III SEMESTER

BA 9258- MERCHANT BANKING AND FINANCIAL

SERVICES
REGULATION 2009

SYLLABUS
BA9162 INTERNATIONAL TRADE FINANCE

UNIT – I INTERNATIONAL TRADE 9

International Trade – Meaning and Benefits – Basis of International Trade – Foreign
Trade and Economic Growth – Balance of Trade – Balance of Payment – Current
Trends in India – Barriers to International Trade – WTO – Indian EXIM Policy.

UNIT – II EXPORT AND IMPORT FINACE 9

Special need for Finance in International Trade – INCO Terms (FOB, CIF, etc.,) –
Payment Terms – Letters of Credit – Pre Shipment and Post Shipment Finance –
Fortfaiting – Deferred Payment Terms – EXIM Bank – ECGC and its schemes – Import
Licensing – Financing methods for import of Capital goods.

UNIT – III FOREX MANAGEMENT 9

Foreign Exchange Markets – Spot Prices and Forward Prices – Factors influencing
Exchange rates – The effects of Exchange rates in Foreign Trade – Tools for hedging
against Exchange rate variations – Forward, Futures and Currency options – FEMA –
Determination of Foreign Exchange rate and Forecasting.

UNIT – IV DOCUMENTATION IN INTERNATIONAL TRADE 9

Export Trade Documents: Financial Documents – Bill of Exchange- Type- Commercial
Documents - Proforma, Commercial, Consular, Customs, Legalized Invoice, Certificate
of Origin Certificate Value, Packing List, Weight Certificate, Certificate of Analysis and
Quality, Certificate of Inspection, Health certificate. Transport Documents - Bill of
Lading, Airway Bill, Postal Receipt, Multimodal Transport Document. Risk Covering
Document: Insurance Policy, Insurance Cover Note. Official Document: Export
Declaration Forms, GR Form, PP From, COD Form, Softer Forms, Export Certification,
GSPS – UPCDC Norms.

UNIT – V EXPORT PROMOTION SCHEMES 9

Government Organizations Promoting Exports – Export Incentives : Duty Exemption –
IT Concession – Marketing Assistance – EPCG, DEPB – Advance License – Other
efforts I Export Promotion – EPZ – EQU – SEZ and Export House.
Total: 45

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TEXT BOOKS
1. Apte P.G., International Financial Management, Tata McGraw Hill, 2008.
2. Jeff Madura, International Corporate Finance, Cengage Learning, 8th Edition, 2008.

REFERENCES
1. Alan C. Shapiro, Multinational Financial Management, PHI Learning, 4th Edition,
2008.
2. Eun and Resnik, International Financial Management, Tata Mcgraw Hill, 4th Edition,
2008.
3. Website of Indian Government on EXIM policy

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 UNIT I

MERCHANT BANK

According to Random house Dictionary, “Merchant bank is an organization that underwrites

securities for corporations, advises such clients on mergers and is involved in the ownership of
common ventures. These organizations are sometimes banks which are not merchants and
sometimes merchants who are not banks and sometimes houses which are neither merchants nor
banks”.

MERCHANT BANKING

“Merchant banking is the development of Banking commerce which frequently encountered a

prolonged intermediate stage known in England origin as Merchant Banking”.

MERCHANT BANKER

“SEBI rules, states that “A Merchant Banker has been defined as any person who is engaged in
the business of management either by making arrangement regarding selling, buying or
subscribing to securities acting as manager, consultant, adviser or rendering corporate advisory
services in relation to securities issue Management”.

FUNCTIONS OF MERCHANT BANKER (OR) SERVICES RENDERED BY

MERCHANT BANK

1. Corporate Counseling: Set of activities undertaken to ensure efficient running of a

corporate enterprise.
2. Project Counseling: It offers advisory assistance on the viability and procedural steps for
its implementation.
3. Pre- investment studies: To evaluate alternative avenues of Capital Investment in terms
of growth and profit prospect.
4. Capital Restructuring: Restructuring capital base, diversify operations, merger,
amalgamation, and change in business status.
5. Credit Syndication & Project Finance: Raising Indian and Foreign currency loans.
6. Issue Management & Underwriting: Management of the public issue of corporate
securities.
7. Portfolio Management: Making decision relating to investment.
8. Working Capital Finance: The finance required for day-to-day activities expenses of an
enterprise.
9. Acceptance credit & Bill Discounting: Activities relating to the acceptance and
discounting of Bills of exchange ie, collecting credit information and rating the credit
worthiness.

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 10. Mergers, Amalgamation and Takeovers: MB Arranges for negotiating Merger and
acquisition
11. Venture Capital: High risk and high reward projects and Merchant banker funds these
high technology and high risk projects.
12. Lease Financing: Finance facilities are provided for leasing is called Lease financing.
13. Foreign Currency Finance: Finance provided to fund foreign trade transactions.
14. Fixed Deposit Broking: Computing the amount that could be raised by a company in the
form of deposits from the public, Drafting of advertisement for the same.
15. Mutual Funds: Mobilizing the savings of innumerable investors for channelizing them
into productive investment.
16. Relief to sick industries: Rejuvenating old lines by appraising their technology and
process, assessing their requirement, and restructuring their capital base.
17. Project Appraisal: Evaluation of industrial projects in terms of technology raw
materials, production capacity and location.

REGULATORY FRAMEWORK OF MERCHANT BANKING

SEBI Regulation includes:

I. Registration of Merchant Banker

II. General Obligation
III. Procedure for Inspection
IV. Procedure for action in case of Default
V. Code of conduct for Merchant Bankers.

Registration of Merchant Banker:

1. Application for Grant of Certificates:

Application to the board in Form A. The Application shall be made for any one of the following
category

Category I: to carry an activity of the issue manager, adviser, consultant manager, underwriter,
portfolio Manager.
Category II: To act as Advises, consultant, co-manager, underwriter, portfolio Manager.
Category III: To act as an underwriter, adviser, and consultant to an issue.
Category IV: To act only as adviser or consultant to an issue.

2. Conformance to Requirement:

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Subject to the provision of the regulation any application which is not complete in all respect
shall be rejected.

3. Furnishing of Information:
The board may require the applicant furnish all information.

4. Consideration of Application: Conditions for considering are as follows

The applicant must be a body corporate

Carry such activity subject to the condition.
The applicant has the necessary Infrastructure.
Minimum of Two employees with him
Fulfils the capital adequacy requirement.
The applicant has professional Qualification
5. Capital Adequacy Requirement:
Category Minimum Amount
I Rs. 5,00,00,000
II Rs. 50,00,000
III Rs. 20,00,000
IV Nil
6. Procedure for Registration: The Board being satisfied shall grant a certificate in Form B.
Then he is liable to pay the amount.
7. Renewal of Certificates: Three months before the expiry of the period he must make an
application for renewal in Form A. The board being satisfied will issue .
8. Procedure where registration is not granted: The refusal shall be communicated to the
board within 30 days. An applicant being aggrieved shall apply within 30 days to the
board.
9. Effect of Refusal to Grand Certificates: He is ceased to act as a merchant Banker.
10. Payment of Fees: Eligible candidate must pay such fees if not the board may suspend the
registration.

II. General Obligation:

General Obligations and Responsibilities of Merchant Bankers

1. Sole Function: He should not be associated with any business other than securities
market.
2. Maintenance of Book: A copy of B/S at the end of each accounting period
A copy of P&L account
A copy of Auditors report on the accounts

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 A statement of financial position.
3. Submission of Half- Yearly Results: Furnish to the Board half yearly unaudited
financial results to monitor the capital adequacy.
4. Preservation of Books of accounts, records etc
5. Report on steps taken on Auditors Report
6. Appointment of Lead Merchant banker:
7. Restriction on Appointment of Lead Managers:
Size of issue No. of Merchant Bankers
Less than Rs. 50 cr 2
Above 50 cr but less than 100 cr 3
Above 100 cr but less than 200 cr 4
Above 200 cr but less than 400 cr 5
Above 400 cr 5 or more as agreed by SEBI
8. Responsibilities of Lead Managers: No lead manager shall agree to manage or be associated
with any issue unless his responsibilities relating to the issue is furnished to the Board atleast one
month before the opening of the issue for subscription.
9. Underwriting Obligation: The lead merchant banker holding a certificate under category I
shall accept a minimum underwriting obligation of 5 % of the total underwriting commitment or
twenty-five lacs, whichever is less.
10. Submission of Due Deligence Certificate: The lead Merchant Banker, shall submit to the
Board atleast 2 weeks prior to the opening of the issue for subscription, a due diligence
certificate in Form C.
11. Document to be Furnished to the Board:
a. Particulars of the issue
b. Draft prospectus of letter of offer
c. Any other literature intended to be circulated to the investors.
d. Such other documents related to the prospectus.
12. Payment of Fees to the Board: The draft prospectus or draft letter of offer shall be
submitted along with such fees and in such manner as may be specified in schedule IV.
13. Continuance of Association of Lead Manager: He shall continue to be associated with the
issue till the subscribers have received the share or debenture certificates or refund of excess
application money.
14. Acquisition of Shares prohibited: No merchant Banker or any of its directors, partners,
manager or principal officer shall either on their respective account or through their associates or
relatives enter into any transaction in securities on the basis of unpublished price sensitive
information.
15. Information to the Board: Every Merchant Banker shall submit to the board complete
particulars of any transaction within 15 days from the date of entering into such transaction.
16. Disclosure to the Board: A merchant Banker shall disclose to the board the following
information.

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 a. His responsibilities with regard to the management of the issue
b. Any change in the information previously furnished
c. he nature of body corporate
d. The particulars relating to the breach of Capital adequacy requirement
e. His activities as a manager, underwriter, consultant or advisor to an issue.
17. Appointment of Compliance officer: Every Merchant banker shall appoint a compliance
officer who shall be responsible for monitoring the compliance of the act, rules and regulations,
notifications, guidelines, instruction etc, issued by the Board or the central Government.

III. PROCEDURE FOR INSPECTION

1. Boards right to Inspect: The board shall appoint one or more persons as inspecting
authority to undertake inspection of the books of accounts, records, and documents of the
merchant banker
2. Notice before inspection: Before undertaking an inspection the board shall give a
responsible notice to the merchant banker.
3. Obligation of Merchant Banker on Inspection: The merchant Banker shall allow the
inspecting authority to have reasonable access to the premises occupied. The inspection
shall be entitled to examine record statement of any employee of the Merchant Banker.
4. Submission of Report to the Board: The inspection authority shall as soon as possible
submit an inspection report to the Board.
5. Acting on Inspection or Investigating report: The board or the chairman after
considering such report shall take such actions as the board or chairman may deem fit and
appropriate.
6. Appointment of Auditor: The board may appoint a qualified auditor to investigate into
the books of accounts.
7. Communication of Finding: The board shall after considering of the inspection report
communicate the findings to the Merchant Banker.

IV. PROCEDURE FOR ACTION IN CASE OF DEFAULT

1. Liability for action in case of Default: A merchant Banker who fails to comply with
any conditions subject to which certificate has been granted, shall be dealt with in in the
manner provided under SEBI regulation.
2. Suspension of Registration: A penalty for suspension of registration may be imposed
under the following circumstances:
 Violation of the provision of the act
 Fails to furnish any detail
 Failing to resolve any complaint
 Indulging in manipulation

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  Guilty of misconduct
 Fails to maintain the capital adequacy
 Fails to pay the fees
 Violates the conditions of registration
 Does not carry out his obligation
3. Cancellation of Registration: A penality of cancellation of Merchant Banker may be
imposed where:
 The merchant Banker indulges in Delibrate manipulation
 The financial position of the Merchant Banker deteriorates
 The Merchant banker is guilty of fraud.
 In case of repeated defaults.
4. Manner of making order of suspension or cancellation: Only after having an enquiry
suspension can be made.
5. Manner of holding enquiry before suspension or cancellation:
 Appoint an enquiry officer
 The enquiry officer shall issue a notice to the merchant banker
 The merchant banker within 30 days from the receipt of such report furnishes a
reply to the enquiry officer with copies of document.
 The enquiry officer shall give a reasonable opportunity of hearing to the merchant
Banker
 If it is necessary the enquiry officer may ask the board to appoint a presenting
officer to present the case.
 The enquiry officer shall then submit a report to the board and recommend the
penalty
6. Show-cause notice order: On receipt of the report from the enquiry officer, the board
shall issue a show-cause notice as to why the penalty proposed by the enquiry officer
should not be imposed. The merchant banker within 21 days send a reply to the board.
The board after considering the reply, shall as soon as possible but not later than 30 days,
if any such order as it deems fit.

