided on the basis of the bids received from the
prospective shareholders by the lead merchant bankers is known as book building method.
Under the book building method, the share prices are determined on the basis of real
demand for the shares at various price levels in the market. For discovering the price at
which issue should be made, bids are invited from prospective investors from which the
demand at various price levels is noted. The merchant bankers undertake full
responsibility for the issue. The book building process involves the following steps:
Appointment of book – runners
Drafting prospectus
Circulating draft prospectus
Maintaining offer records
Intimation about aggregate orders
Bid analysis
Mandatory underwriting
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Filling with ROC
Bank accounts
Collection of completed applications
Allotment of securities
Payment schedule and listing
Under - subscription
Preparation of Prospectus Selection of Bankers, Advertising Consultants,
etc.
Preparation of Prospectus Selection of Bankers
A document through which public are solicited to subscribe to the share capital of a
corporate entity is called ‘prospectus.’ The purpose of the prospectus, issued under the
provisions of the companies Act, 1956, is to invite the public for the subscription/ purchase
of any securities (Shares / debentures) of a company. The form and the contents of the
prospectus are prescribed by the part I of schedule II of the companies Act.
Contents
The nature of contents of prospectus (offer document) varies with the number of issue
made by the company.
PROSPECTUS FOR THE PUBLIC OFFER
In respect of offer of shares and debentures made to the general public, the content of
prospectus shall take the following forms:
REGULAR PROSPECTUS
The contents of a regular prospectus are presented in three parts as follows:
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PART I
Part I of the prospectus should contain details about the specific information about the
company. Following are the details furnished in this regard:
General Information
Capital structure
Terms of issue
Particulars of the issue
Company, Management and project
Disclosure of public issues made by the company
Disclosure of outstanding Ligation, criminal prosecution and defaults
Perception of Risk factors
PART II
The information to be included under this part of the prospectus are as follows:
General information
Financial information
Statutory and other information
PART III
The requirement of this section of the prospectus is that the report by the accountants
under Part III must be made by qualified practicing chartered accountant. The time and
place at which copies of all balance sheets and profits and loss accounts, materials
contracts and documents, etc. to be inspected should be specified under Part III.
Declaration
Every prospectus must contain a declaration by the directors that all the relevant
provisions of the companies Act, 1956 and guidelines issued by the government (SEBI)
have been complied with.
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ABRIDGED PROSPECTUS
A memorandum containing such salient features of a prospectus as may be prescribed is
called abridged prospectus. The concept of abridged prospectus was introduced by the
companies (amendment) Act of 1988 with a view to make the public issue of shares an
inexpensive proposition. Accordingly, a document has to be sent along with the application
forms showing a brief version of the salient features of the prospectus. One abridged
prospectus can carry two application forms.
An abridged prospectus must contain the following particulars:
General information
Capital structure
Terms of issue
Issue particulars
Company, Management and project
Financial performance
Refunds and Interest
Companies under the same management
Risk factors
PROSPECTUS FOR RIGHTS ISSUE
Where shares are offered to the existing shareholders, a company is not required to issue a
prospectus. Shares offered to the existing shareholders of a company are called right issues.
The offer for rights shares is made in the form of a 15 days notice specifying the number of
shares offered. Where the right is renounced by the shareholders, the board of directors
have the right to dispose off the shares renounced in such a manner as they think most
beneficial for the company.
DISCLOSURES IN PROSPECTUS
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Consequent to the acceptance of the recommendations of the Malegam committee, the
following disclosures are made mandatory by the SEBI to be made by issuing companies
with effect from November 1995. This is in addition to the requirements of Schedule II of
the companies Act.
An index
Project cost
Turnover
Assets and liabilities
Major expansion
Future projections
Directors statement
Promoter definition
Promoter group definition
Promoters shareholdings
Share prices
Agreements
Management discussion and analysis
Buy – back
Major shareholders
No responsibility statement
Qualified notes
Information about ventures promoted
Risk factors
Tax benefits
Basis for issue price
Ratios
Other disclosures
Types of prospectus
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Red – herring prospectus
Information Memorandum
Issue of securities
SHELF PROSPECTUS (SEC.60A)
Information about issue of shares contained in a file lying on a shelf is called ‘Shelf
prospectus.’ Financial institutions and banks issue this type of prospectus. A company filing
such a prospectus is also required to file an information memorandum on all material facts
relating to new charges created, changes occurring in the financial position in the period
from the first offer, previous offer, and the succeeding offer of securities within such time
as may be prescribed by the central Government prior to making of a second or subsequent
offer of securities under the shelf prospectus
Advertising Consultants
Following are the guidelines applicable to the lead merchant banker who shall ensure due
compliance by the issuer company:
Factual and truthful
Clear and concise
Promise of profits
Mode of advertising
Financial data
Risk factors
Issue date
Product advertisement
Subscription
Issue closure
Incentives
Reservation
Undertaking
Availability of copies.
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APPOINTMENT OF MERCHANT BANKER AND OTHER INTERMEDIARIES
ROLE OF REGISTRAR TO THE ISSUE
Registration with SEBI is mandatory to taken on responsibilities as a registrar and share
transfer agent. The registrar provides administrative support to the issue process. The
registrars of the issue assist in everything. He helps the lead manager in the selection of
bankers. He helps the issue and the collection centers in preparing the allotment and
application forms, collection of applications and allotment money, reconciliation of bank
accounts with application money, listing of issues and grievance handling.
BANKERS TO THE ISSUE
Any scheduled bank registered with SEBI can be appointed as the banker to the issue.
There are no restrictions on the number of bankers to the issue. The main functions of
banker involve collection of application forms with money. It maintains a daily report. The
banker transfers the proceeds to the share application money account maintained by the
controlling branch. He also forwards of the money collected with the application forms to
the registrar.
UNDERWRITERS TO THE ISSUE
Underwriting involves a commitment from underwriter to subscribe to the shares of a
particular company to the extent it is under subscribed by the public or existing
shareholders of the corporate. An underwriter should have a minimum net worth of Rs.20
lakhs. His total obligation at any time should not exceed 20 times the underwriter’s net –
worth. A commission is paid to the underwriters on the issue price for undertaking the risk
of under subscription.
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The maximum rate of underwriting commission paid is given in table:
Maximum Rate of Underwriting Commission
Nature of Issue On amounts developing on underwriters On amounts subscribed by public
Shares(Equity &
Preference) and
Debentures
2.5% 2.5%
Issue amount up
to Rs.5 lakhs
2.5% 1.5%
Issue amount
exceeding Rs. 5
lakhs
2.0% 1.0%
TYPES OF UNDERWRITERS
A brief description of types of underwriting is outlined below.
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underwriting
Institutional underwriters
IDBIICICI
SBI Capital Market
Non - Institutional underwritrs
Any NBFC
others
Firm Underwriting
SubunderwritingJoint underwritingSyndicateunderwr
iting
BENEFITS / FUNCTIONS OF UNDERWRITING MECHANISMS
The financial service of underwriting is advantageous to the issuers and the public alike.
The function and the role of underwriting firms are explained below:
Adequate funds
Expert advise
Enhanced goodwill
Assurance to investors
Better marketing
Benefits to buyers
Benefits to stock market
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Corporate Entity
Under writing agreement
Purchase of securities
Under writer
Sale of securities
Public
Stock Market
UNDERWRITING AGENCIES
The Indian capital market is dominated by several underwriting agencies such as private
firms, banks and financial Institutions, etc.
Private Agencies
Investment companies
Commercial Banks
Development Finance Institutions
OBSTACLES
Underwriters in India face several debilitating conditions that constitute obstacle to their
progress. Some of the hardships faced by them are as follows:
Chaotic capital market
Slow industrialization
Managing agency system
Bashful investors
Lack of specialized institutions
Unsuccessful corporate
SEBI GUIDELINES
SEBI has issued detailed guidelines regulating underwriting as financial service. Following
are the important guidelines:
Optional
No .of underwriters
Registration
Obligations
Sub underwriting
Underwriting commission
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BROKERS TO THE ISSUE
Any member of a recognized stock exchange can become a broker to the issue. A broker
offers marketing support, underwriting support, disseminates information to investors
about the issue and distributes issue stationery at retail investor level. Only the registered
members are permitted to carry out trading on the floor of a stock exchange. However, for
reasons of convenience some other persons are also permitted to enter the premises and
transact business on behalf of the members. They are:
Remisiers
Authorized clerk
Brokers and Jobbers
Tarawaniwalas
Dealers
REQUIREMENTS FOR BROKERS
Brokers contribute in large measure to the liquidity and the solvency of the stock market. It
is therefore, essential that their smooth functioning is ensured so as to contribute to the
growth and the development of an exchange. It is for this purpose that guidelines on the
eligibility conditions for brokers and the manner of their selection are laid down by stock
exchanges. The eligibility norms are as follows:
Written tests
Financial background
Infrastructure
Code of conduct
Information
Penalty for violation
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OFFER FOR SALE
Where the marketing of securities takes place through intermediaries, such as issue
houses, stock brokers and others, it is a case of Offer for Sale Method.
Features
Under this method, the sale of securities takes place in two stages. Accordingly, in the first
stage, the issuer company makes an en- block of securities to intermediaries such as the
issue houses and share brokers at an agreed price. under the second stage, the securities
are re- sold to ultimate investors at a market – related price. The difference between the
purchase price and the issue price constitutes profit for the intermediaries. The
intermediaries are responsible for meeting various expenses such as underwriting
commission, prospectus cost, advertisement expenses, etc.
The issue is also underwritten to ensure total subscription of the issue. The biggest
advantage of this method is that it saves the issuing company the hassles involved in
selling the shares to the public directly through prospectus. This method is however,
expensive for the investor as it involves the offer for securities by issue houses at very high
prices.
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GREEN – SHOE OPTION
A provision contained in an underwriting agreement that gives the underwriter the right to
sell investors more shares than originally planned by the issuer. This would normally be
done if the demand for a security issue proves higher than expected. Legally referred to as
an over-allotment option.
A green shoe option can provide additional price stability to a security issue because the
underwriter has the ability to increase supply and smooth out price fluctuations if demand
surges.
Green shoe options typically allow underwriters to sell up to 15% more shares than the
original number set by the issuer, if demand conditions warrant such action. However,
some issuers prefer not to include green shoe options in their underwriting agreements
under certain circumstances, such as if the issuer wants to fund a specific project with a
fixed amount of cost and does not want more capital than it originally sought.
The term is derived from the fact that the Green Shoe Company was the first to issue this
type of option.
Companies that want to venture out and start selling their shares to the public have ways to stabilize their initial share prices. One of these ways is through a legal mechanism called thegreenshoe option. A green shoe is a clause contained in the underwriting agreement of an initial (IPO) that allows underwriters to buy up to an additional 15% of company shares at the offering price. The investment banks and brokerage agencies (the underwriters) that take part in the green shoe process have the ability to exercise this option if public demand for the shares exceeds expectations and the stock trades above the offering price. (Read more about IPO ownership in IPO Lock-Ups Stop Insider Selling.)
The Origin of the Green shoe
The term "green shoe" came from the Green Shoe Manufacturing Company (now called
Stride Rite Corporation), founded in 1919. It was the first company to implement the green
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shoe clause into their underwriting agreement.
In a company prospectus, the legal term for the green shoe is "over-allotment option",
because in addition to the shares originally offered, shares are set aside for underwriters.
This type of option is the only means permitted by the Securities and Exchange
Commission (SEC) for an underwriter to legally stabilize the price of a new issue after the
offering price has been determined. The SEC introduced this option in order to enhance the
efficiency and competitiveness of the fundraising process for IPOs. (Read more about how
the SEC protects investors in Policing the Securities Market: an Overview of the SEC.)
Price Stabilization
This is how a green shoe option works:
The underwriter works as a liaison (like a dealer), finding buyers for the shares that
their client is offering.
A price for the shares is determined by the sellers (company owners and directors)
and the buyers (underwriters and clients).
When the price is determined, the shares are ready to publicly trade. The
underwriter has to ensure that these shares do not trade below the offering price.
If the underwriter finds there is a possibility of the shares trading below the offering
price, they can exercise the green shoe option.
In order to keep the price under control, the underwriter oversells or shorts up to 15%
more shares than initially offered by the company. (For more on the role of an underwriter
in securities valuation, read Brokerage Functions: Underwriting And Agency Roles.)
For example, if a company decides to publicly sell 1 million shares, the underwriters (or
"stabilizers") can exercise their green shoe option and sell 1.15 million shares. When the
shares are priced and can be publicly traded, the underwriters can buy back 15% of the
shares. This enables underwriters to stabilize fluctuating share prices by increasing or
decreasing the supply of shares according to initial public demand. (Read more in The
Basics Of The Bid-Ask Spread.)
If the market price of the shares exceeds the offering price that is originally set before
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trading, the underwriters could not buy back the shares without incurring a loss. This is
where the green shoe option is useful: it allows the underwriters to buy back the shares at
the offering price, thus protecting them from the loss.
If a public offering trades below the offering price of the company, it is referred to as a
"break issue". This can create the assumption that the stock being offered might be
unreliable, which can push investors to either sell the shares they already bought or refrain
from buying more. To stabilize share prices in this case, the underwriters exercise their
option and buy back the shares at the offering price and return the shares to the lender
(issuer).
Full, Partial and Reverse Green shoes
The number of shares the underwriter buys back determines if they will exercise a partial
green shoe or a full green shoe. A partial green shoe is when underwriters are only able to
buy back some shares before the price of the shares increases. A full green shoe occurs
when they are unable to buy back any shares before the price goes higher. At this point, the
underwriter needs to exercise the full option and buy at the offering price. The option can
be exercised any time throughout the first 30 days of IPO trading.
There is also the reverse green shoe option. This option has the same effect on the price of
the shares as the regular green shoe option, but instead of buying the shares, the
underwriter is allowed to sell shares back to the issuer. If the share price falls below the
offering price, the underwriter can buy shares in the open market and sell them back to the
issuer. (Learn about the factors affecting stock prices in Breaking Down The Fed
Model and Forces That Move Stock Prices.)
The Green shoe Option in Action
It is very common for companies to offer the green shoe option in their underwriting
agreement. For example, the Esso unit of Exxon Mobil Corporation (NYSE:XOM) sold an
additional 84.58 million shares during its initial public offering, because investors placed
orders to buy 475.5 million shares when Esso had initially offered only 161.9 million
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shares. The company took this step because the demand surpassed their share supply by
two-times the initial amount.
Another example is the Tata Steel Company, which was able to raise $150 million by selling
additional securities through the green shoe option.
