INDIAN FINANCIAL SYSTEM

CIA 1.1

Taha Takhatwala - 1820334

Shubham Bhargava - 1820331
Srijan Prasad - 1820333

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 REPORT OF THE COMMITTEE TO STUDY THE FUTURE OF REGIONAL STOCK
EXCHANGES (RSEs) – POST DEMUTUALISATION

Introduction

A stock exchange in India is recognized by the Central Government or SEBI under section 4 of
Securities Contracts (Regulation) Act, 1956 for the purpose of assisting, regulating or controlling
the business of buying, selling or dealing in securities. Over a period of time, stock exchanges
came to be set up almost in every State. These stock exchanges set up regionally were known as
the Regional Stock Exchanges (RSEs). The objective of establishing the RSEs was to enable
regional companies in the respective geographical locations to raise capital and to help encourage
equity ownership amongst investors across the country. However, with the various changes in the
capital market structure, the scope of operations of the RSEs became limited.

Present status of RSEs

Out of the 22 recognized stock exchanges in India (SEBI has refused renewal of recognition to
Mangalore Stock Exchange), NSE and BSE account for almost 100% of the total turnover. As far
as RSEs are concerned, except for the Calcutta Stock Exchange (CSE) and the Uttar Pradesh Stock
Exchange (UPSE), there is no trading on any other stock exchange and even on the CSE and UPSE,
the business is down to a trickle as may be seen from the following table:-

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 Objectives of the report

The stock exchanges are now completing the process of corporatization and demutualization. It
was therefore necessary to ascertain the requirement and relevance of these RSEs in the changed
circumstances. Therefore, SEBI appointed a committee under the Chairmanship of Shri G.
Anantharaman, Whole Time Member, SEBI for the same.

The committee was formed with the basic objective to decide the future of these Regional stock
exchanges (RSEs). The committee had to decide upon whether or not the recognition of these
exchanges had to be withdrawn or the necessity of it still being provided to them.

Why did RSEs become irrelevant and outdated?

With the availability and accessibility of a pan India liquid market, the need for compulsory listing
on the RSEs lost its relevance. Regional listing proved to be an unnecessary burden in terms of
cost to companies which were listed on NSE and BSE. SEBI therefore issued the SEBI (Delisting
of Securities) Guidelines, 2003 which removed the mandatory requirement of companies being
registered on regional stock exchanges merely because they were incorporated or did business
from a region, provided such companies were also listed on either of the two national exchanges.
Freedom was given to companies to list on a stock exchange of their choice. Companies, therefore,
chose to remain listed on BSE and NSE and opted for delisting from the RSEs. This resulted in
further loss of revenue by way of listing fees for the RSEs.

Critical Analysis

The present situation definitely posed a threat and a question of survival of the RSEs and their
subsidiaries in the available market structure. When the committee presented the problem to the
RSEs, they did not come up with a convincing response. They did not bring up any specific
business plan that would actually help in the revival of the RSEs. The plans they came up with did
not match up with their high hope of a bright and sustainable future.

The committee also noted that there were certain behavioral issues that continue to dominate the
mindsets of the members of the RSEs and they seem to manipulate the decisions of the RSEs. The
kind of decisions they are making are against the very survival of these RSEs. It was this attitude

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coupled with the equally uncompromising attitude of the business partners which were responsible
for the failure of the various rehabilitatory measures taken in the past for the revival of the RSEs.

There have also been serious regulatory concerns from time to time on the functioning of some of
the RSEs. These regulatory concerns had led SEBI to take recourse to the extreme measure of
superseding the governing boards of some exchanges and even to withdraw the recognition in the
case of one RSE. These regulatory concerns still remain in the case of some of the RSEs where
the members continue to remain recalcitrant and resort to undesirable market and governance
practices.