7. Effect of suspension & cancellation: On and from the date of suspension or cancellation
the merchant banker shall cease to carry on any activity as a Merchant Banker. The order
of suspension or cancellation shall be published in atleast 2 daily newspaper by the board.

8. Appeal to the Securities appellate Tribunal: Any person aggrieved shall appeal to a
securities Appellate tribunal.

9. Fees:
 Every Merchant Banker shall pay a sum of 5 lacs as registration fees.

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  The fee shall be paid within 15 days from the date of receipt of intimation from
board.
 He shall pay a renewal fees of 2.5 lacs every three years
 The fees shall be paid by a DD in favour of SEBI.

Every Merchant Banker shall pay:

Category I - A sum of 2.5 lakhs to be paid annually for 1st two years and 1 lakhs
for 3rd year.
Category II - 1.5 lahs for the 1st two years and 1 lakhs for the third year.
Category III - 1 lakh for the 1st two year and 25000 for the third year.
Category IV - 5000 for the 1st two years and 1000 for the 3rd year.
Renewal Fees
Category I - A sum of 1 lakhs to be paid annually for 1st two years and 20000
for 3rd year.
Category II - A sum of 75000 to be paid annually for 1st two years and 10000
for 3rd year.
Category III - A sum of 50000 to be paid annually for 1st two years and 5000
for 3rd year.
Category IV - A sum of 5000 to be paid annually for 1st two years and 2500
for 3rd year.

In addition, the merchant banker have to pay the following towards documentation.

Size of the issue Fees per Documentation(Rs)

Upto 5 cr 10000
More than 5 Cr & upto 10 cr 15000
More than 10 Cr & upto 50 cr 25000
More than 50 Cr & upto 100 cr 50000
More than 100 Cr & upto 500 cr 250000
More than 500 Cr 500000

VI. CODE OF CONDUCT FOR MERCHANT BANKERS:

1. To prevent the interest of the investors
2. To maintain high standard of integrity
3. To fulfill his obligation in a prompt, ethical and professional manner
4. He shall at all times exercise Due diligence
5. Redress the grievance of the investor
6. Ensure adequate disclosure
7. Ensure that the investors are provided with true and adequate information.
8. He shall no discriminate amongst the clients

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 9. He shall avoid conflict of interest
10. He shall render the best possible advice
11. He shall not divulge to anybody
12. Shall not indulge in any unfair competition
13. He shall maintain arms length relationship
14. He shall have internal control procedures
15. He shall maintain an appropriate level of knowledge
16. He shall ensure that the board is promptly informed.
17. He shall provide adequate freedom and powers to its compliance officer
18. He shall develop its own internal code of conduct
19. He shall ensure good corporate policies
20. He shall be responsible for any act or omission
21. He shall ensure that it has adequate resources

SEBI GUIDELINES:
1. Submission of offer document:
 The offer document of issue size upto 20 cr shall be filed by lead merchant banker
with the concerned regional office of the board.
 He shall make available 10 copies of the draft offer document to the board and 25
copies to the stock exchange. It shall also be made available to the general public.
 He shall submit it to the board on a computer floppy and submit 2 copies to the
dealing officer of the board.
 He shall submit one printed copy and computer floppy to the primary market dept,
SEBI, Head office.
2. Despatch of issue material: The lead merchant Banker shall ensure that whenever there
is reservation for NRI’s 10 copies of the prospectus together with 1000 application forms
are dispatched in advance of issue opening date to the advisor. And 20 copies to the
investor association.
3. Underwriting: While selecting underwriters and finalizing arrangements, lead managers
should ensure that the underwriters do not overexpose themselves so that it becomes
difficult to fulfill their underwriting commitment.
4. Compliance Obligation: The merchant banker shall ensure compliance with the
following post-issue obligations
a. Association of resource personal: In case of oversubscription in public issues, a board
nominated public representative shall be associated in the process of the basis of
allotment.
The lead merchant banker shall intimate to the person so nominated the date, time
and venue.
The expenses shall be borne by the lead Merchant banker and recovered from the
issuer.

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b. Redressal of Investor Grievances: The merchant banker assign high priority to
investor grievances and take all preventive steps to minimize the number of
complaints.
c. Submission of post-issue monitoring report: The concerned lead merchant banker
shall submit in duplicate the post issue monitoring report.
d. Issue of no oblication certificate(NOC): The issuer company shall deposit 1% of the
amount of securities offered to the public and/or to the holder of the existing
securities of the company with the stock exchange. These securities can be released
by the concerned stock exchange only after obtaining NOC from the board.
e. Registration of Merchant Banker: Application for renewal of certificate of
registration shall be made by the merchant banker. It shall provide a statement
highlighting the changes that have been taken place.
f. Reporting Requirement: The merchant banker shall send a half-yearly report, relating
to the merchant banking activities. It shall be submitted twice a year.
g. Imposition of penalty points: It shall be imposed for violation of any of the provisions
for operational guidelines.

GUIDELINES FOR ADVERTISEMENT

Following are the guidelines:

a. Factual & truthful: An issue advertisement shall be truthful, fair and clear and shall
not contain any statement that is untrue or misleading. An ad shall be considered as
misleading, if it contains:
 Statement made about the performance or activities of the company in the
absence of necessary explanatory or qualifying statement.
 An inaccurate portrayal of past performance.
b. Clear & concise: An ad shall be set forth in clear, concise and understandable
language. Extensive use of technical, legal terminology etc should be avoided.
c. Promise & profit: An issue Ad shall not contain statements which promise or
guarantee rapid increase in profits.
d. Mode of Advertising: No models, celebrities, financial characters, landmarks,
caricatures or the likes shall be displayed on or form part of the offer document or
issue advertisement.
e. Financial Data: The Ad should not contain the financial data’s like sales, gross profit,
share capital, reserves, earnings per share, dividends, and book value for past 3 years,
f. Risk Factor: The Ad shall contain highlights relating to any issue, besides containing
detailed information on the risk factor.
g. Issue Date: No corporate Ad of Issuer Company shall be issued after 21 days of filing
of the offer document with the board.

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h. Product Advertisement: No product Ad of the company shall contain any reference
directly or indirectly, to the performance of the company during the period.
i. Subscription: No Ad shall be issued stating that the issue has been fully subscribed or
oversubscribed during the period.
j. Issue closure: No announcement regarding closure of the issue shall be made except
on the closing date.
k. Incentive: No incentive, apart from the permissible underwriting commission &
brokerage, shall be offered through Ad.
l. Reservation: In case there is a reservation for NRI’s the issue advertisement shall
specify the same.
m. Undertaking: An undertaking has to be obtained from the issuer as a part of MOU
between the merchant banker and the issuer company shall not release any material or
information which is not contained in the offer document.
n. Availability of copies: The leads Merchant Banker is responsible for marketing the
issue and ensures the availability of copies of all related materials with the lead
merchant banker, atleast until the allotment is completed.

MERCHANT BANKING IN INDIA

Merchant banking activity was formally initiated into the Indian capital market by
Grindlays Bank in 1967. Grindlays which started with management of capital issues
recognized the needs of emerging class of entrepreneurs for diverse financial services
ranging from production planning and system design to market research. Then it also
provided management consultancy services to large and medium sized companies.

Following Grindlays Bank, City bank set up its merchant banking division in 1970. They
took up the task of assisting new entrepreneurs and existing units in the evaluation of new
projects & raising funds through borrowing and issue of equity. Management consultancy
services were also offered

Consequences to the recommendations of Banking commission in 1972, that Indian

Banks should start merchant Banking services, state bank of India started the Merchant
banking Division in 1972. In the Initial years the SEBI’s objective was to render
corporate advice and assistance to small and medium entrepreneurs.

Merchant Bank activities are regulated by (a) Guidelines of SEBI and Ministry of
Finance, (b) Companies Act, 1956, (c) Listing Guidelines of Stock Exchanges & (d)
SEBI Act, 1956.

AN OVERVIEW OF INDIAN FINANCIAL SYSTEM

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There are areas or people with surplus funds and there are those with a deficit. A
financial system or financial sector functions as an intermediary and facilitates the flow
of funds from the areas of surplus to the areas of deficit. A Financial System is a
composition of various institutions, markets, regulations and laws, practices, money
manager, analysts, transactions and claims and liabilities.

Financial System

Indian financial system consists of financial market, financial instruments and financial
intermediation. These are briefly discussed below;
Financial Markets
A Financial Market can be defined as the market in which financial assets are created or
transferred. As against a real transaction that involves exchange of money for real goods
or services, a financial transaction involves creation or transfer of a financial asset.
Financial Assets or Financial Instruments represents a claim to the payment of a sum of
money sometime in the future and /or periodic payment in the form of interest or
dividend.
Money Market- The money market ifs a wholesale debt market for low-risk, highly-
liquid, short-term instrument. Funds are available in this market for periods ranging from
a single day up to a year. This market is dominated mostly by government, banks and
financial institutions.
Capital Market - The capital market is designed to finance the long-term investments.
The transactions taking place in this market will be for periods over a year.
Forex Market - The Forex market deals with the multicurrency requirements, which are
met by the exchange of currencies. Depending on the exchange rate that is applicable,
the transfer of funds takes place in this market. This is one of the most developed and
integrated market across the globe.
Credit Market- Credit market is a place where banks, FIs and NBFCs purvey short,
medium and long-term loans to corporate and individuals.

Constituents of a Financial System

Financial Intermediation
Having designed the instrument, the issuer should then ensure that these financial assets
reach the ultimate investor in order to garner the requisite amount. When the borrower of
funds approaches the financial market to raise funds, mere issue of securities will not
suffice. Adequate information of the issue, issuer and the security should be passed on to
take place. There should be a proper channel within the financial system to ensure such
transfer. To serve this purpose, Financial intermediaries came into existence. Financial
intermediation in the organized sector is conducted by a widerange of institutions
functioning under the overall surveillance of the Reserve Bank of India.

Some of the important intermediaries operating ink the financial markets include;
investment bankers, underwriters, stock exchanges, registrars, depositories, custodians,
portfolio managers, mutual funds, financial advertisers financial consultants, primary
dealers, satellite dealers, self regulatory organizations, etc.

Intermediary Market Role

Secondary Market to
Stock Exchange Capital Market
securities

Corporate advisory
Capital Market, Credit
Investment Bankers services, Issue of
Market
securities

Subscribe to
Capital Market,
Underwriters unsubscribed portion
Money Market
of securities
 Issue securities to the
Registrars, investors on behalf of
Depositories, Capital Market the company and
Custodians handle share transfer
activity

Primary Dealers Market making in

Money Market
Satellite Dealers government securities

Ensure exchange ink

Forex Dealers Forex Market
currencies

FINANCIAL INSTRUMENTS

Money Market Instruments

The money market can be defined as a market for short-term money and financial assets
that are near substitutes for money. The term short-term means generally a period upto
one year and near substitutes to money is used to denote any financial asset which can be
quickly converted into money with minimum transaction cost.

