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MBA
(DISTANCE MODE)
DBA 1724
MERCHANT BANKING AND

FINANCIAL SERVICES
IV SEMESTER
COURSE MATERIAL
Centre for Distance Education

Anna University Chennai
Chennai – 600 025
Author
Mr
Mr.. K. K ar
Kar thik Sridar
arthik
Faculty Member
ICFAI Adamsmith Institute of Management
Chennai - 600 015
Reviewer
Dr
Dr.. H. P eer
Peer
eeruu Mohamed
Professor
Department of Management Studies
Anna University Chennai
Chennai - 600 025
Editorial Board
Dr.T
Dr.T.V
.T.V.Geetha
.V.Geetha Dr.H.P
Dr.H.P eer
.H.Peer
eeruu Mohamed
Professor Professor
Department of Computer Science and Engineering Department of Management Studies
Anna University Chennai Anna University Chennai
Chennai - 600 025 Chennai - 600 025
Dr.C
.C.. Chella
Dr.C ppan
Chellappan Dr.A.K
Dr.A.K annan
.A.Kannan
Professor Professor
Department of Computer Science and Engineering Department of Computer Science and Engineering
Anna University Chennai Anna University Chennai
Chennai - 600 025 Chennai - 600 025
Copyrights Reserved
(For Private Circulation only)
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iii
ACKNOWLEDGEMENT
The author has drawn inputs from several sources for the preparation of this course material, to meet the
requirements of the syllabus. The author gratefully acknowledges the following sources:
• Agarwal, Sanjiv, “The Indian Money market”, Facts for you, Jan. 1994
• Chartered financial Analyst, 2002
• Chugh, Anup Kumar, “Capital Market Instruments”, State Bank of India, Monthly Review
• Goiporia, M.N., “ An Overview of the Financial Markets”
• Madden, J.T. and M. Nadler, The International Money market.
• Reserve Bank of India Bulletin, May 1999.
• Singh, K.P. and A.k. Sinha, “Primary Market and Spread of equity Culture in India”. The Indian Journal
of commerce.
• Tripathy, Nalini Prava, “Capital Market – A better Environment for Better Tomorrow”, Internal Conference
on Accounting in Changing Perspectives.
• Verma, Sanjeev, “ Innovations in Financial products”. ICFAI National Convention,1994.
• Baver, Hans Peter, “What is a Merchant Bank”, The Banker, London, July 1976. Francis, Jack Clark,
Management of Investments”, 2nd ed., McGraw Hill International.
• Phadnis, Abhijit P., “Role of a Merchant Banker”, ICFAI Study Materials. Sivaloga-
• nathan, K., “Merchant Banking; Coming of the Age”, The Indian Journal of Commerce.
• Avadhani, V.A., “Investment Management”, Himalaya Publishing House, New Delhi, 1996,
• Desai, Vasant, “The Indian Financial System”, Himalaya Publishing House, New Delhi
• Government of India, Report of the High Powered Committee on Stock Exchanges, 1985,
• Gemarat, Sanjeev, “Insider Trading” The Chartered Accountant, July 1993.
• Pandya, V.H., “Emerging Scenario in the Capital Market and SEBI’s Role”, Forum of Free Enterprise,
1994.
• Avadhani, V.A., “Investment Management”, Himalaya Publishing House, New Delhi, 1996,
• Desai, Vasant, “The Indian Financial System”, Himalaya Publishing House, New Delhi
• Government of India, Report of the High Powered Committee on Stock Exchanges, 1985,
• Gemarat, Sanjeev, “Insider Trading” The Chartered Accountant, July 1993.
• Pandya, V.H., “Emerging Scenario in the Capital Market and SEBI’s Role”, Forum of Free Enterprise,
1994.
• Rao, Mohana P., “Working of Mutual Fund Organizations in India, Kaniska Publishers, New Delhi,
1998.
• Bombay Stock Exchange Annual Reports, 1996-97 and 1999-2000.
• Rastogi, A.B., “Reforms at the Stock Exchange, Mumbai”, 1997, Corporate Planning Group, the Stock
Exchange, Mumbai”.
v
• Rastogi, A.B., “Trade Guarantee Fund”.
• Reserve Bank of India, Bulletin 1996-97, 2000-2002.
• Chandra, Prasanna, “The Investment GAME”, Tata McGraw-Hill, New Delhi, 1993.
• Chartered Financial Analyst, October, 1994.
• Chartered Financial Analyst, April-March, 1995.
• Dedhia, Manish V “OTCEI –A New Dimension in the Capital Market in India”, Management Accountant,
June 1992.
• Chandra, Prasanna, “The Investment GAME”, Tata McGraw-Hill, New Delhi, 1993.
• Chartered Financial Analyst, October, 1994.
• Chartered Financial Analyst, April-March, 1995.
• Dedhia, Manish V “OTCEI –A New Dimension in the Capital Market in India”, Management Accountant,
June 1992.
• Goiporia, M.N., “ An Overview of the Financial Markets”
• Madden, J.T. and M. Nadler, The International Money market.
• Reserve Bank of India Bulletin, May 1999.
• Singh, K.P. and A.k. Sinha, “Primary Market and Spread of equity Culture in India”. The Indian Journal
of commerce.
• Tripathy, Nalini Prava, “Capital Market – A better Environment for Better Tomorrow”, Internal Conference
on Accounting in Changing Perspectives.
• Verma, Sanjeev, “ Innovations in Financial products”. ICFAI National Convention,1994.
• Chakravarthi, Anand, “Securitization Market: Indian and Global Scenario”, ICFHI Reader March 2004.
• Bansal, L.K., “Asset Securitization”, Journal of Accounting and Finance, Feb., 1995.
• Gupta, G.D., “Debt Securitization – Making Money from Money”, The Chartered Accountant, May, 1997.
• Narender, V, and C.S. Mishra, “Securitization – A New Mode of Financing”, Chartered Secretary, February
1996.
• Nair, T.C., and R.Gurcemurthy, “Securitization of Debt: Some issues”, The Journal of The Indian Institute
of Bankers, July 1995.
• Rai, Rita, “Securitization: The Concept and its Relevance to Indian Banks”, IBA Bulletin, October 1994.
• Sen, Abhijit, “securitization – Plenty of Potential”, Chartered Financial Analyst, Decem- ber 1995.
• Surey, Rajat and Kalpesh Gada, “Securitization in India: Coming of Age”, ICFAI Reader, January 2004.
• Tehnmozhi, M., “Critical Issues in Debt Securitizaation in India”, Accounting in Chang- ing Perspectives,
January 1997.
• Ali ki lian, Mohd. Akbar, “CRISIL Rating in India – A New financial service in capital Market”, Finance
India, Sept. 1993.
• CRISIL, “Rating Set — Debentures”, Aug. 1993.
vi
• Choudhury, P.K., “Credit Rating: A few simple facts”, The Economic Times, Calcutta, August, 1994.
• Dhileepan, P., “Rating of Banks and Financial Companies”, The Economic Times, Calcutta, Aug. 1994.
• Gupta, R.I., and M. Radhaswami, “Financial Statement Analysis”, Sultan Chand and Sons, New Delhi,
1982.
• Jhaveri, M.S., “Premium Investments”, 16th July-22nd July, 1993, IBA Bulletin, January 1993, IBA Bulletin,
January 1993.
• Menon, A., “ICRA forms Novel Cash flow Structure for SEBI Raising Funds”, The Economic Times,
Calcutta, Dec., 1994.
• Mohansule, “The Importance of being CRISIL”, The Economic Times, March, 1991.
• Punjab National Bank, Monthly Review, November, 1992.
• Ramachandran, Kalyani, “Critical Factors Influencing Financing Decisions Credit Rating”, Asian, Journal
of Management, (Sept.-Dec. 1990).
• Rao, B. Ramachandra, “banking on Credit Rating”, The Banker, May 1993. Shah, Pradip P., “Credit
Rating and the Role of CRISIL”, Chartered Secretary, July, 1993.
• Ansari, M.N.A., “Mutual Funds in India: Emerging Trends”, The Chartered Accountant, August 1993.
• Bansal, L.K., “Mutual Funds: Management and Working”, Deep and Deep Publications, New Delhi.
• Chartered Financial Analyst, February 2000.
• Dewan, Sonica, “Mutual Funds in India: A Review”, Business Analyst, Jan. – June, 1998.
• Fortune India, March 31, 1999.
• Freedman, Albert J, and Russ Wiles, “How Mutual Funds Work”, Prentice-Hall of India, New Delhi,
1997.
• Goyal, Madan, “Mutual Funds in India, Here We Come”, The Journal of Indian Institute of Bankers,
Oct.-Dec. 1989.
• Gangadhar, V., “The Changing Pattern of Mutual Funds in India”, The Management Accountant, December
1992.
• Indro, D.C., C.S. Jiang, B.E. Patuwo, and G.P. Zhang, “Predicting Mutual Fund
• Singh, K.P. and A.k. Sinha, “Primary Market and Spread of equity Culture in India”.
• The Indian Journal of commerce.
• Tripathy, Nalini Prava, “Capital Market – A better Environment for Better
• Tomorrow”, Internal Conference on Accounting in Changing Perspectives.
• Verma, Sanjeev, “Innovations in Financial products”. ICFAI National Convention,1994.
Inspite of at most care taken to prepare the list of references any omission in the list is only accidental and
not purposeful
K. Karthik Sridar
Author
vii
DBA 1724 MERCHANT BANKING AND FINANCIAL SERVICES
UNIT I - MERCHANT BANKING

Introduction – An Overview of Indian Financial System – Merchant Banking in India –Recent Developments and
Challenges ahead – Institutional structure – Functions of Merchant Banking – Legal and Regulatory Frameworks
– Relevant Provisions of Companies Act- SERA-SEBI guidelines- FEMA etc. – Relation with stock Exchanges
, OTCEI and NES.
UNIT II - ISSUE MANAGEMENT
Role of Merchant Banking in Appraisal of projects, Designing Capital Structures and Instruments – Issue Pricing
– Pricing- Preparation of prospectus selection of bankers, Advertising Consultants etc. – Role of Registrars –
Underwriting Arrangements. Dealing with Bankers to the Issue, Underwriters, Registrars, and Brokers. –Offer
for sale – Book- Building – Green Shoe Option –E –IPO Private Placement- Bought out Deals –Placement with
Fis,MFs, FIIs , etc. off- Shore Issues. – Issue Marketing – Advertising Strategies-NRI Marketing- Post Issue
Activities.
UNIT III - OTHER FEE BASED MANAGEMENT
Mergers and Acquisitions – Portfolio Management Services – Credit Syndication – Credit Rating – Mutual
Funds – Business Valuation.
UNIT IV - FUND BASED FINANCIAL SERVICES
Leasing and Hire Purchasing – Basics of Leasing and Hire Purchasing – Financial Evaluation –Tax Implication.
UNIT V - OTHER FUND BASED FINANCIAL SERVICES
Consumer Credit – Credit Cards- Real Estate Financing – Bills Discounting – Recent Developments in
Factoring and Forfeiting – Venture Capital.
REFERENCES
1. M.Y.Khan, ‘Financial Services’ – Tata McGraw –Hill, 3 rd Edition, 2005.
2. Machiraju, ‘ Indian Financial System ‘- Vikas Publishing House, 2 nd Edition, 2002.
3. J.C.Verma, ‘ A Manual of Merchant Banking ‘, Bharath Publishing House, New Delhi, 2001.
4. K.Sriram, ‘Hand Book of Leasing, Hire Purchase & Factoring’, ICFAI, Hyderabad, 1992.
5. Economic Dailies, Relevant Publication of AMFS.
6. Bhalla. V.K.-‘Management of Financial Services’ – Mnmol, New Delhi 2001.
7. Bhalla V.K.and Dilbag , Singh , ‘International Financial Centers’, New Delhi, Anmol,1997.
8. Ennew.C.Trevor Watkins & Mike Wright, ‘Marketing of Financial Services’, Heinemann Professional
pub., 1990.
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CONTENTS
UNIT I
MERCHANT BANKING
LESSON 1
1.1 INTRODUCTION 1
1.2 LEARNING OBJECTIVES 1
1.3 INANCIAL SYSTEM 1
1.3.1 Objectives 2
1.3.2 Functions 2
1.3.3 Significance Of Financial System 3
1.3.4 Introduction To Financial System In India 4
1.3.5 Structure Of Indian Financial System 6
1.3.6 Limitations of the financial system in India 11
LESSON – 2
2.1 INTRODUCTION 14
2.3 MERCHANT BANKING 15
2.3.1 Objectives 15
2.3.2 Functions 16
2.3.3 Classification of Merchant Bankers by Sebi 19
2.3.4 Merchant Banking in India 19
2.3.5 Recent Developments in Merchant Banking and Challenges Ahead 20
LESSON – 3
3.1 INTRODUCTION 22
3.3 MERCHANT BANKING AND LEGAL REGULATORY FRAME WORK 22
3.3.1 Companies Act 23
3.3.2 Provisions under Companies Act 25
LESSON – 4
4.1 INTRODUCTION 27
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4.2.1 SCRA 27
4.2.2 Recognized Stock Exchanges 29
4.2.3 Grant of Recognition of Stock Exchanges 29
LESSON – 5
5.1 INTRODUCTION 31
5.3 SEBI 31
5.3.1 Objectives 32
5.3.2 Functions 32
5.3.3 SEBI Regulations on Merchant Bankers 33
5.3.4 SEBI guidelines on merchant banking 48
LESSON – 6
6.1 INTRODUCTION 56
6.3 STOCK EXCHANGES 56
6.3.1 Objectives of stock exchanges 57
6.3.2 Functions of stock exchanges 57
6.3.3 Organization of stock exchanges 59
6.3.4 Methods of trading in stock exchanges 60
LESSON – 7
7.1 INTRODUCTION 64
7.3 OTCEI 64
7.3.1 Objectives of OTCEI 65
7.3.2 Benefits of OTCEI 66
7.3.3 Securities traded under OTCEI 68
LESSON – 8
8.1 INTRODUCTION 70
8.3 NSE 70
8.3.1 Operations of NSE 72
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UNIT II
ISSUE MANAGEMENT
LESSON - 1
1.1 INTRODUCTION 77
1.3 MERCHANT BANKERS AND CAPITAL ISSUES MANAGEMENT 77
1.3.1 Issue Management 78
1.3.2 Functions of Merchant Bankers 80
LESSON - 2
2.1 INTRODUCTION 123

2.3 MERCHANT BANKING AND MARKETING OF NEW ISSUES 123
2.3.1 Methods 124
2.3.2 Advertising Strategies 139
2.3.3 FIIs 140
2.3.4 NRI 142
2.3.5 Pricing of New Issues 145
2.3.6 Post issue activities 147
2.3.7 Law relating to issue management 147
UNIT III
OTHER FEE BASED MANAGEMENT
LESSON – 1

1.3 MERGERS & ACQUISITIONS 151
1.3.1 Objectives 151
1.3.2 Steps in Mergers and Acquisitions 152
1.3.3 Takeovers 153
1.3.4 Major Issues in Mergers & Acquisitions 155
LESSON – 2

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2.3 PORTFOLIO MANAGEMENT SERVICES 157
2.3.2 Functions 158
2.3.3 Strategies 159
LESSON – 3

3.3 CREDIT SYNDICATION SERVICES 161
3.3.2 Scope 161
LESSON – 4

4.3 CREDIT RATING 169
4.3.1 Basis of Credit Rating 170
4.3.2 Credit Rating Companies in India 170
4.3.3 Types of Credit Rating 171
LESSON – 5

5.3 MUTUAL FUNDS 175
5.3.2 Mutual funds set up in India 176
5.3.3 Types of Mutual funds 177
5.3.4 History of Mutual funds in India 179
5.3.5 Business valuation 180
UNIT –IV
FUND BASED FINANCIAL SERVICES
LESSON – 1

1.3 FUND BASED FINANCIAL SERVICES 185
1.3.1 Leasing 185
xiv
1.3.2 Basic concepts in Leasing 186
1.3.3 Evolution of Leasing 187
1.3.4 Types of Leasing 188
1.3.5 Regulatory Authority 193
1.3.6 Lease Market in India 194
1.3.7 Players in Leasing 195
1.3.8 Hire purchase 196
1.3.9 Difference between Leasing and Hire purchase 198
1.3.10 Financial Evaluation 198
1.3.11 Tax Implication 199
UNIT V
OTHER FUND BASED FINANCIAL SERVICES
LESSON 1

1.3 CONSUMER CREDIT 201
1.3.1 Consumer Finance Transactions 202
1.3.2 Nature of Consumer Classes in India 203
1.3.3 Latest developments in Consumer Credit 206
1.3.4 Importance of Consumer Credit in India 209
LESSON – 2

2.3 CREDIT CARDS 212
2.3.1 Origin of Credit Cards in India 212
2.3.2 Types 214
2.3.3 Benefits of Credit Cards 218
LESSON – 3

xv
3.3 REAL ESTATE FINANCING 222
3.3.1 Factors determining the Real Estate finance assistance 222
3.3.2 Sources of Finance 224
LESSON – 4

4.3 BILL DISCOUNTING 227
4.3.1 Features 228
4.3.2 Steps in Bill Discounting 228
4.3.3 Bill Systems 229
LESSON – 5

5.3 FACTORING AND FORFAITNG 232
5.3.1 Features of Factoring 233
5.3.2 Types of Factoring 234
5.3.3 Difference between Factoring and Forfaiting 237
LESSON – 6

6.3 VENTURE CAPITAL 239
6.3.2 Financing by Venture Capital Institutions 240
6.3.3 Venture Capital in India 242
6.3.4 Guide lines for providing Venture Capital 244
6.3.5 Investment pattern in Venture Capital 244
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MERCHANT BANKING AND FINANCIAL SERVICES
NOTES
UNIT I
MERCHANT BANKING
LESSON 1
1.1 INTRODUCTION
The word ‘system’ implies a set of complex and interrelated factors organized in a
particular form. These factors are mostly interdependent but not always mutually exclusive.
The financial system of any country consists of several ingredients. It includes financial
institutions, markets, financial instruments, services, transactions, agents, claims and liabilities
in the economy.
‘Financial system’ is a system to canalize the funds from the surplus units to the deficit
units. ‘Deficit units’ is a case where current expenditure exceeds their current income.
There are other entities whose current income exceeds current expenditure which is called
as ‘Surplus Units’.
An efficient financial system not only encourages savings and investments, it also
efficiently allocates resources in different investment avenues and thus accelerates the rate
of economic development. The financial system of a country plays a crucial role of allocating
scarce capital resources to productive uses. Its efficient functioning is of critical importance
to the economy.
1.2 LEARNING OBJECTIVES
After reading the unit, you will understand:
- The functions of financial system
- The importance of financial System
- The financial system in India and its structure
- Limitations of financial system in India
1.3 FINANCIAL SYSTEM
• It is a system for the efficient management and creation of finance
1 ANNA UNIVERSITY CHENNAI

DBA 1724
According to Robinson, financial system provides a link between savings and

NOTES investment for the creation of new wealth and to permit portfolio adjustment in the
composition of the existing wealth.
According to Van Horne, financial system is defined as the purpose of financial

markets to allocate savings efficiently in an economy to ultimate users – either for investment
in real assets or for consumption.
Thus the financial system mainly stands on three factors

1 Money
2 Credit
3 Finance
1. ‘Money’ is the unit of exchange or medium of payment. It represents the value of
financial transactions in qualitative terms.
2. ‘Credit’, on the other hand, is a debt or loan which is to be returned normally with
interest.
3. ‘Finance’ is monetary wealth of the state, an institution or a person. Comprising
these factors in a systematic order forms a financial system.
1.3.1 Objectives
The objectives of the financial system are

1. Accelerating the growth of economic development.
2. Encouraging rapid industrialization
3. Acting as an agent to various economic factors such as industry, agricultural sector,
government etc.
4. Accelerating rural development
5. Providing necessary financial support to industry
6. Financing housing and small scale industries
7. Development of backward areas, infrastructure and livelihood
8. Imposing price control in need
9. Protecting environment
1.3.2 Functions
Functions of financial system are distributed from creation of money to efficient

management. It is the sum total of the functions of the various intermediaries.
The functions of financial system can be classified into two broad categories:
1. Controlling functions
2. Promotional functions.

1. CONTROLLING FUNCTIONS
NOTES
Government imposes certain controls over the financial and business activities of
different organizations through the regulatory bodies. E.g. RBI plays an important part in
regulatory functions. They are
(i) Supervision of financial institutions
(ii) Restrictions on interest and bank rates
(iii) Selective credit control
(iv) Controlling foreign exchange
(v) Regulation of stock exchanges
(vi) Framing rule for effective portfolio management and distribution, diversification
and reduction of risk
(vii)Imposing monetary control
(viii)Prevention of unfair trade practices
(ix) Formulating policies on licensing, investment or credit
(x) Acting as the government’s and other banks’ bankers.
2. PROMOTIONAL FUNCTIONS
The promotional activities are

i. Efficient operation of the payment mechanism.
ii. Managing information to make it easily available to all interested parties
iii. Providing training to investors, intermediaries and employees in order to
upgrade their skills.
iv. Conducting development and research activities in order to update the
system.
v. Creation and establishment of need based financial institutions.
vi. Promotion of fair practices which are transparent and effective.
vii. Creating financial awareness to captivate investors, entrepreneurs and
borrowers.
viii.Organizing seminar, dialogues, collection of data and publication.
1.3.3 Significance Of Financial System
Financial system of a country or an organization is the main motivating factor to run

the economy. It ensures that transactions are effected smoothly and quickly on an ongoing
basis. It enables the financial agents to accelerate financial growth and economic prosperity
of the unit.

DBA 1724
The significance of financial system are

NOTES (i) It involves an efficient operation of payment mechanism.
(ii) Enhancing liquidity of financial claims through securities trading.
(iii)Portfolio management.
(iv)Diversification and reduction of financial risk
(v) Acting as intermediaries between savers and investors.
1.3.4 Introduction To Financial System In India
The evolution of the financial system in India is nothing but the reflections of its political
and economic history. The evolution process has been influenced by the factors of
urbanization of society, advent or large scale industrialization, introduction of railways and
telegraphic communications in the 19th century, nationalization of financial institutions in
20th century and implementation of information technology on the eve of the 21st century.
The growth of Indian Financial System is not the outcome of a normal process of
development; rather, it is created by the government and mainly expanded through its
intervention. Government policies have greatly influenced the interest rates, credit control
and functions of financial intermediaries.
PRE INDEPENDENCE SITUATIONS
During the 274 year regime of the East India Company (1600-1874) the financial
system of the country was not at all organized. It was monopolized by the mercantile
houses who were involved in banking business by providing loans, receiving deposits and
issuing currency. They are commonly known as ‘agency houses’ who actually laid the
foundation of modern banking. The formal banking business was developed by establishment
of three Presidency Banks, namely
1. The Bank of Bengal (1806)
2. Bank of Bombay (1840)
3. The Bank of Madras (1846).
Apart from these, some exchange banks and Indian joint stock banks were set up.
In 1858, as a consequence of Sepoy Mutiny, the administrative power of the East India
Company was transferred to the Governor General of India. The financial system of the
country started to be organized during this period. In 1861, the Central Government took
the responsibility of issuing currency notes throughout the country. Between 1865 to 1905,
nine joint stock banks, each with a capital of Rs.5 lakh and over were established. In
1921, the three Presidency Banks were amalgamated under a special legislation to form
the Imperial Bank of India.
The first central bank was established in 1935 in the country which is known as the
Reserve Bank of India. At the time of independence, banking system in India was controlled

by RBI, IBI, exchange banks, cooperative banks and Indian joint stock banks and the
total deposits in these banks during 1948 were Rs.957 Crores. During this period, the NOTES
banking sector was in the making though there was lack of supply of long term funds to all
industrial units, specially to small scale industries. The cooperative movement did not help
much as it was disorganized and not properly aided with adequate funds. In the fields of
small savings and post office savings bank played a vital role to accumulate deposits,
though it is insignificant in terms of total deposits into the country.
The private sector acted a strong role in the stock market during the first half of the
th
20 century. The first stock exchange was established at Bombay in 1887 where the
private sector industrial units and the Government raised large amount of funds. The paid
up capital of Joint Stock companies increased from Rs.24 Crores in 1890 to Rs. 570
Crores in 1948 with an average capital issue of Rs.70 Crores per year during 1918 to
1939. This boom is due to the increased; pace of industrialization, protection of domestic
industries and government policies during this period.
POST INDEPENDENCE ERA (1950-1991)
During this period, the Indian financial system passed the second phase of evolution.
It has grown rapidly since 1950 in terms of size, innovations, diversity, complicity and
sophistication. The banking system has been expanded in the rural areas through the
establishment of State Bank of India in 1955.
In 1951, economic planning was initiated in India. The mixed economy model has
been adopted which enhanced government control over the financial system and direct
government participation in industrialization process.. The different landmarks during this
phase were
• Bank nationalization in 1969
• Establishment of various financial institutions which are need based and useful for
expansion of financial sector.
• Imposing overall control on insurance sector by the Government.
• Establishment of large scale industrial units and introduction of long term finance to
all industries.
• Emphasizing the growth of small scale industries by helping them through subsidized
funding and direct investment.
• Imposition of regulatory measures and inserting Government intervention in business
through amending the companies Act, Securities Contracts (Regulation) Act, 1956,
Monopolies and Restrictive Trade practices Act 1970, Foreign Exchange
Regulation Act 1973 etc.,

DBA 1724
ERA AFTER LIBERALISATION

NOTES
The announcement of the New Economic Policy in 1991, the India Financial System
has shown quite flexibility in terms of transformation . The reformation process has been
started in order to remove the stagnation of growth described before and, till date, the
response is positive. This is the phase of liberalization and globalization of Indian economy
following the world trend which is duly supported by deregulation of Government Control.
Market force becomes dominant resulting in privatization of industries, emergence of new
generation financial institutions with competitive ability and introduction of computerized
business environment where information technology plays a vital role. The regulatory
framework has been duly changed giving space to this reform process and one can say
that the Indian financial sector is gradually moving towards attainment of global standards.
1.3.5 Structure Of Indian Financial System
Financial system is a system of arranging different types of funds required for the
business. It deals about
(a) Financial Institutions
(b) Financial Markets
(c) Financial Instruments
(d) Financial Services
Financial Financial
Institutions Markets
Financial Financial
Instruments Services
Figure 1.1 Components of Financial System

(A) FINANCIAL INSTITUTIONS

NOTES
Financial Institutions
Banking Non
Central Bank
Non Banking Non Banking
Companies Financial Co’s
Commercial Co-Operative Non Banking Joint Stock

Banks Banks Financial Co’s
Intermediaries
Structure of Financial Institutions
COMMERCIAL BANKS:
Commercial Banks
Commercial Banks
Private Sector Banks Foreign Banks

Public Sector Banks
SBI & Subsidiaries Nationalized
Classification of Commercial Banks

DBA 1724
CO-OPERATIVE BANKS
NOTES
Co-operative Banks
State Co-operative State Co-operative Urban Co-operative Land

Apex Banks Development
Banks
Banks
Central Co-operative
Banks
Primary Co-operative
Land Development
Banks
Primary Co-operative
Banks
Classification of Co-operative Banks
NON BANKING FINANCIL INTERMEDIARIES
Classification of Non Banking Financial Intermediaries
(B) FINANCIAL MARKETS:
Components of Financial Market

(a) CAPITAL MARKET

NOTES
It is the market for long term funds i.e., raising capital for Companies through issue of
shares and debentures. The Capital market can further divided into (a) Primary Market
and (b) Secondary Market
Capital Market
Primary Market Secondary Market
Fig 1.7Classification of Capital Market
(i) Primary Market : It is the market for primary needs of the company . The Company
sells its shares at the time of promotion and the investors directly buy the shares from the
company through application.
(ii) Secondary Market: It is the market for secondary needs of the company. The sale
and purchase of securities i.e., shares and debentures will take place through the recognized
stock exchanges.
(b) MONEY MARKET:
It is a market for short term funds. Money market provides working capital.
Capital Market
Organized Money Market Unorganized Money Market
Reserve Bank of India

Indigenous bankers
Money Lenders
Structure of Indian Money Market
(c) FOREIGN MONEY MARKET
It is a market for foreign exchange which is bought and sold. In India the foreign
market is controlled by Reserve Bank of India. Foreign Exchange Management Act (FEMA)
deals with foreign exchange.
(d) GOVERNMENT SECURITIES MARKET
It is a market for Government securities like Treasury Bills and Bonds . Treasury
Bills are bills issued for meeting the short term revenue expenditure of the Government.