Conclusion
one of the benefits of using the green shoe is its ability to reduce risk for the company
issuing the shares. It allows the underwriter to have buying power in order to cover their
short position when a stock price falls, without the risk of having to buy stock if the price
rises. In return, this helps keep the share price stable, which positively affects both the
issuers and investors.
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E- IPO
Indian Securities Markets have gone through a major upheaval after a long duration.
During the last one year, there has been a surge in the Companies raising funds from the
securities markets through Initial Public Offerings (IPO’s), which has re-kindled the
interest of the investors. Gone are the days when the IPO’s used to be fixed price. All the
IPO’s that come up for issuance has been made to go through the book -building process.
This, in fact, has opened up a tremendous business potential for the members of the Stock
Exchanges to have their customers participate more and more in the IPO’s. Without an
adequate system in place, it has become difficult for the members to manage the slew of
IPO’s. This not only requires speed in populating the data but the accuracy and precision of
the data is of paramount importance. Financial Technologies India
Limited, an industry leader in providing solutions for the Financial Services Industry, has
launched eIPO to address these needs of the exchange members. Designed on a distributed
architecture, eIPO is just not data entry software for IPO’s but Provides a host of other
functionalities, thereby making the life easier for its users.
Some of the key highlights of eIPO are:
It offers a centralized and integrated platform for primary market book building
process.
Bidding for IPO’s can be done for the clients from Dealer terminal as well as the end
clients can connect through Internet and bid for IPO.
Multiple IPO’s can be comfortably managed.
Enhanced user access and entitlements permit creation of role based access to
thevariousFunctions across multiple issues and securities.
Online generation of NSE/BSE bulk files on a single platform.
Exporting of NSE bid entries into BSE format and vice versa.
It is a user friendly windows based application, which is very interactive for the user
and easy to learn
Confirmations received from the exchanges can be uploaded to provide immediate
status update to the end-clients.
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Reports are provided which can be sorted by users; column orders can be moved /
changed by User. It can be exported to excel also.
Uploading facility for Branch Master and Clients Master.
Feature List for eIPO
EIPO Administrator facilitates user or group creation. The rights for the
users created
Can be assigned here, the rights assigned to the users defines the role of the user, the type
of data access the user is permitted to and the activities that can be carried by the user. If
the users created are administrators or super administrators they are permitted to insert,
modify or delete data. Any user created as a guest user is authorized to only view the
details. EIPOprovides a report of all the users logged in to the system along with the login
details facilitating access management through hierarchal authorization access.
EIPO Branch are the users which are created by the Administrator who can
login and place
bids for the clients mapped under that branch. The Branch can create a new branch, delete
or modify related details, add new IPO details depending upon the privileges or rights
given by the Administrator at the time of creation of Branch.
The following are the features which are available in both the Administrator and Branch
version. Depending upon the User rights the Branch user will be able to access any of the
following menus.
Master Creation
EIPO™ software facilitates the creation of new branches, modification and deletion of
Branch related details, Sub broker and Brokers details, Depository Participants details,
addition of new IPO details. EIPOalso provides a facility to capture the preference details of
the Members and helps the user update the same. Preference details like Preference Date,
Exchange, Broker, Sub- Broker, IPO, Branch, User‘s Bid Limits can be set here. Upload
facility for Branch details and Client details.
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Transaction Entry
EIPOfacilitates data entry of relevant mandatory details received from various clients of
the Branch / Broker / Suborder for both NSE and BSE for a particular IPO. Option is
Provided for Price entry i.e. Best Price, Manual Price or Cut off price on the basis of the
price mentioned in the application form submitted by the client. Every entry made into the
system is validated through set validations to avoid invalid data entry. Data modification
facility is provided in the system till the data entered resides on the local database i.e.
before submissions the respective exchange. The system facilitates the user to make entries
and store them on the local database and later submit the same on the central database.
Reports
EIPO facilitates the users to view reports for the details entered by them for their
Respective clients. The branch can view the reports for entries made by all the users. The
reports can be viewed based on various criteria such as IPO based, Branch wise, and Broker
wise, date wise, exchange wise, only exported data or not exported data.
Export NSE/BSE Entries
EIPO™ facilitates the user to export the NSE/BSE entries as per the predefined format
provide by NSE / BSE i.e. pipe (|) separated file in case of NSE and comma (,) separated file
in case of BSE. Security measures are taken care of as the data exported by a particular user
depends on the type of user he is. The super administrator can export data entered by all
the users. The system provides flexibility to export the file in any user defined location and
view the exported file. Prior to exporting the file the user can have a filtered view of the
data. Post exporting the data, the files generated by the eIPO™ software are required to be
Uploaded to the respective Exchange. Further to the successful upload of the file in the
Exchanges system the exchange returns the file with the proper status of the entries and
the bided (bid number).eIPO™ facilitates the user to export the NSE entries in BSE format
and vice versa but this activity can be done only once. If it the NSE entries are exported in
BSE format then we cannot export the same entries again in NSE format.
Import NSE/BSE Transactions
The file received from the respective exchange (NSE/BSE) with the BID ID number against
the respective client entry is required to be uploaded in the eIPO™ system to facilitate the
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user to view the BID number assigned by the respective exchange against the client entry
made in the file exported. The Import feature facilitates the user to import the file received
from the exchange for further book building process.
Import DP File
This feature facilitates the user to import the DP file in the eIPO system. The details
imported are Client Code (CLIENT DP ACCOUNT NO, DP Type and DP Name in a comma
separated format.
Note: For NSDL CLIENT Code should be of 8 char in length and for CDSL CLIENT Code
should be in 16 char in length.
Optimal Database Management
eIPO™ software provides the user the facility to delete all Master entries, transaction
entries for particular IPO, all IPO’s, selected date or all dates. Further managing the
database load helping faster access.
Other features
Calculator provided in the software, short cut keys for access to various data for entry,
modification, export BSE or NSE entries in a user friendly manner, user login time, date are
some of the other features that are provided in eIPO™. Each an every window has an
Explanation for the use of that window for easy understanding of the use of that window.
Various shortcuts are available on the main page of the module for easy and faster access.
There’s also feature of sending Transaction Slip of the bid’s placed by the clients with all
the necessary details via e-mail. We can also filter out for which clients or which exchange
we would like to send the transaction slip.
Feature List for eIPO Web Client
EIPO™ Web Client is a user-friendly front end, which provides bidding for IPO orders;
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Modifying orders and Order history can be provided to retail and institutional investors
through the Internet at very marginal costs. Some of the features are listed below:
Market Watch
Market Watch provides a view with all the IPO’s available for bidding. All the details like
IPOname, Price determination, Start date, End Date, Minimum Price, Maximum Price, and
Minimum Qty are available. The user can also place an order for IPO through the Market
Watch also
Transfer Funds
Before placing any IPO order the user needs to transfer funds of the amount he is bidding
for to the brokers account. The transferred amount will be set as a limit for the user. When
the user places an IPO order his limits will be checked. If the transferred amount exceeds
the amount he has bid for then the user can send a request to the broker to transfer the rest
amount to his account.
Order Book
The user can see the details of the last placed order for the present IPO. The user can have a
look at the previous placed IPO bids by filtering on the date, in a particular range of date.
The user can also modify the current placed IPO order by just clicking on the name of the
IPO.
Place Order
The client can place an IPO order through this window by selecting a IPO. He just has to
select the Application no. from the drop down menu and enter QTY and bid price. The
Minimum and Maximum Price as well as Minimum Qty and Multiples Qty will be displayed.
The user can also select the price module as Best Price, Market Price and Cut -Off Price.
Modify Order
The user can modify the IPO order from this window. The user will be able to modify all the
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latest placed IPO. The user can also cancel the order from this window. All necessary
validation like Minimum Qty, Minimum price will be checked while modifying an IPO order.
PRIVATE PLACEMENT
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Private placement (or non-public offering) is a funding round of securities which are sold
without an initial public offering, usually to a small number of chosen private investors.[1] In
the United States, although these placements are subject to the Securities Act of 1933, the
securities offered do not have to be registered with the Securities and Exchange
Commission if the issuance of the securities conforms to an exemption from registrations
as set forth in the Securities Act of 1933 and SEC rules promulgated there under. Most
private placements are offered under the Rules know as Regulation D. Private placements
may typically consist of stocks, shares of common stock or preferred stock or other forms
of membership interests, warrants or promissory notes (including convertible promissory
notes), and purchasers are often institutional investors such as banks, insurance
companies or pension funds.
The sale of securities to a relatively small number of select investors as a way of raising
capital. Investors involved in private placements are usually large banks, mutual funds,
insurance companies and pension funds. Private placement is the opposite of a public issue,
in which securities are made available for sale on the open market.
Since a private placement is offered to a few, select individuals, the placement does not
have to be registered with the Securities and Exchange Commission. In many cases,
detailed financial information is not disclosed and the need for a prospectus is waived.
Finally, since the placements are private rather than public, the average investor is only
made aware of the placement after it has occurred.
BOUGHT OUT DEALS
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A bought out deal is a process by which an investor (usually the investment banker) buys
out a significant portion of the equity of an unlisted company with a view to make it public
within an agreed time frame.
The advantage of the bought deal from the issuer's perspective is that they do not have to
worry about financing risk (the risk that the financing can only be done at a discount too
steep to market price.) This is in contrast to a fully-marketed offering, where the
underwriters have to "market" the offering to prospective buyers, only after which the
price is set.
The advantages of the bought deal from the underwriter's perspective include:
1. Bought deals are usually priced at a larger discount to market than fully marketed
deals, and thus may be easier to sell; and
2. The issuer/client may only be willing to do a deal if it is bought (as it eliminates
execution or market risk.)
The disadvantage of the bought deal from the underwriter's perspective is that if it cannot
sell the securities, it must hold them. This is usually the result of the market price falling
below the issue price, which means the underwriter loses money. The underwriter also
uses up its capital, which would probably otherwise be put to better use (given sell-side
investment banks are not usually in the business of buying new issues of securities).
PLACEMENT WITH FIS, MFS, FIIS
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Financial Institutions :
All Financial Institutions
Export Credit Guarantee Corporation (ECGC)
Export Import Bank (Exim Bank)
Industrial Credit and Investment Corporation of India (ICICI)
Industrial Credit and Investment Corporation of India Ventures (ICICI Ventures)
Industrial Development Bank of India (IDBI)
Industrial Finance Corporation of India (IFCI)
Industrial Investment Bank of India (IIBI)
Infrastructure Development Finance Company (IDFC)
Investment by Insurance Companies
National Bank of Agriculture and Rural Development (NABARD)
National Small Industries Corporation (NSIC)
Non-Banking Financial Company (NBFC)
North Eastern Development Finance Corporation (NEDFi)
Risk Capital and Technology Finance (RCTF)
Small Industries Development Bank of India (SIDBI)
State Industrial Development Corporations (SIDCs)
Tourism Finance Corporation of India (TFCI)
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Unit Trust of India (UTI)
MUTUAL FUNDS
A mutual fund is a professionally managed type of collective investment scheme that pools
money from many investors and invests typically in investment securities (stocks, bonds,
short-term money market instruments, other mutual funds, other securities, and/or
commodities such as precious metals).[1] The mutual fund will have a fund
manager that trades (buys and sells) the fund's investments in accordance with the fund's
investment objective. In the U.S., a fund registered with the Securities and Exchange
Commission (SEC) under both SEC and Internal Revenue Service (IRS) rules must
distribute nearly all of its net income and net realized gains from the sale of securities (if
any) to its investors at least annually. Most funds are overseen by a board of
directors or trustees (if the U.S. fund is organized as a trust as they commonly are) which is
charged with ensuring the fund is managed appropriately by its investment adviser and
other service organizations and vendors, all in the best interests of the fund's investors.
Since 1940 in the U.S., with the passage of the Investment Company Act of 1940 (the '40
Act) and the Investment Advisers Act of 1940, there have been three basic types of
registered investment companies: open-end funds (or mutual funds), unit investment
trusts (UITs); and closed-end funds. Other types of funds that have gained in popularity
are exchange traded funds (ETFs) and hedge funds, discussed below. Similar types of funds
also operate in Canada, however, in the rest of the world, mutual fund is used as a generic
term for various types of collective investment vehicles, such as unit trusts, open-ended
investment companies (OEICs), unitized insurance funds, undertakings for collective
investments in transferable securities (UCITS, pronounced "YOU-sits")
and SICAVs (pronounced "SEE-cavs").
FOREIGN INSTITUTIONAL INVESTORS
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An investor or investment fund that is from or registered in a country outside of the one in
which it is currently investing. Institutional investors include hedge funds, insurance
companies, pension funds and mutual funds.
The term is used most commonly in India to refer to outside companies investing in the
financial markets of India. International institutional investors must register with the
Securities and Exchange Board of India to participate in the market. One of the major
market regulations pertaining to FIIs involves placing limits on FII ownership in
Indian companies.
Foreign institutional investors (FIIs) poured inflows heavily to bet on the India growth
story.
As per data released by the Securities and Exchange board of India (SEBI), FIIs invested
US$ 2.1 billion in equities in April 2010, and US$ 684.18 million in debt in April 2010.
During January to April 2010, FIIs invested US$ 6.6 billion in equity and US$ 5.94 billion in
debt, of which US$ 4.4 billion in equity and US$ 2.1 billion in debt was invested in March
2010.
According to SEBI, FIIs transferred a record US$ 17.5 billion in domestic equities during the
calendar year 2009. FIIs infused a net US$ 1.1 billion in debt instruments during the said
period.
Data sourced from SEBI shows that the number of registered FIIs stood at 1711 and
number of registered sub-accounts rose to 5,382 as of April 30, 2010.
According to a report by CNI Research, companies that could be short-listed as short-term
investment targets based on interest from FIIs and as yet modest stock movement, have
expanded 33 per cent for the quarter ended March 2010. As per the report FII stake rose in
299 companies in the quarter ended March 2010, as compared to 322 companies in the
quarter ended December 2009. However, the number of companies which can be
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considered as investment picks has increased to 142 in March from 107 in December, said
the report.
Moreover, India accounted for more than one-fifth of the US$ 22.1 billion private equity
investments received by the emerging markets across the globe in 2009, according to a
report by Emerging Markets Private Equity Association (EMPEA) released in March 2010.
In 2009, emerging markets accounted for about 26 per cent of global private equity (PE)
investment. The report added that global PE investment in emerging markets totalled US$
22.1 billion across 674 deals in 2009. Asia captured 63 per cent of total emerging market
PE investments by value in 2009, with India capturing US$ 4 billion, according to the
report.