Some of the important money market instruments are briefly discussed below;
1. Call/Notice Money
2. Treasury Bills
3. Term Money
4. Certificate of Deposit
5. Commercial Papers
1. Call /Notice-Money Market
Call/Notice money is the money borrowed or lent on demand for a very short period.
When money is borrowed or lent for a day, it is known as Call (Overnight) Money.
Intervening holidays and/or Sunday are excluded for this purpose. Thus money, borrowed
on a day and repaid on the next working day, (irrespective of the number of intervening
holidays) is "Call Money". When money is borrowed or lent for more than a day and up
to 14 days, it is "Notice Money". No collateral security is required to cover these
transactions.
2. Inter-Bank Term Money
Inter-bank market for deposits of maturity beyond 14 days is referred to as the term
money market. The entry restrictions are the same as those for Call/Notice Money except
that, as per existing regulations, the specified entities are not allowed to lend beyond 14
days.
3. Treasury Bills.
Treasury Bills are short term (up to one year) borrowing instruments of the union
government. It is an IOU of the Government. It is a promise by the Government to pay a
stated sum after expiry of the stated period from the date of issue (14/91/182/364 days i.e.
less than one year). They are issued at a discount to the face value, and on maturity the
face value is paid to the holder. The rate of discount and the corresponding issue price are
determined at each auction.
4. Certificate of Deposits
Certificates of Deposit (CDs) is a negotiable money market instrument nd issued in
dematerialised form or as a Usance Promissory Note, for funds deposited at a bank or
other eligible financial institution for a specified time period. Guidelines for issue of CDs
are presently governed by various directives issued by the Reserve Bank of India, as
amended from time to time. CDs can be issued by (i) scheduled commercial banks
excluding Regional Rural Banks (RRBs) and Local Area Banks (LABs); and (ii) select
all-India Financial Institutions that have been permitted by RBI to raise short-term
resources within the umbrella limit fixed by RBI. Banks have the freedom to issue CDs
depending on their requirements. An FI may issue CDs within the overall umbrella limit
fixed by RBI, i.e., issue of CD together with other instruments viz., term money, term
deposits, commercial papers and intercorporate deposits should not exceed 100 per cent
of its net owned funds, as per the latest audited balance sheet.
5. Commercial Paper
CP is a note in evidence of the debt obligation of the issuer. On issuing commercial paper
the debt obligation is transformed into an instrument. CP is thus an unsecured promissory
note privately placed with investors at a discount rate to face value determined by market
forces. CP is freely negotiable by endorsement and delivery. A company shall be eligible
to issue CP provided - (a) the tangible net worth of the company, as per the latest audited
balance sheet, is not less than Rs. 4 crore; (b) the working capital (fund-based) limit of
the company from the banking system is not less than Rs.4 crore and (c) the borrowal
account of the company is classified as a Standard Asset by the financing bank/s. The
minimum maturity period of CP is 7 days. The minimum credit rating shall be P-2 of
CRISIL or such equivalent rating by other agencies. Capital Market Instruments
The capital market generally consists of the following long term period i.e., more than
one year period, financial instruments; In the equity segment Equity shares, preference
shares, convertible preference shares, non-convertible preference shares etc and in the
debt segment debentures, zero coupon bonds, deep discount bonds etc.
Hybrid Instruments
Hybrid instruments have both the features of equity and debenture. This kind of
instruments is called as hybrid instruments. Examples are convertible debentures,
warrants etc.
RECENT DEVELOPMENTS AND CHALLENGES AHEAD OF MERCHANT
BANKING

The progress of any economy mainly depends on the efficient financial system of the
country. Indian economy is no exception of this. This importance of the financial sector
reforms affirms an effective means for solving the problems of economic, financial and
social in India and elsewhere in the developing nations of the world. The progress of the
securities Industry of any country depends mainly on the flow of funds.Infact, Capital
generation is the lifeblood of the capital market without which the health and soundness
of the financial system cannot be geared up and for which well-developed capital market
as well as money market is essential.

In recent years, there has been a considerable widening and deepening of the Indian
financial system, of which banking is a significant component. With greater
liberalisation, the financial system has come to play a much larger role in the allocation
of resources than in the past and its role in future can be expected to be much larger than
at present. The growing role of the financial sector in the allocation of resources has
significant potential advantages for the efficiency with which our economy functions.
Present position and the challenges ahead
The enhanced role of the banking sector in the Indian economy, the increasing
levels of deregulation and the increasing levels of competition have placed numerous
demands on banks. Operating in this demanding environment has exposed banks to
various challenges.

1. Customer service: It is no longer adequate for banks to provide only traditional

banking services. Apart from providing the conventional banking services, banks
have begun offering a bouquet of financial services to their clients, including cross
selling of financial products. The ultimate aim is to offer a one-stop-shop for meeting
varied customers' financial needs. Some banks have begun employing customer
relationship management systems to not only retain the existing customers but also to
attract new customers.

2. Branch banking: Traditionally banks have been looking to expansion of their

branch network to increase their business. Against this background it is
interesting to observe that the new private sector banks as well as the foreign
banks have been able to achieve business expansion through other means. It has
been realized that it might not be necessary to establish a wider brick and mortar
network to reach a wider population. Banks are, therefore, examining the
potential benefits that may accrue by tapping the agency arrangement route and
the outsourcing route. While proceeding in this direction banks ought not to lose
 sight of the new risks that they might be assuming and hence put in place
appropriate strategies and systems for managing these new risks.

3. Competition: With the ever increasing pace and extent of globalisation of the Indian
economy and the systematic opening up of the Indian banking system to global
competition, banks need to equip themselves to operate in the increasingly
competitive environment. This will make it imperative for banks to enhance their
systems and procedures to international standards and also simultaneously fortify
their financial positions.

4. Technology : A few banks which have impressive branch networks have not been
able to meet their customers’ expectations due to inefficiencies arising out of
inadequate investment in technology and consequently faced an erosion of their
market shares. The beneficiaries are those banks which have invested in technology.
Another distinct advantage of use of technology is the ability to effectively use
quantitative techniques and models which can enhance the quality of their risk
management systems.

5. Basel II implementation: As you are aware, Basel II is the revised framework for
capital adequacy for banks. Implementation of Basel II is seen as one of the
significant challenges facing the banking sector in many jurisdictions. With the
introduction of capital charge for market risks with effect from the year ended March
31, 2005 banks in India are compliant with all elements of Basel I

6. Improving Risk Management Systems: With the increasing degree of deregulation

and exposure of banks to various types of risks, efficient risk management systems
have become essential. As you are aware, as a step towards further enhancing and
fine-tuning risk management systems in banks, Reserve Bank has issued guidelines
on asset-liability management and risk management systems in banks in 1999 and
Guidance Notes on Credit Risk Management and Market Risk Management in
October 2002 and the Guidance Note on Operational risk management in 2005.

7. Implementation of new accounting standards: Derivative activity in banks has been

increasing at a brisk pace. While the risk management framework for derivative
trading, which is a relatively new area for Indian banks (particularly in the more
structured products), is an essential pre-requisite, the absence of clear accounting
guidelines in this area is matter of significant concern. It is widely accepted that as the
volume of transactions increases, which is happening in the Indian banking system,
the need to upgrade the accounting framework needs no emphasis.
8. Transparency and Disclosures : In pursuance of the Financial Sector Reforms
introduced since 1991 and in order to bring about meaningful disclosure of the
true financial position of banks to enable the users of financial statements to study
and have a meaningful comparison of their positions, a series of measures were
initiated. The disclosure requirements broadly covered the following aspects:
 Capital adequacy
 Asset quality
 Maturity distribution of select items of assets and liabilities
 Profitability
 Country risk exposure
 Risk exposures in derivatives
 Segment reporting
 Related Party disclosures
9. Supervision of financial conglomerates: In view of increased focus on empowering
supervisors to undertake consolidated supervision of bank groups and since the Core
Principles for Effective Banking Supervision issued by the Basel Committee on
Banking Supervision have underscored consolidated supervision as an independent
principle, the Reserve Bank had introduced, as an initial step, consolidated accounting
and other quantitative methods to facilitate consolidated supervision.
10. 'Know Your Customer' (KYC) Guidelines – Anti Money Laundering Standards :
Banks were advised in 2002 to follow certain customer identification procedure for
opening of accounts and monitoring transactions of a suspicious nature for the
purpose of reporting it to appropriate authority. These ‘Know Your Customer’
guidelines were revisited in the context of the recommendations made by the
Financial Action Task Force on Anti Money Laundering standards and on Combating
Financing of Terrorism.
11. Corporate Governnace: Banks are “special” as they not only accept and deploy large
amount of uncollateralized public funds in fiduciary capacity, but they also leverage
such funds through credit creation. Banks are also important for smooth functioning
of the payment system. In view of the above, legal prescriptions for ownership and
governance of banks laid down in Banking Regulation Act, 1949 have been
supplemented by regulatory prescriptions issued by RBI from time to time.

Objectives of Merchant Banking in Prevailing Economy:

* To study the significance of Merchant Banking towards the development of securities
industry.
* To analyze issue management regulations.
* To analyze the functions of Merchant Banking in relation to rules and regulations of
SEBI.
* To evaluate the performance of Merchant Bankers, both activity performance and
operational and financial performance.
* To draw a conclusion and suggestions based on the analysis and experiences.

FEMA (FOREIGN EXCHANGE MANAGEMENT ACT)

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.

The main objective behind the Foreign Exchange Management Act (1999) is to
consolidate and amend the law relating to foreign exchange with 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

SECURITIES CONTRACTS (REGULATION) ACT, 1956

An Act to prevent undesirable transactions in securities by regulating the business of

dealing therein, by providing for certain other matters connected therewith.

(1) This Act may be called the Securities Contracts (Regulation) Act, 1956.
(2) It extends to the whole of India.
(3) It shall come into force on such date as the Central Government may, by notification
In the Official Gazette, appoint.

Ranking of Merchant Banking in India:

Merchant OE FSS QPS QM INN
Banker

ICICI 4.0 4.0 4.2 3.8 4.3

Securities
 IDBI 4.2 3.2 4.5 4.0 4.8

SBI Caps 4.4. 3.9 4.6. 6.7 5.2

DPS 6.1 5.7 6.0 6.0 5.3

IFCI 6.1 5.7 6.0 6.0 6.3

Bank of 6.7 6.5 6.7 6.6 6.8

Baroda

Jardine 5.8 6.2 5.9 5.0 5.5

Fleming

JM Finance 6.0 6.5 5.5 5.9 5.4

ENAM 6.3 6.8 6.4 6.3 6.2

PNB Caps 6.8 6.8 6.7 6.8 6.8

Note: OE: Overall Excellence; FSS: Financial Soundness ; QPS: Quality Product/Service; QM:
Quality Management; INN: Innovativeness.
 UNIT II

ISSUE MANAGEMENT

ROLE OF MERCHANT BANKER IN APPRAISAL OF PROJECT

Merchant bankers, as a part of the financial services they render to their clients, undertake
project counseling and preparation of pre-investment studies, feasibility studies and project
reports. At the time of preparation of the project report itself, the merchant banker has to satisfy
himself that the project is viable and meets the requirements of term lending institutions and the
SEBI that he has exercised due diligence in regard the viability of the project in the prospectus
for issue of securities.

Appraisal of Project

Project appraisal is done to analyze the soundness of an investment project. The analysis is based
on projections in terms of cash flows. The analysis is carried out by entrepreneurs or promoters
of the project, the merchant banker who is going to be involved in the management of public
issues & underwriting it and public financial institutions who may lend money.

Evaluation of industrial project is undertaken to compare and evaluate alternative variants of

technology, of raw materials to be used, of production capacity, of location and of local
production verses import.

The Appraisal may include

 1. Financial Appraisal
2. Technical Appraisal
3. Economic Appraisal

FINANCIAL APPRAISAL

In appraising a project, the projects direct benefit and costs are estimated at the prevailing market
prices. This analysis is used to appraise the viability of a project as well as match project on the
basis of their profitability.

Financial appraisal uses two popular methods and two discounted cash flow techniques to
evaluate cash flows and profitability.

The discounted cash flow techniques take into consideration the project entire life and time
factor.

The two popular methods are simple rate of return and payback period. They do not take into
account life span of the project.

Two Popular methods:

a. Simple rate of return method: It is the ratio of net profit in a normal year to the initial
investment in terms of fixed and working capital.
R= (F+Y)/I

Where, R= Simple rate of return on total investment

F= Net profit in a normal year, after depreciation, interest and taxes

Y= Annual Interest charges

I= Total investment comprising of debt and equity.

Its shortcoming is that it leaves out the magnitude and timing of cash flows.

b. Payback period: It measures the number of years required to recover projects total investment
from the cash flows if generates.

Payback period = initial investment/ Annual Cash flows

The shorter the payback period the quicker is the recovery of initial investment. But it leaves out
time pattern of the cash flows.

Discounted cash flow techniques

The discounted cash flow techniques takes into account both the magnitude and timing of
expected cash flows.

a. Internal rate of Return (IRR)

IRR is the discount rate that equates the present value of expected cash inflows with the present
value of expected cash outflows. In the IRR method the discount rate is unknown. By definition
IRR is the rate of discount that reduces net present value of a project to zero.

B.Net present Value method

All future cash flows from the project are discounted to present value using the required rate of
return. The NPV of an investment proposal is:

PV= 1/ (1+r)n

FINANCIAL ANALYSIS

An integral aspect of financial appraisal is financial analysis which takes into account the
financial features of a project, especially sources of financing.