DBA 1724
Bonds are issued for raising Long term loans which are repayable over a period of 15 to
NOTES 20 years.
Government Securities Market
Treasury bills Bonds
Government Securities Market
(C) FINANCIAL INSTRUMENTS
Financial instruments include both instruments and products. Instruments include

cheques, drafts, letter of credit, travellers’ cheques, commercial paper, GDR’s, bonds
etc.,. Products may be in the form of Credit Cards, Debit Cards etc.,
Classification of Financial Instruments
(a) Negotiable Instruments
A negotiable instrument is an instrument that is transferable from one person to another.

Negotiable instrument may be a bearer instrument or an order instrument. A negotiable
instrument may be promissory notes, bills of exchange or cheque etc.,
(b) Commercial Paper
A commercial paper is one which is issued by leading financial institution which can
be taken by any borrower and discounted with commercial banks.
(c) Bill of lading
It is a document signed by the carrier, acknowledging shipment of the goods and

containing the terms and conditions of carriage.

(d) Letter of Credit

NOTES
It is a letter by the importer bank guaranteeing the credit worthiness of the importer.
(e) Travellers’ Cheques
It is a cheque issued by banks to the traveling public which can be cashed at ease.
(D) FINANCIAL SERVICES
Financial service, as a part of financial system provides different types of finance

through various credit instruments, financial products and services. It enables the user to
obtain any asset on credit according to his convenience and at a reasonable interest rate.
FINANCIAL SERVICES
Factoring Asset Liability Management

Leasing Housing Finance
Forfaiting Portfolio Finance
Hire Purchase Finance Underwriting
Credit Card Credit rating
Merchant Banking Interest and Credit Swap
Book Building Mutual fund
Components of Financial Services

1.3.6 Limitations of the financial system in India
The following are the limitations of the Indian financial system.
• The Indian Financial system has failed to meet the financial needs of small scale
industries. It has rather patroned the big industrial houses who are already well off.
• The mushrooming of financial institutions has deteriorated the quality and
effectiveness of the sector to some extent.
• In many cases, it could not impose adequate control towards financial irregularities
and frauds, often influenced by politically and economically organized pressure
groups.
• The Indian financial system fails to create a well defined and organized capital
market.
• It fails to motivate economically marginal or small entrepreneurs by providing micro
credit to them.
• The Indian financial system is not flexible at the desired level. It takes abnormal
time to cope with the changing situation.

DBA 1724
Have you understood questions?

NOTES
Objective Type Questions
Q 1.3.a Define “Financial System”.
Q.1.3.b Mention the categories of financial institutions.
Q.1.3.c State two ‘Non banking financial institutions’.
Q.1.3.d What do you mean by primary markets?
Q.1.3.e What is meant by money market?
Q.1.3.f Give two examples of financial services.
Short Answer Type Questions
Q.1.3.g Describe the types of financial markets with examples.
Q.1.3.h Mention the major objectives of a sound financial system.
Q.1.3.i What are the main functions of a financial system?
Q.1.3.k Illustrate the structure of the Indian Financial System.
Q.1.3.l State the limitations of the Indian Financial System.
Long Answer Type Questions
Q.1.3.m Draw an account of the growth of the Indian financial System after
Independence.
Q.1.3.n What is the role of Indian Financial Sector in her economic

Development?
Q.1.3.o Illustrate the different components of the Indian financial System
and explain their activities.
Q.1.3.p What are ‘financial services’? State the objectives and functions of
the same.
Q.1.3.q What are the general problems faced by financial services firms in
India?
Q.1.3.r What is the need for regulating the financial services sector in
India?

SUMMARY
NOTES
Four and half decades of Indian economic planning and subsequent liberalization had
led the country to an ecstatic phase of development The development through
disintermediation, deregulation, globalization, and emergence of vibrant capital market has
contributed to the expansion of opportunities. As a result, capital market has emerged as
the major contributor to the growth of foreign exchange reserves of the country. In fact, in
the merging world market, India has beaten several developing countries. In the post
liberalization era, the finance sector has witnessed a complete metamorphosis. The recent
economic reforms encompassed a series of measures to promote investors protection and
encourage the growth of capital market. Free entry into capital market for new issues by
companies and free pricing of share for new issues has been ensured. Different financial
institutions and markets compete for a limited pool of savings by offering different
instruments. Money and capital markets increase competition between suppliers. Capital
market enables contractual savings and collective investment institutions to play a more
active role in the financial system.

DBA 1724
NOTES
LESSON – 2
2.1 INTRODUCTION
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. In fact, 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 are essential.
A Merchant bank is a financial institution primarily engaged in internal finance and

long term loans for multinational corporations and governments. It can also be used to
describe the private equity activities of banking. Merchant banks tend to advise corporations
and wealthy individuals on how to use their money. The advice varies from counsel on
mergers and acquisitions to recommendation on the type of credit needed. The job of
generating loans and initiating other complex financial transactions has been taken over by
investment banks and private equity firms.
Thus, the function of merchant banking which originated, and grew in Europe was
enriched by American patronage, and these services are now being provided throughout
the world by both banking and Non-banking Institutions. The word “Merchant Banking”
originated among the Dutch and the Scottish Traders, and was later on developed and
professionalized in Britain.

• Definition of merchant banking
• Merchant bank objectives
• Merchant bank functions
• Institutional structure
• Merchant banking in India
• Recent developments in Merchant banking and challenges ahead

2.3 MERCHANT BANKING

NOTES
Securities and Exchange Board of India (Merchant Bankers) Rules, 1992
“ A merchant banker has been defined as any person who is engaged in the business
of issue management either by making arrangements regarding selling, buying or subscribing
to securities or acting as manager, consultant, adviser or rendering corporate advisory
services in relation to such issue management”.
Random House Dictionary
“Merchant banker is an organization that underwrites securities for corporations,

advices such clients on mergers and is involved in the ownership of commercial ventures.
These organizations are sometime banks which are not merchants and sometimes merchants
who are not banks and sometimes houses which are neither merchants nor banks”.
Charles P. Kindleberger
“Merchant banking is the development of banking from commerce which frequently

encountered a prolonged intermediate stage known in England originally as merchant
banking”
The Notification of the Ministry of finance defines
A merchant banker as ,”any person who is engaged in the business of issue management
either by making arrangements regarding selling, buying or subscribing to the securities as
manager, consultant, adviser or rendering corporate advisory service in relation to such
issue management”.
• A merchant banker is one who is a critical link between a company raising
fund and the investors.
• Merchant banker is one who underwrites corporate securities and advices
clients on issues like corporate mergers.
• The merchant banker may be in the form of a bank, a company, firm or even
a proprietary concern.
• Merchant Banker understands the requirements of the business concern and
arranges finance with the help of financial institutions, banks, stock exchanges
and money market.
2.3.1 Objectives
• Channellising the financial surplus of the general public into productive investments
avenues
• Co-coordinating the activities of various intermediaries like the registrar, bankers,
advertising agency, printers, underwriters, brokers, etc., to the share issue
• Ensuring the compliance with rules and regulations governing the securities market.

DBA 1724
NOTES WHO
OWN
THE
CAPITAL
MERCHANT BANKERS
AS
INTERMEDIARIES
FOR
TRANSFER OF
CAPITAL
WHO
NEED
THE
CAPITAL
Merchant Bankers as intermediaries
2.3.2 Functions
Merchant banking functions in India is the same as merchant banks in UK and other
European countries. The following are the functions of merchant bankers in India.
C o rp o ra te C ou n se lin g
P ro je c t C o u n se lin g
C a p ita l S tru c tu rin g
P o rtfo lio M a n a g e m e n t
Issu e M a n a g e m e n t
C re d it S yn d ic a tio n
W o rk in g c a p ita l
V e n tu re C a p ita l
L e a se F in a n c e
F ix e d D e p o sits
Functions of Merchant Bankers

(i) Corporate counseling

NOTES
Corporate counseling covers counseling in the form of project counseling, capital
restructuring, project management, public issue management, loan syndication, working
capital fixed deposit, lease financing, acceptance credit etc., The scope of corporate
counseling is limited to giving suggestions and opinions to the client and help taking actions
to solve their problems. It is provided to a corporate unit with a view to ensure better
performance, maintain steady growth and create better image among investors.
(ii) Project counseling
Project counseling is a part of corporate counseling and relates to project finance. It

broadly covers the study of the project, offering advisory assistance on the viability and
procedural steps for its implementation.
a. Identification of potential investment avenues.
b. A general view of the project ideas or project profiles.
c. Advising on procedural aspects of project implementation
d. Reviewing the technical feasibility of the project
e. Assisting in the selection of TCO’s (Technical Consultancy Organizations) for
preparing project reports
f. Assisting in the preparation of project report
g. Assisting in obtaining approvals , licenses, grants, foreign collaboration etc., from
government
h. Capital structuring
i. Arranging and negotiating foreign collaborations, amalgamations, mergers and
takeovers.
j. Assisting clients in preparing applications for financial assistance to various national
and state level institutions banks etc.,
k. Providing assistance to entrepreneurs coming to India in seeking approvals from
the Government of India.
(iii)Capital Structure
Here the Capital Structure is worked out i.e., the capital required, raising of the
capital, debt-equity ratio, issue of shares and debentures, working capital, fixed capital
requirements, etc.,
(iv)Portfolio Management
It refers to the effective management of Securities i.e., the merchant banker helps the
investor in matters pertaining to investment decisions. Taxation and inflation are taken into
account while advising on investment in different securities. The merchant banker also

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undertakes the function of buying and selling of securities on behalf of their client companies.
NOTES Investments are done in such a way that it ensures maximum returns and minimum risks.
(v) Issue Management
Management of issues refers to effective marketing of corporate securities viz., equity

shares, preference shares and debentures or bonds by offering them to public. Merchant
banks act as intermediary whose main job is to transfer capital from those who own it to
those who need it.
The issue function may be broadly divided in to pre issue and post issue management.
a. Issue through prospectus, offer for sale and private placement.
b. Marketing and underwriting
c. Pricing of issues
(vi) Credit Syndication
Credit Syndication refers to obtaining of loans from single development finance

institution or a syndicate or consortium. Merchant Banks help corporate clients to raise
syndicated loans from commercials banks.
Merchant banks helps in identifying which financial institution should be approached

for term loans. The merchant bankers follow certain steps before assisting the clients approach
the appropriate financial institutions.
a. Merchant banker first makes an appraisal of the project to satisfy that it is viable
b. He ensures that the project adheres to the guidelines for financing industrial projects.
c. It helps in designing capital structure, determining the promoter’s contribution and
arriving at a figure of approximate amount of term loan to be raised.
d. After verifications of the project, the Merchant Banker arranges for a preliminary
meeting with financial institution.
e. If the financial institution agrees to consider the proposal, the application is filled
and submitted along with other documents.
(vii) Working Capital
The Companies are given Working Capital finance, depending upon their earning
capacities in relation to the interest rate prevailing in the market.
(viii)Venture Capital
Venture Capital is a kind of capital requirement which carries more risks and hence
only few institutions come forward to finance. The merchant banker looks in to the technical
competency of the entrepreneur for venture capital finance.

(ix)Fixed Deposit
NOTES
Merchant bankers assist the companies to raise finance by way of fixed deposits
from the public. However such companies should fulfill credit rating requirements.
(x)Other Functions
• Treasury Management- Management of short term fund requirements by client
companies.
• Stock broking- helping the investors through a network of service units
• Servicing of issues- servicing the shareholders and debenture holders in
distributing dividends, debenture interest.
• Small Scale industry counseling- counseling SSI units on marketing and finance
• Equity research and investment counseling – merchant banker plays an
important role in providing equity research and investment counseling because the
investor is not in a position to take appropriate investment decision.
• Assistance to NRI investors - the NRI investors are brought to the notice of the
various investment opportunities in the country.
• Foreign Collaboration: Foreign collaboration arrangements are made by the
merchant bankers.
2.3.3 Classification Of Merchant Bankers By Sebi
Classification of Merchant bankers
Issue management Underwriters Consultants to Issue Mobilization of foreign funds

for companies
Classification of Merchant bankers

2.3.4 Merchant Banking In India
The first merchant bank was set up in 1969 by Grind lays Bank. Initially they were
issue mangers looking after the issue of shares and raising capital for the company. But
subsequently they expanded their activities such as working capital management; syndication
of project finance, global loans, mergers, capital restructuring, etc., initially the merchant
banker in India was in the form of management of public issue and providing financial
consultancy for foreign banks. In 1973, SBI started the merchant banking and it was
followed by ICICI. SBI capital market was set up in August 1986 as a full fledged merchant
banker. Between 1974 and 1985, the merchant banker has promoted lot of companies.
However they were brought under the control of SEBI in 1992.

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RANKING OF MERCHANT BANKING IN INDIA

NOTES Merchant Banker OE FSS QPS QM INN
ICICI Securities 4.0 4.0 4.2 3.8 4.3
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 Baroda 6.7 6.5 6.7 6.6 6.8
Jardine Fleming 5.8 6.2 5.9 5.0 5.5
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
Table showing ranking of Merchant Bankers in India
2.3.5 Recent Developments in Merchant Banking and Challenges Ahead
The recent developments in Merchant banking are due to certain contributory factors
in India. They are
1. The Merchant Banking was at its best during 1985-1992 being when there were
many new issues. It is expected that 2010 that it is going to be party time for
merchant banks, as many new issue are coming up.
2. The foreign investors – both in the form of portfolio investment and through foreign
direct investments are venturing in Indian Economy. It is increasing the scope of
merchant bankers in many ways.
3. Disinvestment in the government sector in the country gives a big scope to the
merchant banks to function as consultants.
4. New financial instruments are introduced in the market time and again. This basically
provides more and more opportunity to the merchant banks.
5. The mergers and corporate restructuring along with MOU and MOA are giving
immense opportunity to the merchant bankers for consultancy jobs.

However the challenges faced by merchant bankers in India are

1. SEBI guideline has restricted their operations to Issue Management and Portfolio
NOTES
Management to some extent. So, the scope of work is limited.
2. In efficiency of the clients are often blamed on to the merchant banks, so they are
into trouble without any fault of their own.
3. The net worth requirement is very high in categories I and II specially, so many
professionally experienced person/ organizations cannot come into the picture.
4. Poor New issues market in India is drying up the business of the merchant bankers.
Have you understood questions?
Short Answer Type Questions
Q 2.3.a Define the term ‘merchant banking’
Q.2.3.b What are the activities connected with ‘corporate counseling’ ?
Q.2.3.c What are the activities undertaken by a merchant banker in relation to

project counseling?
Q.2.3.d What are ‘capital restructuring’ services of a merchant banker?
Q.2.3.e What are the codes of conduct to be observed by Indian merchant

bankers’?
Long Answer Type Questions
Q.2.3.m What is merchant banking ? Discuss in detail the various functions

performed by merchant bankers.
Q.2.3.n Give a detailed account of the regulatory framework available for merchant
banking activity in India.
Summary
Thus the merchant bankers are those financial intermediary involved with the activity
of transferring capital funds to those borrowers who are interested in borrowing.
The activities of the merchant banking in India is very vast in the nature of
a. The management of the customers securities
b. The management of the portfolio
c. The management of projects and counseling as well as appraisal
d. The management of underwriting of shares and debentures
e. The circumvention of the syndication of loans
f. Management of the interest and dividend etc

DBA 1724
NOTES
LESSON – 3
3.1 INTRODUCTION
Merchants and banks are currently engaged in a wide-ranging struggle for control
over payment systems. The conflict is playing itself out in business practices, in banking
regulation, in corporate governance, in corporate restructuring, in securities offerings, and
in the biggest antitrust litigation Yet, it is possible that the extraordinary energy being spent
in this fight is for naught, as the growth of national bank brands, technological developments,
and innovative business models are likely to result in a radical reshaping of the payments
world. This chapter reviews the factors behind the struggle between merchant banks and
the law relating to it , the strategies adopted by each.

• Merchant banking legal and regulatory frameworks
• Companies act
• Provisions under companies act and merchant banking
3.3 MERCHANT BANKING AND LEGAL REGULATORY FRAME WORK
Registration with SEBI as Merchant Banker
Q. Is it mandatory for a merchant banker to register with the SEBI?
A. Yes. Without holding a certificate of registration granted by the Securities and

Exchange Board of India, no person can act as a merchant banker.
Q. Who is eligible to obtain registration as a merchant banker?
A. Only a body corporate other than a non-banking financial company shall be eligible
to get registration as merchant banker.
Q. What are the various categories for which registration can be obtained?
A. The categories for which registration may be granted are given below:
• Category I – to carry on the activity of issue management and to act as adviser,
consultant, manager, underwriter, portfolio manager.
• Category II - to act as adviser, consultant, co-manager, underwriter, portfolio
manager.
• Category III - to act as underwriter, adviser or consultant to an issue
• Category IV – to act only as adviser or consultant to an issue

Q. What is the capital requirement for carrying on activity as merchant banker?

NOTES
A. The capital requirement depends upon the category. The minimum net worth
requirement for acting as merchant banker is given below:
• Category I – Rs. 5 crores
• Category II – Rs, 50 lakhs
• Category III – Rs. 20 lakhs
• Category IV – Nil
Q. What is the procedure for getting registration?
A. An application should be submitted to SEBI in Form A of the SEBI (Merchant

Bankers) Regulations, 1992. SEBI shall consider the application and on being satisfied
issue a certificate of registration in Form B of the SEBI (Merchant Bankers) Regulations,
1992.
Q. What is the registration fee payable to SEBI?
A. Rs. 5 lakhs which should be paid within 15 days of date of receipt of intimation
regarding grant of certificate.
Q. What is the validity period of certificate of registration?
A . Three years from the date of issue.
Q. How to renew the certificate?
A. Three months before the expiry period, an application should be submitted to

SEBI in Form A of the SEBI (Merchant Bankers) Regulations, 1992. SEBI shall consider
the application and on being satisfied renew certificate of registration for a further period of
3 years.
Q. What is the renewal fee payable to SEBI?
A. Rs.2.5 lakhs which should be paid within 15 days of date of receipt of intimation
regarding renewal of certificate.
Q. What is the consequence of non-registration or failure to renew registration?
A. The person whose registration is not current shall not carry on the activity as
merchant banker from the date of expiry of validity period.
3.3.1 Companies Act

(i) “company” means a company formed and registered under this Act or an existing
company as defined in clause (ii);

DBA 1724
(ii) “existing company” means a company formed and registered under any of the
NOTES
previous companies laws specified below:
a. any Act or Acts relating to companies in force before the Indian Companies Act,
1866 (10 of 1866) and repealed by the Act;
b. the Indian Companies Act, 1866
c. the Indian Companies Act, 1882
d. the Indian Companies Act, 1913
e. the Registration of Transferred Companies Ordinance 1942
iii. “private company” means a company which has a minimum paid-up capital of one
lakh rupees or such higher paid-up capital as may be prescribed, and by its articles,
a. restricts the right to transfer its shares, if any;
b. limits the number of its members to fifty not including
i. persons who are in the employment of the company, and
ii. persons who, having been formerly in the employment of the company, were members
of the company while in that employment and have continued to be members after the
employment ceased; and
c. prohibits any invitation to the public to subscribe for any shares

in, or debentures of, the company;
d. prohibits any invitation or acceptance of deposits from persons

other than its members, directors or their relatives
Provided that where two or more persons hold one or more shares in a company
jointly, they shall, for the purposes of this definition, be treated as a single member;
iv. “public company” means a company which

a. is not a private company;
b. has a minimum paid-up capital of five lakh rupees or such higher paid-up
capital, s may be prescribed
c. is a private company which is a subsidiary of a company which is not a
private company.

DEFINITIONS
NOTES
In this Act, unless the context otherwise requires,-
1. “abridged prospectus” means a memorandum containing such salient features of a
prospectus as may be prescribed
2. “banking company” has the same meaning as in the Banking Companies Act, 1949
3. “Company Law Board” means the Board of Company Law Administration
constituted under section 10E
4. “debenture” includes debenture stock bonds and any other securities of a company,
whether constituting a charge on the assets of the company or not;
5. “derivative” has the same meaning as in clause (aa) of section 2 of the Securities
Contracts (Regulation) Act, 1956
6. “hybrid” means any security which has the character of more than one type of
security, including their derivatives;
7. “issued generally” means, in relation to a prospectus, issued to persons irrespective
of their being existing members or debenture-holders of the body corporate to
which the prospectus relates;
8. “prospectus” means any document described or issued as a prospectus and includes
any notice, circular, advertisement or other document inviting deposits from the
public or inviting offers from the public for the subscription or purchase of any
shares in, or debentures of, a body corporate;
9. “recognized stock exchange” means, in relation to any provision of this Act in
which it occurs a stock exchange whether in or outside India, which is notified by
the Central Government in the Official Gazette as a recognized stock exchange for
the purposes of that provision;
10. “Registrar” means a Registrar, or an Additional, a Joint, a Deputy or an Assistant
Registrar, having the duty of registering companies under this Act;
11. “securities” means securities as defined in clause (h) of section 2 of the Securities
Contracts (Regulation) Act, 1956
12. “Securities and Exchange Board of India” means the Securities and Exchange
Board of India established under section 3 of the Securities and Exchange Board
of India Act, 1992
13. “share” means share in the share capital of a company, and includes stock except
where a distinction between stock and shares is expressed or implied;
3.3.2 Provisions Under Companies Act
The various regulations which govern the merchant bankers on the capital issue are
prescribed by the companies act, and the other enactments mentioned below.
1. Provisions of the Companies Act, 1956
a. Prospectus (Sec. 55 to 68A)
b. Allotment (Sec. 55 to 75)

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

NOTES 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)
1. 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.
HAVE YOU UNDERSTOOD QUESTIONS?

Q.3.3.a State the capital adequacy requirements prescribed for the merchant
bankers by the SEBI.
Q.3.3.b Discuss the various general obligations of merchant bankers under the
SEBI regulation.
Q.3.3.c State the circumstances under which SEBI would suspend the certificate
of registration of a merchant banker.
Q.3.3.d State the circumstances under which SEBI would cancel the certificate of
registration of a merchant banker.
Q.3.3.e Write a note on the fees structure levied by the SEBI on the merchant
bankers.
SUMMARY
Beyond this SEBI grants recognition to a merchant banker after taking into account
the following aspects
1. professional competence of merchant bankers
2. their capital adequacy
3. their track record, experience and general reputation
4. Adequacy and quality of personnel employed by them and also the available
infrastructure.

NOTES
LESSON – 4
4.1 INTRODUCTION
The Securities Contracts (Regulations) Act was passed in 1956 by Parliament and it
came into force in February 1957.
An act to prevent undesirable transactions in securities by regulating the business of

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

• SCRA
• The different definitions in the Act related to capital market
• Regulations for stock exchanges
• Recognition of stock exchanges
4.2.1 SCRA
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.
Definitions
a. “Contract” means a contract for or relating to the purchase or sale of securities;
b. “Corporatisation” means the succession of a recognized stock exchange, being a

Body of individuals or a society registered under the Societies Registration Act,
1860 (21 of 1860), by another stock exchange, being a company incorporated
for The purpose of assisting, regulating or controlling the business of buying, selling
or dealing in securities carried on by such individuals or society;
c. “demutualization” means the segregation of ownership and management from the

trading rights of the members of a recognized stock exchange in accordance with
a scheme approved by the Securities and Exchange Board of India;
(c) “derivative” includes
a. a security derived from a debt instrument, share, loan, whether secured or unsecured,
risk instrument or contract for differences or any other form of security;

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b. a contract which derives its value from the prices, or index of prices, of underlying
NOTES securities;
c. “Government security” means a security created and issued, whether before or

after the commencement of this Act, by the Central Government or a State
Government for the purpose of raising a public loan and having one of the forms
specified in clause (2) of section 2 of the Public Debt Act, 1944 (18 of 1944);
d. “member” means a member of a recognized stock exchange;

e. “option in securities” means a contract for the purchase or sale of a right to buy or
sell, or a right to buy and sell, securities in future, and includes a teji, a mandi, a teji
mandi, a galli, a put, a call or a put and call in securities;
f. “recognized stock exchange” means a stock exchange which is for the time being
recognized by the Central Government under section 4;
g. stock exchange which may provide for—
(i) the issue of shares for a lawful consideration and provision of trading rights in lieu
of membership cards of members of a recognized stock exchange;
(ii) the restrictions on voting rights;
(iii) the transfer of property, business, assets, rights, liabilities, recognitions, contracts
of the recognized stock exchange, legal proceedings by, or against, the recognized
stock exchange, whether in the name of the recognized stock exchange or any
trustee or otherwise and any permission given to, or by, the recognized stock
exchange;
(iv) the transfer of employees of a recognized stock exchange to another recognized

stock exchange;
(v) any other matter required for the purpose of, or in connection with, the
corporatisation or demutualization, as the case may be, of the recognized stock
exchange
h. “securities” include—
i. shares, scrips, stocks, bonds, debentures, debenture stock or other marketable

securities of a like nature in or of any incorporated company or other body
corporate;
(h) Government securities;
i. such other instruments as may be declared by the Central Government to be
securities; and
ii. rights or interest in securities;

(j) “stock exchange” means—

a. any body of individuals, whether incorporated or not, constituted before
NOTES
corporatisation and demutualization under sections 4A and 4B, or
b. a body corporate incorporated under the Companies Act 1956 whether under a
scheme of corporatisation and demutualization or otherwise, for the purpose of
assisting, regulating or controlling the business of buying,
4.2.2 Recognised Stock Exchanges
APPLICATION FOR RECOGNITION OF STOCK EXCHANGES
Any stock exchange, which is desirous of being recognized for the purposes of this
Act, may make an application in the prescribed manner to the Central Government.
(2) Every application under sub-section

1. shall contain such particulars as may be prescribed, and shall be accompanied by a
copy of the bye-laws of the stock exchange for the regulation and control of contracts
and also a copy of the rules relating in general to the constitution of the stock exchange
and in particular, to—
a. the governing body of such stock exchange, its constitution and powers of
management and the manner in which its business is to be transacted;
b. the powers and duties of the office bearers of the stock exchange;
c. the admission into the stock exchange of various classes of members, the
qualifications for membership, and the exclusion, suspension, expulsion and re-
admission of members there from or thereinto;
d. the procedure for the registration of partnerships as members of the stock exchange
in cases where the rules provide for such membership; and the nomination and
appointment of authorized representatives and clerks.
4.2.3 Grant of Recognition of Stock Exchanges
1. If the Central Government is satisfied, after making such inquiry as may be necessary
in this behalf and after obtaining such further information, if any, as it may require,—
a. that the rules and bye-laws of a stock exchange applying for registration are
inconformity with such conditions as may be prescribed with a view to ensure
fairdealing and to protect investors;
b. that the stock exchange is willing to comply with any other conditions (including
conditions as to the number of members) which the Central Government, after
consultation with the governing body of the stock exchange and having regard to
the area served by the stock exchange and its standing and the nature of the securities
dealt with by it, may impose for the purpose of carrying out the objects of this Act;
and

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c. that it would be in the interest of the trade and also in the public interest to grant
NOTES recognition to the stock exchange; it may grant recognition to the stock exchange
subject to the conditions imposed upon it as aforesaid and in such form as may be
prescribed.
2. The conditions which the Central Government may prescribe under clause (a) of sub-
section (1) for the grant of recognition to the stock exchanges may include, among
other matters, conditions relating to,—
i. the qualifications for membership of stock exchanges;
ii. the manner in which contracts shall be entered into and enforced as between members;
iii.the representation of the Central Government on each of the stock exchange by
such number of persons not exceeding three as the Central Government may nominate
in this behalf; and
iv.the maintenance of accounts of members and their audit by chartered accountants
whenever such audit is required by the Central Government.
3. Every grant of recognition to a stock exchange under this section shall be published
in the Gazette of India and also in the Official Gazette of the State in which the
principal office as of the stock exchange is situate, and such recognition shall have
effect as from the date of its publication in the Gazette of India.
4. No application for the grant of recognition shall be refused except after giving an
opportunity to the stock exchange concerned to be heard in the matter; and the
reasons for such refusal shall be communicated to the stock exchange in writing.
5. No rules of a recognized stock exchange relating to any of the matters specified in
sub-section (2) of section 3 shall be amended except with the approval of the
Central Government.