The amount of private equity (PE) and venture capital (VC) funding in India touched US$
1.9 billion in the first three months of 2010, according to a report by global consulting firm,
Deloitte. This funding came from 88 transactions, with an average deal size of US$ 22.1
million. The amount accounts for nearly 50 per cent of the entire funding in the previous
year of 2009, i.e., US$ 4.4 billion from 299 deals with average deal size of US$ 14.6 million.
Investment Scenario
Private equity firms invested about US$ 2 billion across 56 deals during the quarter ended
March 2010, according to a study by Venture Intelligence, a research service focused on
private equity and merger and acquisitions (M&A) transaction activity in India.
The amount invested during the latest quarter (January-March 2010) was the highest in
the last six quarters. The figure was significantly higher than that during the same period
last year (January-March 2009) which witnessed US$ 620 million being invested across 58
deals and also the immediate previous quarter (October-December 2009) where
investments worth US$ 1.7 billion were made across 102 deals.
The largest investment during January-March 2010 was the US$ 425 million investment
into power generation firm Asian Genco by General Atlantic, Morgan Stanley, Norwest,
Goldman Sachs and Ever stone. Other top investments reported during the first quarter of
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2010 included Quadrangle Capital Partners US$ 300 million investment into telecom tower
infrastructure company Tower Vision India; Stanch art PE, KKR and New Silk Routes US$
217 million investment into Coffee Day Resorts and TPG Growths US$ 115 million
investment into Clean Tech firm Greenko Group.
Moreover, FIIs invested a record US$ 5 billion in Indian corporate paper in the first four
months of 2010. Maximum investments have been in top-rated bond offerings at an
average tenure of 18-24 months and in commercial paper. The investment limit for FIIs in
corporate bonds has been raised to US$ 15 billion in 2009. According to data released by
SEBI, FIIs have cumulatively invested US$ 11.24 billion in Indian debt since November
1992. This includes investment in both government and corporate bonds. During 2009-10,
FIIs pumped in a record US$ 6.04 billion in corporate and government papers. This is a 12-
fold rise over their investment of US$ 480 million in 2008-09.
Numbers crunched by education-focused private equity fund Kaizen Management Advisors
show that venture capitalists and private equity players have pumped in excess of US$ 140
million so far this year, 50 per cent more than what they invested in the whole of 2009. The
total VC/PE investment into the sector is expected to be close to US$ 300 million in 2010,
according to Sandeep Aneja, managing director of Kaizen Management Advisors.
Kidswear maker and retailer Lilliput sold an undisclosed stake to private equity firm TPG
Growth for around US$ 25.9 million in April 2010. Earlier, the company had sold a 31 per
cent stake for around US$ 60.8 million to private equity player Bain capital.
Reliance Equity Advisors (India) Ltd (REAIL), the private equity arm of Reliance Capital
Ltd, invested US$ 22.6 million in Pathways World School in April 2010.
Singapore-based Temasek Holdings signed an agreement in April 2010 with GMR Energy
Ltd (GEL) to raise capital for energy expansion plans. Temasek Holdings would invest US$
200 million through its wholly-owned subsidiary Claymore Investments (Mauritius) Pte.
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Government Initiatives
The Securities and Exchange Board of India (SEBI), in January 2010, allowed equity
investors to lend and borrow shares for 12 months compared with the current limit of one
month. The new norms will also allow a lender or a borrower to close his position before
the agreed-upon expiry date.
According to a circular dated April 9, 2010, based on the assessment of the allocation and
the utilization of the limits to FIIs for investments in Government and corporate debt, the
unutilized limits will be allocated in the following manner:
No single entity (FII) shall be allocated more than US$ 45.2 million of the
government debt investment limit for allocation through bidding process. The
minimum amount which can be bid for shall be US$ 11.3 million and the minimum
tick size shall be US$ 11.3 million.
No single entity shall be allocated more than US$ 452.2 million for the corporate
debt investment limit.
In terms of SEBI circular dated January 31, 2008, the government and corporate debt limits
shall be allocated on a first come first serve basis subject to the following conditions:
An investment limit of US$ 45.2 million in Government debt shall be allocated
among the FIIs/sub-accounts on a first-come first-served basis, subject to a ceiling
of US$ 11.1 million per registered entity.
The remaining amount in corporate debt after bidding process shall be allocated
among the FIIs/sub accounts on a first-come first-served basis, subject to a ceiling of
US$ 45 million per registered entity.
No single entity (FII) shall be allocated more than US$ 45.2 million of the government debt
investment limit for allocation through bidding process. The minimum amount which can
be bid for shall be US$ 11.3 million and the minimum tick size shall be US$ 11.3 million.
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No single entity shall be allocated more than US$ 452.2 million for the corporate debt
investment limit.
In terms of SEBI circular dated January 31, 2008, the government and corporate debt limits
shall be allocated on a first come first serve basis subject to the following conditions:
An investment limit of US$ 45.2 million in Government debt shall be allocated among the
FIIs/sub-accounts on a first-come first-served basis, subject to a ceiling of US$ 11.1 million
per registered entity.
The remaining amount in corporate debt after bidding process shall be allocated among the
FIIs/sub accounts on a first-come first-served basis, subject to a ceiling of US$ 45 million
per registered entity.
The Government of India reviewed the External Commercial Borrowing (ECB) policy and
increased the cumulative debt investment limit by US$ 9 billion (from US$ 6 billion to US$
15 billion) for FII investments in corporate debt in March 2010
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OFF – SHORE ISSUES
An offshore bank is a bank located outside the country of residence of the depositor,
typically in a low tax jurisdiction (or tax haven) that provides financial and legal
advantages. These advantages typically include:
greater privacy (see also bank secrecy, a principle born with the 1934 Swiss Banking
Act)
low or no taxation (i.e. tax havens)
easy access to deposits (at least in terms of regulation)
protection against local political or financial instability
While the term originates from the Channel Islands being "offshore" from the United
Kingdom, and most offshore banks are located in island nations to this day, the term is used
figuratively to refer to such banks regardless of location, including Swiss banks and those
of other landlocked nations such as Luxembourg and Andorra.
Offshore banking has often been associated with the underground economy and organized
crime, via tax evasion and money laundering; however, legally, offshore banking does not
prevent assets from being subject to personal income tax on interest. Except for certain
persons who meet fairly complex requirements[1], the personal income tax of many
countries[2] makes no distinction between interest earned in local banks and those earned
abroad. Persons subject to US income tax, for example, are required to declare on penalty
of perjury, any offshore bank accounts—which may or may not be numbered bank
accounts—they may have. Although offshore banks may decide not to report income to
other tax authorities, and have no legal obligation to do so as they are protected by bank
secrecy, this does not make the non-declaration of the income by the tax-payer or
the evasion of the tax on that income legal. Following September 11, 2001, there have been
many calls for more regulation on international finance, in particular concerning offshore
banks, tax havens, and clearing houses such as Clearstream, based in Luxembourg, being
possible crossroads for major illegal money flows.
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Defenders of offshore banking have criticised these attempts at regulation. They claim the
process is prompted, not by security and financial concerns, but by the desire of domestic
banks and tax agencies to access the money held in offshore accounts. They cite the fact
that offshore banking offers a competitive threat to the banking and taxation systems in
developed countries, suggesting that Organisation for Economic Co-operation and
Development (OECD) countries are trying to stamp out competition.
Advantages of offshore banking
Offshore banks can sometimes provide access to politically and economically stable
jurisdictions. This will be an advantage for residents in areas where there is risk of
political turmoil,who fear their assets may be frozen, seized or disappear (see
the corralito for example, during the 2001 Argentine economic crisis). However,
developed countries with regulated banking systems offer the same advantages in
terms of stability.
Some offshore banks may operate with a lower cost base and can provide
higher interest rates than the legal rate in the home country due to lower overheads
and a lack of government intervention. Advocates of offshore banking often
characterise government regulation as a form of tax on domestic banks, reducing
interest rates on deposits.
Offshore finance is one of the few industries, along with tourism, in which
geographically remote island nations can competitively engage. It can help developing
countries source investment and create growth in their economies, and can help
redistribute world finance from the developed to the developing world.
Interest is generally paid by offshore banks without tax being deducted. This is an
advantage to individuals who do not pay tax on worldwide income, or who do not pay
tax until the tax return is agreed, or who feel that they can illegally evade tax by hiding
the interest income.
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Some offshore banks offer banking services that may not be available from domestic
banks such as anonymous bank accounts, higher or lower rate loans based on risk and
investment opportunities not available elsewhere.
Offshore banking is often linked to other structures, such as offshore
companies, trusts or foundations, which may have specific tax advantages for some
individuals.
Many advocates of offshore banking also assert that the creation of tax and banking
competition is an advantage of the industry, arguing with Charles Tiebout that tax
competition allows people to choose an appropriate balance of services and taxes.
Critics of the industry, however, claim this competition as a disadvantage, arguing that
it encourages a "race to the bottom" in which governments in developed countries are
pressured to deregulate their own banking systems in an attempt to prevent the off
shoring of capital.
Disadvantages of offshore banking
Offshore bank accounts are less financially secure. In banking crisis which swept the
world in 2008 the only savers who lost money were those who had deposited their
funds in offshore branches of Icelandic banks such as Kaupthing Singer & Friedlander.
Those who had deposited with the same banks onshore received all of their money
back. In 2009 The Isle of Man authorities were keen to point out that 90% of the
claimants were paid, although this only referred to the number of people who had
received money from their depositor compensation scheme and not the amount of
money refunded. In reality only 40% of depositor funds had been repaid 24.8% in
September 2009 and 15.2% in December 2009. Both offshore and onshore banking
centers often have depositor compensation schemes. For example The Isle of Man
compensation scheme guarantees £50,000 of net deposits per individual depositor or
£20,000 for most other categories of depositor and point out that potential depositors
should be aware that any deposits over that amount are at risk. However only offshore
centers such as the Isle of Man have refused to compensate depositors 100% of their
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funds following Bank collapses. Onshore depositors have been refunded in
full regardless of what the compensation limit of that country has stated thus banking
offshore is historically riskier than banking onshore.
Offshore banking has been associated in the past with the underground
economy and organized crime, through money laundering.[3]Following September 11,
2001, offshore banks and tax havens, along with clearing houses, have been accused of
helping various organized crime gangs, terrorist groups, and other state or non-state
actors. However, offshore banking is a legitimate financial exercise undertaken by many
expatriate and international workers.
Offshore jurisdictions are often remote, and therefore costly to visit, so physical access
and access to information can be difficult. Yet in a world with global
telecommunications this is rarely a problem for customers. Accounts can be set up
online, by phone or by mail.
Offshore private banking is usually more accessible to those on higher incomes, because
of the costs of establishing and maintaining offshore accounts. However, simple savings
accounts can be opened by anyone and maintained with scale fees equivalent to their
onshore counterparts. The tax burden in developed countries thus falls
disproportionately on middle-income groups. Historically, tax cuts have tended to
result in a higher proportion of the tax take being paid by high-income groups, as
previously sheltered income is brought back into the mainstream economy [4].
The Laffer curve demonstrates this tendency.
Offshore bank accounts are sometimes touted as the solution to every legal, financial
and asset protection strategy but this is often much more exaggerated than the reality.
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ISSUE MARKETING
Following are the various methods being adopted by corporate entities for marketing the
securities in the New Issues Market:
Pure prospectus method
Offer for sale
Private placement
Initial public offerings
Right Issue method
Bonus Issue methods
Book – building Method
Stock option method and
Bought out Deals methods
Over the counter placement
Tender method
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ADVERTISING STRATEGIES
With the increasing number of new issues flooding the market, some of them bunching
at the same time, keen competition has emerged in the new issues market. This has led
to larger fish swallowing the smaller fish and smaller companies facing rising costs,
development and under subscription. Bigger and well established companies having
reputed promoters with a track record and professional management could secure
easily oversubscription multifold. Medium and small sized projects and relatively new
and first generation promoters face stiff competition. Adequate pre- issue planning and
proper marketing strategy have become absolutely necessary. Investors have become
extremely choosy and shy of the majority of new issues.
Need for aggressive salesmanship
Innovative Ideas
SEBI’S code of Advertisement
Advertisement campaign
Collection centers and rising cost
Advertisement Expenses
SEBI code on Advertisement
Mailing Agents
Pre- issue Mailing
Mailing work after issue is closed
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NRI MARKETING
Non – resident investment of the merchant banker provide investment advisory
services in terms of identification of investment opportunities, selection of
securities, portfolio management, etc. to attract NRI investment in primary and
secondary markets. They also take care of the operational details like purchase and
sale of securities securing the necessary clearances from RBI under FEMA for
repatriation of interest and dividends, etc.
NriInvestIndia.com is a NRI, PIO and OCI focused financial broker company,
offering investment options in India at some unbelievably low charges and fees for
Investing in India.
We help NRIs - Non resident Indians, PIOs - person of India origin & OCI holders - overseas
citizenship of India to Invest in Stock Markets of India. We offer quality NRI investment
services to Non Resident Indian clients. Some of our investment services for NRIs include:
Stock Trading, Mutual Funds Investments for NRI, Online Dmat account, NRI Derivative
trading & Investment advising. We offer a gamut of NRI investment options in India that
would make NRI Investing in India easy.
Featured Services are:
Indian Mutual fund
Stock trading
Investment advise
De mat account
Tax services
PAN card assistance
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POST – ISSUE ACTIVITIES
Principles of allotment:
After the closure of the subscription list, the merchant banker should inform,
with in 3 days of the closure, whether 90% of the amount has been subscribed
or not. If it is not subscribed up to 90% then the underwriters should bring thte
shortfall amount with in 60 days. In case of over – subscription, the shares
should be allotted on a pro –rata basis and the excess amount should be
refunded with the interest to the share holders with in 30 days from the date of
closure.
Formalities associated with Listing:
The SEBI lists certain rules and regulations to be followed by the issuing
company. These rules and regulations are laid down to protect the interests of
investors. The issuing company should disclose to the public its profit and loss
account, balance sheet, information relating to bonus and right issue and any
other relevant information.
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UNIT – III OTHER FEE BASED SERVICES
Mergers and Acquisitions – Portfolio Management Services – Credit Syndication – Credit Rating – Mutual Funds - Business Valuation.
MERGER AND ACQUISTIONS
Merchant banking services that are concerned with planning and execution and
acquisition of firms as a part of the corporate restructuring exercise, are referred to
as M&A advisory services. The objective is to maximize the share holders value
through synergistic effect.