The two major aspects of financial analysis are liquidity analysis and capital structure analysis.

Liquidity analysis:

The liquidity ratios or solvency ratios measure a project ability to meet its short-term obligations.
a. Current Ratios: The current ratio is defined as current asset (Cash, bank balances, investment
in securities, account receivable and inventories) divided by current liabilities.

Current Ratio = Current Assets/Current Liabilities

A current ratio 1.5 to 1.0 is considered acceptable.

b.Acid test or Quick Ratio: It is defined as liquid asset divided by liquid liabilities. A liquid
asset excludes stock.

Quick ratio= Current asset- Inventories/ Current liabilities

A liquid ratio of 1:1 is considered good.

c. Debt utilization ratio: It measures a firm’s degree of indebtedness which measures the
proportion of firm’s assets to equity.

Debt Ratio= Total Debt/Total Assets

d. Debt- equity ratio: Debt-equity ratio is the value of total debt divided by the book value of
equity.

Debt- Equity Ratio = Long term liabilities (Debt)/Share holders equity

e. Fixed Asset Coverage ratio: It shows the number of times fixed assets cover loan.

Fixed Asset Coverage ratio= Net Fixed Assets/ Term Loan

f. Debt coverage Ratio: The debt coverage ratio measures the degree to which fixed payments
are covered by operating profits.

g. Interest Coverage Ratio: It measures the number of times interest expenses are earned or
covered by profits.

Interest Coverage Ratio= Net profit before taxes+interest/ Interest

The Break-Even Point(BEP): The essential part of financial appraisal is the determination of
BEP. Break even is that level of production and sales at which total revenues are exactly equal to
operating cost. BEP occurs when sales – operating cost= 0. The viability of a project can be
assessed with the help of break-even analysis.

BEP= F/ 1-(v/S)

Where, F= Fixed cost

V= Variable cost

S= Sales Volume

TECHNICAL ANALYSIS

The objectives of technical appraisal is primarily concerned with the project concept covering
technology, design, scope and content of the plant as well as inputs and infrastructure facilities
envisaged for the project.

Project concept comprises various important aspects such as plant capacity, degree of
integration, facilities for by by-product recovery and flexibility of the plant.

a. Plant capacity

Capacity of a plant depends on several factors such as product specification, product mix and
raw material composition. It is indeed difficult to assess capacity.

For e.g., Textile Mills, capacity varies with the composition of yarn of different counts.

The daily production in a sugar mill depends on sugar content of the cane and annual production
on the length of the crushing season.

b.Flexibility of Plant & Flexible Manufacturing system: While assessing a project, flexibility
of plant should be allowed in the design of individual pieces of equipment. Flexible
manufacturing system is the emerging system to manufacture what the customers wants.

c.Evaluation of Technology: Outstanding features of technology, processes, engineering design

and plant and machinery are established. The design and layout of the plant in technical appraisal
should ensure ease of operation and convenience of maintenance. Above all, in technical
appraisal one should be alert and bring to bear trained and informed skills.
For e.g., the availability of soft water is essential for a textile processing plant.

d. Inputs: In technical appraisal, inputs are scrutinized for availability and quality dependability.
If there are seasonal variations, especially in the case of agricultural inputs, variations in price
have to be checked. Similarly power quality has to be checked in terms of variation in supply
voltage and in line current frequently and duration of blackouts. Finally, the quality and
availability of water especially in case of a project requiring water as an input should be checked.

e. Location: The ideal factors are of course proximity to the market and inputs. Preferably where
well-developed infrastructure exists.

f. Interdependence of the parameters of project: The basic parameters of the project are, plant
size, location & technology. Use of scheduling techniques like PERT, CPM & GERT and Proper
adherence to them is an essential aspect to be insisted upon in technical appraisal.

ECONOMIC APPRAISAL

Economic appraisal of a project deals with the impact of the project on economic aggregates. We
may classify these under two broad categories, the first deals with the effect of the project on
employment and foreign exchange and second deals with the impact of the project on net social
benefits of welfare.

a. Employment effect: The impact on unskilled and skilled labour has to be taken into account.
Not only direct employment but also indirect employment should be considered. Total
employment effect is:

TEE= Total no. of new job opportunities/ Total Investment (Direct & Indirect)

B.Net Foreign exchange Effect: The assessment of project on the company’s foreign exchange
is done in two stages, first, balance of payment effects of the project and Second, import
substitution effect of a project.

c. Social Cost- Benefit Analysis

Cost- benefit analysis is concerned with the examination of a project from the viewpoint of
maximization of net social benefit.

Cost- benefit appraisal of a project proposes to describe and quantify the social advantage and
disadvantages of policy in terms of common monetary unit.

i. Market Imperfections: Private costs and profit do not reflect social costs and benefits. The
market imperfections should be considered in project appraisal.

ii.Externalities: The difference between private costs and benefits and social costs and benefits
arises mainly because of externalities.

For instance, when it creates infrastructural facilities like roads, the area adjacent may be
benefited. Such benefits are however not included in assessing the benefits.

iii.Redistribution: It is of no consequence as to how projects benefits are distributed among

society. But to society or Government it is essential to have information as to who benefits from
the investment in various projects.

For instance, All our five year plans have poverty alleviation as their basic objectives.

DESIGNING CAPITAL STRUCTURE AND INSTRUMENTS

Capital structure of a firm has to be distinguished from financial structure. Capital structure is
financed by long-term sources which consist of debt and equity. On the other hand, financial
structure which includes all forms of debt and equity covers all financial resources. These
include all short-term and long-term sources.

Financing Capital Structure

Capital structure of a unit is financed by owned capital in the form of promoters contribution and
issue of shares and borrowed capital. Net worth represents owned capital and consists of equity
shares and retained profits. Equity share capital which is the core of the capital structure of a
company represents risk capital. Equity shareholders are the owners of the company, have voting
rights, have a say in the management of the company possess residuary interest in the company.
Equity shares, however, do not have any right to dividend and the management can skip
dividends.

Debt-equity Ratio

The proportion of equity in the capital structure of a company is determined by debt-equity ratio
stipulated by the government, restrictions imposed by financial institutions and requirements to
be met for listing on stock exchanges. The debt-equity ratio stipulated by government in its
guidelines is 2:1. It may be noted that in practice this has been administered with considerable
degree of flexibility. Thus in the case of capital intensive projects, such as shipping, cement,
fertilizers higher ratios in the range of 3:1 to 6:1 have been allowed.

Financial institutions require that promoters contribute 22.5 percent of the project cost; and in
backward areas a lower contribution of 17.5 percent is required.

The listing requirements of the stock exchange stipulate that a company should offer 25 percent
of issued capital for public subscription.

Preference Shares

Preference shares partake the character of both debt and equity. Preference shares redeemable
after twelve years are considered as equity whereas redeemable preference shares within twelve
years are considered debt. The preference shareholders do not have any voting rights unless
preference dividends have remained in arrears for three consecutive years. The divided on
preference shares used to be fixed by the controller of capital issues. Now the companies are free
to determine the rate.

The guidelines issued by Government have fixed the proportion of equity to preference at 3:1.

Long-Term Debt

Long-Term debt consists of loans from term lending institutions and commercial banks. Short-
Term borrowing for working capital purposes from commercial banks and public through
acceptance of public deposits are left out of the definition of debt while determining the capital
structure of a company.
Companies normally prefer debt, because interest payable is deduct-able as expenditure in the
computation of profits for tax purposes. The tax advantage considerably reduces the cost of
borrowed funds.

The choice of debt is also influences by the character of earnings. If they are stable, debt is
preferable because fixed obligations assumed under debt cannot be serviced when earnings are
variable.

Debt-equity decision is also influenced by timing and flexibility. Flexibility refers to the extent
to which firms have some freedom in choosing the type of financing in future.

Timing of the issue requires flexibility for management. To raise equity, opportune time is when
its stock price is high. However, to take advantage of market timing opportunities the firm
should not issue so much debt that it does not have flexibility.

Sources of Funds and Project cost

Companies can raise equity and preference capital by offering them for sale through prospectus
to the public. The equity shares are normally underwritten by financial institutions such as IDBI,
ICICI, IFCI, LIC, UTI and commercial banks and merchant bankers. Share brokers also
underwrite public issues of equity capital. Sometimes term lending institutions directly subscribe
to equity and preference issues of a company.

Preference shares are normally subscribed to by financial institutions whereas households prefer
equity shares.

Central financial institutions and commercial banks provide long-term loans. LIC and UTI have
also been lending on long-term to industrial units. At the state level, State financial corporations,
State Industrial Development corporations and State industrial Investment Corporations assist
corporate units, by way of loans, underwriting new issues, direct subscription to new issues and
guaranteeing deferred payments.
OPTIMUM CAPITAL STRUCTURE

Financing Decision

A firm’s capital structure is determined by the legal stipulations in regard to debt-equity ratio and
equity-preference ratio, requirement of financial institutions and Stock exchanges for listing.

In the choice of the capital structure, the company is mainly motivated by the objective of
maximizing its value to shareholders. Value is represented by the market value of the company’s
share which is a reflection of the firm’s investment, financing and dividend decisions. The
market price serves as a performance index of the firm’s progress.

Debt and Financial Risk

Debt finance is cheaper than equity finance because investors take on less risk when purchasing
debt and thus require a lower return. If a firm swaps debt for equity, it will reduce its cost of
capital and increase the company value. Further, loan capital or borrowed funds cost less because
interest on borrowed funds is tax deductable. The value of firm could be increased by maximum
utilization of debt.

The tax induced premium placed on loan financing causes company’s financial structure to
become distorted, in the direction of too much debt and too little equity. Such a structure is more
vulnerable to shifts in gross income of the company.

As a firm increases the proportion of debt, fixed charges increases. As the firm continues to lever
itself, the probability of cash insolvency which may lead to legal bankruptcy, increases. The
financing decision, therefore, determines financial risk which includes both the risk of probable
insolvency and the variability in the earnings available to shareholders.

The second aspect of financial risk involves the relative dispersion of income available to
shareholders.

As a firm increases the proportion of fixed income obligation in its capital structure the financial
risk to shareholders rises.
Financing Decision and Cost of Capital

A great deal of controversy has developed over whether the capital structure of a firm is
determined by its financing decision; affect its coat of capital. Traditionally argue that the firm
can lower its cost of capital and increase market value per share by the judicious use of leverage.

According to traditional position that point denotes the optimal capital structure. On the other
hand Modigliani and Miller argue that in the absence of corporate income tax, the cost of capital
is independent of the capital structure of the firm. They showed that if an investor through
borrowing or lending can create homemade leverage, then a firms financing decision cannot
affect its value. As the firm takes on additional debt, the cost of equity must rise in proportion.

Cost of Capital

Cost of Capital is an important element in determining

a. Which projects to undertake and

b. The composition of the assets of the firm.

Hence it is important to minimize the cost of capital and to maximize net return and growth.

Cost of Borrowing

Cost of borrowing may be defined as the rate of return that must be earned on investments
financed through loan capital in order to keep the earnings available to equity shareholders
unchanged. Interest on loan represents the cost of borrowing. Since interest is tax deductable, we
have to take after tax cost of borrowing. The cost of borrowing may be represented as,

Ki = K(1-t)

Cost of Preference Capital

The cost of preference capital is a function of its stated dividend. Since there are costs of raising
money through preference shares, we have to allow for such costs. The cost of preference shares
may therefore be determined by

Kp = D/ Io

Cost of Equity Capital

Cost of equity may be defined as the market rate of discount K that equates the present value of
all expected future dividends per share with current market price of the share.

Ke= (Di/Po) + G

Weighted Average Cost of Capital

Once the cost of individual components of the capital structure has been computed, these costs
may be weighted according to some standard and a weighted average cost of capital computed.

The significance of weighted average cost of capital is that by financing in the proportion
specified and accepting projects yielding more than the weighted average cost, the firm is able to
increase the market price of its share over the long run.

Change in Capital Structure

If the firm wishes to change its capital structure, the costs of the desired capital structure have to
be estimated. In such case it is best to use the estimated weighted average cost of capital based
upon the financing mix to be employed once the desired capital structure is reached.