Q.4.3.a. What are securities?
Q.4.3.b. What are the conditions for granting recognition o f stock exchange?
Q.4.3.c. What is a derivative contract?
Q.4.3.d. State the reasons of setting up of SEBI
Q.4.3.e. Explain the various terms used inn stock exchange.
Q.4.3.f. Do you consider SEBI as an effective regulator of capital market?
SUMMARY
Thus the act has successfully prevented dealing of stock and shares outside the market
and any transactions outside the market as illegal.

NOTES
LESSON – 5
5.1 INTRODUCTION
Even though we have 23 stock exchanges in India, a major part of the transactions is
controlled by Bombay Stock Exchange. This has led to enormous speculation, rigging and
cornering of shares by a few speculators. To prevent these malpractices by companies,
brokers and merchant bankers, the government constituted Securities Exchange Board of
India in April 1988 for regulating and promoting the stock market in the country and
effective from 1992.

• SEBI
• Objectives of SEBI
• Functions of SEBI
• SEBI Regulations on Merchant Bankers
• SEBI guidelines on merchant banking
5.3 SEBI
SEBI is a body corporate with head office at Bombay. The Chairman and the board
members are appointed by the Central government. SEBI has two major functions. The
are :
1. Regulatory and
2. Development
1. Regulatory
a. Registering the brokers and sub-brokers
b. Registration of mutual funds
c. Regulation of stock exchanges
d. Prohibition of fraudulent and unfair trade practice
e. Controlling insider-trading, take-over bids and imposing penalties
2. Development
a. Educating investors
b. Training intermediaries in stock market transactions
c. Promoting fair transactions
d. Undertaking research and publishing useful information to all

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5.3.1 Objectives
NOTES 1. To deal with development and regulation of stock market in India.
2. To promote fair dealings by the issue of securities and ensure a market place
where they can raise funds.
3. To provide protection to the investors.
4. Regulate and develop a code of conduct for brokers, merchant bankers, etc.
5. To have check on preferential allotment to promoters at a very low price.
6. To prevent deviations and violations of rules prescribed by stock exchange.
7. To verify listing requirements, listing procedures, and ensure compliance of the
same by the companies, so that only financially sound companies are listed.
8. To prescribe required standards for merchant bankers.
9. The promote healthy growth of security market for the development of capital
market in the country.
5.3.2 Powers of Sebi
As per the Act, SEBI has powers

a. To file complaints in a court
b. To regulate companies in the issue and transfer of shares including bonus and
rights shares.
c. It can levy penalties on companies and on brokers for violating transactions.
d. Power to summon any broker or intermediaries and call for documents.
e. It can issue directions to all brokers for protecting the interests of investors.
In addition to the above powers

a. it can call for periodical returns from stock exchange.
b. seek any information from stock exchange.
c. It can enquire into the functioning of stock exchange.
d. It can grant permission for the change of bye-laws of any stock exchange.
e. It can compel listing of securities of public company.
f. It can control and regulate stock exchanges.
g. Granting registration to market intermediaries, prohibit inside-trading and prohibit
fraudulent and unfair trade practices.
h. Promoting investor-education, and trading of intermediaries in capital market.
i. Regulating purchase of shares and take-over of companies.

5.3.3 SEBI Regulations on merchant bankers

NOTES
SEBI has brought about a effective regulative measures for the purpose of disciplining
the functioning of the merchant bankers in India. The objective is to ensure an era of
regulated financial markets and thus streamline the development of the capital market in
India. The measures were introduced by the SEBI in the year 1992. The measures were
revised by SEBI in 1997. The salient features of the regulative framework of merchant
banking in India are discussed below.
5.3.3.1 Registration of Merchant Bankers
Application for Grant of Certificate
An application by a person for grant of a certificate shall be made to the Board in

Form A. The application shall be made for any one of the following categories of the
merchant banker namely:
1. Category I- To carry on any activity of the issue management, which will inter-
alia consist of preparation of prospectus and other information relating to the issue,
determining financial structure, tie-up of financiers and final allotment and refund of
the subscription; and to act as adviser, consultant, manager, underwriter, portfolio
manager.
2. Category II- To act as adviser, consultant, co-manager, underwriter, portfolio
manager.
3. Category III- To act as underwriter, adviser, consultant to an issue.
4. Category IV- To act only as adviser or consultant to an issue.
5. With effect from 9th December, 1997, an application can be made only for carrying
on the activities mentioned in category I. An applicant can carry on the activity as
underwriter only if he contains separate certificate of registration under the provisions
of Securities and Exchange Board of India (Underwriters) Regulations, 1993, and
as portfolio manager only if he obtains separate certificate of registration under the
provisions of Securities and Exchange Board of India (Portfolio Manager)
Regulations, 1993.
Conformance to Requirements
Subject to the provisions of the regulations, any application, which not complete in all
respects and does not conform to the instructions specified in the form, shall be rejected.
However, before rejecting any such application, the applicant will be given an opportunity
to remove within the time specified such objections and may be indicated by the board.
Furnishing of Information
The Board may require the applicant to furnish further information or clarification
regarding matter relevant to the activity of a merchant banker for the purpose of disposal
of the application. The applicant or its principal officer shall, if so required, appear before
the Board for personal representation.

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Consideration of Application
NOTES
The Board shall take into account for considering the grant of a certificate, all matters,
which are relevant to the activities relating to merchant banker and in particular whether
the applicant complies with the following requirements;
1. That the applicant shall be a body corporate other than a non-banking financial
company as defined by the Reserve Bank of India Act, 1934.
2. That the merchant banker who has been granted registration by the Reserve Bank
of India to act as Primary or Satellite Dealer may carry on such activity subject to
the condition that it shall not accept or hold public deposit.
3. That the applicant has the necessary infrastructure like adequate office space,
equipments, and manpower to effectively discharge his activities.
4. That the applicant has in his employment minimum of two persons who have the
experience to conduct the business of the merchant banker.
5. That a person (any person being an associate, subsidiary, inter-connected or group
Company of the applicant in case of the applicant being a body corporate) directly
or indirectly connected with the applicant has not been granted registration by the
Board.
6. That the applicant fulfils the capital adequacy as specified.
7. That the applicant, his partner, director or principal officer is not involved in any
litigation connected with the securities market which has an adverse bearing on the
business of the applicant.
8. That the applicant, his director, partner or principal officer has not at any time been
convicted for any offence involving moral turpitude or has been found guilt of any
economic offence.
9. That the applicant has the professional qualification from an institution recognized
by the Government in finance, law or business management.
10. That the applicant is a fit and proper person.
11. That the grant of certificate to the applicant is in the interest of investors.
Capital Adequacy Requirement
According to the regulations, the capital adequacy requirement shall not be less than
the net worth of the person making the application for grant of registration. For this purpose,
the net wroth shall be as follows:
Category Minimum Amount
Category I Rs.5,00,00,000
Category II Rs.50,00,000
Category III Rs.20,00,000
Category IV Nil

For the purpose of this regulation ‘net worth” means in the case of an applicant which
is a partnership firm or a body corporate, the value of the capital contributed to the business NOTES
of such firm or the paid up capital of such body corporate plus free reserves as the case
may be at the time of making application.
Procedure for Registration
The Board on being satisfied that the applicant is eligible shall grant a certificate in
Form B. On the grant of a certificate the applicant shall be liable to pay the fees in accordance
with Schedule II.
Renewal of Certificate
Three months before expiry of the period of certificate, the merchant banker, may if
he so desired, make an application for renewal in Form A. The application for renewal
shall be dealt with in the same manner as if it were a fresh application for grant of a
certificate. In case of an application for renewal of certificate of registration, the provisions
of clause (a) of regulation 6 shall not be applicable up to June 30th , 1998. The Board on
being satisfied that the applicant is eligible for renewal of certificate shall grant a certificate
in form B and send intimation to the applicant. On the grant of a certificate the applicant
shall be liable to pay the fees in accordance with Schedule II.
Procedure where Registration is not Granted
Where an application for grant of a certificate under regulation 3 or of renewal under

regulation 9, does not satisfy the criteria set out in regulation 6, the Board may reject the
application after giving an opportunity of being heard. The refusal to grant registration shall
be communicated by the Board within thirty days of such refusal to the applicant stating
therein the grounds on which the application has been rejected.
Any applicant may, being aggrieved by the decision of the Board, under sub-
regulation(1), apply within a period of thirty days from the date of receipt of such intimation
to the Board for reconsideration for its decision. The Board shall reconsider an application
made under sub-regulation (3) and communicate its decision as soon as possible in writing
to the applicant.
Effect of Refusal to Grant Certificate
Any merchant banker whose application for a certificate has been refused by the
Board shall on and from the date of the receipt of the communication under sub-regulation
(2) of regulation 10 cease to carry on any activity as merchant banker.

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Payment of Fees
NOTES
Every applicant eligible for grant of a certificate shall pay such fees in such manner
and within the period specified in Schedule II. Where a merchant banker fails to any
annual fees as provided in sub-regulation (1), read with Schedule II, the Board may suspend
the registration certificate, whereupon the merchant banker shall cease to carry on any
activity as a merchant banker for the period during which the suspension subsists.
GENERAL OBLIGATIONS
The 1992 regulations have enunciated the following general obligations and
responsibilities for the merchant bankers.
Sole Function
Every merchant banker shall abide by the Code of Conduct as specified in Schedule
III. They are as follows
1. Merchant Banker not to associate with any business other that that of the securities
market.
2. No merchant banker, other than a bank or a public financial institution, who has
been granted certificate of registration under these regulations, shall after June
30th, 1998 carry on any business other than that in the securities market.
However , a merchant banker who prior to the date of notification of the Securities
and exchange board of India (Merchant Bankers) Amendment Regulations, 1997, has
entered into a contract in respect of a business other that that of the securities market may,
f he so desires, discharge his obligations under such contract. Similarly, a merchant banker
who has been granted certificate of registration to act as primary or satellite dealer by the
Reserve Bank of India may carry on such business as may be permitted by Reserve Bank
of India.
Maintenance of Books
Every merchant banker shall keep and maintain the following books of accounts,
records and documents:
1. A copy of balance sheet as at the end of each accounting period;
2. A copy of profit and loss account for that period;
3. A copy of the auditor’s report on the accounts for that period; and
4. A statement of financial position.
Every merchant banker shall intimate to the Board the place where the books of
accounts, record and documents are maintained. Every merchant banker shall, after the
end of each accounting period furnish to the Board copies of the Balance sheet, profit and
loss account and such other documents for any other preceding five accounting years
when required by the Board.

Submission of Half-yearly Results

NOTES
Every merchant banker shall furnish to the Board half-yearly unaudited financial results
when required by the Board with a view to monitor the capital adequacy of the merchant
banker.
Preservation of Books of Account, Records, etc.,
The merchant banker shall preserve the books of accounts and other records and
documents maintained under regulation 14 for a minimum period of five years.
Report on Steps taken on Auditor’s Report
Every merchant banker shall within two months from the date of the auditors’ report
take steps to rectify the deficiencies, made out in the auditor’s report.
Appointment of Lead Merchant Bankers
All issues should be managed by at least one merchant banker functioning as the lead
merchant banker. In an issue of offer of rights to the existing members with or without the
right of renunciation, the amount of the issue of the body corporate does not exceed
rupees fifty lakhs, the appointment of a lead merchant banker shall not be essential. Every
lead merchant banker shall before taking up the assignment relating to an issue enter into
an agreement with such body corporate setting out their mutual right, liabilities and
obligations relating to such issue an in particular to disclosures, allotment and refund.
Restriction on Appointment of Lead Managers
The number of lead merchant bankers may not, exceed in case of any issue of the
following:
Number of
Size of Issue
Merchant Bankers
Less than Rs. 50 Crores Two
Above Rs. 50 Crores but less than Rs.100 Crores Three
Above Rs. 100 Crores but less that Rs.200 Crores Four
Above Rs.200 Crores but less that Rs.400 Crores Five
Above Rs.400 Crores Five or more as
agreed by SEBI
Responsibilities of Lead Managers
No lead manager shall agree to manage or be associated with any issue unless his
responsibilities relating to the issue mainly, those of disclosures, allotment and refund are

DBA 1724
clearly defined, allocated and determined and a statement specifying such responsibilities
NOTES is furnished to the Board at least one month before the opening of the issue for subscription.
Where there are more than one lead merchant bankers to the issue the responsibilities of
each of such lead merchant banker shall clearly be demarcated and a statement specifying
such responsibilities shall be furnished to the Board at least one month before the opening
of the issue for subscription.
No lead merchant banker shall, agree to manage the issue made by any body corporate,
if such body corporate is an associate of the lead merchant banker. A lead merchant
banker shall not be associated with any issue if a merchant banker who is not holding a
certificate is associated with the issue.
Underwriting Obligations
In respect of every issue to be managed, the lead merchant banker holding a certificate
under Category I shall accept a minimum Underwriting obligation of five percent of the
total underwriting commitment or rupees twenty-five lakhs whichever is less. If the lead
merchant banker is unable to accept the minimum underwriting obligation, that lead merchant
banker shall make arrangement for having the issue underwritten to that extent by a merchant
banker associated with the issue and shall keep the board informed of such arrangement.
Submission of Due Diligence Certificate
The lead merchant bankers, who is responsible for verification of the contents of a
prospectus or the Letter of Offer in respect of an issue and the reasonableness of the views
expressed therein, shall submit to the Board at least two weeks prior to the opening of the
issue for subscription, a due diligence certificate in Form C.
Documents to be furnished to the Board
The lead manager responsible for the issue shall furnish to the Board, the following
documents
1. Particulars of the issue;
2. Draft prospectus or where there is an offer to the existing shareholders, the draft
letter of offer;
3. Any other literature intended to be circulated to the investors, including the
shareholders; and
4. Such other documents relating to prospectus or letter of offer as the case may be.
The documents shall be furnished at least two weeks prior to the date of filing of the
draft prospectus or the letter of the offer, as the case may be, with the Registrar of Companies
or with the Regional Stock Exchanges or with both. The lead manager shall ensure that the
modifications and suggestions, if any, made by the Board on the draft prospectus or the

Letter of Offer as the case may be, with respect to information to be given to the investors
are incorporated therein. NOTES
Payment of fees to the Board
The draft prospectus or draft letter of offer referred to in regulation 24 shall be submitted
along with such fees and in such manner as may be specified in Schedule IV.
Continuance of Association of Lead Manager
The lead manager undertaking the responsibility for refunds or allotment of securities
in respect of any issue shall continue to be associated with the issues till the subscriber have
received the share or debenture certificates or refund of excess application money. Where
a person other than the lead manager is entrusted with the refund or allot of securities in
respect of any issue the lead manager shall continue to be responsible for ensuring that
such other person discharges the requisite responsibilities in accordance with the provisions
of the Companies Act and the listing agreement entered into but the body corporate with
the stock Exchange.
Acquisition of shares Prohibited
No merchant banker or any of its directors, partner manager or principal shall either
on their respective accounts or through their associates or relative enter into transaction in
securities of bodies corporate on the basis of unpublished price sensitive information obtained
by them during the course of any professional assignment either from the clients or otherwise.
Information to the Board
Every merchant banker shall submit to the Board complete particulars of any
transaction for acquisition of securities of any body corporate whose issue is being managed
by that merchant banker within fifteen days from the date of entering into such transaction.
Disclosures to the Board
A merchant banker shall disclose to the Board as and when required, the following
information:
1. His responsibilities with regard to the management of the issue; Any change in the
information o particulars previously furnished, which have a bearing on the certificate
granted to it;
2. The names of the body corporate whose issues he has managed or has been
ass0oiciated with;
3. The particulars relating to breach of the capital adequacy requirement as specified
in regulation 7;
4. Relating to his activities as a manager, underwriter, consultant or adviser to an
issue as the case may be.

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Appointment of Compliance Officer

NOTES
Every merchant banker shall appoint a compliance officer who shall be responsible
for monitoring the compliance of the Act, rules and regulations notifications, guidelines,
instructions etc., issued by the board or the Central Government and for redressed of
investors’ grievances. The compliance officer shall immediately and independently report
to the Board any non-compliance observed by him and ensure that the observations made
or deficiencies pointed out by the Board on/in the draft prospectus or the Letter of offer as
the case may be, do not recur.
5.3.3.2 Procedure For Inspection
Board’s Right to inspect
The Board may appoint one or more persons as inspecting authority to undertake
inspection of the books of accounts, records and documents of the merchant banker for
any of the purposes specified in sub-regulation(2). The purposes referred to in sub-regulation
(1) may be as follows:
1. To ensure that the books of account are being maintained in the manner required;
2. To ensure that the provisions of the Act, rules, regulations are being complied with;
3. To investigate into the complaints received from investors, other merchant bankers
or any other person on any matter having a bearing on the activities of the merchant
banker; and
4. To investigate suo-moto in the interest of securities business or investors interest in
the affairs of the merchant banker.
Notice before inspection
Before undertaking an inspection under regulation 29 the Board shall give a reasonable
notice to the merchant banker for that purpose. Where the Board is satisfied that in the
interest of the investors no such notice should be given, it may, by an order in writing
directing that the inspection of the affairs of the merchant banker be taken up without such
notice. During the course of inspection, the merchant banker against whom an inspection is
being carried out shall be bound to discharge his obligations as provided under regulation
31.
Obligations of Merchant Banker on Inspection
It shall be the duty of every director, proprietor, partner, officer and employee of the
merchant banker, who is being inspected, to produce to the inspecting authority such
books, accounts and other documents in his custody or control and furnish him with the
statements and information relating to his activities as a merchant banker within such time
as the inspecting authority may require.

The merchant banker shall allow the inspecting authority to have reasonable access
to the premises occupied by such merchant banker or by any other person on his behalf NOTES
and also extend reasonable facility for examining any books, records, documents and
computer data in the possession of the merchant banker or any such other person and also
provide copies of documents or other materials which, in the opinion of the inspecting
authority are relevant for the purposes of the inspection.
The inspecting authority, in the course of inspection, shall be entitled to examine or

record statements of any principal officer, director, partner, proprietor and employee of
the merchant banker. It shall be the duty of every director, proprietor, partner, officer or
employee of the merchant banker to give to the inspecting authority all assistance in
connection with the inspection which the merchant banker may be reasonably expected to
give.
Submission of Report to the Board
The inspecting authority shall, as soon as possible submit, an inspection report to the
Board.
Action on Inspection or Investigation Report
The Board of the Chairman shall after consideration of inspection or investigation

report take such action and the board or chairman may deem fit and appropriate including
action under the Securities and Exchange Board of India (Procedure for Holding Enquiry
by Enquiry Officer and imposing Penalty) Regulations, 2002.
Appointment of Auditor
The Board may appoint a qualified auditor to investigate into the books of account or
the affairs of the merchant banker. The auditor so appointed shall have the same powers of
the inspecting authority as are mentioned in regulation 29 and the obligations of the merchant
banker in regulation 31 shall be applicable to the investigations under this regulation.
Communication of findings
The Board shall after consideration of the inspection report communicate the findings
to the merchant banker to give him an opportunity of being heard before any action is
taken by the Board on the findings of the inspecting authority. On receipt of the explanation
if any, from the merchant banker, the Board may call upon the merchant banker to take
such measures as the Board may deem fit in the interest of the securities market and for
due compliance with provisions of the Act, rules and regulations.

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5.3.3.3 Procedure For Action Incase Of Default

NOTES Liability for Action in case of Default
A merchant banker who fails to comply with any conditions subject to which certificate
has been granted, and contravenes any of the provisions of the Act rules or regulations
shall be dealt with in the manner provided under the Securities and Exchange Board of
India (Procedure for Holding Enquiry by Enquiry Officer and imposing Penalty) Regulations,
2002.
Suspension of Registration
SEBI Regulations, 2002 published in the official Gazette of India dated 27.09.2002
A penalty for suspension of registration of a merchant banker may be imposed under

the following circumstances:
• Where the merchant banker violates the provisions of the Act, rules or regulations;
or
• Where the merchant banker fails to furnish any information relating to his activity
as merchant banker as required by the Board; or furnishes wrong or false
information, or does not submit periodical returns as required by the Board; or
does not co-operate in any enquiry conducted by the Board ; or
• Where the merchant banker fails to resolve the complaints of the investors or fails
to give a satisfactory reply to the Board in this behalf; or
• Where the merchant banker indulges in manipulation or price rigging or cornering
activities; or
• Where the merchant banker is guilty of misconduct or improper or unbusiness like
or unprofessional conduct which is not in accordance with the Code of Conduct
specified in Schedule III; or
• Where the merchant banker fails to maintain the capital adequacy requirement in
accordance with provisions of regulation 7; or
• Where the merchant banker fails to pay the fees; or
• Where the merchant banker violates the conditions of registration ; or
• Where the merchant banker does not carry out his obligations as specified in the
regulation.
Cancellation or Registration
A penalty of cancellation of registration of a merchant banker may be imposed where;

• The merchant banker indulges in deliberate manipulation or price rigging or cornering
activities affecting the securities market and the investors interest;

• The financial position of the merchant banker deteriorates to such an extent that
the Board is of the opinion that his continuance as merchant banker is not in the NOTES
interest of investors;
• The merchant banker is guilty of fraud, or is convicted of a criminal offence;
• In case of repeated defaults of the nature mentioned in regulation 36 provided that
the Board furnishes reasons for cancellation in writing.
Manner of Making Order of Suspension or Cancellation
No order of penalty of suspension or cancellations the case may be shall be imposed

except after holding an enquiry in accordance with procedure specified in regulation.
Manner of Holding Enquiry before Suspension or Cancellation.
For the purpose of holding an enquiry under regulation 38, the board may appoint an
enquiry officer. The enquiry officer shall issue to the merchant banker a notice the registered
office or the principal place of business of the merchant banker.
The merchant banker may, within thirty days from the date of receipt of such notice,
furnish to the enquiry officer a reply together with copies of documentary or other evidence
relied on by him or sought by the Board from the merchant banker.
The enquiry officer shall, give a reasonable opportunity or hearing to the merchant
banker to enable him to make submissions in support of his reply made under sub-regulation
(3). The merchant banker may either appear in person or through any duly authorized
person. No lawyer or advocate shall be permitted to represent the merchant banker at the
enquiry. Where a lawyer or an advocate has been appointed by the Board as a presenting
officer under sub-regulation (6), it shall be lawful for the merchant banker to present its
case through a lawyer or advocate.
It is considered necessary that the enquiry officer may ask the Board to appoint a
presenting officer to present its case. The enquiry officer shall, after taking into account all
relevant facts and submissions made by the merchant banker, submit a report the Board
and recommend the penalty to be imposed as also the grounds on the basis of which
proposed penalty is justified.
Show case Notice and Order
On receipt of the report from the enquiry officer, the Board shall consider the same
and issue a show-cause notice as to why the penalty as proposed by the enquiry officer
should not be imposed. The merchant banker shall within twenty-one days of the date of
the receipt of the show-cause send a reply to the Board.
The Board after considering the reply to the show-cause notice, if received, shall as
soon as possible or not later than thirty days from the receipt of the reply, if any, pass such

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order as it deems fit. Every order passed under sub-regulation (3) shall be self-contained
NOTES and give reasons for the conclusions stated therein including justification of the penalty
imposed by that order. The Board shall send a copy of the order under sub-regulation (3)
to the merchant banker.
Effect of Suspension and Cancellation
On and from the date of the suspension of their merchant banker he shall cease to
carry on any activity as a merchant banker during the period of suspension. On and from
the date of cancellation the merchant banker shall with immediate effect cease to carry on
any activity as a merchant banker. The order of suspension or cancellation of certificate
passed under sub-regulation (3) of regulation 40 shall be published in at least two daily
newspapers by the Board.
Appeal to the Securities Appellate Tribunal
Any person aggrieved by an order of the board may, on and after the commencement
of the /securities Laws (second amendment) Act, 1999, under these regulations may prefer
an appeal to a Securities Appellate Tribunal having jurisdiction in the matter.
Fees
Every merchant banker shall pay a sum of Rupees five lacs as registration fees at the
time of the grant of certificate by the Board. The fee shall be paid by the merchant a banker
within fifteen days from the date of receipt of the intimation from the Board under sub-
regulation (1) of regulation 8. A merchant banker to keep registration in force shall pay
renewal fee of Rs.2.5 lacs every three years from the fourth year from the date of initial
registration. The fee shall be paid by the merchant banker within fifteen days from the date
of receipt of intimation from the Board under sub-regulation (3) of regulation 9.
The fees specified shall be payable by merchant banker by a demand draft in favour
of ‘securities and Exchange Board of India’ payable at Mumbai or at the respective regional
office.
Every Merchant banker shall pay registration fees as set out below:
1. Category I merchant banker; A sum of Rs. 2.5 lakhs to be paid annually for
the first two years commencing from the date of initial registration and thereafter
for the third year a sum of Rs. 1 lakh to keep his registration in force.
2. Category II merchant banker; A sum of Rs. 1.5 lakhs to be paid annually for
for the third year a sum of Rs. 50,000 to keep his registration in force.
3. Category III merchant bankers ; A sum of Rs.1 lakh to be paid annually for
for the third year a sum of Rs.25,000 to keep his registration in force.