FORMS OF MERGER
Merger takes place in the following forms:
Merger through absorption
Merger through consolidation
ACQUISITION
The term acquisition is used to refer to the act of acquiring of ownership right in the
property and assets of another company and thereby bringing about the change in the
management of the acquiring company. Acquisitions could happen in any of the following
ways:
Entering into an agreement with a person or persons holding controlling interest in
the other company
Subscribing new issue of shares issued by the other company in the open market
Purchasing shares of the other company at stock exchange
Making an offer to buy the shares of the other company, to existing share holders of
that company
TAKE OVER
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Another term associated with merger is take over. In the case of a take over, one company
obtains control over the management of another company. Under both acquisition and take
over it is possible for a company to have effective control over another company even by
holding minority ownership. For instance, the Monopolies and Representative Trade
practices (MRTP) Act prescribes that a minimum of 25 percent voting power must be
acquired to constitute a takeover. Similarly, sec. 372 of the companies Act defines the limit
of a company’s investment in the share of another company anything more than 10% of the
subscribed capital so as to constitute takeover.
HOSTILE TAKE OVER
Where in a merger one firm acquires another firm without the knowledge and consent of
the management target firm, it takes the form of a hostile takeover. The acquiring firm
makes a unilateral attempt to gain a controlling interest in the target firm, by purchasing
share of the later firm directly in the open (stock) market.
HOSTILE TAKEOVER – STRATEGIC TACTIS
According to Weston, J.J.Chung, K.S. and Hoag, SE , a target company which faces the threat
of a hostile takeover, would adopt the following strategies:
Divesture
Crown jewels
Poison pill
Green mail
White- knight
Golden parachutes
Other strategies – Legal, Tactical, Offensive
PREY FOR TAKEOVERS
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Following provide ideal conditions for an acquiring firm to prey a target firm for takeover
bid:
Over all poor market performance of the target firm, especially in items of return to
the shareholders in the preceding years
Less profitability of the target firm as compared to the firms
Lower share holding of the promoter/ owner group in the target firm
HOLDING COMPANY
A parent corporation that owns enough voting stock in another corporation to control its
board of directors (and, therefore, controls its policies and management).
A holding company must own at least 80% of voting stock to get tax consolidation benefits,
such as tax-free dividends.
MERGER – TYPES
Mergers are different types as discussed below:
Horizontal merger
Vertical merger
Diagonal merger
Forward merger
Reverse merger
Forward triangular merger
Reverse triangular merger
Conglomerate merger
Congeneric merger
Negotiated merger
Arranged merger
Agreed merger
Unopposed merger
Defended merger
Competitive merger
Tender offer
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Diversification
ARGUMENTS IN FAVOUR OF M&A
Following are the arguments advanced in favour of M&A
Synergy argument
Growth
Profitability
Diversification
Tax benefit argument
Efficient cash use argument
Cash flow argument
Lower borrowing cost
Market value
Management control
National interest
Shareholder interest
FINANCIAL EVALUATION ON MERGER
Purchase price – Asset approach, Earnings Approach, Cash flow
Settlement – Cash, Stock, CD settlement mode.
STEPS IN M&A
Following are the steps involved in M&A:
Review of objectives
Data for analysis
Analysis of information
Fixing price
Finding merger value.
RATIONAL MERGERS IN INDIA
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Following are the underlying factors behind the wave of mergers and acquisitions
happening in the Indian companies world in recent times:
Diversification
Growth through acquisitions
Economies of scale
Early – mover benefit
Tax advantages
Regulatory considerations
Size
Synergy
Diversifying risk
Good price
Creating shareholder value
Better corporate governance
Better portfolio
Investors perspective
SEBI GUIDELINES
SEBI guidelines are aimed at protecting the interest of the shareholders especially from the
hazards of hostile takeovers. Most of these guidelines are applicable to the acquiring
company. The salient features of the guidelines are as follows:
Notification
Acquisition limit
Offer to public
Offer price
Disclosure
Offer document
PORTFOLIO MANAGEMENT SERVICES
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Portfolio management service (PMS) is a type of professional service offered
by portfolio managers to their client to help them in managing their money in less
time. Portfolio managers manage the stocks, bonds, and mutual funds of clients
considering their personal investment goals and risk preferences. In addition to money,
the portfolio managers manage the portfolio of stocks, bonds, and mutual funds.
Functions of PMS
The objective of portfolio management is to develop a portfolio that has a maximum return
at whatever level of risk the investor deems appropriate.
i. Risk diversification
ii. Efficient portfolio
iii. Asset allocation
iv. Beta estimation
v. Rebalancing portfolios
SERVICES AND STRATEGIES
A portfolio manager may adopt any of the following strategies as part of an efficient
portfolio management
Buy and Hold strategy
Indexing
Laddered portfolio
Barbell portfolio
Portfolio Management Payment Criteria:
There are types of payment criteria offered by portfolio managers to their client, such as:
Fixed-linked management fee.
Performance-linked management fee.
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In fixed-link management fee the client usually pays between 2-2.5% of the portfolio value
calculated on a weighted average method.
In performance-linked management fee the client pays a flat fee ranging between 0.5-
1.5percent based on the performance of portfolio managers. The profits are calculated on
the basis of 'high watermarking' concept. This means, that the fee is paid only on the basis
of positive returns on the investment.
In addition to these criteria, the manager also gets around 15-20% of the total profit
earned by the client. The portfolio managers can also claim some separate charges gained
from brokerage, custodial services, and tax payments.
Value Your Money Before Selecting Portfolio Management Services (PMS):
Equity bias: Equity portfolio offered by Portfolio management services helps in
adding high value than what a debt portfolio offers. Because of this, many portfolio
managers emphasis on equity investments and some offer hybrid products.
Large surplus to invest: The client should always choose the portfolio
managers after considering his portfolio size and the fee he would charge for
managing his portfolio. PMS are recommended to those clients who have large
surplus amount of money to invest. Otherwise, the company can also think for cheap
options like a financial planner or advisor to construct an asset allocation plan and
to manage investment.
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CREDIT SYNDICATION
It is the alternative term for syndicated loan. It is the process of involving numerous
different lenders in providing various portions of a loan. It is mainly used in extremely
large loan situations, syndication allows any one lender to provide a large loan while
maintaining a more prudent and manageable credit exposure because they aren't the only
creditor.
At the most basic level, arrangers serve the investment-banking role of raising investor
funding for an issuer in need of capital. The issuer pays the arranger a fee for this service,
and this fee increases with the complexity and risk factors of the loan. As a result, the most
profitable loans are those to leveraged borrowers—issuers whose credit
ratings are speculative grade and who are paying spreads (premiums or margins
above LIBOR in the U.S., Euribor in Europe or another base rate) sufficient to attract the
interest of non-bank term loan investors. Though, this threshold moves up and down
depending on market conditions.
In the U.S., corporate borrowers and private equity sponsors fairly even-handedly drive
debt issuance. Europe, however, has far less corporate activity and its issuance is
dominated by private equity sponsors, who, in turn, determine many of the standards and
practices of loan syndication.
Types of Syndications
Globally, there are three types of underwriting for syndications: an underwritten deal, best-
efforts syndication, and a club deal. The European leveraged syndicated loan market almost
exclusively consists of underwritten deals, whereas the U.S. market contains mostly best-
efforts.
Underwritten deal
An underwritten deal is one for which the arrangers guarantee the entire commitment, and
then syndicate the loan. If the arrangers cannot fully subscribe the loan, they are forced to
absorb the difference, which they may later try to sell to investors. This is easy, of course, if
market conditions, or the credit’s fundamentals, improve. If not, the arranger may be
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forced to sell at a discount and, potentially, even take a loss on the paper. Or the arranger
may just be left above its desired hold level of the credit.
Arrangers underwrite loans for several reasons. First, offering an underwritten loan can be
a competitive tool to win mandates. Second, underwritten loans usually require more
lucrative fees because the agent is on the hook if potential lenders balk. Of course, with
flex-language now common, underwriting a deal does not carry the same risk it once did
when the pricing was set in stone prior to syndication.
Best-efforts syndication
A best-efforts syndication is one for which the arranger group commits to underwrite less
than the entire amount of the loan, leaving the credit to the vicissitudes of the market. If the
loan is undersubscribed, the credit may not close—or may need major surgery to clear the
market. Traditionally, best-efforts syndications were used for risky borrowers or for
complex transactions. Since the late 1990s, however, the rapid acceptance of market-flex
language has made best-efforts loans the rule even for investment-grade transactions.
Club deal
A club deal is a smaller loan—usually $25–100 million, but as high as $150 million—that is
premarket to a group of relationship lenders. The arranger is generally a first among
equals, and each lender gets a full cut, or nearly a full cut, of the fees.
CREDIT SYNDICATION SERVICES
Merchant bankers provide various services towards syndication of loans. The services vary
depending on whether loans sought are long term fixed capital or of working capital funds.
Following are the credit syndication services rendered by merchant bankers with regard to
long – term loans
Ascertaining promoter details
Ascertainment of cost detail
Comparison of cost details
Identification of funding sources
Ascertainment of loan details
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Furnishing beneficiary details
Making application
Project appraisal
Compliance for loan disbursement
Documentation and creation of security
Pre- disbursement compliance.
Locating working capital needs
Identifying type of loan – Cash credit, overdraft, Demand loans, bill financing, LOG
and LOC.
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CREDIT RATING AGENCIES
A credit rating estimates the credit worthiness of an individual, corporation, or even a
country. It is an evaluation made by credit bureaus of a borrower’s overall credit history.[1] A credit rating is also known as an evaluation of a potential borrower's ability to repay
debt, prepared by a credit bureau at the request of the lender (Black's Law Dictionary).
Credit ratings are calculated from financial history and current assets and liabilities.
Typically, a credit rating tells a lender or investor the probability of the subject being able
to pay back a loan. However, in recent years, credit ratings have also been used to adjust
insurance premiums, determine employment eligibility, and establish the amount of a
utility or leasing deposit.
A poor credit rating indicates a high risk of defaulting on a loan, and thus leads to
high interest rates, or the refusal of a loan by the creditor.
Personal Credit ratings
An individual's credit score, along with his or her credit report, affects his or her ability to borrow
money through financial institutions such as banks.
The factors that may influence a person's credit rating are
ability to pay a loan
interest
amount of credit used
saving patterns
spending patterns
debt
Corporate credit ratings
The credit rating of a corporation is a financial indicator to potential investors
of debt securities such as bonds. These are assigned bycredit rating agencies such as A.M.
Best, Dun & Bradstreet, Standard & Poor's, Moody's or Fitch Ratings and have letter
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designations such as A, B, C. The Standard & Poor's rating scale is as follows, from excellent
to poor: AAA, AA+, AA, AA-, A+, A, A-, BBB+, BBB, BBB-, BB+, BB, BB-, B+, B, B-, CCC+, CCC,
CCC-, CC, C, D. Anything lower than a BBB- rating is considered a speculative or junk bond.[3] The Moody's rating system is similar in concept but the naming is a little different. It is as
follows, from excellent to poor: Aaa, Aa1, Aa2, Aa3, A1, A2, A3, Baa1, Baa2, Baa3, Ba1, Ba2,
Ba3, B1, B2, B3, Caa1, Caa2, Caa3, Ca, C. A.M. Best rates from excellent to poor in the
following manner: A++, A+, A, A-, B++, B+, B, B-, C++, C+, C, C-, D, E, F, and S.
CREDIT RATING AGENCIES
Credit Rating Information Services of India Limited (CRISIL)
Credit Rating and Information Services of India Ltd. (CRISIL) (BSE: 500092 )
is India's leading Ratings, Research, Risk and Policy Advisory Company based in Mumbai.[2] CRISIL’s majority shareholder is Standard & Poor's, a division of The McGraw Companies
and the world's foremost provider of financial market intelligence.
CRISIL offers domestic and international customers (IREVNA, international arm and a
division of CRISIL handles international customers) with independent information,
opinions and solutions related to credit ratings and risk assessment; energy, infrastructure
and corporate advisory; research on India's economy, industries and companies;
global equity research; fund services; and risk management.
IREVNA is the off-shoring Knowledge Process Outsourcing arm of CRISIL, with niche
analytical skills to cater to financial analysis.
Investment Information and Credit Rating Agency of India (ICRA)
Credit Analysis & Research Limited (CARE)
Duff & Phelps Credit Rating India Private Ltd. (DCR India)
ONICRA Credit Rating Agency of India Ltd.
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MUTUAL FUNDS
A mutual fund is nothing more than a collection of stocks and/or bonds. You can think of a
mutual fund as a company that brings together a group of people and invests their money
in stocks, bonds, and other securities. Each investor owns shares, which represent a
portion of the holdings of the fund.
A mutual fund is a managed group of owned securities of several corporations. These
corporations receive dividends on the shares that they hold and realize capital gains or
losses on their securities traded. Investors purchase shares in the mutual as if it was an
individual security. After paying operating costs, the earnings (dividends, capital gains or
loses) of the mutual fund are distributed to the investors, in proportion to the amount of
money invested. Investors hope that a loss on one holding will be made up by a gain on
another. Heeding the adage "Don't put all your eggs in one basket" the holders of mutual
fund shares are able collectively to gain the advantage by diversifying their investments,
which might be beyond their financial means individually.
A mutual fund may be either an open-end or a closed-end fund. An open-end mutual fund
does not have a set number of shares; it may be considered as a fluid capital stock. The
number of shares changes as investors buys or sell their shares. Investors are able to buy
and sell their shares of the company at any time for a market price. However the open-end
market price is influenced greatly by the fund managers. On the other hand, closed-end
mutual fund has a fixed number of shares and the value of the shares fluctuates with the
market. But with close-end funds, the fund manager has less influence because the price of
the underlining owned securities has greater influence.
Mutual funds vs. other investments
From investors’ viewpoint mutual funds have several advantages such as:
Professional management and research to select quality securities
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Spreading risk over a larger quantity of stock whereas the investor has limited to
buy only a hand full of stocks. The investor is not putting all his eggs in one basket
Ability to add funds at set amounts and smaller quantities such as $100 per month
Ability to take advantage of the stock market which has generally out performed
other investment in the long run
Fund manager are able to buy securities in large quantities thus reducing brokerage
fees
However there are some disadvantages with mutual funds such as:
The investor must rely on the integrity of the professional fund manager
Fund management fees may be unreasonable for the services rendered
The fund manager may not pass transaction savings to the investor
The fund manager is not liable for poor judgment when the investor's fund loses
value
There may be too many transactions in the fund resulting in higher fee/cost to the
investor - This is sometimes call "Churn and Earn"
Prospectus and Annual report are hard to understand
Investor may feel a lost of control of his investment dollars
There may be restrictions on when and how an investor sells/redeems his mutual
fund shares
Advantages of mutual funds
Mutual funds provide professional management and research to select quality securities.