ISSUE PRICING

PRICING OF RIGHT AND FURTHER PUBLIC ISSUES

Free Pricing of Issues

The guidelines for capital issues by Securities Exchange Board of India in June,

1992 have opened the capital market to free pricing of issues. Pricing of issues is done by
companies themselves in consultation with the merchant bankers. If the premium is too low the
issue gets oversubscribed and if the premium is too high it is bound to be undersubscribed and
fail. The merchant Banker apart from taking into account earnings per share, book value, and the
average market price for two three years have to take into account future prospects of the
company.

As far as SEBI is concerned it has laid down guidelines and made the merchant banker
responsible for vetting the prospectus to ensure that the investor is informed of the justification
for the price and stating the new asset value.

a. An existing listed company and a new company set up by an existing company with five year
track record and

b. Existing private /closely held company and existing unlisted company going in for public
issue for the first time with two and half years track record of constant profitability.

Can freely price the issue subject to specific disclosure requirements.

In April 1994, by notification, issues were allowed to maintain a price band of 20 percent in the
offer document submitted to the SEBI.

Pricing of the issue is part of pre-issue management. The premium has to be decided after taking
into account net asset value, profit earning capacity and market price.

Equity shares are sold to existing shareholders at par or premium. They are offered the right to
subscribe to new shares in proportion to the number of shares they already hold. At times right-
cum-public issues are also made.

Right issues used to be priced slightly below the market price prevailing before issue to
compensate the shareholders. But since the advent of free pricing free pricing from 1992, right
issues are made at premium. Earlier such premium was fixed as per the guidelines of the
controller of Capital Issues.
In case of right-cum-public issues it must be ensured that the pricing of the public portion of a
rights-cum-public issue should generally be higher that book value or price paid by existing
shareholders.

Basics of Issue price

SEBI has stipulated through guidelines issued on 1. 3. 96 that the basis for issue price should
disclose the following information.

a. i. Earnings per share for the last three years;

ii. P/E per issue and comparison thereof with industry P/E where available;

iii. Average return on net worth in the last three years;

iv. Minimum return on increased net worth required to maintain pre-issue EPS;

v. Net asset value per share based on last balance sheet;

vi. Net asset value per share after issue and comparison thereof with the issue price;

Provided that project earnings shall not be used as a justification for the issue price in the offer
document;

b. The accounting ratios disclosed in the offer document in support of basis of issue price shall
be calculated after giving effect to the consequent increase of capital on account of compulsory
conversion outstanding as well as on the assumption that the options outstanding if any, to
subscribe for additional capital will be exercised.

Premium Fixation or Pricing of Shares

The fair value of share is determined by,

1. Net Asset Value (NAV),

2. Profit Earning capacity value (PECV) and

3. Market Value (MV) in case of listed shares.

Net Asset Value (NAV)

Net asset value of a company is the net worth after providing for all outside present and potential
liabilities. Net asset value is arrived at by deducting from total assets of the company all debts,
dues, borrowings and liabilities, including current and likely contingent liabilities and preference
capital. Net asset value should equal equity share capital plus free reserves and surplus, less the
likely contingent liabilities.

In calculating net asset value, attention should be paid to the following points:

a. If an additional issue or bonus issue is proposed, it should be taken into consideration

b. Intangible assets should not be taken into account

c. Revaluation of assets should not be taken into account unless it has been done nearly 15 years
ago.

d. Only reserves created out of profits or cash should be taken into account.

e. In the liabilities, provision for gratuity and terminal benefits due to the employees may be
provided.

f. Liabilities like arrears of preference dividend, dividends proposed to be paid out of reserves,
miscellaneous expenditure to the extent not written-off, debit balance on profit and loss account,
arrears of depreciation, adequate provision of bad and doubtful debts should be provided and
deducted from total assets.

g. Contigent liabilities which are likely to impair net worth of the company should be provided
for under liabilities.

h. Provision for depreciation may be made on the following basis.

Profit Earning capacity value (PECV)

PECV is arrived at by capitalizing the average of the after tax profits for three or five years. The
rates of capitalization originally mentioned in the guidelines were 15 percent in the case of
manufacturing companies, 20 percent in the case of trading companies and 17 ½ percent in the
case of intermediate companies, ie companies whose turnover from trading is more than 40
percent but less than 60 percent of their total turnover.

i. The capitalization rate may be liberalized up to 12 percent in the case of manufacturing

company.

ii.Secondly capitalization rate may be liberalized in the case of a company with high profitability
rate as revealed by the percentage of after tax profits to the equity capital of the company.

iii. Finally, the capitalization rate may be liberalized in the case of a well diversified multi-
product firm because it can sustain its overall profits even if its operations an any one part run
into difficulties.

Provisions for taxation have to be made according to the current statutory rate under the Income
Tax Act. No window dressing of balance sheet to inflate profits should be done.

Average profits are arrived at on the basis of three years profits in the audited accounts. In
special cases, an average of five years may be taken.

If the profits are rising steadily and the trend is likely to continue, average profits may be
calculated on a weighted basis, 3 for latest years, 2 for middle years and 1 for the farthest year. If
the profits are declining constantly, the profits of the latest year may be taken. In case of loss
making companies profits earning capacity would be nil.

Maximum Profits are calculated by,

½ * (Fresh capital/ Existing net worth) * Existing profits after tax

Market Value (MV) in case of listed shares

Market price as a criterion would be valid only if the shares is listed on the stock exchanges. The
average market value of a share in the preceding three years after making appropriate adjustment
for bonus issues and dividend payment would be determined by high and low of the preceding
two years and the high and low of each month in the preceding twelve months.

The final valuation based on reasonable judgement is called fair value.

SEBI Guidelines of Pricing of Right Issue

SEBI issued guidelines in June, 1992 specifying the type of companies which are free to fix the
price of their company’s share.

a. New company set up by an existing company: The existing company should have five-year
track record of consistent profitability provided that participation of promoters is not less than 50
percent of the total issue.

b. First issue by existing private/ closely held company: The Company must have a three-year
track record of consistent profitability and not less than 20 percent of the equity should be
offered to public.

c. Existing listed Company: Composite issues: SEBI guidelines provide for issue to public by
existing companies being priced differently as compared to right shareholders.

BOOK BUILDING

Before turning to other methods of determining the price of a security the book building method
will be examined.

According to the Working Group (1997) on companies act, “Book-building is an international

practice which refers to collecting ordered from investment bankers and large investor based on
an indicative price range. In capital market with sufficient depth such as pre-issue exercise
enables the issuer to get a better idea of the demand and the final offer price of an initial public
offering.

Nature of Book building

a. It is a process of price discovery.

b. It is a process of demand and price determination.

c. It is a transparent and flexible pricing method based on feedback from investors.

d. It is a viable alternative to the existing rigid system of fixed pricing.

The objective of book building is to find the highest market clearing price and the term and level
from high quality long-term investors in order to reach appropriate allocation decisions.

Duties of Book Runner

a. The book runner has to circulate a copy of the draft prospectus to the institutional buyers who
are eligible for firm allotment and to the intermediaries eligible to act as underwriters.

b. The draft prospectus has to indicate the price band within which the securities are being
offered for subscription.

c. The book runner on receipt of orders has to maintain a record of the name and the number of
securities ordered and the price at which the institutional buyers or underwriters is willing to
subscribe to securities.

d. Similarly the underwriters have to maintain a record of orders received by them which should
be aggregated and intimate the book runner of the amount of orders received.

e. On receipt of the above information the book runner and the issuer company have to determine
the price at which securities will be offered to public.

f. The issue price for the placement portion and offer to the public should be the same.

g. Allotment for private placement portion are to be made on the second day from the closure of
issue. Allotment of securities under the public category should be made as per the existing
statutory requirements.

h. The book runner and other intermediaries involved in book building process should maintain
records of book building process which may be inspected by SEBI.
SEBI Guidelines for Book Building

According to SEBI Guidelines, the option of book building shall be available to the issues
company subject to the following main conditions:

a. The size of issue exceeds Rs. 100 crore.

b. Only as an alternative to and to the extent of, the percentage of the issue which can be
reserved for firm allotment, as per the existing guidelines.

c. Book-Building process to be separately identified as a placement portion category, in the

prospectus.

d. Underwriting will be mandatory to the extent of the net offer to the public.

e. One of the lead merchant bankers to the issue shall be nominated by the issued company as a
book runner and his name shall be mentioned in the draft prospectus submitted to SEBI.

In June 1996 SEBI has decided that in case of debt issues not accompanied by equity component
the book building process could be allowed for the entire issue.

UNDERWRITERS

Underwriters agree to take up securities which are not fully subscribed. They make a
commitment to get the issue subscribed either by others or by themselves. Though underwriting
is not mandatory after April 1995, it is an important element of Primary market. They are
appointed by the issuing companies in consultation with merchant bankers.

Registration

To act as underwriter, a certificate must be obtained from the SEBI. In granting the certificate of
registration, the SEBI considers:

a. The necessary infrastructure like adequate office space, equipment, manpower etc.

b. Past experience in underwriting or appointment of two persons with experience.

c. Any person directly or indirectly connected with the applicant is not registered.
d. Capital adequacy requirement not less than Rs. 20 lakh

e. The applicant /director/principal officer / partner have been convicted of offence.

Fees

Underwriters, had to, for grant or renewal of registration, pay a fee to the SEBI from the date of
initial grant of certificate.

i. Rs 2 lakh for the first and second years and 1 lakh for the third year. Rs 20000 for renewal

ii. Since 1999, the registration fee has been raised to 5 lakh and 2 lakh for renewal

Failure to pay the fee would result in suspension of the certificate of registration.

General Obligations and Responsibilities

Code of Conduct for Underwriters

An Underwriter should:

1. Make all efforts to protect the interests of its clients.

2. Maintain high standards of integrity, dignity and fairness.

3. Ensure that it and its personnel will act in an ethical manner.

4. At all times render high standards of service and exercise due diligence.

5. Not make any statement, either oral or written, which would misrepresent.

6. Avoid conflict of interest and make adequate disclosure of his interest.

7. Put in place a mechanism to resolve any conflict.

8. Make appropriate disclosure to the clients.

9. Not divulge to other issuer, press or any party any confidential information about its issuer
company.

10. Not discriminate amongst its clients.

11. Maintain an appropriate level of knowledge.

12. Ensure that the SEBI is promptly informed about any action, legal proceedings, etc.

13. Not make any untrue statement or suppress any material fact.

14. Not indulge in any unfair competition.

15. Provide adequate freedom and powers to its compliance officer.

16. Develop its own internal code of conduct.

17. Ensure that good corporate policies and corporate Governance is in place.

Agreement with Clients

Every underwriter has to enter into an agreement with the issuing company. The amount of
underwriting obligations, the period, the amount of commission/brokerage, and details of
arrangements, if any, made by the underwriter for fulfilling the underwriting obligations.

General Responsibilities

i. The underwriter cannot derive any direct or indirect benefit other than underwriting
commission.

ii. The maximum obligation cannot exceed twenty times his net worth.

iii. Underwriters have to subscribe for securities within 45 days of the receipt of intimation from
the issuers.

Inspection and Disciplinary Proceedings

SEBI’s right to undertake the inspection of the books of accounts, other records and documents
of the underwriters.

Action in case of Default

The action in case of default arising out of

i. Non-compliance with any conditions subject to which registration was granted.

ii. Contravention of any provision of the SEBI Act/rules

Involves suspension or cancellation of registration.

BANKERS TO AN ISSUE

The Bankers to an issue are engaged in activities such as acceptance of applications along with
application money from the investors in respect of issues of capital and refund of application
money.

Registration

To carry on activity as a banker to issue, a person must obtain a certificate of registration from
the SEBI. The SEBI grants registration on reference to the following requirements:

a. the applicant has the necessary infrastructure, communication and data processing facilities
and manpower.

b. the applicant/any of the directores of the applicant is not involved in any litigation connected
with the securities market or has not been convicted of any economic offence.

c. the applicant is a scheduled bank.

d. grant of a certificate is in the interest of the investors.

Every banker to an issue had to pay to the SEBI an annual fee of Rs 2.5 lakh for the first two
years and Rs 1 lakh for the third year to keep his registration in force.