4. Category IV merchant bankers ; A sum of Rs.5,000/- to be paid annually for

the first two years commencing from the date of initial registration and thereafter NOTES
for the third year a sum of Rs.1000/- to keep his registration in force.
Renewal Fees :
1. Category I merchant bankers : A sum of Rs.1 lakh to be paid annually for the
first two years commencing from the date of each renewal and thereafter for the
third year a sum of Rs.20,000/- to keep his registration in force;
2. Category II merchant bankers : A sum of Rs.75,000/- to be paid annually for
the first two years commencing from the date of each renewal and thereafter for
the third year a sum of Rs.10,000/- to keep his registration in force ;
3. Category III merchant bankers : A sum of s.50,000/ to be paid annually for
4. Category IV merchant bankers : A sum of Rs.5,000/- to be paid annually for
In addition, the merchant banker has to pay the following fees towards documentation
Size of the Issue Fee per Document (Rs.)
Up to 5 crores 10,000
More than 5 crores and up to 10 crores 15,000
More than 100 crores and up to 500 crores 2,50,000
More than 500 crores 5,00,000
IV. CODE OF CONDUCT FOR MERCHANT BANKERS
The SEBI regulations have outlined the following code of conduct for the merchant
bankers operation in India ;
• A merchant banker shall make all efforts to protect the interests of investors.
• A Merchant Banker shall maintain high standards of integrity, dignity and fairness
in the conduct of its business.
• A Merchant Banker shall fulfill its obligations in a prompt, ethical, and professional
manner.
• A Merchant Banker shall at all times exercise due diligence, ensure proper care
and exercise independent professional judgment.

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• A Merchant Banker shall Endeavour to ensure that enquiries from the investors
NOTES are adequately dealt with, grievances of investors are redressed in a timely and
appropriate manner, where a complaint is not remedied promptly, the investor is
advised of any further steps which may be available to the investor under the
regulatory system.
• A Merchant Banker shall ensure that adequate disclosures are made to the
investors in a timely manner in accordance with the applicable regulations and
guidelines so as to enable them to make a balanced and informed decision.
• A Merchant Banker shall endeavour to ensure that the investors are provided with
true and adequate information without making any misleading or exaggerated
claims or any misrepresentation and are made aware of the attendant risks before
taking any investment decision.
• A Merchant Banker shall endeavour to ensure that copies of the prospectus,
offer document, letter of offer or any other related literature is made available to
the investors at the time of issue of the offer.
• A Merchant Banker shall not discriminate amongst its clients, save and except
on ethical and commercial considerations.
• A Merchant Banker shall not make any statement, either oral or written, which
would misrepresent the services that the Merchant Banker is capable of
performing for any client or has rendered to any client.
• A Merchant Banker shall avoid conflict of interest and make adequate disclosure
of its interest.
• A Merchant Banker shall put in place a mechanism to resolve any conflict of
interest situation that may arise in the conduct of its business or where any conflict
of interest arises, shall take reasonable steps to resolve the same in an equitable
manner.
• Merchant Banker shall make appropriate disclosure to the client of its possible
source or potential areas of conflict of duties and interest while acting as Merchant
Banker which would impair its ability to render fair, objective and unbiased services.
• A Merchant Banker shall always endeavour to render the best possible advice to
the clients having regard to their needs.
• A Merchant Banker shall not divulge to anybody either oral or in writing, directly
or indirectly, any confidential information about its clients which has come to its
knowledge, without taking prior permission of its client, except where such
disclosures are required to be made in compliance with any law for the time being
in force.
• A Merchant Banker shall ensure that any change in registration status/any penal
action taken by the Board or any material change in the Merchant Banker’s financial
status, which may adversely affect the interests of clients/investors is promptly
informed to the clients and any business remaining outstanding is transferred to
another registered intermediary in accordance with any instructions of the affected
clients.

• A Merchant Banker shall not indulge in any unfair competition, such as

weaning away the clients on assurance of higher premium or advantageous offer NOTES
price or which is likely to harm the interests of other Merchant Bankers or investors
or is likely to place such other Merchant Bankers in a disadvantageous position
while competing for or executing any assignment.
• A Merchant Banker shall maintain arms length relationship between its
merchant banking activity and any other activity.
• A Merchant Banker shall have internal control procedures and financial and
operational capabilities which can be reasonably expected to protect its operations,
its clients, investors and other registered entities from financial loss arising from
theft, fraud, and other dishonest acts, professional misconduct or omissions.
• A Merchant Banker shall not make untrue statement or suppress any material
fact in any documents, reports or information furnished to the Board.
• A Merchant Bankers shall maintain an appropriate level of knowledge and
competence and abide by the provisions of the Act, regulations made there under,
circulars and guidance, which may be applicable and relevant to the activities carried
on by it. The merchant banker shall also comply with the award of the Ombudsman
passed under Securities and Exchange Board of India (Ombudsman) Regulations,
2003.
• A Merchant Banker shall ensure that the Board is promptly informed about any
action, legal proceedings etc., initiated against it in respect of material breach or
non-compliance by it, of any law, rules, regulations, directions of the Board or of
any other regulatory body.
• A Merchant Banker or any of its employers shall not render, directly or indirectly,
any investment advice about any security in any publicly accessible media, whether
real-time , unless a disclosure of his interest including a long or short position, in
the said security has been made, while rendering such advice. In the event of an
employee of the Merchant Banker rendering such advice, the merchant banker
shall ensure that such employee shall also disclose the interests, if any, of himself,
his dependent family members including their long or short position in the said
security, while rendering such advice.
• A Merchant Banker shall demarcate the responsibilities of the various
intermediaries appointed by it clearly so as to avoid any conflict or confusion in
their job description.
• A Merchant Banker shall provide adequate freedom and powers to its compliance
officer for the effective discharge of the compliance officer’s duties.
• A Merchant Banker shall develop its own internal code of conduct for governing
its internal operations and laying down its standards of appropriate conduct for its
employees and officers in carrying out their duties. Such a code may extend to the
maintenance of professional excellence and standards, integrity, confidentiality,
objectivity, avoidance or resolution of conflict of interests, disclosure of
shareholdings and interests etc.

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• A Merchant Banker shall ensure that good corporate policies and corporate
NOTES governance are in place.
• A Merchant Banker shall ensure that any person it employs or appoints to conduct
business is fit and proper and otherwise qualified to act in the capacity so
employed or appointed
• A Merchant Banker shall ensure that it has adequate resources to supervise
diligently and does supervise diligently persons employed if appointed by it in the
conduct of its business, in respect of dealings in securities market.
• A Merchant Banker shall be responsible for the acts or omissions of its
employees and agents in respect of the conduct of its business.
• A Merchant Banker shall ensure that the senior management, particularly decision
makers have access to all relevant information about the business on a timely
basis.
• A Merchant Banker shall not be a party to or instrumental for creation of false
market; price rigging or manipulation; or passing of unpublished price sensitive
information in respect of securities which are listed and proposed to be listed in
any stock exchange to any person or intermediary in the securities market.
5.3.4 Sebi Guidelines
Operational Guidelines
SEBI has pronounced the following guidelines for merchant bankers :
1. Submission of offer document : The offer documents of issue size up to Rs. 20 crores
shall be filed by lead merchant bankers with the concerned regional office of the Board
under the jurisdiction of which the registered office of the issuer company falls. The
jurisdiction of regional offices/head office shall be as per Schedule XXII. According to
Clause 5.6 of Chapter V of the Guidelines, the draft offer document filed with the Board
shall be made public.
The lead merchant banker shall make available 10 copies of the draft offer document
to the Board and 25 copies to the stock exchange(s) where the issue is proposed to be
listed. Copies of the draft offer document shall be made available to the public by the lead
merchant bankers/Stock Exchange. The lead merchant banker and the Stock Ex change(s)
may charge a reasonable charge for providing a copy of the draft offer document.
The lead merchant banker shall also submit to the Board the daft offer document on
a computer floppy in the format specified in Schedule XXIII. The Lead Merchant Banker
shall submit two copies of the printed copy of the final offer document to dealing offices of
the Board within three days of filing offer document with Registrar of companies/concerned
Stock Exchange(s) as the case may be. “The lead merchant banker shall submit one
printed copy of the final offer document to the Primary Market Department, SEBI, Head

Office, “within three days of filing the offer document with Registrar of Companies/concerned
Stock Exchange(s) as the case may be.” The lead merchant banker shall submit a computer NOTES
floppy containing the final prospectus/letter of offer to the Primary Market Department,
SEBI, Head Office, as specified in Schedule XXIII within three days of filing the final
prospects/letter of offer with the Registrar of Companies/concerned Stock Exchange(s).
Along with the floppy, the lead manager shall submit an undertaking to SEBI certifying that
the contents of the floppy are in HTML, format, and are identical to the printed version of
the proposes/letter of offer filed with the registrar of Companies/concerned Stock Exchange,
as the case may be.
Wherever offer documents (for public/rights issues, takeovers or for any other purpose)
are filed with any Department/Office of the Board, the following details “certified as correct”
shall be given by the lead merchant banker in the forwarding letters:
a. Registration number
b. Date of registration/Renewal of registration
c. Date of expiry of registration
d. If applied for renewal, date of application
e. Any communication from the Board prohibiting them from acting as a
f. merchant banker
g. Any inquiry/investigation being conducted by the Board
h. Period up to which registration/renewal fees has been paid
i. Whether any promoter/group and/or associate company of the issuer company
is associated with securities-related business and registered with SEBI
j. If any one or more of these persons/entities are registered with SEBI, their
respective registration numbers
k. If registration has expired, reasons for non-renewal
l. Details of any enquiry/investigation conducted by SEBI at any time
m. Penalty imposed by SEBI
n. Outstanding fees payable to SEBI by these entities, if any
Offer documents not accompanied by the information as contained above may be

rejected. Lead merchant bankers shall obtain similar information from other intermediaries
to ensure that they comply with these guidelines and are eligible to be associated with the
concerned issue. The intermediaries shall also indicate in their letters that they have obtained
such information from other intermediaries.
2. Dispatch of issue material : Lead merchant bankers shall ensure that whenever
there is a reservation for NRIs, 10 copies of the prospectus together with 1000 application
forms are dispatched in advance of the issue opening date, directly along with a letter

DBA 1724
addressed in person to Adviser (NRI), Indian Investment Centre, Jeevan Vihar Building
NOTES Sansad Marg, New Delhi. Twenty copies of the prospectus and application forms shall be
dispatched in advance of the issue opening date to the various Investors Associations.
3. Underwriting
While selecting underwriters and finalizing underwriting arrangement, lead merchant

bankers shall ensure that the underwriters do not overexpose themselves so that it becomes
difficult to fulfill their underwriting commitments. The overall exposure of underwriter(s)
belonging to the same group or management in an issue shall be assessed carefully by the
lead merchant banker. OTC Dealers registered with the Board under SEBI (Stock Brokers
and Sub-Brokers) Rules and Regulations, 1992 shall be treated at par with the brokers of
other stock exchanges in respect of underwriting arrangement.
4. Compliance obligations
The merchant banker shall ensure compliance with the following post-issue obligations
a. Association of resource personnel : In terms of Clause 7.1 of Chapter VII of these

Guidelines, in case of over-subscription in public issues, a Board nominated public
representative shall be associated in the process of finalization of the basis of allotment.
The lead merchant banker shall intimated to the person so nominated the date, time, venue
etc. regarding the process of finalization of the basis of allotment.
The expenses of the public representatives associated in the allotment process of

oversubscribed issues shall be borne by the lead merchant bankers, and recovered from
the issues. Honorarium at a minimum of Rs.500/- per day, plus normal conveyance charges
shall be paid to them, and the Board’s Regional Managers at New Delhi, Chennai and
Calcutta shall be associated with them.
b. Redressal of investor grievances
The merchant bankers shall assign high priority to investor grievances, and take all
preventive steps to minimize the number of complaints. The lead merchant banker shall set
up a proper grievance monitoring and redressal system in co-ordination with the issuers
and the Registrars to Issue.. They shall take all necessary measures to resolve the grievances
quickly. They shall actively associate with post-issue refund and allotment activities and
regularly monitor investor grievances arising there from.
c. Submission of post issue monitoring reports
The concerned lead merchant banker shall submit, in duplicate, the Post Issue
Monitoring Reports specified in Clause 7.2 of Chapter VII of these Guidelines, within 3
working days from the due dates, either by registered post or deliver them at the respective
regional offices/head office give in Schedule XXII. Where the offer documents have been

dealt with by any of the regional offices of the Board, a copy of the report shall be sent to
the Board’s Head office, Mumbai. The Lead Merchant Banker(s) shall inform the Board NOTES
on important developments about the particular issues being lead managed by them during
the period intervening the reports.
d. Issue of No objection Certificate (NOC)
In accordance with the Listing Agreement of the Stock Exchanges, the issuer companies
shall deposit 1% of the amount of securities offered to the public and/or to the holders of
the existing securities of the company, as the case may be, with the regional Stock Exchange.
These securities can be related by the concerned Stock Exchange only after obtaining an
NOC from the Board. An application for NOC shall be submitted by the issue company
to the Board in the format specified in Schedule XXIV.
The following conditions shall be complied with before submitting the application for
the issue of NOC.
• Completion of 4 months from the date of obtaining the listing permission from the
concerned Regional Stock Exchange, or the last date when the listing permission
was obtained from any of the other Stock Exchanges, where the securities are
proposed to be listed, whichever is later
• Satisfactory redressal of all complaints received by the Board against the company
• Certificate from the Regional Stock Exchange to the issuer company to the effect
that underwriting/brokerage commission as well as the Registrars/Lead merchant
bankers fees been duly paid by the company
Application for issue of NOC shall be filed with the concerned regional office of the
Board , under the jurisdiction in which the registered office of the issuer company falls, as
specified in Schedule XXII..
In cases where issues fail, and the investors’ monies are fully refunded, an NOC from
the Board may not be required, and the concerned regional Stock Exchange can refund
the 1% security deposit after duly verifying that the refund orders have actually been
dispatched.
The complaints with respect to non-receipt of underwriting/brokerage commission

and Registrars/Lead merchant banker’s fees may be filed with the concerned regional
Stock Exchanges. Responses to complaints forwarded by the Board to the concerned
companies shall be submitted to the Board in the proforma specified in Schedule XXV for
updation of records.
e. Registration of merchant bankers
Application for renewal of Certificate of Registration shall be made by the merchant

bankers according to Regulation 9 of SEBI (Merchant Bankers) Rules and Regulations,

DBA 1724
1992. While filing the renewal application for the certificate of registration as merchant
NOTES banker, it shall provide a statement highlighting the changes that have taken place in the
information that was submitted to the Board for the earlier registration, and a declaration
stating that no other changes besides those mentioned in the above statement have taken
place.
Merchant Bankers, while forwarding the renewal application in Form A of the SEBI
(Merchant Bankers) Rules and Regulations, 1992, shall also forward the additional
information as specified in Schedule XXVI. Registered Merchant Bankers shall inform
the Board of their having become a member of AMBI, with the relevant details.
f. Reporting requirements
In terms of Regulation 28 of SEBI (Merchant Bankers Regulation) 1992, the merchant

bankers shall send a half yearly report, in the format specified in Schedule XXVII, relating
to their merchant banking activities. The report referred to in sub-clause (a) shall be
submitted twice a year, on March 31 and September 30, and it should reach the Board
within three months from the close of the period to which it relates.
g. Impositions of penalty points
Penalty points may be imposed on the merchant banker for violation of any of the
provisions for operational guidelines. The merchant banker, on whom penalty points of
four or more has been imposed, may be restrained from filing any offer document or
associating or managing any issues for a particular period.
The Board may initiate action under the SEBI (Merchant Bankers) Regulations against
the merchant bankers, irrespective of whether any penalty point is imposed or not.
Imposition of penalty point is not a precondition for initiation of proceedings against the
merchant banker under the SEBI (Merchant Bankers) Regulations.
Guidelines on Advertisement
Following are the guidelines applicable le to the lead merchant banker who shall
ensure due compliance by the issuer company :
1. Factual and truthful
An issue advertisement shall be truthful, fair and clear, and shall not contain any
statement that is untrue or misleading. Any advertisement reproducing, or purporting to
reproduce, any information contained in an offer document shall reproduce such information
in full and disclose all relevant facts. It should not be restricted to select extracts relating to
that item. An issue advertisement shall be considered to be misleading, if 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 NOTES
picture of the performance or activities.
b. An inaccurate portrayal of past performance, or its portrayal in a manner which
implies that past gains or income, will be repeated in the future.
2. Clear and concise
An advertisement shall be set forth in a clear, concise and understandable language.

Extensive use of technical, legal terminology or complex language and the inclusion of
excessive details, which may distract the investor, shall be avoided.
3. Promise or profits
An issue advertisement shall not contain statements which promise or guarantee rapid
increase in profits. An issue advertisement shall not contain any information that is not
contained in the offer document.
4. Mode of advertising
No models, celebrities, fictional characters, landmarks, caricatures or the likes shall

be displayed on or form part of the offer documents or issue advertisements. Issue
advertisements shall not appear in the form of crawlers (the advertisements which run
simultaneously with the program in a narrow strip at the bottom of the television screen) on
television. Similarly, no advertisement shall include any issue slogans or brand names for
the issue, except the normal commercial name of the company or commercial brand names
of its products already in use. No slogans, expletives or non-factual and unsubstantiated
titles shall appear in the issue advertisements or offer documents.
5. Financial data
If any advertisement carries any financial data, it shall also contain data for the past
three years and shall include particulars relating to sales, gross profit, not profit, share
capital, reserves, earnings per share, dividends, and book values.
6. Risk factors
All issue advertisements carried in the print media such as newspapers, magazines,
brochures or, pamphlets shall contain highlights relating to any issue, besides containing
detailed information on the risk factors. The print size of highlights and risk factors in issue
advertisements shall not be less than point 7 size. It shall contain the names of issuer
company, address of its registered office, names of the main lead merchant bankers and
Registrars to the Issue. No issue advertisement shall be released without giving “Risk
Factors” in respect of the concerned issue, provided that an issue opening/closing
advertisement which does not contain the highlights need not contain risk factors.

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7. Issue date
NOTES
No corporate advertisement of issuer company shall be issued after 21 days of filing
of the offer document with the Board until the closure of the issue, unless the risk factors
which are required to be mentioned in the offer document, are mentioned in the
advertisement.
8. Product advertisement
No product advertisement of the company shall contain any reference, directly or

indirectly, to the performance of the company during the period.
9. Subscription
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.
10. Issue closure
No announcement regarding closure of the issue shall be made except on the closing
date. If the issue is fully subscribed before the closing date stated in the offer document,
the announcement should be made only after the issue is fully subscribed , and such
announcement is made on the date on which the issued is to be closed. Announcements
regarding closure of the issue shall be made only after the lead merchant banker is satisfied
that at least 90% of the issue has been subscribed, and a certificate has been obtained to
that effect from the Registrar to the issue.
11. Incentives
No incentives, apart from the permissible underwriting commission and brokerage,

shall be offered through advertisements to anyone associated with marketing the issue.
12. Reservation
In case there is a reservation for NRIs, the issue advertisement shall specify the same,
and also indicate the place in India from where the individual NRI applicant can procure
application forms.
13. Undertaking
An undertaking has to be obtained from the issuer as part of the MoU between the
lead merchant banker and the issue company to the effect that the issuer company shall not
directly or indirectly release, during any conference or at any other time, any material or
information which is not contained in the offer documents.

14. Availability of copies

NOTES
To ensure that the issuer company obtains approval for all issue advertisements and
publicity materials from the lead merchant banker responsible for marketing the issue and
also ensure the availability of copies of all issue related materials with the lead merchant
banker, at least until the allotment is completed.

Q.5.3.a. How ‘merchant banker’ is defined under the SEBI regulations?
Q.5.3.b. State the SEBI regulations pertaining to registration of merchant bankers.
Q.5.3.c. What are essential considerations of SEBI before the grant of certificate of
registration?
Q.5.3.d. State the capital adequacy requirements prescribed for the merchant bankers by
the SEBI.
Q.5.3.e. Discuss the various general obligations of merchant bankers under the SEBI
regulation.
Q.5.3.f. State the disclosures to be made to the SEBI as part of general obligations of
merchant bankers.
Q.5.3.g. State the procedures relating to inspection of merchant bankers carried out by
the SEBI.
Q.5.3.h. State the circumstances under which SEBI would suspend the certificate of
registration of a merchant banker.
Q.5.3.i. Write a note on the fees structure levied by the SEBI on the merchant bankers.
Q.5.3.j. Write a detailed note on the code of conduct prescribed for the merchant bankers
by the SEBI.
SUMMARY
Currently, Merchant banking in India is considered fairly matured in terms of supply,

product range and reach, even though the reach India still remains a challenge for the
private sector and foreign banks. With the growth of Indian economy expected to be
strong for quite some time especially in its service sector, the demand for Merchant banking
services esp. investment services are expected to be strong.

DBA 1724
NOTES
LESSON – 6
6.1 INTRODUCTION
Stock exchange is an organized market place for the investors to buy and sell securities
freely. The market offers perfectly competitive conditions where a large number of sellers
and buyers participate. Further stock exchange provides an auction market in which members
of the exchange participate to ensure continuity of price and liquidity to investors.
An active and healthy secondary market in existing securities leads to a better

psychology of expectations, considerably broadening the investment enquiries and thereby,
rendering the task of raising resources by entrepreneurs easier.

• Stock exchanges
• The objective
• Functioning of Stock Exchanges
• The relationship between Stock Exchanges and Merchant Bankers
6.3 STOCK EXCHANGES

• It is the market for exchange of stocks.
• ‘Stocks’ refers to the old securities i.e., those which have been already issued
and listed on a stock exchange.
• These securities are purchased and sold continuously among investors without
the involvement of companies.
• Stock exchange provides not only free transferability of shares but also makes
continuous evaluation of securities traded in the market.
It is also called a ‘Secondary Market’ for securities. It is considered to be sine-quo-

non for the primary market. In fact, the success of the issues taking place in the primary
market depends much on the soundness and the depth of the secondary market. It provides
the investor, the facility of disposing off their holdings as and when the need for it arises.
According to Hastings, “Stock exchange or securities market comprises all the places
where buyers and sellers of stocks and bonds or their representatives undertake transactions
involving the sale of securities’.
According to Derek Koney gold, “Stock exchange can be described as the place
where a marriage of convenience is enacted between those who wish to raise capital, such

as companies, governments and local authorities , and those who wish to invest – largely
households through the medium of institutions acting upon their behalf”. NOTES
According to Section 2(3) of the Securities Contract Regulation Act 1956. “ The
stock exchange has been defined as any body of individuals whether incorporated or not,
constituted for the purpose of assisting, regulating or controlling the business of buying,
selling or dealing in securities”.
The following securities can be traded at the stock exchange

a. Shares, scrips, stock, bonds, debentures, debentures stocks or other marketable
securities of a like nature in or of any incorporated company or other body corporate
b. Government securities; and
c. Rights or interests in securities
6.3.1 Objectives of Stock Exchanges
The Objectives of stock exchanges are
1. Assisting in buying and selling of securities
2. Regulating the business of buying and selling or dealing in securities.
6.3.2 Functions of Stock Exchanges
The stock market occupies a pivotal position in the financial system. It performs
several economic functions and renders invaluable services to the investors, companies,
and to the economy as a whole. They may be summarized as follows:
1. Liquidity and marketability of Securities
Stock exchanges provide liquidity to securities since securities can be converted into
cash at any time according to the discretion of the investor by selling them at the listed
prices. They facilitate buying and selling of securities at listed prices by providing continuous
marketability to the investors in respect of securities they hold or intend to hold. Thus, they
create a ready outlet for dealing in securities.
2. Safety of Funds
Stock exchanges ensure safety of funds invested because they have to function under
strict rules and regulations and the bye laws are meant to ensure safety of investible funds.
Over – trading, illegitimate speculation etc., are prevented through carefully designed set
of rules. This would strengthen the investor’s confidence and promote larger investment.
3. Supply of Long term funds
The company is assured of long term availability of funds because the security is
transacted one investor is substituted by another.

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4. Flow of Capital to Profitable Ventures.

NOTES
The profitability and popularity of companies are reflected in stock prices. The prices
quoted indicate the relative profitability and performance of companies. Funds tend to be
attracted towards securities of profitable companies and this facilitates the flow of capital
into profitable channels.
5. Motivation for improved performance
The performance of a company is reflected on the prices quoted in the stock market.
These prices are more visible in the eyes of the public. Stock market provides room for
this price quotation for those securities listed by it. This public exposure makes a company
conscious of its status in the market and it acts as a motivation to improve its performance
further.
6. Promotion of Investment
Stock exchanges mobilize the savings of the public and promote investment through
capital formation. But for these stock exchanges, surplus funds available with individuals
and institutions would not have gone for productive and remunerative ventures.
7. Reflection of Business Cycle
The changing business conditions in the economy are immediately reflected on the
stock exchanges. Booms and depressions cane be identified through the dealings on the
stock exchanges and suitable monetary and fiscal policies can be taken by the government.
Thus a stock market portrays the prevailing economic situation instantly to all concerned
so that suitable actions can be taken.
8. Marketing of New Issues
If the new issues are listed, they are readily acceptable to the public, since, listing
presupposes their evaluation by concerned stock exchange authorities. Costs of underwriting
such issues would be less. Public response to such new issues would be relatively high.
Thus, a stock market helps in the marketing of new issues also.
9. Miscellaneous Services
Stock exchange supplies securities of different kinds with different maturities and
yields. It enables the investors to diversity their risks by a wider portfolio of investment. It
also inculcates saving habits among the community and paves the ways for capital formation.
It guides the investors in choosing securities by supplying him daily quotation of listed
securities and by disclosing the trends of dealings on the stock exchange. It enables
companies and the Government to raise resources by providing a ready market for their
securities.