They spread the risk over a larger quantity of stock than the investor usually has funds to
buy. In a fund the investor can add funds to his/her investments at set amounts and smaller
quantities such as $100 per month. The investor can access the advantage of the stock
market which overall has out performed other investments in long term investments. The
mutual fund managers are able to buy securities in large quantities thus reducing
brokerage fees.
Disadvantages of mutual funds
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Fund management fees may be unreasonable for the services rendered. The investor must
rely on the integrity of the professional fund manager. In some cases the fund manager may
not pass on transaction savings to the investor. The fund managers are not liable for fund
losses due to poor judgment on their part. The fund managers may make so many
transactions in the fund that high fee/cost result and are passed on to the investor.
Prospectuses and Annual reports are hard to understand. Restrictions on when and how an
investor sells/redeems his mutual fund shares. The investor may feel a loss of control of his
investment dollars.
Types of mutual funds
Most funds have a particular strategy they focus on when investing. For instance, some
invest only in Blue Chip companies that are more established and are relatively low risk. On
the other hand, some focus on high-risk start up companies that have the potential for
double and triple digit growth. Finding a mutual fund that fits your investment criteria and
style is important.
Types of mutual funds are:
Value stocks
Stocks from firms with relative low Price to Earning (P/E) Ratio, usually pay good
dividends. The investor is looking for income rather than capital gains.
Growth stock
Stocks from firms with higher low Price to Earning (P/E) Ratio, usually pay small
dividends. The investor is looking for capital gains rather than income.
Based on company size, large, mid, and small cap
Stocks from firms with various asset levels such as over $2 Billion for large; in
between $2 and $1 Billion for mid and below $1 Billion for small.
Income stock
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The investor is looking for income which usually come from dividends or interest.
These stocks are from firms which pay relative high dividends. This fund may
include bonds which pay high dividends. This fund is much like the value stock fund,
but accepts a little more risk and is not limited to stocks.
Index funds
The securities in this fund are the same as in an Index fund such as the Dow Jones
Average or Standard and Poor's. The number and ratios or securities are maintained
by the fund manager to mimic the Index fund it is following.
Enhanced index
This is an index fund which has been modified by either adding value or reducing
volatility through selective stock-picking.
Stock market sector
The securities in this fund are chosen from a particular marked sector such as
Aerospace, retail, utilities, etc.
Defensive stock
The securities in this fund are chosen from a stock which usually is not impacted by
economic down turns.
International
Stocks from international firms.
Real estate
Stocks from firms involved in real estate such as builder, supplier, architects and
engineers, financial lenders, etc.
Socially responsible
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This fund would invests according to non-economic guidelines. Funds may make
investments based on such issues as environmental responsibility, human rights, or
religious views. For example, socially responsible funds may take a proactive stance
by selectively investing in environmentally-friendly companies or firms with good
employee relations. Therefore the fund would avoid securities from firms who profit
from alcohol, tobacco, gambling, pornography etc.
Balanced funds
The investor may wish to balance his risk between various sectors such as asset
size, income or growth. Therefore the fund is a balance between various attributes
desired.
Tax efficient
Aims to minimize tax bills, such as keeping turnover levels low or shying away from
companies that provide dividends, which are regular payouts in cash or stock that
are taxable in the year that they are received. These funds still shoot for solid
returns; they just want less of them showing up on the tax returns.
Convertible
Bonds or Preferred stock which may be converted into common stock.
Junk bond
Bonds which pay higher that market interest, but carry higher risk for failure and
are rated below AAA.
Mutual funds of mutual funds
This funds that specializes in buying shares in other mutual funds rather than
individual securities.
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Closed end
This fund has a fixed number of shares. The value of the shares fluctuates with the
market, but fund manager has less influence because the price of the underlining
owned securities has greater influence.
Exchange traded funds (ETFs)
Baskets of securities (stocks or bonds) that track highly recognized indexes. Similar
to mutual funds, except that they trade the same way that a stock trades, on a stock
exchange.
Money market funds
Money market funds hold 26% of mutual fund assets in the United States.[11] Money market
funds generally entail the least risk, as well as lower rates of return. Unlike certificates of
deposit (CDs), open-end money fund shares are generally liquid and redeemable at "any
time" (that is, normal business hours during which redemption requests are taken -
generally not after 4 PM ET). Money funds in the US are required to advise investors that a
money fund is not a bank deposit, not insured and may lose value. Most money fund strive
to maintain an NAV of $1.00 per share though that is not guaranteed; if a fund "breaks the
buck", its shares could be redeemed for less than $1.00 per share. While this is rare, it has
happened in the U.S., due in part to the mortgage crisis affecting related securities
Hedge funds
Hedge funds in the United States are pooled investment funds with loose, if any, SEC
regulation, unlike mutual funds. Some hedge fund managers are required to register with
SEC as investment advisers under the Investment Advisers Act of 1940.[12] The Act does not
require an adviser to follow or avoid any particular investment strategies, nor does it
require or prohibit specific investments. Hedge funds typically charge a management fee of
1% or more, plus a “performance fee” of 20% of the hedge fund's profit. There may be a
"lock-up" period, during which an investor cannot cash in shares. A variation of the hedge
strategy is the 130-30 fund for individual investors.
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Business valuation
The five most common ways to valuate a business are
asset valuation ,
historical earnings valuation,
future maintainable earnings valuation,
relative valuation (comparable company & comparable transactions),
discounted cash flow (DCF) valuation
Professionals who valuate businesses generally do not use just one of these methods but
a combination of some of them, as well as possibly others that are not mentioned above, in
order to obtain a more accurate value. The information in the balance sheet or income
statement is obtained by one of three accounting measures: a Notice to Reader, a Review
Engagement or an Audit.
Accurate business valuation is one of the most important aspects of M&A as valuations like
these will have a major impact on the price that a business will be sold for. Most often this
information is expressed in a Letter of Opinion of Value (LOV) when the business is being
valuated for interest's sake. There are other, more detailed ways of expressing the value of
a business. These reports generally get more detailed and expensive as the size of a
company increases, however, this is not always the case as there are many complicated
industries which require more attention to detail, regardless of size.
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UNIT – IV FUND BASED FINANCIAL SERVICES
Leasing and Hire Purchasing – Basics of Leasing and Hire purchasing – Financial
Evaluation.
LEASING
A lease is a contractual agreement between the lessor (owner) and the lessee (second
party) for a specified asset, which can be property, a house or apartment, business or office
equipment, an automobile or even a horse. The lessee receives the right to total ownership
for a spelled out period of time and conditions in return for payments. Do not confuse a
lease with a rental, although these words are often interchanged. A rental is for a short
period of time, such as a month, where, in this case, the agreement is renewed or the terms
are changed monthly.
Written or implied contract by which an owner (the lessor) of a specific asset (such as a
parcel of land, building, equipment, or machinery) grants a second party (the lessee) the
right to its exclusive possession and use for a specific period and under
specified conditions, in return for specified periodic rental or lease payments. A term
written lease (also called a deed) creates a leasehold interest which in itself can be traded
or mortgaged, and is shown as a capital asset in a firm's books.
Types of leasing
They are 11 types of leasing. They are
1. FinancialLease
2. Operating Lease
3. Leaveraged and non-leveraged leases
4. Conveyance type lease
5. Sale and lease back
6. Fulland non-payout lease
7. Specialised service lease
8. Net andnon-net lease
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9. Sales aid lease
10. Cross border lease
11. Taxoriented lease.
PARTICIPANTS OF LEASING
There are number of players in the leasing industry. A brief discussion of these players is
presented below:
Lessors
Lessees
Lease brokers
Lease financiers
LEASING PROCESS
The process of leasing takes the following steps
Lease selection
Order and delivery
Lease contract
Lease period
Services of Lessor
The lessor renders the following services to the benefit of the lessee
Provision of credit facility
Absorbing obsolesce risks
Comprehensive package
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Advantages & Dis advantages of leasing
It has become increasingly more common in recent years for companies to lease
equipment. Each leasing agreement needs to be read through carefully to understand the
terms and conditions within said lease.
Typically a lease can run anywhere from one to five years. Most equipment necessary in
commercial businesses today, including technical equipment, can be leased. Some leases
provide an option to then purchase the equipment at substantially less money when at the
end of the term of the lease. By leasing equipment, if structured properly, you can maintain
your credit availability, as the lease debt does not have to be considered a direct liability on
your financial statements. This is advantageous, as it does not limit your ability to borrow
from lending sources.
Advantages of lease financing:
It offers fixed rate financing; you pay at the same rate monthly.
Leasing is inflation friendly. As the costs go up over five years, you still pay the same
rate as when you began the lease, therefore making your dollar stretch farther. (In
addition, the lease is not connected to the success of the business. Therefore, no
matter how well the business does, the lease rate never changes.)
There is less upfront cash outlay; you do not need to make large cash payments for the
purchase of needed equipment.
Leasing better utilizes equipment; you lease and pay for equipment only for the time
you need it.
There is typically an option to buy equipment at end of lease term.
You can keep upgrading; as new equipment becomes available you can upgrade to the
latest models each time your lease ends.
Typically, it is easier to obtain lease financing than loans from commercial lenders.
It offers potential tax benefits depending on how the lease is structured.
One of the reasons for the popularity of leasing is the steady stream of new and improved
technology. By the end of a calendar year, much of your technology will be deemed
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"dinosaurs." The cost of continually buying new equipment to meet changing and growing
business needs can be difficult for most small businesses. For this reason leasing is very
advantageous.
Leasing can also help you enhance your status to the lending community by improving your
debt-to-equity and earnings-to-fixed assets ratios. There are a variety of ways in which a
lease can be structured. This provides greater flexibility so that the lease is structured to
best accommodate the individual cash flow requirements of a specific business. For
example, you may have balloon payments, step up or step down payments, deferred
payments or even seasonal payments.
Disadvantages of lease financing:
Leasing is a preferred means of financing for certain businesses. However it is not for
everyone. The type of industry and type of equipment required also need to be considered.
Tax implications also need to be compared between leasing and purchasing equipment.
You have an obligation to continue making payments. Typically, leases may not be
terminated before the original term is completed. Therefore, the renter is responsible
for paying off the lease. This can pose a major financial problem for the owners of a
business experiences a downturn.
You have no equity until you decide to purchase the equipment at the end of the lease
term, at which point the equipment has depreciated significantly.
Although you are not the owner, you are still responsible for maintaining the
equipment as specified by the terms of the lease. Failure to do so can prove costly.
FINANCIAL VALUATIONS
Lease transactions would have accounting and financial implications for both the lessors
and lesses as detailed below:
a. For lessee
Tax shield on lease rentals is available as business expenditure
Depreciation tax shield is not available
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Tax shield on lease rentals represents a cash in flow
Tax shield on depreciation represents cash outflow
b. For Lessor
Depreciation tax shield is available
Tax shield on lease rentals is not available as business expenditure
Tax shield on depreciation represents cash outflow
Tax shield on lease rentals represents a cash in flow
Net salvage value of an equipment is treated as a post – tax cash flow
IMPLICATIONS UNDER SALES TAX
On purchase of Equipment
On lease rentals
Sale of asset
FINANCIAL IMPLICATIONS
The financial implication of sales tax levy will be realm of lease – related cash flow and
lease rentals. This is to the extent of tax impact on the lease.
Funding aspects of leasing
Deposits
Bank borrowing
Maximum limit
Nature of facility
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HIREPURCHASE
Hire purchase (abbreviated HP) is the legal term for a contract, in this persons usually
agree to pay for goods in parts or a percentage at a time. It was developed in the United
Kingdom and can now found in China, Japan, Malaysia, India, Australia, and New Zealand. It
is also called closed-end leasing. In cases where a buyer cannot afford to pay the asked
price for an item of property as a lump sum but can afford to pay a percentage as a deposit,
a hire-purchase contract allows the buyer to hire the goods for a monthly rent. When a sum
equal to the original full price plus interest has been paid in equal installments, the buyer
may then exercise an option to buy the goods at a predetermined price (usually a nominal
sum) or return the goods to the owner. In Canada and the United States, a hire purchase is
termed an installment plan; other analogous practices are described as closed-end
leasing or rent to own.
Hire purchase differs from a mortgage and similar forms of lien-secured credit in that the
so-called buyer who has the use of the goods is not the legal owner during the term of the
hire-purchase contract. If the buyer defaults in paying the installments, the owner may
repossess the goods, a vendor protection not available with unsecured-consumer-credit
systems. HP is frequently advantageous to consumers because it spreads the cost of
expensive items over an extended time period. Business consumers may find the different
balance and taxation treatment of hire-purchased goods beneficial to their taxable income.
The need for HP is reduced when consumers have collateral or other forms of credit readily
available.
Standard provisions
To be valid, HP agreements must be in writing and signed by both parties. They must
clearly set out the following information in a print that all can read without effort:
1. a clear description of the goods
2. the cash price for the goods
3. the HP price, i.e., the total sum that must be paid to hire and then purchase the
goods
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4. the deposit
5. the monthly installments (most states require that the applicable interest rate is
disclosed and regulate the rates and charges that can be applied in HP transactions)
and
6. a reasonably comprehensive statement of the parties' rights (sometimes including
the right to cancel the agreement during a "cooling-off" period).
7. The right of the hirer to terminate the contract when he feels like doing so with a
valid reason.
The seller and the owner
If the seller has the resources and the legal right to sell the goods on credit (which usually
depends on a licensing system in most countries), the seller and the owner will be the same
person. But most sellers prefer to receive a cash payment immediately. To achieve this, the
seller transfers ownership of the goods to a Finance Company, usually at a discounted
price, and it is this company that hires and sells the goods to the buyer. This introduction of
a third party complicates the transaction. Suppose that the seller makes false claims as to
the quality and reliability of the goods that induce the buyer to "buy". In a conventional
contract of sale, the seller will be liable to the buyer if these representations prove false.
But, in this instance, the seller who makes the representation is not the owner who sells the
goods to the buyer only after all the installments have been paid. To combat this, some
jurisdictions, including Ireland, make the seller and the finance house jointly and severally
liable to answer for breaches of the purchase contract.
Implied warranties and conditions to protect the hirer
The extent to which buyers are protected varies from jurisdiction to jurisdiction, but the
following are usually present:
1. the hirer will be allowed to enjoy quiet possession of the goods, i.e. no-one will
interfere with the hirer's possession during the term of this contract
2. the owner will be able to pass title to, or ownership of, the goods when the contract
requires it
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3. that the goods are of merchantable quality and fit for their purpose, save that
exclusion clauses may, to a greater or lesser extent, limit the Finance Company's
liability
4. where the goods are let by reference to a description or to a sample, what is actually
supplied must correspond with the description and the sample.