The banker can apply for the renewal of his registration three months before the expiry of the
certificate. The renewal fee to be paid by him annually for the first two years was Rs 1 lakh and
20000 for the third year. Since 1999, schedule of fee is 5 lakh as registration fee and Rs 2.5 lakh
renewal fee every three years from the fourth year from the date of initial registration.
General Obligations and Responsibilities

Furnish Information

When required, a banker to an issue has to furnish to the SEBI the following information

a. The number of issues for which he was engaged as a banker to an issue.

b. The number of applications and details of application money received.

c. The dates on which applications from investors were forwarded to the issuing company or
registrar to the issue

d. The dates or amount of refund to the investors.

Books of Accounts/ Records/ Documents

A banker to an issue is required to maintain books of accounts/ records/ documents for a

minimum period of three years.

Agreement with Issuing Companies

Every banker to an issue enters into an agreement with the issuing company. The agreement
provides for the number of collection centres at which application money received.

Disciplinary Action by the RBI

If the RBI takes any disciplinary action against a banker to an issue in relation to issue payment,
the latter should immediately inform the SEBI. If the banker is prohibited from carrying on his
activities as a result of the disciplinary action, the SEBI registration is automatically deemed as
suspended or cancelled.

Code of Conduct for Bankers to Issue

A banker to an issue should:

1. Make all efforts to protect the interest of investors

2. Observe high standard of integrity and fairness

3. Fulfil its obligations in a prompt, ethical and professional manner.

4. At all times exercise due diligence

5. Be prompt in disbursing dividends, interests or any such accrual income received.

6. Not make any exaggerated statement whether oral or written to the client

7. Always endavour to render the best possible advice to the clients

8. Avoid conflict of interest and make adequate disclosure of his interest.

9. Not indulge in any unfair competition, which is likely to harm the interest of other bankers.

10. Not discriminate amongst its clients.

11. Not make any untrue statement or suppress any material fact in any documents.

12. Provide adequate freedom and powers to its compliance officer for the effective discharge of
its duties.

13. Develop its own internal code of conduct for governing its internal operations.

14. Ensure that any person it employs or appoints to conduct business is fit and proper.

15. Be responsible for the acts or omission of its employees and agents.

16. Ensure that the senior management, particularly decision makers have access to all relevant
information.

Inspection

Such inspection is done by the RBI upon the request of the SEBI. On the basis of the inspection
report, the SEBI can direct the banker to an issue to take such measures as it may deem fit.

Action in Case of Default

The SEBI is empowered to suspend or cancel their registration certificate. The grounds of
suspension are:
a. The banker violates the provisions of the SEBI Act, rules or regulations.

b. Fails to or does not furnish the required information or furnishes false information

c. Fails to resolve investor complaints

d. Is guilty of misconduct

e. fails to pay fees

The SEBI can cancel registration in case of

a. Repeated defaults lading t suspension of a banker

b. The deterioration in his financial position

c. He being found guilty of fraud or convicted of a criminal offence.

ADVERTISING CONSULTANTS

Merchant bankers arrange a meeting with company representatives and advertising agents to
finalize arrangements relating to date of opening and closing of issue, registration, of prospectus,
launching publicity campaign and fixing date of board meeting to approve and sign prospectus
and pass the necessary resolutions.

Advertising Consultants arranges for the publicity campaign. Publicity campaign covers the
preparation of all publicity material and brochures, prospectus, announcement, advertisement in
the press, radio, TV, investors conference etc., the merchant bankers help choosing the media,
determining the size and publications in which the advertisement should appear.

The merchant Bankers role is limited

1. to deciding the number of copies to be printed,

2. Checking accuracy of statements made and

3. Ensure that the size of the application forms and prospectus conform to the standard
prescribed by the stock exchange.
The Merchant banker has to ensure that the material is delivered to the stock exchange at least 21
days before the issue opens and to brokers to the issue, branches of brokers to the issue and
underwriter in time.

Securities issues are underwritten to ensure that in case of under subscription the issues are taken
up by the underwriters. SEBI has made underwriting mandatory for issues to the public. The
underwriting arrangement should be filed with the stock exchange. Particulars of underwriting
arrangement should be mentions in the prospectus.

The various activities connected with pres issue management are a time bound programme which
has to be promptly attended to. The execution of the activities with clock work efficiency would
lead to a successful issue.

BROKERS TO THE ISSUE

Brokers are the persons mainly concerned with the procurement of subscription to the issue from
the prospective investors. The appointment of brokers is not compulsory and the companies are
free to appoint any number of brokers.

Brokers organize the preliminary distribution of securities and procure direct subscriptions. The
stock exchange bye-laws prohibit the members from acting as manager or brokers to the issue.
The permission granted by the stock exchange is also subject to other stipulations which are set
out in the letter of consent.

The company in consultation with the stock exchange writes to all active brokers of all
exchanges and obtains their consent to act as brokers to the issue. A copy of the consent letter
should be filed along with the prospectus to the ROC (Registrar of capital). The names and
addresses of the brokers to the issue are required to be disclosed in the prospectus.

Brokerage may be paid within the limits and according to the conditions prescribed. The
brokerage rate applicable to all types of public issue of industrial securities is fixed at 1.5 per
cent.
The mailing cost and other out-of-pocket expenses for canvassiong of public issues have to be
borne by the stock brokers. The listed companies are allowed to pay a brokerage on private
placement of capital at a maximum rate of 0.5 per cent.

The issuing company is expected to pay brokerage within two months from the date of allotment.
The cheque relating to brokerage on new issues and underwriting commission, if any, should be
made payable at par at all centres where the recognized stock exchanges are situated. The rate of
brokerage payable must be disclosed in the prospectus.

REGISTRARS TO AN ISSUE AND SHARE TRANSFER AGENTS

Registration

The registrars to an issue, as an intermediary in the primary market, carry on activities such as
collecting application from the investors, keeping a proper record of applications money received
from investors.

The share transfer agent maintains the record of holders of securities or on behalf of companies,
and deal with all matters connected with the transfer or redemption of its securities. They are
divided into two categories:

a. Category I, to carry on the activities as a registrar to an issue and share transfer agent

b. Category II, to carry on the activity either as a registrar or as a share transfer agent.

The registration is granted by the SEBI on the basis of consideration of all relevant matters and,
in particular, the necessary infrastructure, past experience and capital adequacy.

Capital Adequacy and Fee

The capital adequacy requirement in terms of net worth was Rs 6 lakh and Rs 3 lakh for
Category I and Category II of registrars and share transfer agents respectively. However, the
capital adequacy requirement is not applicable since November 1999.
The two categories of registrars and share transfer agents had to pay an annual fee respectively of
Rs 15000 and Rs 10000 for initial registration as well as renewal. With effect from 1999, while
Category I is required to pay a registration fee of Rs 50000 and a renewal fee of Rs 40000 every
three years, Category II has to pay Rs 30000 and Rs 25000 respectively.

General Obligations and Responsibilities

Code of Conduct for Registrar to an issue and Share Transfer Agents

A registrar to an issue and share transfer agent should:

a. Maintain high standards of integrity in the conduct of its business

b. Fulfil its obligations in a prompt, ethical and professional manner.

c. At all time execute due diligence

d. Ensure that the information provided to the investors is not misleading

e. Avoid conflict of interest and make adequate disclosure of its interest.

f. Make appropriate disclosure to the clients.

g. Not indulge in any unfair competition, which is likely to harm the interests of other registrar

h. Always endeavor to render the best possible advice to the clients.

i. Not discriminate among its clients.

j. Cooperate with the SEBI as and when required.

k. Ensure that the SEBI is promptly informed about any action, legal proceeding, etc.

l. Endeavour to resolve all the complaints.

m. Not make any any exaggerated statement, whether oral or written.

n. Provide adequate freedom and powers to its compliance officer for the effective discharge of
its duties.
o. Develop its own internal code of conduct for governing its internal operations.

p. Ensure that any person it employs or appoints to conduct business is fit and proper.

q. Be responsible for the acts or omission of its employees and agents.

Maintenance of Records

The registrars and share transfer agents have to maintain records relating to all applications
received from investors in respect of an issue, all rejected application, basis of allotment of
securities, terms and conditions of purchase of securities, allotment of securities. The SEBI can
require the registrars and transfer agents to file the books of accounts, and records and so on.
These have to be preserved by them for a period of three years.

Inspection

The SEBI is authorized to undertake the inspection of books of accounts, other records, and
documents of the registrars and share transfer agents.

On the basis of the inspection report, the SEBI can direct the concerned partly to take such
measures as it may deem fit. It can also appoint a qualified auditor to investigate into the books
of accounts and affairs of the registrars and share transfer agents.

Action in Default

A registrar or share transfer agent who fail to comply with any condition subject to which
registration is granted. The penalty for suspension imposed for

a. Violations of the provisions of the SEBI Act, rules or regulations.

b. Non-observance of the code of conduct

c. Failure to furnish information

d. Failure to resolve investor complaints

e. Involvement in manipulations

g. Guilty of misconduct
h. Failure to maintain capital adequacy requirement

In case of their repeated defaults, the certificate of registration can be cancelled.

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 greenshoe 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.
Greenshoe 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 greenshoe options in their underwriting agreements under certain
circumstances

The GSO means an option of allocating shares in excess of the shares included in the public
issue and operating a post-listing price stabilizing mechanism through a stabilizing agent (SA).

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 shoe clause
into their underwriting agreement.

Agreement of the Stabilizing Agent

It should appoint one of the lead book runners as the SA who would be responsible for the price
stabilization process. The SA should enter into an agreement with the Issuer Company, prior to
the filing of the offer document with SEBI, clearly stating all terms and conditions relating to
GSO including the fees charged or expenses to be incurred by him for this purpose.

He should also enter into an agreement with the promoters who would lend their shares,
specifying the maximum number of shares that may be borrowed from the promoters, but in no
case exceeding 15 per cent of the total issue size. The details of these two agreements should be
disclosed in the draft red herring prospectus, red herring prospectus and the final prospectus.
Over- Allotment of Shares

The lead book runner, in consultation with the SA, would determine the amount of shares to be
over-allotted with the public issue within the ceiling specified above (i.e. 15 per cent of the issue
size). Over allotment refers to an allocation of shares in excess of the size of the public issue
made by the SA out of shares borrowed from promoters in pursuance of a GSO exercised by the
issuing company.

The draft red herring prospectus / red herring prospectus/ final prospectus should contain
the following additional disclosures.

 Name of the SA
 Maximum number f shares as well as the percentage of the proposed issue size.
 Period for which the company proposes to avail of the stabilization mechanism.
 Maximum amount of funds to be received by the company in case of further allotment.
 Details of the agreement between the SA and the promoters to borrow shares.
 The final prospectus must additionally disclose the exact number of shares to be allotted
pursuant to the public issue.
The SA should borrow shares from the promoters to the extent of the proposed over-allotment.
They should be in dematerialized form only and their allocation should be pro rata to all the
applicants.

Price Stabilization

This is how a greenshoe option works:

 The SA 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 greenshoe 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 example, if a company decides to publicly sell 1 million shares, the underwriters (or
"stabilizers") can exercise their greenshoe 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.

Underwriters to buy back the shares at the offering price. If the market price of the shares
exceeds the offering price that is originally set before 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.

Full, Partial and Reverse Greenshoes

The number of shares the underwriter buys back determines if they will exercise a partial
greenshoe or a full greenshoe. A partial greenshoe is when underwriters are only able to buy
back some shares before the price of the shares increases. A full greenshoe 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.

There is also the reverse greenshoe option. This option has the same effect on the price of the
shares as the regular greenshoe 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.

Example, Tata Steel Company, which was able to raise $150 million by selling additional
securities through the greenshoe option.
One of the benefits of using the greenshoe 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.

The stabilization mechanism would be available for the period disclosed by the company in the
prospectus up to a maximum of 30 days.

The money received from the applicants against the over-allotment in the GSO should be kept in
GSO bank account (as distinct from the issue account) to be used for the purpose of buying
shares from the market during the stabilization period. These shares should be credited to the
GSO Demat account. They should be returned to the promoters immediately within 2 working
days after the closure of the stabilization period.

To stabilize the post-listing prices of the shares, the SA would determine the timing of buying
them, the quantity to be bought, the price at which bought and so on.

The SA would remit the issue price to the company from the GSO bank account.

The SA would submit a daily report to the stock exchanges during the stabilization period. He
should also submit a final report signed by him or company to the SEBI.