The Committee felt that (a) such of the RSEs which do not want to continue as exchanges should
be given an exit option, (b) the recognition of such of the RSEs which are notorious for their rank
indiscipline besides giving rise to serious regulatory concerns should be compulsorily withdrawn
and (c) a continuing option may be given to such of the RSEs which have the potential and the
willingness to participate in any alternate trading platform.

The Committee is strongly of the view that it does not serve either the interest of trade or public,
to forcibly keep alive an exchange which does not have any potential for. The Committee therefore
recommends that (a) such of the RSEs which do not want to continue as an exchange, should be
given an exit option by withdrawing their recognition upon a specific request or application made
by them; (b) recognition should be withdrawn compulsorily for such of the RSEs which are
notorious for their rank indiscipline besides giving rise to serious regulatory concerns.

Suggestions of the committee for the revival of RSEs

 All the RSEs may be given a regulatory mandate to consolidate and form a third stock
exchange, in addition to BSE and NSE.
 The un-utilized funds lying with the RSEs may all be pooled in and transferred to a
common “stock exchange fund” that could be used for funding securities market
transactions.
 As some of the RSEs may not be viable and/or interested in their revival, region-wise
consolidation of RSEs should be facilitated. An active market for trading in commodities
could be developed by the stock exchanges in the southern region. Similarly, stock
exchanges in the northern, eastern and western regions could be consolidated.

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 RSEs may be encouraged to consider any revival initiatives including corporate
restructuring by merger with any of the premier stock exchanges subject to mutual
agreement.
 In addition to providing specific trading platform for SMEs, the RSEs may be permitted to
evolve an active market for structured products, securitized instruments and derivative
products.
 That RSEs be permitted to diversify into other areas like conducting training programs for
participants in capital market, providing services to investors like MAPIN registration,
redressing investor complaints by acting as local forums of arbitration, distributing mutual
fund products, acting as Registrar and Transfer Agents, providing securities lending &
borrowing scheme and playing an advisory role to the SMEs in their need for capital
creation. RSEs should be allowed to diversify into other areas of business like commodity
exchange or other such suitable business through creation of a special purpose vehicle.
 RSEs may be permitted to establish a platform for book building, both for initial public
offerings (IPOs) and follow-on public offerings (FPOs) and also for delisting of companies.
 BSE/NSE may be advised to share a part of their revenues with the RSEs based on the
volume of transactions generated by the members of the RSEs.
 RSEs may be permitted to explore alternatives like liasioning with the other national level
exchanges in their respective geographical locations, playing the role as local /nodal centers
for the national level exchanges and acting as an extended arm of such national level
exchanges for functions like handling investor grievances/complaints, conducting training
programs in securities market, etc.
 A National Market Dealer System may be provided for trading in securities of companies
which are neither in their infancy nor at a stage from which they can access the national
markets. A study may be conducted to assess the number of such companies so as to
determine the viability of the proposal.

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 Impact on Indian Economy

The closure of the RSEs will have severe consequences on the companies which are listed
exclusively on these stock exchanges and their shareholders who would be denied an opportunity
to trade. The Committee feels that the withdrawal of recognition to RSEs would help clean up the
system, besides reducing the regulatory hazard to the investors, various regulators including tax
authorities and the government.

The Committee felt that in the prevailing Indian context, it may not be desirable to adopt fully the
approaches followed in other countries. At the same time, the Committee felt that excessive
monetary and other restrictions would not only hamper and disrupt the process of divestment but
would also make difficult, its monitoring in the practical sense. Besides, such restrictions may
hamper valuations and limit the choice of investors thereby raising the cost of capital. The
Committee, therefore, recommends that any entity other than exchange, multilateral agency,
insurance company, bank, depository and clearing corporation can be allowed to hold less than
15% of the share capital and voting rights of the stock exchange either singly or collectively along
with persons acting in concert.