The hirer's rights
The hirer usually has the following rights:
1. To buy the goods at any time by giving notice to the owner and paying the balance of
the HP price less a rebate (each jurisdiction has a different formula for calculating
the amount of this rebate)
2. To return the goods to the owner — this is subject to the payment of a penalty to
reflect the owner's loss of profit but subject to a maximum specified in each
jurisdiction's law to strike a balance between the need for the buyer to minimize
liability and the fact that the owner now has possession of an obsolescent asset of
reduced value
3. With the consent of the owner, to assign both the benefit and the burden of the
contract to a third person. The owner cannot unreasonably refuse consent where
the nominated third party has good credit rating
4. Where the owner wrongfully repossesses the goods, either to recover the goods plus
damages for loss of quiet possession or to damages representing the value of the
goods lost.
Basically hirer have following rights- 1-Rights of protection 2-Rights of notice 3-Rights of
repossession 4-Rights of Statement 5-Rights of excess amount
The hirer's obligations
The hirer usually has the following obligations:
1. to pay the hire installments
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2. to take reasonable care of the goods (if the hirer damages the goods by using them
in a non-standard way, he or she must continue to pay the installments and, if
appropriate, compensate the owner for any loss in asset value)
3. to inform the owner where the goods will be kept.
The owner's rights
The owner usually has the right to terminate the agreement where the hirer defaults in
paying the installments or breaches any of the other terms in the agreement. This entitles
the owner:
1. to forfeit the deposit
2. to retain the installments already paid and recover the balance due
3. to repossess the goods (which may have to be by application to a Court depending
on the nature of the goods and the percentage of the total price paid)
4. to claim damages for any loss suffered.
DIFFERENCE BETWEEN LEASE & HIRE PURCHASE
A lease transaction is a commercial arrangement whereby an equipment owner or
Manufacturer conveys to the equipment user the right to use the equipment in return for a
rental. In other words, lease is a contract between the owner of an asset (the lessor) and its
user (the lessee) for the right to use the asset during a specified period in return for a
mutually agreed periodic payment (the lease rentals). The important feature of a lease
contract is separation of the ownership of the asset from its usage. Lease financing is based
on the observation made by Donald B. Grant: "Why own a cow when the milk is so cheap?
All you really need is milk and not the cow."
Hire purchase is a type of instalment credit under which the hire purchaser, called the
hirer, agrees to take the goods on hire at a stated rental, which is inclusive of the
repayment of principal as well as interest, with an option to purchase. Under this
transaction, the hire purchaser acquires the property (goods) immediately on signing the
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hire purchase agreement but the ownership or title of the same is transferred only when
the last instalment is paid. The hire purchase system is regulated by the Hire Purchase Act
1972. This Act defines a hire purchase as "an agreement under which goods are let on hire
and under which the hirer has an option to purchase them in accordance with the terms of
the agreement and includes an agreement under which:
1) The owner delivers possession of goods thereof to a person on condition that such
person pays the agreed amount in periodic installments
2) The property in the goods is to pass to such person on the payment of the last of such
installments, and
3) Such person has a right to terminate the agreement at any time before the property so
passes".
Hire purchase should be distinguished from installment sale wherein property passes to
the purchaser with the payment of the first instilment. But in case of HP (ownership
remains with the seller until the last installment is paid) buyer gets ownership after paying
the last installment. HP also differs form leasing.
Meaning A lease transaction is a commercial arrangement, whereby an equipment owner
or manufacturer conveys to the equipment user the right to use the equipment in return
for a rental. While Hire purchase is a type of installment credit under which the hire
purchaser agrees to take the goods on hire at a stated rental, which is inclusive of the
repayment of principal as well as interest, with an option to purchase. In lease financing no
option is provided to the lessee (user) to purchase the goods. Where by in Hire purchase
option is provided to the hirer (user). Lease rentals paid by the lessee are entirely revenue
expenditure of the lessee. While in case of higher purchase only interest element included
in the HP installments is revenue expenditure by nature. Components Lease rentals
comprise of 2 elements (1) finance charge and (2) capital recovery. HP installments
comprise of 3 elements (1) normal trading profit (2) finance charge and (3) recovery of
cost of goods/assets.
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ADVANTAGES &DISADVANTAGES OF HIRE PURCHASE
THE ADVANTAGES: of Hire Purchase Agreements to the consumers
spread the cost of finance. Whilst choosing to pay in cash is preferable, this might not be
possible for consumer on a tight budget. A hire purchase agreement allows a consumer to
make monthly repayments over a pre-specified period of time;
• Interest-free credit. Some merchants offer customers the opportunity to pay for goods
and services on interest free credit. This is particularly common when making a
new car purchase or on white goods during an economic downturn;
• Higher acceptance rates. The rate of acceptance on hire purchase agreements is higher
than other forms of unsecured borrowing because the lenders have collateral;
• Sales. A hire purchase agreement allows a consumer to purchase sale items when they
aren't in a position to pay in cash. The discounts secured will save many families money;
• Debt solutions. Consumers that buy on credit can pursue a debt solution , such as a debt
management plan, should they experience money problems further down the line.
The disadvantages: of Hire Purchase Agreements to the consumers
• Personal debt. A hire purchase agreement is yet another form of personal debt it is
monthly repayment commitment that needs to be paid each month;
• Final payment. A consumer doesn't have legitimate title to the goods until the final
monthly repayment has been made;
• Bad credit. All hire purchase agreements will involve a credit check. Consumers that have
a bad credit rating will either be turned down or will be asked to pay a high interest rate;
• Creditor harassment. Opting to buy on credit can create money problems should a family
experience a change of personal circumstances;
• Repossession rights. A seller is entitled to 'snatch back' any goods when less than a third
of the amount has been paid back. Should more than a third of the amount have been paid
back, the seller will need a court order or for the buyer to return the item voluntarily.
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UNIT – V OTHER FUND BASED FINANCIAL SERVICES
Consumer Credit – Credit Cards – Real Estate Financing – Bills Discounting – Factoring and
Forfeiting – Venture Capital.
CONSUMER CREDIT
A debt that someone incurs for the purpose of purchasing a good or service. This includes purchases
made on credit cards, lines of credit and some loans.
Consumer credit is basically the amount of credit used by consumers to purchase non-investment goods
or services that are consumed and whose value depreciates quickly. This includes automobiles,
recreational vehicles (RVs), and education, boat and trailer loans but excludes debts taken out to
purchase real estate or margin on investment accounts. For example, a mortgage for purchasing a house
is not consumer credit.
Consumer debt can be defined as ‘money, goods or services provided to an individual in lieu of
payment.’ Common forms of consumer credit include credit cards, store cards, motor (auto)
finance, personal loans (installment loans), retail loans (retail installment loans) and mortgages.
This is a broad definition of consumer credit and corresponds with the Bank of England's
definition of "Lending to individuals". Given the size and nature of the mortgage market, many
observers classify mortgage lending as a separate category of personal borrowing, and
consequently residential mortgages are excluded from some definitions of consumer credit - such
as the one adopted by the Federal Reserve in the US.
The cost of credit is the additional amount, over and above the amount borrowed, that the
borrower has to pay. It includes interest, arrangement fees and any other charges. Some costs are
mandatory, required by the lender as an integral part of the credit agreement. Other costs, such as
those for credit insurance, may be optional. The borrower chooses whether or not they are
included as part of the agreement.
Interest and other charges are presented in a variety of different ways, but under many legislative
regimes lenders are required to quote all mandatory charges in the form of an annual percentage
rate (APR). The goal of the APR calculation is to promote ‘truth in lending’, to give potential
borrowers a clear measure of the true cost of borrowing and to allow a comparison to be made
between competing products. The APR is derived from the pattern of advances and repayments
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made during the agreement. Optional charges are not included in the APR calculation. So if there
is a tick box on an application form asking if the consumer would like to take out payment
insurance, then insurance costs will not be included in the APR calculation (Finlay 2009).
TYPESOF CONSUMER CREDIT
There is several types of credit facility available to consumers. They are briefly discussed below:
Revolving credit
Fixed credit
Cash Loan
Secured finance
Unsecured finance
Sources of consumer finance
The various sources of consumer finance available to people are discussed below:
Traders
Commercial banks
Credit card Institutions
NBFCs
Credit unions
Middlemen
Other sources – savings and loan associations
Mutual savings banks
Modes of consumer finance
Consumer finance is available through several way as shown below:
Open account
Credit card
Revolving account
Option plan
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Installment account
Cash loan
DEMAND FOR CONSUMER FINANCE – Factors
Several factors work in favor of making consumer finance popular form of finance. Following
are some of the factors that have contributed to the growth of consumer finance:
Increase in consumer disposal income
Enhancement in the real income of consumers
Convenient size of the installment payments
Growth in nuclear families leading to spurt in number of house holds
Lower charges
Down payment and credit contract.
TERMS OF FINANCE
The terms and conditions for consumer financing are as follows:
Eligibility
Guarantee
Tenure
Rate of interest
Other charges
Credit evaluation
Pricing of consumer finance
Marketing
BOOM IN CONSUMER FINANCING
At present, the fast moving Indian consumer durables industry is experiencing a boom into
consumer financing for the following reasons:
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a. Fall in the average age of the consumer for large ticket like housing, etc
b. Cheaper rate of interest on borrowings
c. Flexible interest rate structure
d. Increase in the start up salary levels of people
e. Aspiration changes in lifestyle
f. The DNK (double income no kid) factor
g. The credit card advantage
h. Spurt in the number of financial service institutions thus increasing competition
i. Increasing tie- ups of manufacturers with financiers
j. Thriving market for used cars
k. The lure of Zero interest scheme
l. Attractive terms of lending by financial institutions.
BENEFITS DERIVED FROM CREDIT CARD
The following persons derive benefits from credit card system.
Customer
Seller
Wholesaler
Manufacturer
Commercial banks
Central bank
Government
Economy
DIFFERENCE BETWEEN CREDIT CARD AND DEBIT CARD
Debit cards and credit cards are accepted at the same places. Debit cards all carry the symbol of
one of the major types of credit cards on them, and can be used anywhere that credit cards are
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accepted. They both offer convenience. The fundamental difference between a debit card and a
credit card account is where the cards pull the money. A debit card takes it from you banking
account and a credit card charges it to your line of credit.
Debit cards offer the convenience of a credit but work in a different way. Debit cards draw
money directly from your checking account when you make the purchase. They do this by
placing a hold on the amount of the purchase. Then the merchant sends in the transaction to their
bank and it is transferred to the merchants account. It can take a few days for this to happen, and
the hold may drop off before the transaction goes through. For this reason it is important to keep
a running balance of your checking account to make sure you do not accidentally overdraw your
account. It is possible to do that with a debit card.
A credit card is a card that allows you to borrow money in small amounts at local merchants.
The credit card company then charges interest on purchases, though there is generally a grace
period of approximately thirty days before interest is charged In the past many people felt that
you needed a credit card to complete certain transactions such as rent a car or to purchase items
online. They also felt that it was safer and easier to travel with a credit card rather than carrying
cash or trying to use your checkbook. However debit cards offer the same convenience without
making you borrow the money to complete the transactions.
REAL ESTATE FINANCING
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A set of all financial arrangement that are made available by housing finance institutions to meet
the requirements of housing called real estate financing. Housing finance institutions include
banks, housing fiancé companies, special housing finance institutions, etc.
MODELS OF HOUSING PROJECTS
The popular models of land and housing developments are as follows:
Town planning schemes
Development authority projects
Housing board projects
Cooperative society
Private Real estate
Public – private partnership
Slum board projects
Government employee housing
Government programmes
REAL ESTATE FINANCING – MAJOR ISSUES
The major issues facing the Indian real estate financial sector are discussed below:
i. Archaic Laws
ii. Lack of clear title
iii. High stamp duty
iv. Obsolete Rental Laws
v. Foreclosure Laws
vi. Inadequate building codes and standards
vii. Inadequate development and planning
viii. Inadequate infrastructure
ix. Recognition of housing as an industry
x. Slum clearance and public housing
xi. Land supply
xii. Rent control Act
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xiii. Real estate Mortgages
FACTORS AFFECTING REAL ESTATE FINANCING
(A)Growth Factor
Budgetary support
New dynamics
Distinguishing service
Access to resources
Changing contours
(b) Assistance factor
Loan amount
Tenure
Administrative and processing costs
Pre- payment charges
Services
Value addition
Sources of finance like HFC’s and Banks
EMI calculation methods
REAL ESTATE FINANCE INSTITUTIONS
A number of institutions exist in the real estate financing service sector. A brief account of the
more dominant of them is presented below:
The National Housing Bank
The National Housing Bank has been set up under the National Housing Bank Act of 1987,
which was passed on 9th July, 1988. It is wholly owned by the Reserve bank of India and was
established to encourage housing- finance institutions and provide them with financial support.
The National Housing Bank also provides several other channels of support for housing-finance
institutions, by dint of the authority invested by the National Housing Bank Act. For example,
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the National Housing Bank can give directions to the housing finance institutions to ensure that
their growth takes along appropriate tracks. Besides, the National Housing Bank also makes
advances and gives loans to scheduled banks and formulates schemes that lead to the proper use
of resources for housing projects.
The various objectives of the National housing bank are:
To encourage healthy system for housing finance and which meets the needs of all the
segments of the society
To encourage housing finance institutions
To gather resources and distribute them for housing projects
To make affordable the credit taken for housing
The places where National housing bank have offices are:
Head office in New Delhi
Regional office in Hyderabad
Regional office in Mumbai
The National Bank for Housing gives registration certification to companies so that they
can carry out the business of financing houses. The National Housing Bank also has a
training division, besides its lending operations. This division trains officials who are
working in the housing finance and housing areas in order to improve their management
capabilities. The National housing bank has helped enormously in the growth of the
housing sector in India. It needs to work in close coordination with the Reserve Bank of
India and the Indian government to ensure the upkeep and feasibility of housing projects
in India.
HDFC (HOUSING DEVELOPMENT FINANCE CORPORATION LIMITED)
BILLS DISCOUNTING
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Bills of exchange that are used in the course of normal trade and commercial activities
are called commercial bills. Bill financing is an ideal mode of short term financing
available to business concerns. It imparts flexibility to the money market, besides
providing liquidity within the banking system. It also contributes towards effectiveness of
the monetary policy of the central bank of a country.
According to the Indian Negotiable Instruments Act 1881, “Bill of Exchange is an
instrument in writing containing an unconditional order, signed by the maker, directing a
certain person to pay a certain sum of money only, or to the order of a certain person, or
to the bearer of that instrument. ” the bill of exchange is essentially a trade – related
instrument, and it is used for financing genuine transactions.