6.3.3 Organisation of Stock Exchanges

NOTES
The first organized stock exchange in India was started in Bombay in 1875 with the
formation of the ‘Native share and Stock Brokers Association’. Thus the Bombay Stock
Exchange is the oldest one in the country. With the growth of Joint stock companies, the
stock exchanges also made a steady growth and at present these are 23 recognized stock
exchanges with about 6000 stock brokers.
Traditional Structure of stock Exchanges
The stock exchanges in India can be classified into two broad groups on the basis of
their legal structure. They are;
1. Three stock exchanges which are functioning as association of person’s viz., BSE,
ASE and Madhya Pradesh Stock Exchange.
2. Twenty stock exchanges which have been set up as companies, either limited by
guarantees or by shares. They are
Bangalore Stock Exchange
Bhubaneswar Stock exchange
Calcutta Stock Exchange
Cochin Stock Exchange
Coimbatore Stock Exchange
Delhi Stock Exchange
Gauhati Stock Exchange
Hyderabad Stock Exchange
Interconnected Stock Exchange
Jaipur Stock Exchange
Ludhiana Stock Exchange
Madras Stock Exchange
Magadh Stock Exchange
Mangalore Stock Exchange
National Stock Exchange
Pune Stock Exchange
OTCEI
Demutualization of Stock Exchanges
• The transition process of an exchange from a “mutually-owned” association
to a company “owned by Shareholders” is called demutualization.
• Demutualization is transforming the legal structure, of an exchange from a
mutual form to a business corporation form.

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In a mutual exchange, the three functions of ownership, management and trading are
NOTES intervened into a single group. It means that the broker members of the exchange are
owners as well as traders on the exchange and further they themselves manage the exchange.
These three functions are segregated from one another after demutualization. The
demutualised stock exchanges in India are;
1. The National Stock Exchange (NSE)
2. Over the Counter Exchange of India (OTCEI)
Corporatisation of Stock Exchanges
The process of converting the organizational structure of the stock exchange from a
non-corporate structure to a corporate structure is called Corporatisation of stock exchanges.
As stated earlier, some of the stock exchanges were established as “Association of persons”
in India like BSE, ASE and MPSE. Corporatisation of these exchanges is the process of
converting then into incorporated companies.
Management
The recognized stock exchanges are managed by “ Governing Boards’. The governing
boards consist of elected member directors from stock broker members, public
representatives and government nominees nominated by the SEBI. The government has
also powers to nominate Presidents and Vice-presidents of stock exchanges and to approve
the appointment of the chief Executive and public representatives. The major stock exchanges
are managed by the Chief Executive Director and the smaller stock exchanges are under
the control of a Secretary.
Membership
To become a member of a recognized stock exchange, a person must possess the

following qualifications:
• He should be a citizen of India,
• He should not be less than 21 years of age,
• He should not have been adjudged bankrupt or insolvent,
• He should not have been convicted for an offence involving fraud or dishonesty,
• He should not be engaged in any other business except dealing in securities,
• He should not have been expelled by any other stock exchange or declared a
defaulter by any other stock exchange.
6.3.4 Methods of Trading in a Stock Exchange
The stock exchange operation at follow level is highly technical in nature. Non-
members are not permitted to enter into the stock market. Hence, various stages have to
be completed in executing a transaction at a stock exchange. The steps involved in the
methods of trading have been given below:

(1) Choice of Broker

NOTES
The prospective investor who wants to buy shares or the investor who wants to sell
his shares cannot enter into the hall of exchange and transact business. They have to act
through only member brokers. They can also appoint their bankers for this purpose, since,
bankers can become members of the stock exchange as per the present regulations. So,
the first task in transacting business on a stock exchange is to choose a broker of repute or
a banker. Such persons alone can ensure prompt and quick execution of a transaction at
the best possible and profitable price.
(2) Placement of Order
Placement of order refers to the purchase or sale of securities with the broker. The
order is usually placed by telegram, telephone, letter, fax etc., or in person.
(3)Execution of Orders
The Orders are executed through their authorized clerks. Small one carries out their
business personally. Orders are executed in Trading ring of a stock exchange which works
from 12 noon to 2 p.m. on all working days from Monday to Friday and a special one hour
session on Saturday. Trading outside the trading hours is called ‘kerb dealings”.
(4) Preparation of Contract Notes
A contract note is a written agreement between the broker and his client for the
transactions executed. It contains the details of the contract made for the purchase/sale of
securities, the brokerage chargeable, name of the company, number of shares bought/
sold, net rate, etc., it is prepared in a prescribed from and a copy of it is also sent to the
client.
(5) Settlement of Transactions
The settlement of transactions is made by means of delivering the share certificates

along with the transfer deed. The transfer deed is duly signed by the transferor, i.e., the
seller. It bears the stamp of the selling broker. The buyer then fills up the particulars in the
transfer deed. At present, the settlement can be made by any one of the following methods;
• Spot delivery settlement: i.e., the delivery of securities and payment for these
are affected on the date of the contract itself or on the next day.
• Hand Delivery Settlement: i.e., the delivery of securities and payment are
affected within the time stipulated in the agreement or within 14 days from the date
of the contract whichever is earlier.
• Clearing Settlement: i.e., the transactions are cleared and settled through the
clearing house. Usually those securities which are frequently traded and are usually
in demand are cleared through the clearing house. These transactions are also
referred to as the transaction for the “account”.

DBA 1724
• Special Delivery Settlement: i.e., the delivery of securities and payment may
NOTES take place at any time exceeding 14 days following the date of the contract as
specified in the contract and permitted by the governing board.
ONLINE TRADING
• It is the trading over the net i.e., E-trading
To overcome the wastage of time consumed and inefficient operations of the traditional
method and the limits on trading volumes the NSE has introduced a nation-wide on line
fully automated Screen Based Trading System (SBTS). Now, other stock exchanges have
been forced to adopt SBTS and today India can boast that almost 100% trading take
place through electronic order matching.
Under SBTS, a member can punch into the computers quantities of securities and the
prices at which he likes to transact the transaction. It is executed as soon as it finds a
matching sale or buy order from a counter party; Thus, technology is used to carry the
trading platform from the trading hall of the exchanges to the premises of the brokers. NSE
has carried the trading platform further to the PCs at the residence of the investors through
the internet and the hand held devices through WAP for the convenience of the mobile
investors.
This system also provides complete market information on-line. The market screens at any
point of time provide complete information as to
(1) total order depth in a security
(2) the best five buys and sells in the market
(3) the quantity traded during the day in that security
(4) the high and the low price for each security
(5) the last traded price for a security etc.,
BSE BOLT SYSTEM, BOLT (Bombay on line Trading) has been introduced in the
Bombay Stock Exchange. All the scrips are being traded through BOLT.

Q.6.3.a. What is a stock exchange ? What are its features?
Q.6.3.b. Define stock exchange, Trace its history.
Q.6.3.c. What are the functions of a stock exchange?
Q.6.3.d. Give an account of stock exchanges around the world.
Q.6.3.e. What is NASDAQ system?
Q.6.3.f. Discuss the working of Indian stock exchanges.
Q.6.3.g. Trace the origin and the growth of stock exchange system in India.

Q.6.3.h. State the organization structure of stock exchanges in India.

Q.6.3.i. Identify the major tasks of governing body of a stock exchange.
NOTES
Q.6.3.j. How are stock exchanges organized in India?:
Q.6.3.k. Discuss the membership aspects of a stock exchange.
Q.6.3.l. Who are stock exchange traders? Categorize them.
Q.6.3.m. What are the weaknesses of Indian stock exchanges?
Q.6.3.n. How are stock exchanges in Indian regulated?
Q.6.3.o. Write a note on the departments of a stock exchange.
Q.6.3.p. Explain the various steps involved in trading on a stock exchange.
Q.6.3.q. Explain the mechanics of Stock Trading.
Q.6.3.r. What is ‘auction trading system’? How does it work?
Q.6.3.s. What is ‘dealer trading system’? How does it work?
Q.6.3.t. State the recent developments in the realm of stock exchanges in India.
Q.6.3.u. What is ‘over-the-counter’ market system?
Q.6.3.v. Trace the background of the interconnected Stock Exchange of India Limited.
SUMMARY
Beyond these the National Stock Exchange was set up to serve as a model exchange
providing nationwide screen based trading and electronic clearing and settlement systems.
Stock Holding Corporation of India was incorporated in 1987 to act as a central depository
in the country offering post trading and custodial services to institutional investors.

DBA 1724
NOTES
LESSON – 7
7.1 INTRODUCTION
Many small companies in India re finding it difficult to raise adequate capital through
stock exchanges as the conditions stipulated by them could not be fulfilled. The companies
must have run for minimum three years and they must have earned profit and the minimum
capital requirement for listing is also quite high which is at present is Rs.5 Crores. Hence,
promoting a new stock exchange with flexible conditions, the small and medium companies
in India will be able to raise sufficient capital, Once these companies enlarge their resources,
they can list themselves in the regular stock exchanges.

• OTCEI
• Objectives of OTCEI
• Benefits of OTCEI
7.3 OTCEI
• Over the Counter Exchange of India
• It is a Stock Exchange without a proper trading floor
All stock exchanges have a specific place for trading their securities through counters.
But, OTCEI is connected through a computer network and the transactions are taking
place through computer operations. Thus, the development in information technology has
given scope for starting this type of stock exchange. This stock exchange is recognized
under the Securities Contract ( Regulation) Act and so all the stocks listed in this exchange
enjoy the same benefits as other listed securities enjoy.
OTCEI has been incorporated under Section 25 of the companies Act. As a result of
which the word ‘Limited’ need not be used since it is promoted for a common case of
promoting the interest of small and medium companies. This privilege has been given to the
company by the Central government.
This company was promoted by a group of financial institutions owned by Government

of India, consisting of UTI, ICICI, IDBI, SBI Capital Market , IFCI, LIC, GIC and
CAN BANK financial Services.

FEATURES OF OTCEI
(1) Use of Modern Technology: It is an electronically operated stock exchange.
NOTES
(2) Restrictions for other stocks: Stocks and shares listed in other stock exchanges
will not be listed in the OTCEI and similarly, stock listed in OTCEI will not be
listed in other stock exchanges.
(3) Minimum issued capital requirements: Minimum issued equity capital should
be Rs.30 lakhs, out of which minimum public offer should be Rs.20 lakhs.
(4) Restrictions for large companies: No company with the issued equity share
capital of more than Rs.25 crores is permitted for listing.
(5) Base Capital requirement for members: Members will be required to maintain
a minimum base capital of Rs. 4 lakhs to trade on the permitted or on listed segment.
(6) All India network: The network of counters links OTCEI members, located in
different parts of the country.
(7) Satellite facility: The satellite required for OTCEI for its operations is jointly
held with Press Trust of India
(8) Computerization of transactions: Computers at each counter enable the dealers
to enter various transactions or queries or quotes through a central OTCEI computer,
using telecommunication links.
7.3.1 Objectives of Otcei
The following are the objectives of OTCEI

1. Assisting and guiding small companies to raise funds from the capital market in a
cost-effective manner
2. Providing a convenient and an efficient avenue of capital market investments for
small investors
3. Strengthening investors’ confidence in the financial market by offering them the
two-way best prices to them
4. Ensuring transparency, redressing investors’ complaints and unifying the country’s
securities market to cover even those places which do not have a stock exchange
5. Acting as a launch pad to an IPO
6. Providing liquidity advantage to the securities traded
7. Promoting organized trading in Unlisted Securities
8. Providing a source of valuation for securities traded

DBA 1724
7.3.2 Benefits of Otcei

NOTES
OTCEI offers the following benefits :
7.3.2.1 Benefits To Listed Companies
The benefits that are offered to companies listed with OTCEI are as follows :
1. Negotiability : The company can negotiate the issue price with the sponsors
who have to market the issue. It provides an opportunity for fair pricing of an
issue through negotiation with the sponsors.
2. Fixation of premium : In consultation with the sponsors, the company can fix
an optimum level of premium on issue with minimum risk of non-subscription of
the issue.
3. Savings in costs : Lots of costs associated with public issue of capital are saved
through this mode. It provides an opportunity to companies to raise funds through
capital market instruments at an extremely low cost as compared to a public issue.
The method of sponsors placing the scrips with members who in turn will offload
the scrips to public will obviate the need for a public issue and its associated costs.
4. No take-over threat : OTCEI lists scrips even with 40 percent of the capital
offered for public trading. The limit has now been brought down to 20 percent in
the case of closely held companies and new companies. As a result, the present
management of the companies are saved of threats of takeover if they restrict
public offer.
5. Large access : Accessing a large pool of captive investor base through the
OTCEI’s computerized network is made possible for companies. Though
nationwide network for servicing of investors, companies listed on OTC Exchange
can have a larger investor base.
6. Other benefits :
a. Helpful to small companies
b. Shares of all unlisted companies can now be traded on OTCEI
c. Platform for issuers and first-level investors like financial institutions, state level
financial corporations, Foreign Institutional Investors, etc.
d. System for defining benchmark for securities
e. Increasing business for the market constituents
7.3.2.2 Benefits To Investors
OTCEI offers the following benefits for investors :
1. Safety : OTCEI’s ring less and scrip less electronic trading ensure safety of
transactions of the investor. For instance, every investor in a OTCEI is given an
‘Invest-OTC-Card’ free. This code is allotted on a permanent basis and should
be used in all OTC transactions and applications of OTC issues. This card provides

for the safety and security of the investors’ investments. The mechanism offers
greater security to investors as the sponsors investigate into the company and the NOTES
projects, before accepting sponsorship thus building up much needed greater
investor confidence.
1. Transparency : OTC screens at every OTC counter display the best buy/sell
prices. The exact trading prices are printed in the trading documents for
confirmations. This protects the investor interest and thereby minimize disputes.
2. Liquidity : A great advantage of the OTC is that the scrips traded are liquid.
This is because there are at least two market-makers who indulge in continuous
buying and selling. This enables investors to buy and sell the scrips any time. 4.
Appraisal : OTC members sponsor each scrip listed in an OTC counter. The
sponsor makes an appraisal of the scrips for investor worthiness. This ensures
quality of investments.
3. Access : Every OTC counter serves as a single window to the entire OTC exchange
throughout the country and throughout the world too. Therefore, buying and selling
may be resorted to from any part of the world. It offers the facility of faster deal
settlement for investors across the counters spread over the entire country.
4. Transfer : It is important that OTC shares are transferable within 7 days, where
the consolidated holdings of the scrips do not exceed 0.5 percent of the issued
capital of the company.
5. Allotment : There is not much waiting for the investors when it comes to allotment
of scrips. Allotment is completed in all respects within a matter of 35 days and
trading begins immediately thereafter.
6. Other benefits :
a. Derivatives such as futures and options, forward contracts on stock, and other
forms of forward transactions and stock lending are allowed on OTCEI
b. Scrip less trading makes dealings simper and easier
c. Market-making system in OTC Exchange gives sufficient opportunities for the
investors to exit
d. Acts as a benchmark to value securities
e. Creating an exit option for illiquid stocks/venture capitalists
f. Shuffling portfolios for the investors
g. Organizing and broad-basing trading in the existing market
7.3.2.3 Benefits To Financial System
The OTCEI’s role has been laudable in as far as it helps contribute improving the
financial system of India in the following ways :
1. National network of OTCEI operations facilitates the integration of capital market
in the country

DBA 1724
2. Boon to closely-held companies as they are encouraged to go public because

NOTES scrips can be listed even if only 40 percent of capital (now a minimum of 20
percent in case of closely held and new companies) is offered for public trading
3. Facilities wider dispersal of economic activities by encouraging small companies
and small investors
4. Promoting savings and investments by offering easier avenues for raising capital
5. Providing over-all stimulation to venture capital activities thereby promoting
entrepreneurship
6. Market-making assistance by the sponsors on the OTCEI that helps in making an
appraised future projections in the issue documents which in turn helps prospective
investors in determining the usefulness of the issues for investment purposes,
promoting investment environment in general
7. Those members of the OTCEI who did not have multiple memberships can now
have an opportunity to trade in some of the large capital index stocks
8. Encourage venture capital activities and boost entrepreneurship
9. Spread of stock exchange operations geographically all over India
7.3.3 Securities Traded
Following are the securities that are traded on the OTCEI :

1. Listed equity (exclusive) : These are equity shares of the companies listed
exclusively on the OTCEI. The shared can be bought or sold at any of the member/
dealer’s office all over India. The securities, which are listed exclusively on the
OTCEI, cannot be traded on other stock exchanges.
2. Listed debt : These are the debentures/bonds that are issued through a public
issue or a private placement and are listed on OTCEI. Any entity holding the
entire series of a particular debt instrument can also offer them for trading on the
OTCEI, by appointing an OTCEI member/dealer to carry out compulsory market-
making in those securities.
3. Gilts : The securities issued by the Central and State Governments are called
‘gilts’. Government of India Dated Securities, Treasury Bills and special securities
are traded in this segment. Banks, Foreign Investors, Foreign Institutional Investors,
NBFCs and Provident Funds can trade in these securities through OTCEI
designated members/dealers.. PSU Bonds, Commercial Paper, and Certificates
of Deposit will also be traded in this segment.
4. Permitted securities : These are the securities listed on other exchanges, which
are permitted for trading on OTCEI. Securities of Blue Chip companies like
ACC, Reliance Industries Ltd., State Bank of India, ITC, etc. are traded in this
segment.
5. Listed mutual funds : Listed mutual funds are units of mutual funds that are
listed on OTCEI. Mutual fund units like units of Unit-64, Monthly Income Plan,
and IISFUS ’97 are also listed under this category.


Q.7.3.a. What is meant by the term ‘over-the-counter’?
NOTES
Q.7.3.b. What is OTCEI? What are its distinct features’?
Q.7.3.c. Distinguish between the OTCEI and the other stock exchanges.
Q.7.3.d. What are the benefits accruing from the OTCEI?
Q.7.3.e.State the need and the objectives of the OTCEI.
Q.7.3.f. What benefits accrue from OTCEI to the Indian financial system?
Q.7.3.g. Discuss briefly the various players in the OTCEI.
Q.7.3.h. What is ‘market-making’? What are the functions of a market-maker?
Q.7.3.i. What are the eligibility requirements for companies, financial and non-financial, to
be listed on the OTCEI?
Q.7.3.j. What are the obligations of the companies listed on the OTCEI?
Q.7.3.k. What are the obligations of the sponsor under the OTCEI?
Q.7.3.l. Name the documents to be submitted seeking listing on the OTCEI.
Q.7.3.m. What causes would you attribute for the show growth of the OTCEI?
Q.7.3.n. How does OTCEI work with NASDAQ?
Q.7.3.o. State the profile of the securities traded on the OTCEI.
Q.7.3.p. Explain the OTCEI’s interface with the NASSCOM.
Q.7.3.q. How is OTCEI beneficial to investors?

DBA 1724
NOTES
LESSON – 8
8.1 INTRODUCTION
To counter the influence of Bombay Stock Exchange and reduce the influence of
certain powerful intermediaries in the stock market, a new stock market was promoted in
which both securities of companies and debt instruments are traded, namely the National
Stock Exchanges. NSE takes into account the screen based trading and so it is the most
advanced. The success of this stock exchange is quite evident that within a few years of its
promotion the volume and the value of transactions have surpassed the BSE.

• NSE
• Objectives
• Operations of NSE
• NSE and Merchant banking
8.3 NSE NATIONAL STOCK EXCHANGE OF INDIA

• It is the screen based trading established to counter the influence of Bombay
Stock Exchange and to reduce the influence of certain powerful intermediaries
in the stock market.
• Both securities of companies and debt instruments are traded here.
The success of this stock exchange is quite evident that within a few years of its
promotion the volume and the value of transactions have surpassed the Bombay Stock
Exchange. Apart from this, the prices of securities prevailing in this market have its influence
on the Bombay Stock Exchange.
PROMOTERS AND COMMITTEES
The National Stock Exchange was promoted in November 1992, as a limited company
by insurance companies, commercial banks and other financial institutions. Besides, SBI
Capital Markets Limited, Infrastructure leasing and financial services Ltd., and Stock
Holding Corporation Ltd., were also part of the promoters of NSE. The NSE was
incorporated with an equity capital of Rs.25 crores. The International Securities Consultancy
(ISC) of Hong Kong has helped in setting up of the NSE.

FEATURES OF NSE
1. The NSE employs a fully automated screen based trading system. Investors can
NOTES
trade from 400 cities on a real time basis.
2. It has three segments: the capital market segment, whole sale debt market segment
and derivatives market
• The capital market segments covers equities, convertible debentures and
retail trade in debt instruments like non- convertible debentures. Securities
of medium and large companies with nation wise investor base, including
securities traded on other stock exchanges are traded in NSE through
trading members.
• The wholesale debt market segment is a market for high value transactions
in government securities, public sector bonds, commercial papers and other
debt instruments.
• On the wholesale market segment, there are two types of entities viz.,
trading members and participants. Trading members are recognized
members of the exchange selected on the basis of selection criteria laid
down under the provisions of SEBI and the securities contract (Regulation)
Act, 1956. They can trade on their own or on behalf of their clients.
Participants are the organizations directly responsible for the settlement of
trades.
3. The NSE has no trading floor as is prevalent in the traditional stock exchanges.
4. The market operates with all participants stationed at their offices and making use
of their computer terminals, to receive market information to enter orders and to
execute trade.
5. The trading members in the capital market segment are connected to the central
computer in Bombay through a satellite link –up using VSATs (Very small aperture
Terminals). The trading members in the whole sale debt market segment are linked,
through high speed lines, to the central computer Mumbai.
6. The NSE has opted for an order driven system. The system provides enormous
flexibility to trading members. A trading member can place various conditions on
the order in terms of price, time or size. When an order is placed by a trading
member, an order confirmation slip is generated. All orders received are started in
price and time priority. The computer system automatically searches for a match
and no sooner to the same is found, the deal is struck. If it does not find a match
immediately as may happen in the case of less liquid securities, the order is kept
pending in the computer unless specified otherwise by the trading member.
7. When a trade takes place, a trade confirmation slip is printed at the trading member’s
work station. It gives details like price, quantity, code number of the party and so
on.

DBA 1724
8. The identity of the trading member is not revealed to others when he places an
NOTES order or when his pending orders are delayed. Hence large order can be placed
in NSE without the fear of influencing the market sentiment.
9. On the eight day of trading, each member gets a statement showing his net position,
the amount of cash he has to transfer to the clearing bank and the securities he has
to deliver to the clearing house.
10. Members are required to deliver securities and cash by the thirteenth and fourteenth
day, respectively. The fifteenth day is the pay-out day.
11. The automated trade matching system secures the best price available in the market
to the investor. The trading member can transact a high volume of business
efficiently.
8.3.1 Operations of NSE
NSE and Wholesale Debt Market (WDM)
Prior to the commencement of trading in WDM segment of NSE, the only trading
mechanism available in the debt market was the telephone market. NSE provided for the
first time in the country, an online, automated trading facility across a wide range of debt
instruments.
Comparison Between Stock Exchange, OTCEI and NSE
Stock Exchange OTCEI NSE

1. Membership Individuals, Firms Corporates only Individuals, Firms
and Corporate and Corporates
2. Methods of Trading Floor Screen based Screen based Screen based

Quote-driven Code driven Order driven
3. System of Trading Manual Computers linked Computer linked by

to central OTCEI satellite through
through telephone VSAT
lines
4. Settlement T+2 T + 2 rolling Same day to T + 2

settlement in WDM Standard
Delivery in Equity
market
5. Transparency NIL Ensured Total transparency
6. Intermediary Jobber needed Not needed Not needed

TABLE Operations of the National Stock Exchange

NOTES
1994-95 1995-96 1999-2000
Turnover (Cr) 1,850 67,287 138,39.051
Number of listed companies 135 422 673
Market capitalization (Cr) 75,223 2,17,721 8,50,880
*Working of NSE during 1997-98
Of the total trading turnover of Rs.9,08,691 crores by the 22 stock exchanges in

1997-98 the trading turnover of NSE was the highest which accounted for about 45% of
the total trading volume during 2000.
TABLE Operations of the National Stock Exchange
Year No. of No. of Securities Turnover

companies traded (Mrs.)
2001-01 785 1,201 13,39,510

2001-02 793 1,019 5,13,167
2002-03 818 899 6,17,989
2003-04 909 804 10,99,535
2004-05 970 870 11,40,071
2005-06 1,069 956 15,69,556
2006-07 1,228 1,191 9,45,285
May 2007 1,267 1,149 2,07,585
The trading system of the exchange known as NEAT (National Exchange for Automated
Trading) is fully automated, screen based trading system that enables members across the
country to trade simultaneously with enormous easy and efficiency.
WDM segment provides trading facilities for a variety of debt instruments. Initially
Government securities, Treasury Bills and Bonds issued by public sector undertakings
were made available for trading. This range has been widened to include non-traditional
instruments like Fleeting Rate Deposits, Corporate Debentures, State Government Loans,
Bonds issued by Financial Institutions, units of Mutual Funds and Securitized debt.
In order to enable investors like Provident Fund, Trusts, NBFCs and other high net
worth investors to deal in debt instruments, the exchange has introduced a small book let
facility where an order of minimum of Rs. 1 lakh can be placed on the trading system of
the exchange.
The volume of NSE has increased multifold in the last four years. Average daily
volume has increased from 30 crores in the year 1994-95 to Rs.385 Crores in 1997-98,
The number of trades which were around 5 per day in 1994-95 has gone up to 59 trades
per day in 1997-98.