The SA should maintain for atleast 3 years a register in respect of each issue with GSO in which
he acts as a SA containing the following details:

 Price, date and time of each transactions

 Promoters and the number of shares borrowed from each and
 Allotments made.
INITIAL PUBLIC OFFER THROUGH STOCK EXCAHNGE ONLINE SYSTEM (E-
IPO)

A company proposing to issue capital to public, through the online system of the stock exchange
for offer of securities, has to comply with the requirements discussed below.

Agreement with Stock Exchange

The company should enter into an agreement with the stock exchanges, specifying, their mutual
rights/ duties/ responsibilities and obligations. It may also provide for a dispute resolution
mechanism between them.

Appointment of Brokers

The stock exchanges would appoint the SEBI registered stock brokers to accept applications and
place orders with the company. They would collect the money from the clients and in case
clients fail to pay for shares allocated, the brokers would have to pay the amount. The company
would pay the brokers a commission/ fee for the services and the stock exchange should ensure
that they should ensure that they do not levy a service fee on their clients in lieu of their services.

Appointment of Registrar to Issue

The company should appoint a registrar to the issue with electronic connectivity with the stock
exchanges through which the securities are offered under the system.

Listing

The company may list its securities on an exchange other than the one through which it offers its
securities to the public via the online system.

Responsibility of Lead Manager

The lead manager would be responsible for coordination of all the activities among various
intermediaries. The name of the appointed brokers, along with other intermediaries should be
disclosed in the prospectus and the application form.

Mode of Operation

The company should, after filing the offer document with the ROCs and before opening of the
issue, issue an advertisement each in an English and Hindi daily with nationwide circulation and
also in a regional daily. The advertisement should contain the salient features of the offer
document as specified in Form 2-A. In addition to other required information, it should contain
i. The date of opening/ closing of issue

ii. The method and process of application/ allotment and

iii. The names/ addresses/ telephone numbers of the brokers/centres for accepting applications.

During the period the issue is open to public for subscription, the applicant may:

i. Approach the brokers of the stock exchanges through which the securities are offered through
the online system, to place an order for subscribing to the securities.

ii. Directly send the application forms, along with the cheque/ demand draft to the registrar to the
issue. In case of issue of capital of Rs 10 crore or above, the registrar to the issue should open
centres for collection of direct applications at the four metropolitan centres.

The broker should collect the client registration form from the applicants, duly filled and signed
as per the “Know your client rule” as specified by SEBI. He should thereafter enter the buy order
in the system on behalf of the clients.

The broker may collect an amount to the extent of 100 per cent of the application money as
margin money from the clients before he places an order on their behalf. He should open a
separate bank account (escrow account) with the clearing house bank for primary market issues
in which the amount collected from clients as margin money should be deposited. At the end of
each day, while the issue is open for subscription, he should download/forward the order data to
the Registrar to the issue. On the date of closure of the issue, the final status of orders received
should be sent to the registrar to the issue/company.

Basis of allocation is finalized in a fair and proper manner. These may be modifies from time to
time. After the finalization of the basis of allocation, the registrar should send the computer file
containing the allocation details.

On receipt of the basis of allocation data, the brokers should immediately intimate the fact of
allocation to their clients/ applicants. They should ensure that each successful client/ applicant
submits the duly filled in and signed application form along with the amount payable. The
amount already paid by the applicant as margin money would be adjusted towards the total
allocation money payable.
The broker would refund the margin money, collected earlier within three days of receipt of basis
of allocation to the applicants who did not receive allocation. He should give details of the
amount received from each client and the names of clients who have not paid the application
money, and also give a soft copy of this data.

In the event of successful applicants failing to pay the application money, the broker through
whom such clients placed the orders should bring in the funds to make the latter’s default. The
broker who does not bring in the funds would be declared defaulter by the exchange. In such a
case, if the minimum subscription as disclosed in the prospectus is not received, the issue
proceeds would be refunded to the applicants.

The subscriber should have an option to receive the security certificates or hold the securities in
dematerialized form. The exchange concerned should not use the Settlement/Trade Guarantee
Fund.

The company should allot the shares to the applicant as per these guidelines. The allotment of
securities should be made not later than 15 days from the closure of the issue, failing which
interest at 15 per cent would be paid to the investors.

The brokers and other intermediaries engaged in the process should maintain the following
records for a period of five years:

i. Order received

ii. Applications received

iii. Details of allocation and allotment

iv. Details of margin collected and refunded and

v. Details of refund of application money.

The SEBI would have the right to carry out an inspection of the records, books, and documents
relating to the above.

PREPARATION OF PROSPECTUS
“Prospectus” is defined a document through which public are solicited to subscribe to the share
capital of a corporate entity. Its purpose is to invite the public for the subscription/purchase of
any securities of a company.

After the receipt of certificate of incorporation, if the promoters of a public limited company
wishes to issue shares to the public, he will issue a document called prospectus. It is an invitation
to the public to subscribe to the share capital of the company.

Objectives:

Prospectus is issued with the following broad objectives:

 It informs the company about the formation of a new company.

 It serves as a written evidence about the terms and conditions of issue of shares or
debentures of a company.
 It induces the investors to invest in the shares and debentures of the company.
 It describes the nature, extent and future prospectus of the company.
 It maintains all authentic records on the issue and make the directors liable for the
misstatement in the prospectus.
PROSPECTUS FOR PUBLIC OFFER

1. Regular prospectus

2. Abridged prospectus

1. REGULAR PROSPECTUS

The regular prospectus are presented in three parts

PART I

a. General Information about the company e.g. Name and address of the registered office
consent of the Central Government for the issue and names of regional stock exchanges etc.,

b. Capital Structure such as authorized, issued, subscribed and paid up capital etc.

c. Terms of the issue like mode of payment, rights of instruments holders etc.
d. Particulars of the issue like project cost, means of financing etc.

e. Company, Management and project like promoters for the project, location of the project
etc.

f. Disclosures of public issues made by the Company, giving information about type of issue,
amount of issue, date of closure of issue, etc.,

g. Disclosure of Outstanding Litigation, Criminal Prosecution and Defaults

h. Perception of Risk factors like difficulty in marketing the products, availability of raw
materials etc.

PART II

a. General Information

b. Financial Information like Auditor’s Report, Chartered Accountant’s Report etc.,

c. Statutory and Other Information

PART III

a. Declaration i.e., by the directors that all the relevant provisions of the companies Act, 1956
and guidelines issued by the Government have been complied with.

b. Application with prospectus

2. ABRIDGED PROSPECTUS

The concept of abridged prospectus was introduced by the Companies (amendment) Act of 1988
to make the public issue of shares an inexpensive proposition. A memorandum containing the
salient features of a prospectus as prescribed is called as ‘Abridged Prospectus’

Contents:

The following important matters are included in the prospectus:

  The prospectus contains the main objectives of the company, the name and addresses of
the signatories of the memorandum of association and the number of shares held by them.
 The name, addresses and occupation of directors and managing directors.
 The number and classes of shares and debentures issued.
 The qualification share of directors and the interest of directors for the promotion of
company.
 The number, description and the document of shares or debentures which within the two
preceding years have been agreed to be issued other than cash.
 The name and addresses of the vendors of any property acquired by the company and the
amount paid or to be paid.
 Particulars about the directors, secretaries and the treasures and their remuneration.
 The amount for the minimum subscription.
 If the company carrying on business, the length of time of such businesses.
 The estimated amount of preliminary expenses.
 Name and address of the auditors, bankers and solicitors of the company.
 Time and place where copies of balance sheets, profits and loss account and the auditor’s
report may be inspected.
 The auditor's report so submitted must deal with the profit and loss of the company for
each year of five financial years immediately preceding the issue of prospectus.
 If any profit or reserve has been capitalized, the particulars of such capitalization will be
stated in the prospectus.
BOUGHT OUT DEALS

A method of marketing of securities of a body corporate whereby the promoters of an unlisted

company make an outright sale of a chunk of equity shares to a single sponsor or the lead
sponsor is known as ‘bought-out deals’.

The following are the characteristics of Bought out deals

1. Parties : There are three parties involved in the bought-out deals. They are promoters of the
company, sponsors and co-sponsors who are generally merchant bankers and investors.
2. Outright sale : Under this arrangement, there is an outright sale of a chunk of equity shares to
a single sponsor or the lead sponsor.

3. Syndicate : Sponsor forms syndicate with other merchant bankers for meeting the resource
requirements and for distributing the risk.

4. Sale price: The s ale price is finalized through negotiations between the issuing company and
the purchaser, the sale being influenced by such factors as project evaluation, promoters image
and reputation, current market sentiments, prospects of off-loading these shares at a future date,
etc.

5. Fund-based : Bought-out deals are in the nature of fund-based activity where the funds of the
merchant bankers get locked in for at least the prescribed minimum period.

6. Listing : The investor-sponsors make a profit, when at a future date, the shares get listed and
higher prices prevail. Listing generally takes place at a time when the company is performing
well in terms of higher profits and larger cash generations from projects.

7. OTCEI : Sale of these shares at Over-the-Counter Exchange of India (OTCEI) or at a

recognized stock exchanges, the time of listing these securities and off loading them
simultaneously are being generally decided in advance

BOUGHT OUT DEALS Vs. PRIVATE PLACEMENTS

BENEFITS

Bought-out deals provide the following benefits:

1. Speedy sale : Bought-out deals offer a mechanism for a speedier sale of securities at lower
costs relating to the issue.

2. Freedom : Bought-out deals offer freedom for promoters to set a realistic price and convince
the sponsor about the same.

3. Investor protection : Bought-out deals facilities better investor protection as sponsors are
rigorously evaluated and appraised by the promoters before offloading the issue.
4. Quality offer : Bought-out deals help enhance the quality of capital floatation and primary
market offerings.

LIMITATIONS

Bought-out deals pose the following difficulties for the promoters, sponsors and investors:

1. Loss of control : The apprehensions in the minds of promoters, particularly of the private or
the closely held companies that the sponsors may control the company as they own large chunk
of the shares of the company.

2. Loss of sales: Bought-out deals pose considerable difficulties in off-loading the shares in
times of unfavourable market conditions. This results in locking up of investments and entailing
losses to sponsors.

3. Wrong appraisal : Bought-out deals cause loss to sponsors on account of wrong appraisal of
the project and overestimation of the potential price of the share.

4. Manipulation : Bought-out deals give great scope for manipulation at the hands of the
sponsor through insider trading and rigging.

5. No accountability : Bought-out deals pose difficulty of penalizing the sponsor as there are no
SEBI guidelines to regulate offerings by sponsors.

6. Windfall profits : Bought-out deals offer the advantage of windfall profits by sponsors at the
cost of small investors.

7. Loss to investors : Where the shares taken up by issue brokers and a group of select clients
are being bought back by the promoters at a pre-fixed higher price after allotment causing loss to
investors of the company.

OFFER FOR SALE METHOD

Where the marketing of securities takes place through intermediaries, such as issue houses,
stockbrokers and others, it is a case of ‘Offer for Sale Method’. Under this method, the sale of
securities takes place in two stages. Accordingly, in the first stage, the issuer company makes an
en-block sale 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’ of
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 from 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 of securities by issue houses at very high
prices.

PRIVATE PLACEMENT METHOD

A method of marketing of securities whereby the issuer makes the offer of sale to individuals and
institutions privately without the issue of a prospectus is known as ‘Private Placement Method’.
The sale of securities directly to an institutional investor, such as a bank, mutual fund, insurance
company, pension fund, or foundation

This is the most popular method gaining momentum in recent times among the corporate
enterprises. Under this method, securities are offered directly to large buyers with the help of
shares brokers. This method works in a manner similar to the ‘Offer for Sale Method’ whereby
securities are first sold to intermediaries such as issues houses, etc. They are in turn placed at
higher prices to individuals and institutions. Institutional investors play a significant role in the
realm of private placing. The expenses relating to placement are borne by such investors.

ADVANTAGES

1. Less expensive as various types of costs associated with the issue are borne by the issue
houses and other intermediaries.
2. Less troublesome for the issuer as there is not much of stock exchange requirements
connecting contents of prospectus and its publicity etc. to be complied with.