BILL FINANCING
A method of financing trade related activities through bills of exchange is known as bill
financing. It is also called bill discounting. Bills financing involve parties such as the drawer
(seller), the buyer (buyer and the financier (banker)
Features
Commercial bills are considered to be the cornerstone of a well developed and active money
market. Following are the salient features of a commercial bill of exchange:
Written instrument
Negotiable instrument
Making a bill of exchange
Discounting a bill
COMMERCIAL BILL DISCOUNTING / FINANCING
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When the seller deposits genuine commercial bills and obtains financial accommodation
from a bank or financial institution. It is known as bill discounting. The seller instead of
discounting the bill immediately may choose to wait till the date of maturity.
Commercially, the option of discounting will be advantageous because the seller obtains
ready cash which can be used for meeting immediate business requirements. However, in the
process, the seller may lose a little by way of discount charged by the discounting banker.
Features
Following are the salient features of bill discounting financing:
Discount charge
Maturity
Ready finance
Discounting and purchasing
Advantages
The various benefits of bill discounting financing are as follows:
Easy access
Safety of funds
Certainty of payment
Profitability
Smooth liquidity
Higher yield
Ideal investment
Facility of refinancing
Relative stability of prices
Precautions by banker
In order to reap the maximum benefits, a banker is expected to take the following precautions
while discounting and purchasing bills of a customer:
Credit standing
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Complete bills
Genuine trade bills
Proper documentation
Credit appraisal
Safeguarding on bills
Goods
Noting and protesting
STEPS IN DISCOUNTING AND PURCHASING
Following the steps are involved in the discounting and purchasing of commercial bills of
exchange:
Examination of bill
Crediting customer account
Control over accounts
Sending bills for collection
Dishonor
BILLS SYSTEM
There are essentially two systems of bills, the drawer bill system and the drawee bill system
which are explained below:
Drawer bills system
Drawee bills system – Acceptance credit, bills discounting system - assured payment,
buying advantage, safety of funds
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Comparison between Bill Discounting and Factoring.
Bill Discounting Factoring
1. Individual Transaction
2. Each bill has to be individually accepted by the
drawee which takes time.
3. Stamp duty is charged on certain usance bills
together with bank charges. It proves very
expensive.
4. More paperwork is involved.
5. Grace period for payment is usually 3 days.
6. Original documents like MTR, RR, and Bill of
Lading are to be submitted.
7. Charges are normally up front.
1. Whole turnover basis. This also gives the
client the liberty to draw desired finance
only.
2. A one time notification is taken from the
customer at the commencement of the
facility.
3. No stamp duty is charged on the invoices.
No charges other than the usual finance and
service charge.
4. No such paperwork is involved.
5. Grace periods are far more generous.
6. Only copies of such documents are
necessary.
7. No upfront charges. Finance charges are
levied on only the amount of money
withdrawn.
Factoring is a financial transaction whereby a business sells its accounts
receivable (i.e., invoices) to a third party (called a factor) at a discount in exchange for
immediate money with which to finance continued business. Factoring differs from a bank
loan in three main ways. First, the emphasis is on the value of the receivables (essentially
a financial asset)[1], not the firm’s credit worthiness. Secondly, factoring is not a loan – it is the
purchase of a financial asset (the receivable). Finally, a bank loan involves two parties whereas
factoring involves three.
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It is different from the forfaiting in the sense that forfaiting is a transaction based operation while
factoring is a firm-based operation - meaning, in factoring, a firm sells all its receivables while in
forfaiting, the firm sells one of its transactions.
Factoring is a word often misused synonymously with invoice discounting - factoring is the sale
of receivables whereas invoice discounting is borrowing where the receivable is used as
collateral.
The three parties directly involved are: the one who sells the receivable, the debtor, and the
factor. Thereceivable is essentially a financial asset associated with the debtor’s liability to pay
money owed to the seller (usually for work performed or goods sold). The seller then sells one or
more of its invoices (the receivables) at a discount to the third party, the specialized financial
organization (aka the factor), to obtain cash. The sale of the receivables essentially transfers
ownership of the receivables to the factor, indicating the factor obtains all of the rights and risks
associated with the receivables.[2]Accordingly, the factor obtains the right to receive the
payments made by the debtor for the invoice amount and must bear the loss if the debtor does not
pay the invoice amount. Usually, the account debtor is notified of the sale of the receivable, and
the factor bills the debtor and makes all collections. Critical to the factoring transaction, the
seller should never collect the payments made by the account debtor, otherwise the seller could
potentially risk further advances from the factor. There are three principal parts to the factoring
transaction; a.) the advance, a percentage of the invoice face value that is paid to the seller upon
submission, b.) the reserve, the remainder of the total invoice amount held until the payment by
the account debtor is made and c.) the fee, the cost associated with the transaction which is
deducted from the reserve prior to it being paid back the seller. Sometimes the factor charges the
seller a service charge, as well as interest based on how long the factor must wait to receive
payments from the debtor. The factor also estimates the amount that may not be collected due to
non-payment, and makes accommodation for this when determining the amount that will be
given to the seller. The factor's overall profit is the difference between the price it paid for the
invoice and the money received from the debtor, less the amount lost due to non-payment.
American Accounting considers the receivables sold when the buyer has "no recourse", or when
the financial is substantially a transfer of all of the rights associated with the receivables and the
seller's monetary Liability under any "recourse" provision is well established at the time of the
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sale.[5] Otherwise, the financial transaction is treated as a loan, with the receivables used
as collateral.
Reason
Factoring is a method used by a firm to obtain Cash when the available Cash Balance held by the
firm is insufficient to meet current obligations and accommodate its other cash needs, such as
new orders or contracts. The use of Factoring to obtain the Cash needed to accommodate the
firm’s immediate Cash needs will allow the firm to maintain a smaller ongoing Cash Balance. By
reducing the size of its Cash Balances, more money is made available for investment in the
firm’s growth. A company sells its invoices at a discount to their face value when it calculates
that it will be better off using the proceeds to bolster its own growth than it would be by
effectively functioning as its "customer's bank." Accordingly, Factoring occurs when the rate of
return on the proceeds invested in production exceed the costs associated with Factoring the
Receivables. Therefore, the trade off between the return the firm earns on investment in
production and the cost of utilizing a Factor is crucial in determining both the extent Factoring is
used and the quantity of Cash the firm holds on hand.
Many businesses have Cash Flow that varies. A business might have a relatively large Cash Flow
in one period, and might have a relatively small Cash Flow in another period. Because of this,
firms find it necessary to both maintain a Cash Balance on hand, and to use such methods as
Factoring, in order to enable them to cover their Short Term cash needs in those periods in which
these needs exceed the Cash Flow. Each business must then decide how much it wants to depend
on Factoring to cover short falls in Cash, and how large a Cash Balance it wants to maintain in
order to ensure it has enough Cash on hand during periods of low Cash Flow.
Generally, the variability in the cash flow will determine the size of the Cash Balance a business
will tend to hold as well as the extent it may have to depend on such financial mechanisms as
Factoring. Cash flow variability is directly related to 2 factors:
1. The extent Cash Flow can change,
2. The length of time Cash Flow can remain at a below average level.
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If cash flow can decrease drastically, the business will find it needs large amounts of cash from
either existing Cash Balances or from a Factor to cover its obligations during this period of time.
Likewise, the longer a relatively low cash flow can last, the more cash is needed from another
source (Cash Balances or a Factor) to cover its obligations during this time. As indicated, the
business must balance the opportunity cost of losing a return on the Cash that it could otherwise
invest, against the costs associated with the use of Factoring.
The Cash Balance a business holds is essentially a Demand for Transactions Money. As stated,
the size of the Cash Balance the firm decides to hold is directly related to its unwillingness to pay
the costs necessary to use a Factor to finance its short term cash needs. The problem faced by the
business in deciding the size of the Cash Balance it wants to maintain on hand is similar to the
decision it faces when it decides how much physical inventory it should maintain. In this
situation, the business must balance the cost of obtaining cash proceeds from a Factor against the
opportunity cost of the losing the Rate of Return it earns on investment within its business The
solution to the problem is:
where
CB is the Cash Balance
nCF is the average Negative Cash Flow in a given period
i is the [Discount Rate] that cover the Factoring Costs
r is the rate of return on the firm’s assets[8]
Differences from bank loans
Factors make funds available, even when banks would not do so, because factors focus first
on the credit worthiness of the debtor, the party who is obligated to pay the invoices for
goods or services delivered by the seller. In contrast, the fundamental emphasis in a bank
lending relationship is on the creditworthiness of the borrower, not that of its customers.
While bank lending is cheaper than factoring, the key terms and conditions under which the
small firm must operate differ significantly.
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From a combined cost and availability of funds and services perspective, factoring creates
wealth for some but not all small businesses. For small businesses, their choice is slowing
their growth or the use of external funds beyond the banks. In choosing to use external
funds beyond the banks the rapidly growing firm’s choice is between seeking venture
capital (i.e., equity) or the lower cost of selling invoices to finance their growth. The latter is
also easier to access and can be obtained in a matter of a week or two, whereas securing
funds from venture capitalists can typically take up to six months. Factoring is also used
as bridge financing while the firm pursues venture capital and in conjunction with venture
capital to provide a lower average cost of funds than equity financing alone. Firms can also
combine the three types of financing, angel/venture, factoring and bank line of credit to
further reduce their total cost of funds whilst at the same time improving cash flow.
As with any technique, factoring solves some problems but not all. Businesses with a small
spread between the revenue from a sale and the cost of a sale, should limit their use of
factoring to sales above their breakeven sales level where the revenue less the direct cost of
the sale plus the cost of factoring is positive.
While factoring is an attractive alternative to raising equity for small innovative fast-
growing firms, the same financial technique can be used to turn around a fundamentally
good business whose management has encountered a perfect storm or made significant
business mistakes which have made it impossible for the firm to work within the constraints
of their bank covenants. The value of using factoring for this purpose is that it provides
management time to implement the changes required to turn the business around. The firm
is paying to have the option of a future the owners control. The association of factoring with
troubled situations accounts for the half truth of it being labeled 'last resort' financing.
However, use of the technique when there is only a modest spread between the revenue
from a sale and its cost is not advisable for turnarounds. Nor are turnarounds usually able to
recreate wealth for the owners in this situation.
Large firms use the technique without any negative connotations to show cash on
their balance sheet rather than an account receivable entry, money owed from their
customers, particularly when these show payments being due for extended periods of time
beyond the North American norm of 60 days or less.
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Invoice sellers
The invoice seller presents recently generated invoices to the factor in exchange for an
amount that is less than the value of the invoice(s) by an agreed upon discount and a
reserve. A reserve is a provision to cover short payments, payment of less than the full
amount of the invoice by the debtor, or a payment received later than expected. The result is
an initial payment followed by a second one equal to the amount of the reserve if the
invoice is paid in full and on time or a credit to the account of the seller with the factor. In
an ongoing relationship the invoice seller will get their funds one or two days after the
factor receives the invoices. Astute invoice sellers can use a combination of techniques to
cover the range of 1% to 5% plus cost of factoring for invoices paid within 50 to 60 days or
more. In many industries, customers expect to pay a few percentage points higher to get
flexible sales terms. In effect the customer is willing to pay the supplier to be their bank and
reduce the equity the customer needs to run their business. To counter this it is a widespread
practice to offer a prompt payment discount on the invoice. This is commonly set out on an
invoice as an offer of a 2% discount for payment in ten days. {Few firms can be relied upon
to systematically take the discount, particularly for low value invoices - under $100,000 - so
cash inflow estimates are highly variable and thus not a reliable basis upon which to make
commitments.} Invoice sellers can also seek a cash discount from a supplier of 2 % up to
10% (depending on the industry standard) in return for prompt payment. Large firms also
use the technique of factoring at the end of reporting periods to ‘dress’ their balance sheet
by showing cash instead of accounts receivable. There are a number of varieties of factoring
arrangements offered to invoice sellers depending upon their specific requirements. The
basic ones are described under the heading Factors below.
Factors
When initially contacted by a prospective invoice seller, the factor first establishes whether
or not a basic condition exists, does the potential debtor(s) have a history of paying their
bills on time? That is, are they creditworthy? (A factor may actually obtain insurance
against the debtor’s becoming bankrupt and thus the invoice not being paid.) The factor is
willing to consider purchasing invoices from all the invoice seller’s creditworthy debtors.
The classic arrangement which suits most small firms, particularly new ones, is full service
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factoring where the debtor is notified to pay the factor (notification) who also takes
responsibility for collection of payments from the debtor and the risk of the debtor not
paying in the event the debtor becomes insolvent, non recourse factoring. This traditional
method of factoring puts the risk of non-payment fully on the factor. If the debtor cannot
pay the invoice due to insolvency, it is the factor's problem to deal with and the factor
cannot seek payment from the seller. The factor will only purchase solid credit worthy
invoices and often turns away average credit quality customers. The cost is typically higher
with this factoring process because the factor assumes a greater risk and provides credit
checking and payment collection services as part of the overall package. For firms with
formal management structures such as a Board of Directors (with outside members), and
a Controller (with a professional designation), debtors may not be notified (i.e., non-
notification factoring). The invoice seller may not retain the credit control function. If they
do then it is likely that the factor will insist on recourse against the seller if the invoice is
not paid after an agreed upon elapse of time, typically 60 or 90 days. In the event of non-
payment by the customer, the seller must buy back the invoice with another credit worthy
invoice. Recourse factoring is typically the lowest cost for the seller because they retain
the bad debt risk, which makes the arrangement less risky for the factor.
Despite the fact that most large organizations have in place processes to deal with suppliers
who use third party financing arrangements incorporating direct contact with them, many
entrepreneurs remain very concerned about notification of their clients. It is a part of the
invoice selling process that benefits from salesmanship on the part of the factor and their
client in its conduct. Even so, in some industries there is a perception that a business that
factors its debts is in financial distress.
There are two methods of factoring: recourse and non-recourse. Under recourse factoring,
the client is not protected against the risk of bad debts. On the other hand, the factor
assumes the entire credit risk under non-recourse factoring i.e., full amount of invoice is
paid to the client in the event of the debt becoming bad.
Invoice payers (debtors)
Large firms and organizations such as governments usually have specialized processes to
deal with one aspect of factoring, redirection of payment to the factor following receipt of
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notification from the third party (i.e., the factor) to whom they will make the payment.
Many but not all in such organizations are knowledgeable about the use of factoring by
small firms and clearly distinguish between its use by small rapidly growing firms and
turnarounds.