DBA 1724
The year wise turnover in NSE for the period from 1995-96 to 1997-98 is shown in
NOTES the table below.
TABLE NSE Trading in WDM Segment
1995-96 1996-97 1997-98

Traded value 11,867.68 42,277,60 1,11,263.28
Average daily volume 40.78 145.28 384.99
Average No. of trades per day 0.10 0.27 0.59
National Stock Exchanges Proposed System of Public Issue Offering (PIO)
The current process of initial offering is a lengthy one involving considerable time and
costs. Considering several infirmities afflicting primary issue market for all types of securities,
NSE has worked out an unique facility for achieving quantum improvement in the process
of primary issues. The Exchange is proposing to provide a facility for issue of securities for
time bound Initial Public Offerings (IPO) and perpetual IPO.
Time bound IPO includes primary issues for initial public offers and subsequent issues
by companies. Perpetual IPO includes continuous offering of securities by the issues like
open ended mutual funds.
NSE, PIO facility would operate through a fully automated screen based system. Its
facility can be used for all types of primary issues which are designed to meet specific
requirements of issuer, investors and trading members. The system can also be used for
issues which have various combinations or components of book building and fixed price
issues. The software designed by the exchange provides flexibility for making issues of
any security whether equity, debt or any other hybrid instrument.
Objectives
The main objectives of starting the primary issues through a screen based automated
trading system are :
1. To provide facility to the issuer for on-line issue of securities.
2. To provide wide retail distribution network.
3. To reduce the cost of issue of securities.
4. To reduce the delay in listing of securities.
Time Bound PIO System
This system can be used for price/rate discovery in case of book building as well as
for collecting subscription for fixed price. Issuer will announce certain number of securities
in case of fixed price offerings and the total amount to be raised in case of book building.
Eligible trading members will place subscription orders of investors specifying the number
of shares or price as the case may be. The issue will be closed after a specified number of

days after which the issuer will decide the allocation based on the offers received. The
exchange proposes to provide a software which will help the issuer in finalizing the basis of NOTES
allotment as per the guidelines issued by SEBI.
After the allotment, the Exchange will generate dummy trades for successful investors
and send it to the respective members in the form of obligation. After the receipt of the
obligation data, the members will initiate and expedite the process of fund collection and
printing of application forms. The exchange proposes to provide a special software to
trading members who will maintain a complete IPO back office system including printing
of application forms, fund management and report generation.
Completed application forms and funds will be received by the exchange on a pre-
determined day based on which final dispatch of certificates and release of funds will be
done.
Internet Broking
NSE launched internet trading in early February 2000. It is the first exchange in the
country to provide web based access to investors to trade directly on the exchange. The
orders originating from the PCs of the investors are routed through the internet to the
trading terminals of the designated brokers with whom they are connected and further to
the exchange for trade executions. Soon after these orders get matched and result into
trades, the investors get confirmation about them on their PCs through the same internet
route.
Wireless Application Protocol (WAP)
SEBI has approved trading through wireless medium on WAP platform. WAP was
introduced in November 2000. This provides access to its order book through the hand
held devices, which use WAP technology. This serves primarily retail investors who are
mobile and want to trade from any place when he market prices for stocks at their choice
are attractive.
NATIONAL SECURITIES CLEARING CORPORATION
NSC has set up a wholly owned subsidiary – National Securities Clearing Corporation
that takes up the responsibility of settlement by opening guarantee. There is seamless
integration of trading and settlement with full guarantee which protects the interest of
investors fully.

Q.8.3.a. How many stock exchanges are there in India? Name them.
Q.8.3.b. When was the Bombay stock Exchange (BSE) started? How is it managed?
Q.8.3.c. What are the opportunities made available by the BSE to foreign investors?

DBA 1724
Q.8.3.d. What do you know of ‘BOLT’?

NOTES Q.8.3.e. What is ‘scrips group’?
Q.8.3.f. How does settlement take place at the BSE?
Q.8.3.g. State the function of the clearing house at the BSE.
Q.8.3.h. How does book-building work at the BSE?
Q.8.3.i. State the genesis of the National Stock Exchange of India Limited (NSE).
Q.8.3.j. How does settlement take place at the NSE?
Q.8.3.k. How does counter guarantee work at the NSE?
Q.8.3.l. What are the factors that determine the measure of liquidity of a security?
Q.8.3.m. What are products offered by the NSE?

NOTES
UNIT II
ISSUE MANAGEMENT
LESSON 1
1.1 INTRODUCTION
Merchant Banking, as a commercial activity, took shape in India through the

management of Public Issues of capital and Loan Syndication. It was originated in 1969
with the setting up of the Merchant Banking Division by ANZ Grind lays Bank. The main
service offered at that time to the corporate enterprises by the merchant banks included
the management of public issues and some aspects of financial consultancy. The early and
mid-seventies witnessed a boom in the growth of merchant banking organizations in the
country with various commercial banks, financial institutions, and broker’s firms entering
into the field of merchant banking.
Reform measures were initiated in the capital market from 1992, starting with the
conferring of statutory powers on the Securities and Exchange Board of India (SEBI) and
the repeal of Capital Issues Control Act and the abolition of the office of the Controller of
Capital Issues. These have brought about significant improvement in the functional and
regulatory efficiency of the market, enabling the Merchant Bankers shoulder greater legal
and moral responsibility towards the investing public.
After reading the unit, you will understand
• The functions of merchant bankers in detail
1.3 MERCHANT BANKERS AND CAPITAL ISSUES MANAGEMENT
Merchant Banker has been defined under the Securities & Exchange Board of India
(Merchant Bankers) Rules, 1992 as “any person who is engaged in the business of issue
management either by making arrangements regarding selling, buying or subscribing to
securities as manager, consultant, advisor or rendering corporate advisory service in relation
to such issue management”.

DBA 1724
The capital issue management comprises of the effective management of market related
NOTES factors. They are
• Transition to rolling settlement on the equity market
• Impact on different classes of market users
• Obtaining a liquid bond market
• Impact of reforms of 1990s
• Law and taxation
• Taxation of capital
• Legal reforms
• Political economy of financial sector reforms
• Market design, market inefficiencies, trading profits
1.3.1 Issue Management
• The management of issues for raising funds
The management of issues for raising funds through various types of instruments by
companies is known as “ issue management”. The function of capital issues management in
India is carried out by merchant bankers. The Merchant Bankers have the requisite skill
and competence to carry out capital issues management.
The funds are raised by companies to finance new projects, expansion / modernization/
diversification of existing units etc.,
The definition of ‘merchant banker’, as contained in SEBI (Merchant Banker) Rules

and Regulations, 1992 clearly brings out the significance of Issue Management as follows:
“any person who is engaged in the business of issue management either by making
arrangement regarding selling, buying or subscribing to securities as manager, consultant,
advisor or rendering corporate advisory services in relation to such issue management”.

MERCHANTS OF PUBLIC ISSUE MANAGEMENT

NOTES
Decision to Raise Capital Funds
Obtaining SEBI Approval
Arranging underwriting
Preparation and Finalization of Prospectus
Selection of Registrars, Brokers, Bankers, etc.
Arranging Press for investor Conference
Printing and Publicity of Public Issue Documents
SEBI Compliance
Issue Launch
1.3.1.1 Classification Of Securites Issue

1. Public Issue
2. Right Issue
3. Private Placement

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1. Public Issue of Securities

NOTES
When capital funds are raised through the issue of a prospectus, it is called ‘’public
issue of securities’. It is the most common method of raising funds in the capital market. A
security issue may take place either at part, or at a premium or at a discount. The Prospectus
has to disclose all the essential facts about the company to the prospective purchasers of
the shares. Further, the prospectus must conform to the formal set out in Schedule II of the
Companies Act, 1956, besides taking into the account SEBI guidelines. SEBI insists on
the adequacy of disclosure of information that should serve as the basis for investors to
make a decision about the investment of their money.
2. Rights Issue
When shares are issued to the existing shareholders of a company on a privileged

basis, it is called as ‘Rights Issue’. The existing shareholders have a pre-emptive right to
subscribe to the new issue of shares. Rights shares are offered as additional issues by
corporate to mop up further capital funds. Such shares are offered in proportion to the
capital paid up on the shares held by them at the time of the offer.
It is to be noted that the shareholders, although privileged to be offered on the issue,

are under no legal obligation to accept the offer. Right shares are usually offered on terms
advantageous to the shareholders.
3. Private Placement
When the issuing company sells securities directly to the investors, especially institutional
investors, it takes the form of private placement. In this case, no prospectus is issued,
since it is presumed that the investors have sufficient knowledge and experience and are
capable of evaluating the risks of the investment. Private placement covers shares,
preference shares and debentures. The role of the financial intermediary, such as the
merchant bankers and lead managers, assures great significance in private placement. They
involve themselves in the task of preparing an offer memorandum and negotiating with
investors.
1.3.2 Merchant Bankers Functions
The different functions of merchant bankers towards the capital issues management
are
1. Designing Capital Structures
2. Capital Market Instruments
3. Preparation of prospectus
4. selection of bankers
5. Advertising Consultants

6. Choice regarding registrar to the issue

7. Arranging for underwriting the proposed issue
NOTES
8. Choice for the bankers to the issue
9. Choice for the brokers.
1. DESIGNING CAPITAL STRUCTURE DECISIONS
The term capital structure refers to the proportionate claims of debt and equity in the
total long-term capitalization of a company.
According to Weston and Brigham, “Capital structure is the permanent financing of

the firm, represented primarily by long-term-debt, preferred stock and common equity,
but excluding all short-term credit. Common equity includes common stock, capital surplus
and accumulated retained earnings.”
OPTIMAL CAPITAL STRUCTURE
An ideal mix of various sources of long-term funds that aims at minimizing the overall
cost of capital of the firm, and maximizes the market value of shares of a firm is known as
‘Optimal capital structure’.
An optimal capital structure should possess the following characteristics:
a. Simplicity
An optimal capital structure must be simple to formulate and implement by the financial
executives. For simplicity, it is imperative that the number of securities is limited to debt
and equity.
b. Low Cost
A sound capital structure must aim at obtaining the capital required for he firm at the
lowest possible cost. For this purpose, financial executives must pay attention to keep the
expenses of issue and fixed annual payments at a minimum. This would help maximize the
shareholders’ value.
c. Maximum Return and Minimum Risks
An ideal capital structure must have a combination of debt and equity in such a manner
as to maximize the firm’s profits. Similarly, the firm must be guarded against risks such as
taxes, interest rates, costs, etc. with the aim of either reducing them or removing them.
d. Maximum Control
The capital structure must aim at retaining maximum control with the existing
shareholders. The issue of securities should be based on the pattern of voting rights. It

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must affect favorably the voting structure of the existing shareholders, and increase their
NOTES control on the company’s affairs.
e. Liquidity
In order to have a sound capital structure, it is important that the various components
help provide the firm greater solvency through higher liquidity. To attain a high order of
liquidity, all such debts that threaten the company’s solvency must be avoided.
f. Flexibility
The capital structure should be so constructed that it is possible for the company to
carry out any required change in the capitalization in tune with the changing conditions.
Accordingly, the firm must be able to either raise a new level of capital, or reduce the
existing level of capital.
g. Equitable Capitalization
An ideal capital structure must be neither over capitalized nor under-capitalized.

Capitalization must be based purely on the financial needs of the enterprise. An equitable
capitalization would help make full utilization of the available capital at minimum cost.
h. Optimum Leverage
The firm must attempt to secure a balanced leverage by issuing both debt and equity
at certain ideal proportions. It is best for the firm to issue debt when the rate of interest is
low. Conversely, equity is suitable where the rate of capitalization is high.
PATTERN OF CAPITAL STRUCTURE
The different forms of capital structure are :
DECISIONS ON CAPITAL STRUCTURE
The decisions regarding the use of different types of capital funds in the overall long-
term capitalization of a firm are known as capital structure decisions.
Any decisions on Capital Structure are based on different principles.
a. Cost Principle
An ideal pattern of capital structure is one that costs the least. The returns must be
maximized and cost minimized. The cost of capital of a firm is greatly influenced by the
amount of interest to be paid to its debenture holders in a particular period. A firm would
be well advised to employ the debt capital, as it is a cheap source of funds. Using debt
would give the firm a tax shield advantage. Such an arrangement is technically known as
‘trading on equity’.

b. Control Principle
NOTES
The amount of control to be exercised by the shareholders over the management is an
important principle underlining capital structure decisions. Accordingly, the finance manager,
while making a fresh issue of capital funds, should ensure that the control of the existing
shareholders remain unaffected. In this connection, it is to be noted that the issue of bonds
and preference shares offers the advantage of non-dilution of existing ownership. However,
debt funds pose the formidable problem of a heavy interest cost burden and the consequent
risk of bankruptcy.
c. Return Principle
According to his principle, the patterns of capital structure must be devised to allow
for enhanced returns to the shareholders. It also implies that the kind of capital source
chosen must be secure. Besides, the principal amount having to be returned immediately
after the expiry of the stipulated time period the bonds require obligated debt servicing by
way of fixed periodic interest. Hence, debt capital may prove fatal to the company in time
of low/non-profits. In the context of risk, equity stands a fair chance of being included as
part of an efficient capital structure.
d. Flexibility Principle
For capital structure decisions to be efficient, there must be adequate flexibility in the
capitalization. The addition of a capital fund must be such that it should be possible for a
firm to redeem or add capital to the existing capital structure. It is equally important that
the terms and conditions of raising funds be flexible. This maneuverability would give the
firm a more efficient capital structure.
e. Timing Principle
The quality of decisions depends on the time at which the capital funds are either
raised or returned. This would help minimize the cost of capital, and thus help maximize
returns to shareholders. Timing greatly affects the preferences and choices of investors,
which in turn depends on the general state of the economy. Accordingly, in periods of
boom equity shares should be issued to raise resources. Conversely, in periods of depression,
bonds are ideal, as they entail payment of lower rate interest.
FACTORS AFFECTING CAPITAL STRUCTURE DECISIONS
The following factors significantly influence the capital structure decision of a firm:
Economy Characteristics
The major developments taking place in the economy affect the capital structure of
firms. In order words, the way the economy of a country is managed determines the way

DBA 1724
the capital structure of a firm will be determined. Factors that are active in the economy
NOTES are:
1. Business activity : The quality of business activity prevailing in the economy determines
the capital structure pattern of a firm. Under conditions of expanding business activities,
the firm must have several alternatives to source the required capital in order to undertake
profitable investment activities. Under these circumstances, it is advisable for a firm to
undertake equity funding rather than debt funding.
2. Stock market : The buoyancy, or otherwise, of the capital market greatly influences
capital structure decisions. A study of the capital market trends would greatly help a firms
decision on the quantum and cost of issue. Accordingly, if the stock market is expected to
witness bullish trends, the interest rates will go up and debt will become costlier.
3. Taxation : The rates and rules of taxation prevalent in an economy also affect capital
structure decisions. For instance, higher rates of taxation will be advantageous due to the
tax deductibility benefit of debt funding. Similarly, the taxes on dividend income, if any,
would adversely affect the ability of firms to raise equity capital.
4. Regulations : The regulations imposed by the state on the quantum, pricing etc. of
capital funds to be raised also influences the capital raised by a firm. For instance, restrictions
have been imposed by SEBI on the issue and allotment of shares and bonds to different
type of investors. A finance manager should take this factor into consideration while designing
the capital structure.
5. Credit policy : The credit policy pronouncements made by the central monetary
authority, such as the RBI, affects the way capital is raised in the market. For instance, the
interest rate liberalization announced by RBI has been dominating the lending policies of
financial institutions. This affects the ability of finance managers to raise the required funds.
6. Financial institutions : The credit policy followed by financial institutions determines

the capital structure decisions of firms. For instance, restrictive lending terms by financial
institutions may deter firms from raising long-term funds at reasonable rates of interest.
Easy terms, on the other hand, may encourage firms to obtain a higher quantum of loans.
2. Capital Market Instruments
Financial instruments that are used for raising capital resources in the capital
market are known as Capital Market Instruments’.
The changes that are sweeping across the Indian capital market especially in the
recent past are something phenomenal. It has been experiencing metamorphic in the last
decade, thanks to a host of measures of liberalization, globalization, and privatization that
have been initiated by the Government. Pronounced changes have occurred in the realm

of industrial policy. Licensing policy, financial services industry, interest rates, etc. The
competition has become very intense and real in both industrial sector and financial services NOTES
industry.
As a result of these changes, the financial services industry has come to introduce a
number of instruments with a view to facilitate borrowing and lending of money in the
capital market by the participants.
TYPES OF CAPITAL MARKET INSTRUMENTS
The various capital market instruments used by corporate entities for raising resources
are as follows:
1. Preference shares
2. Equity shares
3. Non-voting equity shares
4. Cumulative convertible preference shares
5. Company fixed deposits
6. Warrants
7. Debentures and Bonds
PREFERENCE SHARFES
Shares that carry preferential rights in comparison with ordinary shares are called
’Preference Shares’. The preferential rights are the rights regarding payment of dividend
and the distribution of the assets of the company in the event of its winding up, in preference
to equity shares.
TYPES OF PREFERENCE SHARES
1. Cumulative preference shares : Shares where the arrears of dividends in times of

no and/or lean profits can be accumulated and paid in the year in which the company
earns good profits.
2. Non-cumulative preference shares : Shares where the carry forward of the arrears
of dividends is not possible.
3. Participating preference shares : Shares that enjoy the right to participate in

surplus profits or surplus assets on the liquidation of a company or in both, if the Articles of
Association provides for it.
4. Redeemable preference shares : Shares that are to be repaid at the end of the term
of issue, the maximum period of a redemption being 20 years with effect from 1.3.1997
under the Companies amendment Act 1996. Since they are repayable, they are similar to
debentures. Only fully paid shares are redeemed. Where redemption is made out of

DBA 1724
profits, a Capital Redemption Reserve Account is opened to which a sum equal to the
NOTES nominal value of the shares redeemed is transferred. It is treated as paid-up share capital
of the company.
5. Fully convertible cumulative preference shares : Shares comprise two parts viz.,
Part A and B. Part A is convertible into equity shares automatically and compulsorily on
the date of allotment. Part B will be redeemed at par/converted into equity shares after a
lock-in period at the option of the investor, conversion into equity shares taking place after
the lock-in period, at a price, which would be 30 percent lower than the average market
price. The average market price shall be the average of the monthly high and low price of
the shares in a stock exchange over a period of 6 months including the month in which the
conversion takes place.
6. Preference shares with warrants attached : The attached warrants entitle the
holder to apply for equity shares for cash, at a ‘premium’, at any time, in one or more
stages between the third and fifth year from the date of allotment. If the warrant holder
fails to exercise his option, the unsubscribed portion will lapse. The holders of warrants
would be entitled to all rights/bonus shares that may be issued by the company. The
preference shares with warrants attached would not be transferred/sold for a period of 3
years from the date of allotment.
EQUITY SHARES
Equity shares, also known as ‘ordinary shares’ are the shares held by the owners
of a corporate entity.
Since equity shareholders face greater risks and have no specified preferential rights,
they are given larger share in profits through higher dividends than those given to preference
shareholders, provided the company’s performance is excellent. Directors declare no
dividends in case there are no profits or the profits do not justify dividend for previous
years even when the company makes substantial profits in subsequent years. Equity
shareholders also enjoy the benefit of ploughing back of undistributed profits kept as reserves
and surplus for the purposes of business expansion. Often, part of these is distributed to
them, as bonus shares. Such bonus shares are entitled to a proportionate or full dividend
in the succeeding year.
A strikingly noteworthy feature of equity shares is that holders of these shares enjoy
substantial rights in the corporate democracy, namely the rights to approve the company’s
annual accounts, declaration of dividend, enhancement of managerial remuneration in excess
of specified limits and fixing the terms of appointment and election of directors, appointment
of auditors and fixing of their remuneration, amendments to he Articles and Memorandum
of Association, increase of share capital and issue of further shares or debentures, proposals

for mergers and reconstruction and any other important proposal on which member’s
approval is required under the Companies Act. NOTES
Equity shares in the hands of shareholders are mainly reckoned for determining the
management’s control over the company. Where shareholders are widely disbursed, it is
possible for the management to retain the control, as it is not possible for all the shareholders
to attend the company’s meeting in full strength. Furthermore, the management group can
bolster its controlling power by acquiring further shares in the open market or otherwise.
Equity shares may also be offered to financial institutions as part of the private placement
exercise. Such a method, however, is brought with the danger of takeover attempt by
financial institutions.
Equity shareholders represent proportionate ownership in a company. They have

residual claims on the assets and profits of the company. They have unlimited potential for
dividend payments and price appreciation in comparison to thse owners of debentures
and preference shares who enjoy just a fixed assured return in the form of interest and
dividend. Higher the risk, higher the return and vice-versa.
Share certificates either in physical form or in the demat (with the introduction of
depository system in 1999) form are issued as a proof of ownership of the shares in a
company. Fully paid equity shares with detachable warrants entitle the warrant holder to
apply for a specified number of shares at a determined price. Detachable warrants are
separately registered with stock exchange and traded separately. The company would
determine the terms and conditions relating to the issue of equity against warrants.
Voting rights are granted under the Companies Act (Sections 87 to 89) wherein each
shareholder is eligible for votes proportionate to the number of shares held or the amount
of stock owned. A company cannot issue shares carrying disproportionate voting rights.
Similarly , voting right cannot be exercised in respect of shares on which the shareholder
owes some money to the company.
CAPITAL
Equity shares are of different types. The maximum value of shares as specified in the
Memorandum of Association of the company is called the authorized or registered or
nominal capital. Issued capital is the nominal value of shares offered for public subscription.
In case shares offered for public subscription are not taken up, the portion of capital
subscribed is called subscribed capital. This is less than the issued capital Paid-up capital
is the share capital paid-up by shareowners which is credited as paid-up on the shares.

DBA 1724
PAR VALUE AND BOOK VALUE

NOTES
The face value of a share is called its Par value.
Although shares can be sold below the par value, it is possible that shares can be
issued below the par value. The financial institutions that convert their unpaid principal and
interest into equity in sick companies are compelled to do if at a minimum of Rs.10 because
of the par value concept even though the market price might be much less than Rs.10. Par
value can also lead to unhealthy practices like price rigging by promoters of sick companies
to take market prices above Rs.10 to get their new offers subscribed.
Par value is of use to the regulatory agency and the stock exchange. It can be used to
control the number of shares that can be issued by the company. The par value of Rs.10
per share serves as a floor price for issue of shares.
Book value is the intrinsic value of a share that is calculated to reflect the net worth of
the shareholders of a corporate entity.
Cash Dividends
These are dividends paid in cash. A stable payment of cash dividend is the hallmark
of stability of share prices.
Stock Dividends
These are the dividends distributed as shares and issued by capitalizing reserves.
While net worth remains the same in the balance sheet, its distribution between shares and
surplus is altered.
NON-VOTING EQUITY SHARES
Consequent to the recommendations of the ‘Abid Hussain Committee’ and subsequent

to the amendment to the Companies Act, corporate managements are permitted to mobilize
additional capital without diluting the interest of existing shareholders with the help of a
new instrument called ‘non-voting equity shares’. Such shares will be entitled to all the
benefits except the right to vote in general meetings. Such non-voting equity share is being
considered as a possible addition to the two classes of share capital currently in vogue.
This class of shares has been included by an amendment to the Companies Act as a third
category of shares. Corporates will be permitted to issue such share up to a certain
percentage of the total share capital.
Non-voting equity shares will be entitled to rights and bonus issues and preferential
offer of shares on the same lines as that of ordinary shares. The objective will be to
compensate the sacrifice made for the voting rights. For this purpose, these shares will
carry higher dividend rate than that of voting shares. If a company fails to pay dividend,

non-voting shareholders will automatically be entitled to voting rights on a prorate basis

until the company resumes paying dividend. NOTES
The mechanism of issue of non-voting shares is expected to overcome such problems
as are associated with the voting shares as that the ordinary investors are more inclined
towards high return on capital through sizeable dividends and capital appreciation through
the issue of bonus shares and the inability of corporate to respond to the investors’ just
aspiration for reasonable dividends. Moreover, there is every need for corporate to spend
huge sums of money on a variety of not-so-useful items including colorful and costly annual
reports. For all these above-mentioned reasons, non-voting equity shares are expected to
have a ready and popular marker. In effect, this kind of share is similar to preference
shares with regard to non-voting right but may get the advantage of higher dividends as
well as appreciation in share values through entitlement to bonus shares which is not available
to preference shares.
CONVERTIBLE CUMULATIVE PREFERENCE SHARES (CCPS)
These are the shares that have the twin advantage of accumulation of arrears of
dividends and the conversion into equity shares. Such shares would have to be the face
value of Rs.100 each. The shares have to be listed on one or more stock exchanges in the
country. The object of the issue of CCP shares is to allow for the setting up of new
projects, expansion or diversification of existing projects, normal capital expenditure for
modernization and for meeting working capital requirements.
Following are some of the terms and conditions of the issue of CCP shares :
1. Debt-equity ratio : For the purpose of calculation of debt-equity ratio as may
be applicable CCPS is be deemed to be an equity issue.
2. Compulsory conversion : The conversion into equity shares must be for the
entire issue of CCP shares and shall be done between the periods at the end of
three years and five years as may be decided by the company. This implies that
the conversion of the CCP into equity shares would be compulsory at the end of
five years and the aforesaid preference shares would not be redeemable at any
stage.
3. Fresh issue : The conversion of CCP shares into equity would be deemed as
being one resulting from the process of redemption of the preference shares out of
the proceeds of a fresh issue of shares made for the purposes of redemption.
4. Preference dividend : The rate of preference dividend payable on CCP shares
would be 10 percent.
5. Guideline ratio : The guideline ratio of 1:3 as between preference shares and
equity shares would not be applicable to these shares.
6. Arrears of dividend : The right to receive arrears of dividend up to the date of
conversion, if any, shall devolve on the holder of the equity shares on such

DBA 1724
conversion. The holder of the equity shares shall be entitled to receive the arrears
NOTES of dividend as and when the company makes profit and is able to declare such
dividend.
7. Voting right : CCPS would have voting rights as applicable to preference shares
under the companies Act, 1956.
8. Quantum : The amount of the issue of CCP shares would be to the extent the
company would be offering equity shares to the public for subscription.
COMPANY FIXED DEPOSITS
Fixed deposits are the attractive source of short-term capital both for the companies
and investors as well. Corporates favour fixed deposits as an ideal form of working
capital mobilization without going through the process of mortgaging assets. Investors
find fixed deposits a simple avenue for investment in popular companies at attractively
reasonable and safe interest rates. Moreover, investors are relieved of the problem of the
hassles of market value fluctuation to which instruments such as shares and debentures are
exposed. There are no transfer formalities either. In addition, it is quite possible for
investors to have the option of premature repayment after 6 months, although such an
option entails some interest loss.
Regulations
Since these instruments are unsecured, there is a lot of uncertainty about the repayment
of deposits and regular payment of interest. The issue of fixed deposits is subject to the
provisions of the Companies Act and the Companies (Acceptance of Deposits) Rules
introduced in February 1975. Some of the important regulations are:
1. Advertisement : Issue of an advertisement as approved by the Board of Directors
in dailies circulating in the state of incorporation.
2. Liquid assets : Maintenance of liquid assets equal to 15 percent (substituted for
10% by Amendment Rules, 1992) of deposits (maturing during the year ending
March 31) in the form of bank deposits, unencumbered securities of State and
Central Governments or unencumbered approved securities.
3. Disclosure : Disclosure in the newspaper advertisement the quantum of deposits
remaining unpaid after maturity. This would help highlight the defaults, if any, by
the company and caution the depositors.
4. Deemed public Company : Private company would become a deemed public
company (from June 1998, Section 43A of the Act) where such a private company,
after inviting public deposits through a statutory advertisement, accepts or renews
deposits from the public other than its members, directors or their relatives. This
provision, to a certain extent, enjoins better accountability on the part of the
management and auditors.