Since the withdrawal of recognition will affect the companies listed on the exchanges as well the
investors who trade on them, it will eventually have an impact on the economy since a reduction
in the value of trade and stock will definitely hamper and affect the value of the country’s GDP.
An impact on the volume of trade will definitely impact the value of the trade that goes on inside
the geographic boundaries of the company. As a result of this, the overall value of trade will reduce
and thus result in a trade fall. This will also have an adverse impact on the stock market as the
investors will be willing to pull out their investments because of a fear of loss. This will greatly
disrupt the smooth flow of the market activities.

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CONSOLIDATION AND REISSUANCE OF DEBT SECURITIES ISSUED UNDER SEBI
REGULATIONS, 2008

Brief summary

The report briefs about the consolidation and re-issuance of the debt securities under Securities
and Exchange Board of India (SEBI). This report published by SEBI shows how different
securities are initially issued and further re-issued in the market and the process of issuing these
securities.

Objective of the report

The report has been prepared with the objective of seeking public comments/views on the
proposals mentioned in this paper. Apart from the proposals mentioned, other suggestions/ inputs,
to develop the secondary market for corporate bonds, are also invited from the public at large.

I. Passive Consolidation :
a. Restriction on the maximum number of ISINs for private placement of debt
securities.
b. Staggered repayments of the redemption amount on the debt securities; and
II. Active consolidation:
Switching or conversion of less liquid debt securities into larger, more liquid benchmark
bond issues. This can be carried out via following two methods:

a. Tender offer method

b. Reverse Auction Conversion/Switching Ratio

Background for consolidation and re-issuance of debt securities:

The recently notified Companies Act 2013 is silent regarding the company's power to reissue their
bonds. In this regard, the Ministry of Corporate Affairs (MCA) has clarified that since Companies
Act 2013 is silent on the issue, it may be assumed that such reissuance is possible if there is
enabling provision in this behalf in the articles of the company. In view of the

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clarification provided by MCA, SEBI provided an enabling framework for consolidation and re-
issuance. The regulation to provide for consolidation and re-issuance of debt securities reads as
under:

An issuer may carry out consolidation and re-issuance of its debt securities, subject to the
fulfillment of the following conditions:

a) There is such an enabling provision in its articles under which it has been incorporated.
b) The issue is through private placement.
c) The issuer has obtained fresh credit rating for each re-issuance from at least one credit
rating agency registered with the Board and is disclosed.
d) Such ratings shall be revalidated on a periodic basis and the change, if any, shall be
disclosed.
e) Appropriate disclosures are made with regard to consolidation and re-issuance in the Term
Sheet.

 Market Structure of Corporate Bonds:

The development of the primary market in corporate bond has been important part of the
reform process as it was essential for discovery of price through an efficient market
mechanism and providing for both listing and issuance of debt securities on private
placement and public issuance basis. Some of the investors, are prohibited from trading the
debt securities in the secondary market unless the rating of such debt securities falls two
notches below their initial credit rating.
 Government Securities Market:
In the Government Securities (G-Sec) market, the gradual extinguishing of illiquid,
infrequently traded and reissue of liquid bonds has helped in improving liquidity. In the
case of G-secs, it is pertinent to note that the process of carrying out consolidation and re-
issuance is simpler as compared to the corporate bonds. Some of the reasons for the same
being as under:
a. Government being one single issuer in case of G-secs.
b. Fungible nature of G-secs.
c. No requirement for credit rating and

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 d. The borrowing calendar for the government is fixed at the beginning of the financial
year and the borrowings are made to finance the government expenditure as well
as to cover shortfalls (deficits) in its annual budget.