Distinguishing between assignment of the responsibility to perform the work and the
assignment of funds to the factor is central to the customer/debtor’s processes. Firms have
purchased from a supplier for a reason and thus insist on that firm fulfilling the work
commitment. Once the work has been performed however, it is a matter of indifference who
is paid. For example, General Electric has clear processes to be followed which distinguish
between their work and payment sensitivities. Contracts direct with US Government require
an Assignment of Claims which is an amendment to the contract allowing for payments to
third parties (factors).
Risks
The most important risks of a factor are:
Counter party credit risk related to clients and risk covered debtors. Risk covered debtors
can be reinsured, which limit the risks of a factor. Trade receivables are a fairly low risk
asset due to their short duration.
External fraud by clients: fake invoicing, mis-directed payments, pre-invoicing, not
assigned credit notes, etc. A fraud insurance policy and subjecting the client
to audit could limit the risks.
Legal, compliance and tax risks: large number of applicable laws and regulations in
different countries.
Operational risks, such as contractual disputes.
Uniform Commercial Code (UCC-1) securing rights to assets.
IRS liens associated with payroll taxes etc.
ICT risks: complicated, integrated factoring system, extensive data exchange with client.
Characteristics
The characteristics of Factoring are as follows:
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The nature
The form
The assignment
Fiduciary position
Professionalism
Credit realizations
Less dependence
Recourse Factoring
Compensation
Factoring and off – balance sheet financing
Types of Factoring
Besides the normal function of collection of receivables and sales ledger administration factors
take different forms, depending upon the type of special features attached to them. Following are
the important forms of factoring arrangements that are currently in vogue:
Domestic
Disclosed un disclosed
Discount
Export
Cross border
Modus operandi – export, Import, delivery, Credit Information, payment
Full – service factoring
With recourse factoring
Without recourse
Advance and maturity factoring
Bank participation
Collection / maturing
Advantages & Dis advantages of Factoring
Factoring, as an innovative financial service, commands the following advantages and dis
advantages:
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i. Cost savings
ii. Leverage
iii. Enhanced return
iv. Liquidity
v. Credit discipline
vi. Cash flows
vii. Credit certification
viii. Prompt payment
ix. Information flow
x. Infrastructure
xi. Better linkages
xii. Boon to SSI sector
xiii. Efficient production
xiv. Reduced risk
xv. Export promotion
FACTORING – PLAYERS
The players of factoring are:
The buyer
The seller
The factor
FUNCTIONS OF A FACTOR
The various functions that are performed by a factor are described below:
Sales ledger administration
Provision of collection facility
Financing trade debts
Credit control and protection
Advisory services
Factoring cost – commission, interest charges
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FORFEITING
In trade finance, forfeiting involves the purchasing of receivables from exporters. The forfeiter
takes on all risks involved with the receivables. It is different from the factoring operation in the
sense that forfeiting is a transaction-based operation while factoring is a firm-based operation: In
factoring, a firm sells all its receivables while in forfeiting, the firm sells one of its transactions.
The characteristics of a forfeiting transaction are:
Credit is extended to the exporter for a period ranging between 180 days to seven years.
Minimum bill size is normally US$ 250,000, although $500,000 is preferred.
The payment is normally receivable in any major convertible currency.
A letter of credit or a guarantee is made by a bank, usually in the importer's country.
The contract can be for either goods or for services.
At its simplest the receivables should be evidenced by a promissory note, a bill of exchange, a
deferred-payment letter of credit, or a letter of guarantee.
Three elements relate to the pricing of a forfeiting transaction:
Discount rate, the interest element, usually quoted as a margin over LIBOR.
Days of grace, added to the actual number of days until maturity for the purpose of covering
the number of days normally experienced in the transfer of payment, applicable to the
country of risk.
Commitment fee, applied from the date the forfeiter is committed to undertake the financing,
until the date of discounting.
The benefits to the exporter from forfeiting include eliminating political, transfer, and
commercial risks and improving cash flows. The benefit to the forfeiter is the extra margin on
the loan to the exporter.
The purchasing of an exporter's receivables (the amount importers owe the exporter) at a
discount by paying cash. The forfeiter, the purchaser of the receivables, becomes the entity to
whom the importer is obliged to pay its debt.
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By purchasing these receivables - which are usually guaranteed by the importer's bank - the
forfeiter frees the exporter from credit and from the risk of not receiving payment from the
importer who purchased the goods on credit. While giving the exporter a cash payment,
forfeiting allows the importer to buy goods for which it cannot immediately pay in full. The
receivables, becoming a form of debt instrument that can be sold on the secondary market, are
represented by bills of exchange or promissory notes, which are unconditional and easily
transferred debt instruments.
Modus operandi
Following the salient steps in forfeiting:
i. Commercial contract
ii. Transaction
iii. Notes acceptance
iv. Factoring contract
v. Sale of notes
vi. Payment
CHARACTERISTICS OF FORFAITING
It converts deferred payment exports into a cash transaction, improving liquidity and cash
flow.
It absolves exporter from cross-border political or commercial risk associated with export
receivable.
It finances upto 100% of the export value as compared to 80-85% financing available
under conventional export credit.
It acts as an additional source of funding and hence does not have any impact on the
exporter’s borrowing limits. It does not reflect as debt in exporter’s balance sheet.
It provides fixed rate finance and hence automatically hedges against interest and
exchange rate fluctuation arising from deferred export credit.
Exporter is freed from credit administration.
It enables exporter to extend credit to the importer for more than 6 months (say upto 1-2
years) which under normal condition is not possible and thus can act as a marketing edge.
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It saves on insurance costs as the need for export credit insurance viz. ECGC is
eliminated.
Exporters are liquidating pre-shipment finance from export proceeds received from
Forfaiting Agency.
Advantages and Disadvantages of forfeiting:
Advantages to the forfaiter
1. Again, documentation is simple and quickly compiled: there are no 30-page loan
agreements as in commercial lending.
2. The assets purchased are easily transferable as to title so that trading them in the
secondary market is possible.
3. Although the higher margins associated with a forfeit finance are a disadvantage to the
exporter and importer, they are naturally attractive to the forfaiter.
Disadvantages to the forfaiter
1. The forfaiter has no recourse to anyone else in the event of a default in repayment.
2. As is the case for the exporter, the forfaiter must know the laws and regulations
governing the validity of bills of exchange, promissory notes, guarantees or avails in the
various countries with whom his exporter clients will be conducting business. Chapter to
consider the legal position of the forfaiter who fails to obtain valid bills or notes validly
guaranteed or availed.
3. The forfaiter also bears the responsibility of checking the creditworthiness of the
guarantor.
4. The forfaiter cannot accelerate payment of bills or notes which have yet to mature merely
because a bill or note of the series which has matured has not been paid. Such
acceleration clauses are a standard feature of ordinary commercial loan agreements, but
the legal position of bills and notes virtually precludes similar treatment for them.
5. The forfeiter bears all funding and interest-rate risks exist during the opinion and
commitment periods as well as during the periods to maturity of the bills or notes. This is
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far more significant an exposure than is the case in commercial lending because most
commercial lending today bears a variable interest rate.
Factoring Vs.Forfaiting
The processes of factoring and forfaiting are similar in some ways. But there are also certain
differences between the two. Let us take a look at these differences:
Basis of
differenceFactoring Forfaiting
Extent of
Finance
Usually 80% of the value of the invoice is
considered for advance100% Financing
Credit
worthiness
Factor does the credit rating of the counterparty
in case of a non-recourse factoring transaction
The forfaiting bank relies on the
credibility of the availing bank
Services
Provided
Day-to-day administration of sales and other
allied services are providedNo services are provided
Maturity Advances are short-term in natureAdvances are generally medium
term
VENTURE CAPITAL
Venture capital (also known as VC or Venture) is provided as seed funding to early-stage,
high-potential, growth companies and more often after the seed funding round as growth funding
round (also referred as series A round) in the interest of generating a return through an eventual
realization event such as an IPO or trade sale of the company. To put it simply, an investment
firm will give money to a growing company. The growing company will then use this money to
advertise, do research, build infrastructure, develop products etc. The investment firm is called a
venture capital firm, and the money that it gives is called venture capital. The venture capital
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firm makes money by owning a stake in the firm it invests in. The firms that a venture capital
firm will invest in usually have a novel technology or business model. Venture capital
investments are generally made in cash in exchange for shares in the invested company. It is
typical for venture capital investors to identify and back companies in high technology industries
such as biotechnology and IT (Information Technology).
Venture capital typically comes from institutional investors and high net worth individuals and is
pooled together by dedicated investment firms.
Venture capital firms typically comprise small teams with technology backgrounds (scientists,
researchers) or those with business training or deep industry experience.
A core skill within VC is the ability to identify novel technologies that have the potential to
generate high commercial returns at an early stage. By definition, VCs also take a role in
managing entrepreneurial companies at an early stage, thus adding skills as well as capital
(thereby differentiating VC from buy out private equity which typically invest in companies with
proven revenue), and thereby potentially realizing much higher rates of returns. Inherent in
realizing abnormally high rates of returns is the risk of losing all of one's investment in a given
startup company. As a consequence, most venture capital investments are done in a pool format
where several investors combine their investments into one large fund that invests in many
different startup companies. By investing in the pool format the investors are spreading out their
risk to many different investments versus taking the chance of putting all of their money in one
start up firm.
A venture capitalist (also known as a VC) is a person or investment firm that makes venture
investments, and these venture capitalists are expected to bring managerial and technical
expertise as well as capital to their investments. A venture capital fund refers to a pooled
investment vehicle (often an LP or LLC) that primarily invests the financial capital of third-party
investors in enterprises that are too risky for the standard capital markets or bank loans.
Venture capital is also associated with job creation, the knowledge economy and used as a proxy
measure of innovation within an economic sector or geography.
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In addition to angel investing and other seed funding options, Venture capital is attractive for
new companies with limited operating history that are too small to raise capital in the public
markets and have not reached the point where they are able to secure a bank loan or complete
a debt offering. In exchange for the high risk that venture capitalists assume by investing in
smaller and less mature companies, venture capitalists usually get significant control over
company decisions, in addition to a significant portion of the company's ownership (and
consequently value).
Young companies wishing to raise venture capital require a combination of extremely rare yet
sought after qualities, such as innovative technology, potential for rapid growth, a well-
developed business model, and an impressive management team. VCs typically reject 98% of
opportunities presented to them reflecting the rarity of this combination.
Venture capital firms and funds
Structure of Venture Capital Firms
Venture capital firms are typically structured as partnerships, the general partners of which serve
as the managers of the firm and will serve as investment advisors to the venture capital funds
raised. Venture capital firms in the United States may also be structured as limited liability
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companies, in which case the firm's managers are known as managing members. Investors in
venture capital funds are known as limited partners. This constituency comprises both high net
worth individuals and institutions with large amounts of available capital, such as state and
private pension funds, universityfinancial endowments, foundations, insurance companies,
and pooled investment vehicles, called fund of funds or mutual funds.
Types of Venture Capital Firms
Depending on your business type, the venture capital firm you approach will differ.[17] For
instance, if you're a startup internet company, funding requests from a more manufacturing-
focused firm will not be effective. Doing some initial research on which firms to approach will
save time and effort. When approaching a VC firm, consider their portfolio:
Business Cycle: Do they invest in budding or established businesses?
Industry: What is their industry focus?
Investment: Is their typical investment sufficient for your needs?
Location: Are they regional, national or international?
Return: What is their expected return on investment?
Involvement: What is their involvement level?
Roles within Venture Capital Firms
Within the venture capital industry, the general partners and other investment professionals of
the venture capital firm are often referred to as "venture capitalists" or "VCs". Typical career
backgrounds vary, but broadly speaking venture capitalists come from either an operational or a
finance background. Venture capitalists with an operational background tend to be former
founders or executives of companies similar to those which the partnership finances or will have
served as management consultants. Venture capitalists with finance backgrounds tend to
have investment banking or other corporate finance experience.
Although the titles are not entirely uniform from firm to firm, other positions at venture capital
firms include:
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Venture partners - Venture partners are expected to source potential investment
opportunities ("bring in deals") and typically are compensated only for those deals with
which they are involved.
Entrepreneur-in-residence (EIR) - EIRs are experts in a particular domain and perform due
diligence on potential deals. EIRs are engaged by venture capital firms temporarily (six to 18
months) and are expected to develop and pitch startup ideas to their host firm (although
neither party is bound to work with each other). Some EIR's move on to executive positions
within a portfolio company.
Principal - This is a mid-level investment professional position, and often considered a
"partner-track" position. Principals will have been promoted from a senior associate position
or who have commensurate experience in another field such as banking or management
consulting.
Associate - This is typically the most junior apprentice position within a venture capital firm.
After a few successful years, an associate may move up to the "senior associate" position and
potentially principal and beyond. Associates will often have worked for 1–2 years in another
field such as investment banking or management consulting.
Structure of the funds
Most venture capital funds have a fixed life of 10 years, with the possibility of a few years of
extensions to allow for private companies still seeking liquidity. The investing cycle for most
funds is generally three to five years, after which the focus is managing and making follow-on
investments in an existing portfolio. This model was pioneered by successful funds in Silicon
Valley through the 1980s to invest in technological trends broadly but only during their period of
ascendance, and to cut exposure to management and marketing risks of any individual firm or its
product.
In such a fund, the investors have a fixed commitment to the fund that is initially unfunded and
subsequently "called down" by the venture capital fund over time as the fund makes its
investments. There are substantial penalties for a Limited Partner (or investor) that fails to
participate in a capital call.
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It can take anywhere from a month or so to several years for venture capitalists to raise money
from limited partners for their fund. At the time when all of the money has been raised, the fund
is said to be closed and the 10 year lifetime begins. Some funds have partial closes when one half
(or some other amount) of the fund has been raised. "Vintage year" generally refers to the year in
which the fund was closed and may serve as a means to stratify VC funds for comparison..
Compensation
Venture capitalists are compensated through a combination of management fees and carried
interest (often referred to as a "two and 20" arrangement):
Management fees – an annual payment made by the investors in the fund to the fund's
manager to pay for the private equity firm's investment operations.[19] In a typical venture
capital fund, the general partners receive an annual management fee equal to up to 2% of the
committed capital.
Carried interest - a share of the profits of the fund (typically 20%), paid to the private
equity fund’s management company as a performance incentive. The remaining 80% of the
profits are paid to the fund's investors. Strong Limited Partner interest in top-tier venture
firms has led to a general trend toward terms more favorable to the venture partnership, and
certain groups are able to command carried interest of 25-30% on their funds.
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