5. Default : Penalty under the law for default by companies in repaying deposits as
and when they mature for payment where deposits were accepted in accordance NOTES
with the Reserve Bank directions.
6. CLB : Empowerment to the Company Law Board to direct companies to repay
deposits, which have not been repaid as per the terms and conditions governing
such deposits, within a time frame and according to the terms and conditions of
the order.
WARRANTS
An option issued by a company whereby the buyer is granted the right to purchase a
number of shares of its equity share capital at a given exercise price during a given period
is called a ‘warrant’. Although trading in warrants are in vogue in the U.S,. Stock markets
for more than 6 to 7 decades, they are being issued to meet a range of financial requirements
by the Indian corporate.
A security issued by a company, granting its holder the right to purchase a specified
number of shares, at a specified price, any time prior to an expirable date is known as a
‘warrant’. Warrants may be issued with either debentures or equity shares. They clearly
specify the number of shares entitled, the expiration date, along with the stated/exercise
price. The expiration date of warrants in USA is generally 5 to 10 years from the date of
issue and the exercise price is 10 to 30 percent above the prevailing market price. Warrants
have a secondary market. The exchange value between the share of its current price and
the shares to be purchased at the exercise price represents the minimum value of warrant.
They have no floatation costs and when they are exercised, the firm receives additional
finds at a price lower than the current market, yet higher than those prevailing at the time of
issue. Warrants are issued by new/growing firms and venture capitalists. They are also
issued during mergers and acquisitions. Warrants in the Indian context are called
‘sweeteners’ and were issued by a few Indian companies since 1993.
Both warrants and rights entitle a buyer to acquire equity shares of the issuing company.
However, they are different in the sense that warrants have a life span of three to five years
whereas, rights have a life span of only four to twelve weeks (duration between the opening
and closing date of subscription list). Moreover, rights are normally issued to effect
current financing, and warrants are sold to facilitate future financing. Similarly, the exercise
price of warrant, i.e. The price at which it can be exchanged for share, is usually above the
market price of the share so as to encourage existing shareholders to purchase it. On the
other hand, one warrant buys one equity share generally, whereas more than one rights
may be needed to buy one share. The detachable warrant attached to each share provides
a right to the warrant holder to apply for additional equity share against each warrant.

DBA 1724
DEBENTURES AND BONDS

NOTES
A document that either creates a debt or acknowledges it is known as a debenture.
Accordingly, any document that fulfills either of these conditions is a debenture. A

debenture, issued under the common seal of the company, usually takes the form of a
certificate that acknowledges indebtedness of the company.
A document that shows on the face of it that a company has borrowed a sum of
money from the holder thereof upon certain terms and conditions is called a debenture.
Debentures may be secured by way of fixed or floating charges on the assets of the
company. These are the instruments that are generally used for raising long-term debt
capital.
Following are the features of a debenture

1. Issue : In India, debentures of various kinds are issued by the corporate bodies,
Government, and others as per the provisions of the Companies Act, 1956 and under the
regulations of the SEBI. Section 117 of the Companies Act prohibits issue of debentures
with voting rights. Generally, they are issued against a charge on the assets of the company
but at times may be issued without any such charge also. Debentures can be issued at a
discount in which case, the relevant particulars are to be filed with the Registrar of Companies.
2. Negotiability : In the case of bearer debentures the terminal value is payable to its
bearer. Such instruments are negotiable and are transferable by delivery. Registered
debentures are payable to the registered holder whose name appears both on the debenture
and in the register of debenture holders maintained by the company. Further, transfer of
such debentures should be registered. They are not negotiable instruments and contain a
commitment to pay the principal and interest.
3. Security : Secured debentures create a charge on the assets of the company. Such a
charge may be either fixed or floating. Debentures that are issued without any charge on
assets of the company are called ‘unsecured or marked debentures’.
4. Duration : Debentures, which could be redeemed after a certain period of time are
called Redeemable Debentures. There are debentures that are not to be returned except
at the time of winding up of the company. Such debentures are called Irredeemable
Debentures.
5. Convertibility : Where the debenture issue gives the option of conversion into equity
shares after the expiry of a certain period of time, such debentures are called Convertible
Debentures. Non-convertible Debentures, on the other hand, do not have such an exchange
facility.
6. Return : Debentures have a great advantage in them in that they carry a regular and
reasonable income for the holders. There is a legal obligation for the company to make
payment of interest on debentures whether or not any profits are earned by it.

7. Claims : Debenture holders command a preferential treatment in the matters of

distribution of the final proceeds of the company at the time of its winding up. Their claims NOTES
rank prior to the claims of preference and equity shareholders.
KINDS OD DEBENTURES
Innovative debt instruments that are issued by the public limited companies are
described below :
1. Participating debentures
2. Convertible debentures
3. Debt-equity swaps
4. Zero-coupon convertible notes
5. Secured Premium Notes (SPN) with detachable warrants
6. Non-Convertible Debentures (NCDs) with detachable equity warrant
7. Zero-interest Fully Convertible Debentures (FCDs)
8. Secured zero-interest Partly Convertible Debentures (PCDs) with detachable and
separately tradable warrants
9. Fully Convertible Debentures (FCDs) with interest (optional)
10. Floating Rate Bonds (FRB)
1. Participating debentures : Debentures that are issued by a body corporate which

entitle the holders to participate in its profits are called ‘Participating Debentures’. These
are the unsecured corporate debt securities. They are popular among existing dividend
paying corporates.
2. Convertible debentures
a. Convertible debentures with options are a derivative of convertible debentures
that give an option to both the issuer, as well as the investor, to exit from the terms
of the issue. The coupon rate is specified at the time of issue.
b. Third party convertible debentures are debts with a warrant that allow the
investor to subscribe to the equity of a third firm at a preferential price vis-à-vis
market price, the interest rate on the third party convertible debentures being lower
than pure debt on account of the conversion option.
c. Convertible debentures redeemable at a premium are issued at face value
with a put option entitling investors to sell the bond to the issuer, at a premium later
on. They are basically similar to convertible debentures but have less risk.
3. Debt-equity swaps : They are offered from an issue of debt to swap it for equity. The
instrument is quite risky for the investor because the anticipated capital appreciation may
not materialize.

DBA 1724
4. Zero-coupon convertible note : These are debentures that can be converted into
NOTES shares and on its conversion the investor forgoes all accrued and unpaid interest. The
zero-coupon convertible notes are quite sensitive to changes in the interest rates.
5. SPN with detachable warrants : These are the Secured Premium Notes (SPN) with
detachable warrants. These are the redeemable debentures that are issued along with a
detachable warrant. The warrant entitles the holder to apply and get equity shares allotted,
provided the SPN is fully paid. The warrants attached to it assure the holder such a right.
No interest will be paid during the lock-in period for SPN.
The SPN holder has an option to sell back the SPN to the company at par value after
the lock-in period. If this option is exercised by the holder, no interest/premium will be
paid on redemption. The holder will be repaid the principal and the additional interest/
premium amount in installments as may be decided by the company. The conversion of
detachable warrant into equity shares will have to be done within the time limit notified by
the company.
6. NCDs with detachable equity warrants : These are Non-Convertible Debentures

(NCDs) with detachable equity warrants. These entitle the holder to buy a specific number
of shares from the company at a predetermined price within a definite time frame. The
warrants attached to NCDEs are issued subject to full payment of the NCDs’ value. The
option can be exercised after the specific lock-in period. The company is at liberty to
dispose off the unapplied portion of shares if the option to apply for equalities is not exercised.
7. Zero interest FCDs : These are Zero-interest Fully Convertible Debentures on which
no interest will be paid by the issuer during the lock-in period. However, there is a notified
period after which fully paid FCDs will be automatically and compulsorily converted into
shares. In the event of a company going in for rights issue prior to the allotment of equity
(resulting from the conversion of equity shares into FCDs), it shall do so only after the
FCD holders are offered securities.
8. Secured Zero interest PCDs with detachable and separately tradable warrants
These are Secured Zero Interest Partly Convertible Debentures with detachable and
separately tradable warrants. They are issued in two parts. Part A is a convertible portion
that allows equity shares to be exchanged for debentures at a fixed amount on the date of
allotment. Part B is a non-convertible portion to be redeemed at par at the end of a
specific period from the date of allotment. Part B which carries a detachable and separately
tradable warrant provides the warrant holder an option to received equity shares for every
warrant held, at a price worked out by the company.
9. Fully Convertible Debentures (FCDs) with interest(optional) These are the

debentures that will not yield any interest for an initial short period after which the holder is
given an option to apply for equities at a premium. No additional amount needs to be paid

for this. The option has to be indicated in the application form itself. Interest on FCDs is
payable at a determined rate from the date of first conversion to the date of second/final NOTES
conversion and in lieu of it, equity shares will be issued.
10. Floating Rate Bonds (FRB’s) These are the bonds where the yield is linked to a
benchmark interest rate like the prime rate in USA or LIBOR in the Euro currency market.
For instance, the Sate Bank of India’s floating rate bond, issue was linked to the maximum
interest on term deposits that was 10 percent at the time. The floating rate is quoted in
terms of a margin above of below the benchmark rate. Interest rates linked to the benchmark
ensure that neither the borrower nor the lender suffer from the changes in interest rates.
Where interest rates are fixed, they are likely to be inequitable to the borrower when
interest rates fall and inequitable to the lender when interest rates rise subsequently.
Shares Vs. Debentures

1. Shareholder has a proprietary interest in the company, and debenture holder is
only a creditor of the company.
2. Debenture holder is entitled to fixed interest whereas the shareholder is entitled to
dividends depending on and varying with profits.
3. Shareholders have voting rights whereas debenture holders do not have voting
rights.
4. Debentures may be redeemable whereas share except preference shares are not
redeemable
5. Debenture holders get priority over shareholders when assets are distributed upon
winding up
SEBI GUIDELINES
The preferential issue of equity shares/Fully Convertible Debentures (FCDs/Partly

Convertible Debentures (PCDs) or any other financial instruments which would be
converted into or exchanged with equity shares at a later date, by listed companies whose
equity share capital is listed on any stock exchange, to any selected group of persons
under the Companies Act, 1956 on private placement basis shall be governed by these
guidelines.
Such preferential issues by listed companies by way of equity shares/Fully Convertible

Debentures (FCDs)/Partly Convertible Debentures (PCDs) or any other financial
instruments which would be converted into/exchanged with equity shares at a later date,
shall be made in accordance with the pricing provisions mentioned below
PRICING OF THE ISSUE
Preferential Issue of Shares : The issue of shares on a preferential basis can be made
at a price not less than the higher of the following :

DBA 1724
a. The average of the weekly high and low of the closing prices of the related shares
NOTES quoted on the stock exchange during the six months preceding the relevant date
(thirty days prior to the date on which the meeting of general body of shareholders
is held in terms of Section 81(1A) of the Companies Act, 1956 to consider the
proposed issue) ( or )
b. The average of the weekly high and low of the closing prices of the related shares
quoted on a stock exchange (any of the recognized stock exchanges in which the
shares are listed and in which the highest trading volume in respect of the shares of
the company has been recorded during the preceding 6 months prior to the relevant
date) during the two weeks preceding the relevant date.
Pricing of Shares arising out of warrants, etc
Where warrants are issued on a preferential basis with an option to apply for and be
allotted shares, the issuer company shall determine the price of the resultant shares. The
relevant date for the above purpose may, at he option of the issuer be either the one
referred to above or a date 30 days prior to the date on which the holder of the warrants
becomes entitled to apply for the said shares. The resolution to be passed in terms of
section 81(1A) shall clearly specify the relevant date on the basis of which price of the
resultant shares shall be calculated.
An amount equivalent to at least ten percent of the price fixed in terms of the above
shall become payable for the warrants on the date of their allotment. The amount referred
to above shall be adjusted against the price payable subsequently for acquiring the shares
by exercising an option for the purpose. The amount so referred to above shall be forfeited
if the option to acquire shares is not exercised.
Pricing of shares on conversion : Where PCDs/FCDs/other convertible instruments,

are issued on a preferential basis, providing for the issuer to allot shares at a future date,
the issuer shall determine the price at which the shares could be allotted in the same
manner as specified for pricing of shares allotted in lieu of warrants as indicated above.
Currency of Financial instruments
In case of warrants/PCDs/FCDs/or any other financial instruments with a provision

for the allotment of equity shares at a future date, either through conversion or otherwise,
the currency of the instruments shall not exceed beyond 18 months from the date of issue
of the relevant instrument.
Non-transferability of Financial Instruments
The instruments allotted on a preferential basis to the promoter/promoter group shall

be subject to lock-in period of 3 years from the date of their allotment. In any case, not
more than 20 percent of the total capital (equity share capital issued by way of public/
rights issue including equity shares emerging at a later date out of any convertible securities/

exercise of warrants and equity shares or any other security convertible at a later date into
equity issued on a preferential basis in favor of promoter/promoter groups) of the company, NOTES
including capital brought in by way of preferential issue, shall be subject to lock-in of 3
years from the date of allotment. The lock-in on shares acquired by conversion of the
convertible instrument/exercise of warrants, shall be reduced to the extent the convertible
instrument warrants have already been locked-in.
For computation of 20 percent of the total capital of the company, the amount of
minimum promoters contribution held and locked-in, in the past as per guidelines shall be
taken into account. The minimum promoters contribution shall not again be put under
fresh lock-in, even though it is considered for computing the requirement of 20 percent of
the total capital of the company, in case the said minimum promoters contribution is free of
lock-in at the time of the preferential issue.
These locked in shares/instruments can be transferred to and amongst promoter/

promoter group subject to continuation of lock-in the hands of transferees for the remaining
period, and compliance of Securities and Exchange Board of India (Substantial Acquisition
of shares and Takeovers) Regulations, 1997, if applicable.
Currency of Shareholders Resolutions
Allotment pursuant to any resolution passed at a meeting of shareholders of a DFI

granting consent for preferential issues of any financial instrument, shall be completed within
a period of 3 months from the date of passing of the resolution. If allotment of instruments
and dispatch of certificates is not completed within three months from the date of such
resolution, a fresh consent of the shareholders shall be obtained and the relevant date
referred to above will relate to the new resolution.
Certificate from Auditors
In case of every issue of shares/warrants/FCDs/PCDs/other financial instruments

having conversion option, the statutory auditors of the issuer DFI shall certify that the issue
of said instruments is being made in accordance with the requirements contained in these
guidelines. Copies of the auditors certificate shall also be laid before the meeting of the
shareholders convened to consider the proposed issue.
Preferential Allotments to FIIs
Preferential allotments, if any to be made in case of Foreign Institutional Investors,

shall also be governed by the guidelines issued by the Government of India/Board/Reserve
Bank of India on the subject.

DBA 1724
Non-applicability of the Guidelines

NOTES
The above guidelines shall not be applicable where the further shares are allotted in
pursuance to the merger and amalgamation scheme approved by the High Court and
where further shares are allotted to a person/group of persons in accordance with the
provisions of rehabilitation packages approved by BIFR.
In case, such persons are promoters or belong to promoter group lock-in provisions
shall continue to apply unless otherwise stated in the BIFR order. Similarly, the above
guidelines are not applicable where further shares are allotted to all India public financial
institutions in accordance with the provision of the loan agreements signed prior to August
4, 1994.
GLOBAL DEBT INSTRUMENTS
Following are some of the debt instruments that are popular in the international financial
markets :
Income Bonds
Interest income on such bonds is paid only where the corporate command adequate
cash flows. They resemble cumulative preference shares in respect of which fixed dividend
is paid only if there is profit earned in a year, but carried forward and paid in the following
year. There is no default on income bonds if interest is not paid. Unlike the dividend on
cumulative preference shares, the interest on income bond is tax deductible. These bonds
are issued by corporates that undergo financial restructuring.
Asset Backed Securities
These are a category of marketable securities that ate collateralized by financial assets
such as installment loan contracts. Asset backed financing involves a disinter- mediating
process called ‘securitization’, whereby credit from financial intermediaries in the form of
debentures are sold to third parties to finance the pool. REPOS are the oldest asset
backed security in our country. In USA, securitization has been undertaken for the following
the oldest asset backed security in our country. In USA, securitization has been undertaken
for the following :
1. Insured mortgages
2. Mortgage backed bonds
3. Student loans
4. Trade credit receivable backed bonds
5. Equipments leasing backed bonds
6. Certificates of automobile receivable securities
7. Small business administration loans
8. Credit and receivable securities

Junk Bonds
NOTES
Junk bond is a high risk, high yield bond which finances either a Leveraged Buyout
(LBO) or a merger of a company in financial distress Junk bonds are popular in the USA
and are used primarily for financing takeovers. The coupon rates range from 16 to 25
percent. Attractive deals were put together establishing their feasibility in terms of adequacy
of cash flows to meet interest payments. Michael Milken (the junk bond king) of Drexel
Burmham Lambert was the real developer of the market.
Indexed Bonds
These are the bonds whose interest payment and redemption value are indexed with
movements in prices. Indexed bonds protect the investor from the eroding purchasing
power of money because of inflation. For instance, an inflation-indexed bond implies that
the payment of the coupon and/or the redemption value increases of decreases according
to movements in prices. The bonds are likely to hedge the principal amount against inflation.
Such bonds are designed to provide investors an effective edge against inflation so as to
enhance the credibility of the anti-inflationary policies of the Government. The yields of an
inflation-indexed bond provide vital information on the expected rate of inflation.
United Kingdom, Australia, and Canada have introduced index linked government
securities as a segmented internal debt management operation with a view to increase the
range of assets available in the system, provide an inflation hedge to investors, reduce
interest costs and pick up direct signals, and the expected inflation and real rate of interest
from the market.
Zero-Coupon Bonds (ZCBs)/Zero Coupon Convertible Debentures
Zero Coupon Bonds first came to be introduced in the U.S. securities market. Initially,
such bonds were issued for high denominations. These bonds were purchased by large
security brokers in large chunks, who resold them to individual investors, at a slightly
higher price in affordable lots. Such bonds were called “Treasury Investment Growth
Receipts’(TIGRs) or ‘Certificate of Accruals on Treasury Securities’ (CATSs) or ZEROs
as their coupon rate is Zero.
Moreover, these certificates were sold to investors at a hefty discount and the difference
between the face value of the certificate and the acquisition cost was the gain. The holders
are not entitled for any interest except the principal sum on maturity.
Advantages : Zero-Coupon Bonds offer a number of advantages as shown below

a. No botheration of periodical interest payment for the issues
b. The attraction of conversion of bonds into equity shares at a premium or at par, the
investors usually being rewarded by way of a low premium on conversion

DBA 1724
c. There is only capital gains tax on the price differential and there is no tax on accrued
NOTES income
d. Possibility of efficient servicing of equity as there is no obligation to pay interest till
maturity and the eventual conversion.
Mahindra & Mahindra came out with the scheme of Zero Coupon Bonds for the first
time in India along with 12.5 percent convertible bonds for part financing of its modernization
and diversification scheme. Similarly, Deep Discount Bonds were issued by IDBI at
Rs.2,000 for a maturity of Rs.1 lakh after 25 years. These are negotiable instruments
transferable by endorsement and delivery by the transferor. IDBI also offered Option
Bonds which may be either cumulative or non-cumulative bonds where interest is payable
either on maturity or periodically. Redemption is also offered to attract investors.
Floating Rate Bonds (FRB’s)
Bonds that carry the provision for payment of interest at different rates for different
time periods are known as ‘Floating Rate Bonds’. The first floating rate bond was issued
by the SBI in the Indian capital market. The SBI, while issuing such bonds, adopted a
reference rate of highest rate of interest on fixed deposit of the Bank, provided a minimum
floor rate payable at 12 percent p.a. and attached a call option to the Bank after 5 years to
redeem the bonds earlier than the maturity period of 10 years at a certain premium. A
major highlight of the bonds was the provision to reduce interest risk and assurance of
minimum interest on the investment provided by the Bank.
Secured Premium Notes (SPNs)
Secured debentures that are redeemable of a premium over the issue price or face
value are called secured premium notes. Such bonds have a lock-in period during which
period no interest will be paid. It entitles the holder to sell back the bonds to the issuing
company at par after the lock-in period.
A case in point was the issue made by the TISCO in the year 1992, where the
company wanted to raise money for its modernization program without expanding its
equity excessively in the next few years. The company made the issue to the existing
shareholders on a rights basis along with the rights issue. The salient features of the TISCO
issue were as follows :
1. Face value of each SPN was Rs.300
2. No interest was payable during the first three years after allotment
3. The redemption started at the end of the fourth year of issue
4. Each of the SPN of Rs.300 was repaid in four equal annual installments of Rs.75,
which comprised of the principal, the interest and the relevant premium. (Low
interest and high premium or high interest and low premium, at the option to be
exercised by the SPN holder at the end of the third year)

5. Warrant attached to each SPN entitled the holder the right to apply for or seek
allotment of one equity share for cash payment of Rs.80 per share. Such a right NOTES
was exercisable between first year and one.-and-a-half year after allotment by
which time the SPN would be fully paid up.
This instrument tremendously benefited TISCO, as there was no interest outgo. This
helped TISCO to meet the difficulties associated with the cash generation. In addition, the
company was able to borrow at a cheap rate of 13.65 percent as against 17 to 18 percent
offered by most companies. This enabled the company to start redemption earlier through
the generation of cash flow by the company’s projects. The investors had the flexibility of
tax planning while investing in SDPNs. The company was also equally benefited as it gave
more flexibility.
Euro Convertible Bonds
Bonds that give the holders of euro bonds to have the instruments converted into a
wide variety of options such as the call option for the issuer and the put option for the
investor, which makes redemption easy are called ‘Euro-convertible bonds’. A euro-
convertible bond essentially resembles the Indian convertible debenture but comes with
numerous options attached. Similarly, a euro-convertible bond is an easier instrument to
market than equity. This is because it gives the investor an option to retain his investments
as a pure debt instrument in the event of the price of the equity share falling below the
conversion price or where the investor is not too sure about the prospects of the company.
Popularity of convertible euro bonds
A convertible bond issue allows an Indian company far greater flexibility to tap the
Euro market and ensures that the issue has a better market reception than would be
possible for a direct equity issue. Moreover, newly industrialized countries such as Korea
have chosen the convertible bond market as a stepping-stone to familiarity and acceptance
of their industrial companies in the international market. The convertible bonds offer the
following advantages:
a. Protection : Euro convertible bonds are favoured by international investors as it
offers them the advantage of protection of their wealth from erosion. This is possible
because the conversion is only an option, which the investors may choose to
exercise only if it works to their benefit. This facility is not available for equity
issues.
b. Liquidity : Convertible bond market offers the benefit of the most liquid secondary
market for new issues. Fixed income funds as well as equity investment managers
purchase convertible bonds.
c. Flexibility : The feature of flexibility in structuring convertible bonds allows the
company to include some of the best possible clauses of investors’ protection by
incorpo0rating the unusual features of equity investments. A case in point is the

DBA 1724
issues made by the Korean corporate sector, which contained a provision in the
NOTES issue of convertible euro bonds. The provision entitled the holders to ensure the
due compliance of the liberalization measures that had already been announced
within a specified period of time. Such a provision enabled the investor to opt for
a ‘put’ option.
d. Attraction investment : The issue of convertible debentures facilitates removal
of many of the unattractive features of equity investment. For investors, convertible
bond market makers are the principal sources of liquidity in their securities.
Bond Issue – Indian Experience
In recent times, all-India financial institutions have come to design and introduce special
and innovative bond instruments exclusively structured on the investors’ preferences and
funds requirement of the issuers. The emphasis from the issuer’s view point is the resource
mobilization and not risk exposure. Several financial institutions such as the IDBI, the
ICICI, etc. are engaged in the sale of such bonds. A brief description of some these
bonds are presented below :
1. IDBI’s Zero Coupon Bonds, 1996 :
These bonds are sold at a discount and are paid no interest. It is of great advantage
to issuers as it is not required for them to make periodic interest payment.
2. IDBI’s Regular Income Bonds, 1996 :
These were the bonds issued by the IDBI as 10-year bonds carrying a coupon of 16
percent, payable half-yearly. The bonds provided an annualized yield equivalent to 16.64
percent. The bonds, which were priced at Rs.5,000 can be redeemed at the end of every
year, after the third year allotment. There was also a call option that entitled the IDBI to
redeem the bonds five years from the date of allotment.
3. Retirement Bonds, 1996 :
The IDBI Retirements Bonds were issued at a discount. The issue targeted investors
who are planning for retirement. Under the scheme,. Investors get a monthly income for
10 years after the expiry of a wait period, the wait period being chosen by the investor.
Thereafter, the investors also get a lump sum amount, which is the maturity value of the
bond.
4. IFCI’s Bonds, 1996
These bonds include :
a. Deep Discount Bonds – Issued for a face value of Rs.1 lakh each.
b. Regular Income and Retirement Bonds – They had a five-year tenure, a semi-
annual yield of 16 percent and a front-end discount of 4 percent. The bonds had
three-year put option and an early bird incentive of 0.75 percent.

c. Step-up Liquid Bond – The five-year bonds with a put option every year with a
return of 16 percent, 16.25 percent, 16.5 percent, 16.75 percent, and 17 percent NOTES
at the end of every year.
d. Growth Bond – An investment of Rs.20,000 per bond under this scheme entitles
investors to a Rs.1 lakh face-value bond maturing after 10 years. Put options can
be exercised at the end of 5 and 7 years respectively. If exercised, the investor
gets Rs.43,500 after 5 years and Rs.60,000 after a 7 year period.
e. Lakhpati Bond – The maturity period of these bonds varied from l5 to 10 years,
after which the investor gets Rs.1 lakh. The initial investment required was
Rs.20,000 for 10 years maturity, Rs,.23,700 for 9 years, Rs,28,000 for 8 years,
Rs.33,000 for 7 years, Rs.39,000 for 6 years and Rs.46,000 for 5 years maturity.
5. ICICI’s Bonds, 1997
ICICI came out with as many as five bonds in March 1997. These are encash
bonds, index bonds, regular income bonds, deep discount bonds, and capital gain bonds.
The bonds were aimed at meeting the diverse needs of all categories of investors, besides
contributing to the widening of the bond market so as to bring the benefits of these securities
to even the smallest investors.
a. Capital gains bond - Also called infrastructure bonds incorporated the capital
gains tax relaxations under Section 54EA of the Income Tax Act announced in the
Union Budget for 1997-98. They are issued for 3 and 7 years maturity. 20
percent rebate was available under Section 88 of the I.T. Act for investors on the
amount invested in the capital gains bonds up to a maximum of Rs.70,000. They
can avail benefit under Section 88. The annual interest rate worked out to 13.4
percent while the annual yield came to 20.7 percent. However, investment through
stock invest will not qualify for the rebate.
b. Encash Bond – The five-year encash bonds were issued at a face value of
Rs.2,000 and can be redeemed at par across the country in 200 cities during 8
months in a year after 12 months. The bond had a step-up interest every year
from 12 to 18.5 percent and the annualized yield at maturity for the bond works
out to 15.8 percent. The encashing facility, however, is available only to the original
bondholders. The bonds not only offer higher return but also help widen the
banking facilities to investors. The secondary market price of the bonds is likely
to be favourably influenced by the step-up interest that results in an improved
YTM every year.
c. Index Bond – It gives the investor both the security of the debt instrument and
the potential of the appreciation in the return on the stock market. Priced at
Rs.6,000 the index bond has two parts:
Part A is a deep discount bond of the face value of Rs.22,000 issued for a 12 year
period. Its calculated yield was 15.26 percent. It also has a call and a put option attached
to it assuring the investor a return of Rs.9,300 after 6 years option is exercised. Part B is