Structural issues faced in the consolidation for corporate bonds or market failures:

While carrying out deliberations on laying down an implementable and feasible operational
framework for consolidation and re-issuance for corporate bonds, the following legal/structural
issues have been noted by SEBI:

1. Stamp Duty:
It is understood that re-issuance is not legally recognized and is considered a fresh issue of
securities. As a fallout of this, re-issuing securities attracts stamp duty thereby making the
process cost ineffective. However, as no fresh securities are actually being issued, there
should not be any incidence of stamp duty on the re-issued securities.
2. Bunching of liabilities:
In case of consolidation and reissuance of debentures, the maturities of debentures issued
under consolidation will fall on same day which shall create liquidity problem and
bunching of liabilities for borrowers. The same shall also have impact on their liquidity
and rating.
3. Issuances are triggered as per the demands of the investors:
The issue amount is not predetermined rather the issuers bring out the corporate bond
issuances in the market in accordance with the investor appetite. This is elaborated by the
fact that the mutual funds would demand only for those papers whose maturities are in
alignment with the tenure of their debt funds or those suiting their requirements.
Consolidation and reissue would reduce the demand/appetite of the investors and also
increase the coupon rate because of lower demand.
4. Re-issuance at a discount or premium
The coupon rate on bonds is a dynamic factor and mostly market driven, hence the interest
rate frozen at the time of issue of ISIN may change and in such case subsequent issue of
bonds have to be made at discount or premium depending on market conditions. This kind
of arrangement may not be acceptable by to certain categories of investors like mutual
fund, provident fund etc. This will also lead to accounting and taxation issues.

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 Suggestions

The board approved a cap of 12 ISINs (International Securities Identification Number) maturing
per financial year. Furthermore, the issuer can also issue additional 5 ISINs per financial year as
structured debt instruments of a particular category. However, this restriction is not applicable on
debt instruments which are used for generating regulatory capital like Tier I, Tier II bonds, etc;

The issuer can as a one-time exercise during the tenure of the security make a choice between
making a bullet maturity payment or the issuer can make staggered payment of the maturity
proceeds within a particular financial year to resolve this issue of concentration of liabilities which
may give rise to asset-liability mismatch for the issuer; Active consolidation of existing corporate
debt securities through switches and conversions has not been made mandatory.

There should not be any clause prohibiting consolidation and re-issuance in the Articles of
Association of the issuer/company.

Impact on the economy

This is a step in the right direction and has been welcomed with open arms as these measures will
help boost liquidity in the debt/bond market.

Corporates may be allowed to raise funds through multiple issuance of the same bond. At present,
only the sovereign is allowed to re-issue securities. But in a bid to boost liquidity in tradeable
bonds, financial market policymakers have discussed the possibility of letting corporates do such
reissuance of bonds.

The sub-committee of Financial Stability and Development Council - an inter-regulatory body -

has prepared a report on the development of corporate debt market based on the meetings held
between financial sector regulators and market participants.

The ability to re-issue will enable corporates to issue the same debentures again and again which
will lead to better liquidity and pricing.

Power finance company issuers will exercise this facility, since they are the most frequent issuers,
but if all the corporates would necessarily gain from the re-issuance facility, is something that
remains to be seen.

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Re-issuance would not just increase the underlying liquidity of these bonds in the secondary
markets, but also reduce the cost of issuance for the issuer.So far the issuances are fragmented but
this move will help in the consolidation of securities in the corporate debt market. From the
liquidity perspective, it is a very positive step, since this will make bonds easy to trade.

Liquidity spread across the listed debt securities of the same company leads to shallow trading of
individual securities. Given the large ticket size of issuance by certain corporates, the challenge
could be managing the bunched-up redemption, as bonds in the same series would have the same
maturity. That's the only difficulty. There will be risk management challenges for corporates that
issue large-sized bonds frequently. Thus the reissuance poses a serious threat to the market but
also offers some specific advantage to them over the others. Thus it may be risky but the return
that can be obtained out of it is worth all the risk undertaken.

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 References

1. Retrieved from:
https://www.sebi.gov.in/web/?file=https://www.sebi.gov.in/sebi_data/attachdocs/1292214675
684.pdf#page=1&zoom=auto,-16,800
2. Retrieved from:
https://www.sebi.gov.in/web/?file=https://www.sebi.gov.in/sebi_data/attachdocs/1486034791
614.pdf#page=1&zoom=auto,-16,792

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