3. Placement of securities suits the requirements of small companies.

4. The method is also resorted to when the stock market is dull and the public response to the
issue is doubtful.

DISADVANTAGES

1. Concentration of securities in a few hands.

2. Creating artificial scarcity for the securities thus jacking up the prices temporarily and
misleading general public.

3. Depriving the common investors of an opportunity to subscribe to the issue, thus affecting
their confidence levels.

PLACEMENT WITH MF, FI, FII

Mutual funds that are not offered for sale to the general public. Non-publicly offered mutual
funds are usually registered via private placement, not as securities, and investors who buy them
must meet suitability requirements for income and net worth.
These funds should not be confused with closed-end funds, which have a limited number of
shares but are usually offered to the public at large.

The FII inflows into the primary market in India comes mainly through the conversion of
foreign currency convertible bonds (FCCBs), private placement to qualified institutions
placements (QIPs), initial public offers (IPOs), follow-on overseas offers, conversion of warrants
and preferential offers.

Securities are also sold to financial institutions (FI) through private placement.

OFFSHORE PRIVATE PLACEMENTS

Brokers, investment firms, and project developer contacts and offer clients the opportunities to
invest in certain Private Placement Offerings. Offshore Private Placement investments are high
risk; however, they can many times result in high yield investment returns.

MERCHANT BANKING AND POST ISSUE ACTIVITIES

The major activities covered are:

Finalization of Basis of Allotment

If the public issue is oversubscribed to the extent of greater than five times, a SEBI nominated
public representative is required to participate in the finalization of Basis of allotment (BoA). In
case of rights issue that is oversubscribed greater than two times, a SEBI-nominated public
representative is required to participate in the finalization of Boa. If it is under subscribed,
information regarding accepted applications is formalized, and Regional Stock Exchanges are
approached for finalization of BoA.

Dispatch of Share Certificates

Immediately after finalizing the Boa, share certificates are dispatched to the eligible allotees, and
refund orders made to unsuccessful applications. In addition, a 78 days report is to be filed with
SEBI. Permission for listing of securities is also obtained from the stock exchange.

Advertisement

An announcement in the newspaper has to be made regarding the basis of allotment, the number
of applications received and the date of dispatch of share certificates and refund orders, etc.

Law related to Issue management

It is important that the lead managers take into account the regulations of the capital issue as
prescribed by the various enactments mentioned below:

1. Provisions of the Companies Act, 1956

a. Prospectus (Sec. 55 to 68A)

 b. Allotment (Sec. 55 to 75)

c. Commissions and discounts (Sec. 76 & 77)

d. Issue of shares at premium and at discount (Sec. 78 & 79)

e. Issue and redemption of preference shares (Sec. 80 & 80A)

F. further issues of capital (Sec. 81)

g. Nature, numbering and certificate of shares (Sec. 82 to 84)

h. Kinds of share capital and prohibition on issue of any other kind of shares (Sec. 85 &
86)

i. Matters to be specified in prospectus and reports to be set out therein (Schedule 11)

2. The Securities Contracts (Regulations) Act, 1957 regarding transactions in securities

3. The Securities Contracts (Regulation) Rules, 1957.

MARKETING OF ISSUE

• The need for marketing the public issue arises because of the highly competitive nature
of the capital market
• Added to this, the media bombards the modern investors with eye-catching advertisement
The Steps

Following are the steps involved in the marketing of the issue of securities to be undertaken by
the lead manager:

1. Target market: The first step towards the successful marketing of securities is the
identification of a target market segment where the securities can be offered for sale. This
ensures smooth marketing of the issue. Further, it is possible to identify whether the market
comprises of retail investors, wholesale investors or institutional investors.

2. Target concentration: After having chosen the target market for selling the securities, steps
are to be taken to assess the maximum number of subscriptions that can be expected from the
market. It would work to the advantage of the company if it concentrates on the regions where it
is popular among prospective investors.

3. Pricing: After assessing market expectations, the kind and level of price to be charged for the
security must be decided. Pricing of the issue also influences the design of capital structure. The
offer has to be made more attractive by including some unique features such as safety net,
multiple options for conversion, attaching warrants, etc.

4. Mobilizing intermediaries: For successful marketing of public issues, it is important that

efforts are made to enter into contracts with financial intermediaries such as an underwriter,
broker/sub-broker, fund arranger, etc.

5. Information contents: Every effort should be made to ensure that the offer document for issue
is educative and contains maximum relevant information. Institutional investors and high net
worth investors should also be provided with detailed research on the project, specifying its
uniqueness and its advantage over other existing or upcoming projects in a similar field.

6. Launching advertisement campaign: In order to push the public issue, the lead manager
should undertake a high voltage advertisement campaign. The advertising agency must be
carefully selected for this purpose. The task of advertising the issue shall be entrusted to those
agencies that specialize in launching capital offerings. The theme of the advertisement should be
finalized keeping in view SEBI guidelines. An ideal mix of different advertisement vehicles such
as the press, the radio and the television, the hoarding, etc. should be used.

7. Brokers’ and investors’ conferences: As part of the issue campaign, the lead manager should
arrange for brokers’ and investors’ conferences in the metropolitan cities and other important
centres which have sufficient investor population. In order to make such endeavors more
successful, advance planning is required . It is important that conference materials such as
banners, brochures, application forms, posters, etc. reach the conference venue in time. In
addition, invitation to all the important people, underwriters, bankers at the respective places,
investors’ associations should also be sent.

A critical factor that could make or break the proposed public issue is its timing. The market
conditions should be favorable. Otherwise, even issues from a company with an excellent track
record, and whose shares are highly priced, might flop. Similarly, the number and frequency of
issues should also be kept to a minimum to ensure success of the public issue.

Methods

Following are the various methods being adopted by corporate entities for marketing the
securities in the new Issues Market:

1. Pure Prospectus Method

2. Offer for Sale Method

3. Private Placement Method

4. Initial Public Offers Method

5. Rights Issue Method

6. Bonus Issue Method

7. Book-building Method

8. Stock Option Method and

9. Bought-out Deals Method

1. Pure Prospectus Method

The method whereby a corporate enterprise mops up capital funds from the general public by
means of an issue of a prospectus is called ‘Pure Prospectus Method’. It is the most popular
method of making public issue of securities by corporate enterprises.

2. Offer for Sale Method

3. Private Placement Method

4. Initial Public Offers Method

5. Rights Issue Method

Where the shares of an existing company are offered to its existing shareholders, it takes the
form of ‘rights issue’. Under this method, the existing company issues shares to its existing
shareholders in proportion to the number of shares already held by them.

ADVANTAGES

Rights issue offers the following advantages :

a) Economy: Rights issue constitutes the most economical method of raising fresh capital,
as it involves no underwriting and brokerage costs. Further, the expenses by way of
advertisement and administration, etc. are less.
b) Easy : The issue management procedures connected with the rights issue are easier as
only a limited number of applications are to be handled.
c) Advantage of shareholders: Issue of rights shares does not involve any dilution of
ownership of existing shareholders. Further, it offers freedom to shareholders to
subscribe or not to subscribe the issue.
DRAWBACKS

The method suffers from the following limitations:

a) Restrictive : The facility of rights issue is available only to existing companies and not to
new companies.
b) Against society : The issue of rights shares runs counter to the overall societal
considerations of diffusion of shares ownership for promoting dispersal of wealth and
economic power
6. Bonus Issues Method

Where the accumulated reserves and surplus of profits of a company are converted into paid up
capital, it takes the form of issue of ‘bonus shares’. It merely implies capitalization of exiting
reserves and surplus of a company. The issue of bonus shares is subject to certain rules and
regulations. The issue does not in any way affect the resources base of the enterprise. It saves the
company enormously of the hassles of capital issue.
7. Book-building Method

8. Stock Option Of Employees Stock Option Scheme (ESOP)

A method of marketing the securities of a company whereby its employees are encouraged to
take up shares and subscribe to it is knows as ‘stock option’.. It is a voluntary scheme on the part
of the company to encourage employees’ participation in the company. The scheme also offers
an incentive to the employees to stay in the company.

The scheme is particularly useful in the case of companies whose business activity is dominantly
based on the talent of the employees, as in the case of software industry. The scheme helps retain
their most productive employees in an industry, which is known for its constant churning of
personnel.

9. Bought-out Deals Method

ADVERTISING STRATEGIES

SEBI GUIDELINES FOR ISSUE ADVERISEMENT (11.10.1993)

SEBI issued Guidelines in 1993 to ensure that the advertisement are truthful fair and clear and do
not contain statements to mislead the investors to imitate their judgment. All lead managers are
expected to ensure that issuer companies strictly observe the code of advertisement set-out in the
guidelines.

For the purpose of these guidelines the expression advertisement, means notices, brochures,
pamphlets, circulars show cards, catalogues, boardings, placards, posters, insertions in
newspapers, pictures, films, radio/television program or through any electronic media and would
also include the cover pages of the offer documents.

CODE OF ADVERTISEMENTS- CAPITAL ISSUES

1. An issue advertisement shall be truthful fair and clear and shall not contain any statement
which is untrue or misleading.
2. An issue advertisement shall not be considered to be misleading, It contains

a. Statements made about the performance or activities of the company in the absence of
necessary explanatory or qualifying statements, which may give an exaggerated picture of the
performance or activities than what it rally is.

b. An inaccurate portrayal of a past performance in a manner which implies that past gains or
income will be repeated in the future.

3. As investors may not be well versed in legal or financial matter, care should be taken to ensure
that the advertisement is set forth in a clear, concise and understandable language. Extensive use
of technical, legal terminology or complex languages and the inclusion of excessive details
which may distract the investor should be avoided.

4. An issue advertisement shall not contain statements which promise or guarantee an

appreciation or rapid profits.

5. An issue advertisement shall not contain any inform or language that not contained in the offer
documents.

6. All issue advertisement in newspapers, magazines, brochures, pamphlets containing highlights

relating to any issue should also contain risk factors with the same print size. It should mention
the names of lead Managers, Registers to the issue.

7. No corporate advertisement except product advertisements shall be issued between the date of
opening and closing of subscription of any public issue. Such product advertisement shall not
make any reference directly or indirectly on the performance of the company during the said
period.

8. No advertisement shall be issued stating that the issue has been fully subscribed or
oversubscribed during the period the issue is open for subscription, except to the effect that the
issue is open or closed. No announcement regarding closure of the issue shall be made except on
closing date. If the issue is fully subscribed before the last closing date as state in the prospectus,
the announcement should be made only after the issue is fully subscribed and such
announcement is made on the date on which the issue is to be closed.
9. No model, celebrities, fictional characters, landmarks or caricatures or the like shall be
displayed on or form pat of the offer documents or issue advertisements.

10. No slogans, expletives or non factual and unsubstantiated titles should appear in the issue
advertisement or offer documents.

11. If any advertisements carries any financial data it should also contain data for last three years
and shall include particulars relating to sales, gross profits, net profit share capital reserves,
earning per share, dividends and book values.

12. No incentives, apart from the permissible underwriting commission and brokerages, shall be
offered through any advertisements to anyone associated with marketing the issue.

NRI: The term NRI includes the following categories of persons:

1. Indian national holding Indian passports with non-resident status (INNR),

2. Person of Indian origin, foreign nationals of Indian origin, living in foreign countries including
such persons of Indian origin as is in the status of stateless, because no foreign country has as yet
accepted them as their national and they are not Indian national either by birth or residence,
(FNIO). The term NRI also includes companies, partnership firms, trusts, societies and other
corporate bodies called OCBs where 60% of the equity is owned by the NRIs.

India succeeds in persuading NRIs to invest 10 % of their total saving into investments in India;
the estimate of possible inflow is about US$ 1.5 billion per year.

AVENUES FOR INVESTMENT BY NRI’s

NRIs can have three different types of bank accounts, buy securities in the primary and
secondary markets, and do business on non-repatriable basis as well as repartriable basis.

Repatriable Basis
Under the new industrial policy, foreign direct investment up to 51% of the equity is allowed on
repatriation basis in certain high priority industries. NRI’s can take up the balance 49% of equity
in such cases on repatriation basis.

Non Repatriable Basis

1. Investment in new issues of shares/ debentures of Indian companies (1992) RBI has granted
general permission to NRIs/OCBs to take up or subscribe on non repatriation basis shares or
convertible debentures issued whether by public issue or private placement in companies other
than those in agricultural/plantation and / or real estate business.

2. Investment in non-convertible debentures (1992) RBI permission has to be obtained by Indian

Company for investment by NRI/OCB in non-convertible debentures.

UNIT III

MERGERS AND ACQUISITIONS