DBA 1724
a detachable index warrant issued for 12 years and priced at Rs.2,000. The yield was
NOTES linked to the BSE SENSEX. The face value of the bond will appreciate the number of
times the SENSEX has appreciated. The investors’ returns will be treated as capital gains.
6. Tax Free Bonds : The salient features of the tax-free Government of India bonds to
be issued from October 1,2002 are as follows :
a. Interest rate – The bonds will carry an interest rate of 7 percent.
b. Tax exemption – The bonds will be exempt from Income-tax and Wealth-tax.
c. Maturity – The bonds will have a maturity period of six years.
d. Ceiling –The bonds investment will have no ceiling.
e. Tradability - The bonds will not be traded in the secondary market.
f. Investors – The eligible investors include individuals and Hindu Undivided Families,
NRIs are not eligible for investing in these bonds.
g. Issue price Bonds will be issued for a minimum amount of Rs.1,000 and its
multiples.
h. Maturity value – The cumulative maturity value of the bond will be Rs.1.511 at
the end of six years.
i. Form of issue – The bonds will be both in demat form as well as in the traditional
form of stock certificates. Option once chosen cannot be changed.
j. Transferability – Bonds will not be transferable except by way of gift to relatives
as defined in the Companies Act.
k. Collaterals – The bonds cannot be used as collaterals for obtaining loans from
banks, financial institutions and non-banking financial companies.
l. Nomination – A sole holder or a sole surviving holder of the bond being an
individual can make a nomination.
3. 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 invite the public for the subscription/purchase of any securities of a
company.
PROSPECTUS FOR PUBLIC OFFER

1. Regular prospectus
2. Abridged prospectus
3. Prospectus for rights issue
4. Disclosures in prospectus
5. Disclosures in abridged prospectus and letter of offer

1. REGULAR PROSPECTUS
NOTES
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’
4. SELECTION OF BANKERS
Merchant bankers assist in selecting the appropriate bankers based on the proposals
or projects. Because the commercial bankers are merely financiers and their activities are

DBA 1724
appropriately arrayed around credit proposals, credit appraisal and loan sanctions. But
NOTES merchant banking include services like project counseling , corporate counseling in areas
of capital restructuring amalgamations, mergers, takeover etc., discounting and rediscounting
of short term paper in money markets, managing, underwriting and supporting public issues
in new issue market and acting as brokers and advisers on portfolio management in stock
exchange.
5. 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.
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 to deciding the number of copies to be printed,
checking accuracy of statements made and ensure that the size of the application form 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.
6. 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
and money received from investors or paid to the seller of securities and assisting companies
in determining the basis of allotment of securities in consultation with stock exchanges,
finalizing the allotment of securities and processing/despatching allotment letters, refund

orders, certificates and other related documents in respect of issue of capital. The share
transfer agents maintain the records of holders of securities or on behalf of companies, and NOTES
deal with all matters connected with the transfer/redemption of its securities. To carry on
their activities, they must be registered with the SEBI which can also renew the certificate
of registration.
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.
It also takes into account the fact that any connected person has not been granted registration
and any director/partner/principal officer has not been convicted for any offence involving
moral turpitude or has been found guilty of any economic offence.
CAPITALADEQUACY FEE
The capital adequacy requirement in terms of net worth (capital and free reserves)
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 requirements are not applicable
since November 1999 for a department/division of a body corporate maintaining the records
of holders of securities issued by them and deal with all matters connected with transfer/
redemption of securities. The two categories of registrars and transfer agents had to pay
an annual fee respectively of Rs.15,000 and Rs.10,000 for initial registration a well as
renewal. With effect from November 1999, while Category I is required to pay a registration
fee of Rs.50,000 and a renewal fee of Rs.40,000 every three years, Category II has to
pay Rs.30,000 and Rs.25,000 respectively.
GENERAL OBLIGATIONS AND RESPONSIBILITIES
CODE OF CONDUCT FOR REGSTER TO AN ISSUE AND SHARE

TRANSFER AGENTS:
A registrar to an issue and share transfer agent should :

1. Maintain high standards of integrity in the conduct of its business.
2. Fulfill its obligations in a prompt, ethical and professional manner.
3. At all times exercise due diligence, ensure proper care and exercise independent
professional judgment.

DBA 1724
4. Exercise adequate care, caution and due diligence before dematerialization of

NOTES securities by confirming and verifying that the securities to be dematerialized have
been granted listing permission by the stock exchange(s).
5. Always endeavour to ensure that (a) inquiries from investors are adequately dealt
with; (b) grievances of investors are redressed without any delay; (c) transfer of
securities held in physical form and confirmation of dematerialization/
rematerialisation requests and distribution of corporate benefits and allotment of
securities is done within the time specified under any law.
6. Make reasonable efforts to avoid misinterpretation and ensure that the information
provided to the investors is not misleading.
7. Not reject the dematerialization/rematerialisation requests on flimsy grounds. Such
requests could be rejected only on valid and proper grounds and supported by
relevant documents.
8. Avoid conflict of interest and make adequate disclosure of its interest.
9. Put in place a mechanism to resolve any conflict of interest situation that may arise
in the conduct of its business or where any conflict of interest arises, should take
reasonable steps to resolve the same in an equitable manner.
10. Make appropriate disclosure to the client of its source or potential areas of conflict
of duties and interest which would impair its ability to render fair, objective and
unbiased services.
11. Not indulge in any unfair competition, which is likely to harm the interests of other
registrar to the issue and share transfer agent or investors or is likely to place him
in disadvantageous position while competing for or executing any assignment.
12. Always endeavour to render the best possible advice to the clients having regard
to their needs.
13. Not divulge to other clients, press or any other person any confidential information
about its clients which as come to its knowledge except with the approval/
authorization of the client or when it is required to disclose the information under
any law for the time being in force.
14. Not discriminate among its clients, save and except on ethical and commercial
considerations.
15. Ensure that any change in registration status/any penal action taken by the SEBI or
any material change in financials which may adversely affect the interest of clients/
investors is promptly informed to the clients.
16. Maintain the required level of knowledge and competence and abide by the
provisions of the SEBI Act, rules, regulations, circulars and directions issued by
the SEBI and also comply with the award of the Ombudsman under the SEBI
(Ombudsman) Regulations, 2003.
17. Co-operate with the SEBI as and when required.

18. Not neglect or fail or refuse to submit to the SEBI or other agencies with which he
is registered, such books, documents, correspondence, and papers or any part NOTES
thereof as may be demanded/requested from time to time.
19. Ensure that the SEBI is promptly informed about any action, legal proceeding, etc.
Initiated against it in respect of any material breach or non-compliance by it, of any
law, rules, regulations, directions of the SEBI or of any other regulatory body.
20. Take adequate and necessary steps to ensure that continuity in data and record-
keeping is maintained and that the data or records are not lost or destroyed.
Further, it should ensure that for electronic records and data, up-to-date back up
is always available with it.
21. Endeavour to resolve all the complaints against it or in respect of the activities
carried out by it as quickly as possible.
22. (a) Not render, directly or indirectly any investment advice about any security in
the publicly accessible media, whether real-time or non-real time, unless a disclosure
of its long or short position in he securities has been made, while rendering such
advice; (b) In case an employee of a registrar to an issue and share transfer agent
is rendering such advice, the registrar to an issue and share transfer agent should
ensure that it also discloses its own interest, the interests of his dependent family
members and that of the employer including their long or short position in the
security, while rendering such advice.
23. Handover all the records/data and all related documents which are in its possession
in its capacity as a registrar to an issue and/or share transfer agent to the respective
clients, within one month from the date of termination of agreement with the
respective clients within or within one month from the date of expiry/cancellation
of certificate of registration as registrar to an issue and/or share transfer agent,
whichever is earlier.
24. Not make any exaggerated statement, whether oral or written, to the clients either
about its qualifications or capability to render certain services or should its
achievements in regard to services rendered to other clients.
25. Ensure that it has satisfactory internal control procedures in place as well as adequate
financial and operational capabilities which can be reasonably expected to take
care of any losses arising due to theft, fraud and other dishonest acts, professional
misconduct or omission.
26. Provide adequate freedom and powers to its compliance officer for the effective
discharge of its duties.
27. Develop its own internal code of conduct for governing its internal operations and
laying down its standards of appropriate conduct for its employees and officers in
carrying out its duties as a registrar to an issue and share transfer agent and as a
part of the industry. Such a code may extend to the maintenance of professional
excellence and standards, integrity, confidentiality, objectivity, avoidance of conflict
of interests, disclosure of shareholdings and interests, etc.
28. Ensure that good corporate policies and corporate governance are in place.

DBA 1724
29. Ensure that any person it employs or appoints to conduct business is fit and proper
NOTES and otherwise qualified to act in the capacity so employed or appointed (including
having relevant professional training or experience).
30. Be responsible for the acts or omissions of its employees and agents in respect of
the conduct of its business.
31. Not in respect of any dealings in securities be party to or instrumental for: (a)
creation of false market, (b) price rigging or manipulations; (c) passing of unpublished
price sensitive information in respect of securities which are listed and proposed
to be listed in any stock exchange to any person or intermediary.
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 applications together
with reasons, basis of allotment of securities in consultation with the stock exchanges,
terms and conditions of purchase of securities, allotment of securities, list of allottees and
non-allotees, refund orders, and so on. In addition, they should also keep a record to the
list of holders of securities of corporates, the names of 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 the books of accounts, other
records, and documents of the registrars and share transfer agents to ensure that they are
being maintained in a proper manner and the provisions of the SEBI Act, rules, regulations
and the provisions of the SCRA and the relevant rules are complied with, to investigate
into complaints from investors/other registrars and share transfer agents/other intermediaries
in the securities market or any matter relating to their activities, and to investigate on its
own in the interest of securities market/investors into their affairs. On the basis of the
inspection report, the SEBI can direct the concerned partly to take such measures as it
deems fit in the circumstances. 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/share transfer agent who fails to comply with any condition subject to
which registration is granted, or contravenes any of the provisions of the SEBI Act/SCRA,
rules/regulations and stock exchange bye-laws, rules and regulations is liable to suspension
or cancellation of registration.
The penalty for suspension is imposed for (a) violations of the provisions of the SEBI
Act, rules/regulations, (b) non-observance of the code of conduct, (c) failure to furnish
information, furnishing of wrong/false information, non-submission of periodical information

and non-cooperation in any enquiry, (d) failure to resolve investor complaints or give a
satisfactory reply to the SEBI in this behalf, (e) involvement in manipulation/price rigging/ NOTES
cornering activities, (f) guilty of misconduct/improper business-like or unprofessional
conduct business-like or unprofessional conduct, (g) failure to maintain capital adequacy
requirement or to pay the requirement or to pay the requisite fee; and (h) violation of the
conditions of registration.
In case of their repeated defaults, the certificate of registration can be cancelled. The
other reasons for cancellation of registration are deliberate manipulation/price rigging/
cornering activities affecting the securities market and the investor interest; violation of the
provisions of the SEBI Act, rules/regulations; violation of any provisions of insider trading/
take-over regulations and guilty of fraud/conviction on a criminal offence. The procedure
for inspection, holding enquiry and suspension/cancellation is the same as in the case of
lead managers, underwriters, bankers to the issue, and so on.
8. UNDERWRITERS
Another important intermediary in the new issue/primary market is the underwriters

to issues of capital who 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, its organization is an important element of
the primary market. Underwriters are appointed by the issuing companies in consultation
with the lead managers/merchant bankers to the issues. A statement to the effect that in the
opinion of the lead manager, the underwriters’ assets are adequate to meet their obligation
should be incorporated in the prospectus.
REGISTRATION
To act as underwriter, a certificate of registration must be obtained from the SEBI. In

granting the certificate of registration, the SEBI considers all matters relevant/relating to
the underwriting and in particular,
a) the necessary infrastructure like adequate office space, equipment and manpower
to effectively discharge the activities
b) past experience in underwriting/employment of at least two persons with experience
in underwriting
c) any person directly/indirectly connected with the applicant is not registered with
the SEBI as under or a previous application of any such person has been rejected
or any disciplinary action has been taken against such person under the SEBI Act/
rules/regulations,
d) capital adequacy requirement of not less than net worth (capital + free reserves) of
Rs.20 lakhs; and
e) the applicant/director/principal officer/partner has been convicted of offence
involving moral turpitude or found gully of any economic offence.

DBA 1724
FEE
NOTES
Underwriters, had to, for grant or renewal of registration, pay a fee to the SEBI from
the date of initial grant of certificate, Rs. 2 lakhs for the first and second years and Rs.1
lakh for the third year. A fee of Rs.20,000 was payable every year to keep the certificate
in force or for its renewal. Since 1999, the registration fee has been raised to Rs.5 lakhs.
To keep the registration in force, renewal fee of Rs.2 lakhs every three years from the
fourth year from the date of initial registration is payable. Failure to pay the fee would result
in the suspension of the certificate of registration.
GENERAL OBLIGATIONS AND RESPONSIBILITIES
CODE OF CODUCT 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 in the conduct of its business.
3. Ensure that it and its personnel will act in an ethical manner in all its dealings with a
body corporate making an issue of securities (i.e. the issuer).
4. Endeavour to ensure all professional dealings are effected in a prompt, efficient
and effective manner.
5. At all times render high standards of service, exercise due diligence, ensure proper
care and exercise independent professional judgment.
6. Not make any statement, either oral or written, which would misrepresent (a) the
services that the underwriter is capable of performing for its client, or has rendered
to any other issuer company; (b) his underwriting commitment.
7. Avoid conflict of interest and make adequate disclosure of his interest.
in the conduct of its business or where any conflict of interest arises, should take
reasonable steps to resolve the same in any equitable manner.
9. Make appropriate disclosure to the client of its possible source or potential in
areas of conflict of duties and interest while acting as underwriter which would
impair its ability to render fair, objective and unbiased services.
10. Not divulge to other issuer, press or any party any confidential information about
its issuer company, which has come to its knowledge and deal in securities of any
issuer company without making disclosure to the SEBI as required under these
regulations and also to the Board directors of the issuer company.
11. Not discriminate amongst its clients, save and except on ethical and commercial
considerations.
12. Ensure that any charge in registration status/any penal action taken by SEBI or any
material change in financials which may adversely affect the interests of clients/
investors is promptly informed to the clients and any business remaining outstanding

is transferred to another registered person in accordance with any instructions of

the affected clients/investors. NOTES
13. Maintain an appropriate level of knowledge and competency and abide by the
provisions of the SEBI Act, regulations, circulars and guidelines issued by the
SEBI. The underwriter should also comply with the award of the Ombudsman
under the SEBI (Ombudsman) Regulations, 2003.
14. Ensure that the SEBI is promptly informed about any action, legal proceedings,
etc. initiated against it in respect of any material breach or non-compliance by it, of
any law, rules, regulations, directions of the SEBI or of any other regulatory body.
15. Not make any untrue statement or suppress any material fact in any documents,
reports, papers or information furnished to the SEBI.
16. (a) Not render, directly or indirectly any investment advice about any security in
the publicly accessible media, whether real-time or non-real-time, unless a disclosure
of his interest including its long or short position in the security has been made,
while rendering such advice; (b) In case an employee or an underwriter is rendering
such advice, the underwriter should ensure that he should disclose his interest,
the interest of his dependent family members and that of the employer including
their long or short position in the security, while rendering such advice.
17. Not either through its account or their respective accounts or through their associates
or family members, relatives or friends indulge in any insider trading.
18. Not indulge in any unfair competition, which is likely to be harmful to the interest of
other underwriters carrying on the business of underwriting or likely to place such
other underwriters in a disadvantageous position in relation to the underwriter
while competing for, or carrying out any assignment.
19. Have internal control procedures and financial and operational capabilities which
can be reasonably expected to protect its operations, its clients and other registered
entities from financial loss arising from theft, fraud, and other dishonest acts,
professional misconduct or commissions.
discharge of his duties.
the carrying out of their duties. Such a code may extend to the maintenance of
professional excellence and standards, integrity, confidentiality, objectivity,
avoidance of conflict of interest, disclosure of shareholdings and interests, etc.
22. Ensure that good corporate policies and corporate governance is in place.
23. Ensure that any person it employs or appoints to conduct business is fit and proper
and otherwise qualified to act in the capacity so employed or appointed (including
having relevant professional training or experience).
24. Ensure that it has adequate resources to supervise diligently and does supervise
diligently persons employed or appointed by it to conduct business on its behalf.

DBA 1724
25. Be responsible for the acts or omissions of its employees and agents in respect to
NOTES the conduct of its business.
26. Ensure that the senior management, particularly decision makers have access to all
relevant information about the business on a timely basis.
27. Not be party to or instrumental for (a) certain of false market, (b) price rigging or
manipulation, or; (c) passing of unpublished price sensitive information in respect
of securities which are listed and proposed to be listed in any stock exchange to
any person or intermediary.
AGREEMENT WITH CLIENTS
Every underwriter has to enter into an agreement with the issuing company. The
agreement, among others, provides for the period during which the agreement is in force,
the amount of underwriting obligations, the period within which the underwriter has to be
subscribe to the issue after being intimated by/on behalf of the issuer, the amount of
commission/brokerage, and details of arrangements, if any, made by the underwriter for
fulfilling the underwriting obligations.
GENERAL RESPONSIBILITIES
An underwriter cannot derive any direct or indirect benefit from underwriting the
issue other than by the underwriting commission. The maximum obligation under all
underwriting agreements of an underwriter cannot exceed twenty times his net worth.
Underwriters have to subscribe for securities under the agreement with 45 days of the
receipt of intimation from the issuers.
INSPECTION AND DISCIPLINARY PROCEEDINGS
The framework of the SEBI’s right to undertake the inspection of the books of accounts,
other records and documents of the underwriters, the procedure for inspection and
obligations of the underwriters is broadly on the same pattern as applicable to the lead
managers.
ACTION IN CASE OF DEFAULT
The liability for 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/regulations, by an underwriter
involves the suspension/cancellation of registration, the effect of suspension/
cancellation are on the lines followed by the SEBI in case of lead managers.

9. BANKERS TO AN ISSUE
NOTES
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 the basis of all the activities relating to
banker to an issue in particular with reference to the following requirements:
a) The applicant has the necessary infrastructure, communication and data processing
facilities and manpower to effectively discharge his activities,
b) The applicant/any of the directors of the applicant is not involved in any litigation
connected with the securities market/has not been convicted of any economic
offence;
c) The applicant is a scheduled bank and
d) Grant of a certificate is in the interest of the investors. A banker to an issue can
apply for the renewal of his registration three months before the expiry of the
certificate.
Every banker to an issue had to pay to the SEBI an annual fee of Rs.2.5 lakhs for the
first two years from the date of initial registration, and Rs.1 lakh for the third year to keep
his registration in force. The renewal fee to be paid by him annually for the first two years
was Rs.1 lakh and Rs.20,000 for the third year. Since 1999, schedule of fee is Rs.5 lakhs
as initial registration fee and Rs.2.5 lakhs renewal fee every three years from the fourth
year from the date of initial registrations. Non-payment of the prescribed fee may lead to
the suspension of the registration certificate.
GENERAL OBLIGATIONS AND RESPONISBILITIES
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 application/details of the application money received,
c) The dates on which applications from investors were forwarded to the issuing
company /registrar to an issue;
d) The dates/amount of refund to the investors.

DBA 1724
BOOKS OF ACCOUNT/RECORD/DOCUMENTS
NOTES
A banker to an issue is required to maintain books of accounts/records/documents
for a minimum period of three years in respect of, inter-alia, the number of applications
received, the names of the investors, the time within which the applications received were
forwarded to the issuing company/registrar to the issue and dates and amounts of refund
money to investors.
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/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 standards of integrity and fairness in the conduct of its business.
3. Fulfill its obligations in a prompt, ethical and professional manner.
4. At all times exercise due diligence, ensure proper care and exercise independent
professional judgment
5. Not any time act in collusion with other intermediates over the issuer in a manner
that is detrimental to the investor
6. Endeavour to ensure that
a) inquiries from investors are adequately dealt with;
b) grievances of investors are redressed in a timely and appropriate manner;
c) where a complaint is not remedied promptly, the investor is advised of any
further steps which may be available to the investor under the regulatory system.
7. Not
a) Allow blank applications forms bearing brokers stamp to be kept the bank
premises or peddled anywhere near the entrance of the premises;
b) Accept applications after office hours or after the date of closure of the issue
or on bank holidays;
c) After the closure of the public issue accept any instruments such as Cheques/
demand drafts/stock invests from any other source other than the designated
registrar to the issue;
d) Part with the issue proceeds until listing permission is granted by the stock
exchange to the body corporate;

e) Delay in issuing the final certificate pertaining to the collection figures to the
registrar to the issue, the lead manager and the body corporate and such NOTES
figures should be submitted within seven working days from the issue closure
date.
8. Be prompt in disbursing dividends, interests or any such accrual income received
or collected by him on behalf of his clients.
9. Not make any exaggerated statement whether oral or written to the client, either
about its qualification or capability to render certain services or its achievements in
regard to services rendered to other client.
10. Always endeavour to render the best possible advice to the clients having regard
to the clients’ needs and the environments and his own professional skill.
11. Not divulge to any body either orally or in writing, directly or indirectly, any
confidential information about its clients which has come to its knowledge, without
taking prior permission of its clients
12. Avoid conflict of interest and make adequate disclosure of his interest.
in the conduct of its business or where any conflict of interest arise, should take
reasonable steps to resolve the same in an equitable manner.
14. Make appropriate disclosure to the client of its possible source or potential areas
of conflict of duties and interest while acting as banker to an issue which would
impair its ability to render fair, objective and unbiased services.
15. Not indulge in any unfair competition, which is likely to harm the interests of other
bankers to an issue or investors or is likely to place such other bankers to an issue
in a disadvantageous position while competing for or executing any assignment.
16. Not discriminate amongst its clients, save and except on ethical and commercial
considerations.
17. Ensure that any change in registration status/any penal action taken by the SEBI or
any material change in financials which may adversely affect the interests of clients/
investors is promptly informed to the clients and business remaining outstanding is
transferred to another registered person in accordance with any instructions of the
affected clients/investors.
18. Maintain an appropriate level of knowledge and competency and abide by the
provisions of the SEBI Act, regulations, circulars and guidelines of the SEBI. The
banker to an issue should also comply with the award of the Ombudsman passed
under the SEBI (Ombudsman) Regulations, 2003.
19. Ensure that the SEBI is promptly informed about any action, legal proceedings,
etc., initiated against it in respect of any material breach of non-compliance by it,
of any law, rules, regulations, and directions of the SEBI or of any other regulatory
body.
20. Not make any untrue statement of suppress any material fact in any documents,
reports, papers or information furnished to the SEBI.

DBA 1724
21. Not neglect or fail or refuse to submit to the SEBI or other agencies with which it
NOTES is registered, such books, documents, correspondence, and papers or any part
thereof as may be demanded/requested from time to time.
22. Abide by the provisions of such acts and rules, regulations, guidelines, resolutions,
notifications, directions, circulars and instructions as may be issued from time to
time by the Central Government, relevant to the activities carried on the banker to
an issue.
23. (a) Not render, directly or indirectly, any investment advice about any security in
the publicly accessible media, whether real-time or non-real-time, unless a disclosure
of its interest including long or short position in the security has been made, while
rendering such advice; (b) in case an employee of the banker to an issue is rendering
such advice, the banker to an issue should ensure that he discloses his interest, the
interest of his dependent family members and that of the employer including
employer’s long or short position in the security, while rendering such advice.
24. A banker to an issue or any of its directors, or employee having the management
of the whole or substantially the whole of affairs of the business, should not, either
through its account or their respective accounts or through their family members,
relatives or friends indulge in any insider trading.
25. Have internal control procedures and financial and operational capabilities which
can be reasonable expected to protect its operations, its clients, investors and
other registered entities from financial loss arising from theft, fraud, and other
dishonest acts, professional misconduct or omissions.
discharge of its duties.
the carrying out of their duties as a banker to an issue and as a part of the industry.
Such a code may extend to the maintenance of professional excellence and
standards, integrity, confidentiality, objectivity, avoidance of conflict of interests,
disclosure of shareholding and interests, etc.
28. Ensure that any person it employs or appoints to conduct a business is fit and
proper and otherwise qualified to act in the capacity so employed or appointed
(including having relevant professional training or experience).
29. Ensure that it has adequate resources to supervise diligently and does supervise
diligently persons employed or appointed by it to conduct business on its behalf.
30. Be responsible for the acts or omissions of its employees and agents in respect to
the conduct of its business.
31. Ensure that the senior management, particularly decision makers have access to all
relevant information about the business on a timely basis.
32. Endeavour to ensure that arms length relationship is maintained in terms of both
manpower and infrastructure between the activities carried out as banker to an
issue and other permitted activities.

33. Not be a party to or instrumental for (a) creation of false market; (b) price rigging
or manipulations; or (c) passing of unpublished price sensitive information in respect NOTES
of securities which are listed and proposed to be listed in any stock exchange to
any person or intermediary.
INSPECTION
Such inspection is done by the RBI upon the request of the SEBI. The purpose of
inspection is largely to ensure that the required books of accounts are maintained and to
investigate into the complaints received from the investors against the bankers to an issue.
The foregoing rules and regulations have brought the bankers to an issue under the
regulatory framework of the SEBI with a view to ensuring greater investor protection. 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 in the interest of the securities market and for due compliance
with the provision of the SEBI Act.
ACTION IN CASE OF DEFAULT
With a view to ensure effective regulation of the activities of the bankers to an issue,
the SEBI is empowered to suspend/cancel their registration certificate.
The grounds of suspension are:

a) The banker violates the provisions of the SEBI Act, rules/regulations;
b) Fails to/does not furnish the required information or furnishes wrong/false
information;
c) Fails to resolve investor complaints/to give satisfactory reply to SEBI;
d) Is guilty of misconduct/unprofessional conduct inconsistent with the prescribed
code of conduct; and
e) Fails to pay fees and carry out his obligations as specified in the regulations.
The SEBI can cancel registration in case of
i. Repeated defaults leading to suspension of a banker,
ii. The deterioration in is financial position which likely to adversely affect the interest
of the investors, and
iii. The being found guilty of fraud/convicted of a criminal offence.
10. 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. The managers to the issue
and the official brokers organize the preliminary distribution of securities and procure
direct subscriptions from as large or as wide a circle of investors as possible.

DBA 1724
The stock exchange bye-laws prohibits the members from the acting as managers or
NOTES brokers to the issue and making preliminary arrangement in connection with any flotation
or new issue, unless the stock exchange of which they are members gives its approval and
the company conforms to the prescribed listing requirements and undertakes to have its
securities listed on a recognized stock exchange. The permission granted by the stock
exchange is also subject o other stipulations which are set out in the letter of consent. Their
active assistance is indispensable for broad basing the issue and attracting investors. By
and large, the leading merchant bankers in India who act as managers to the issue have
particulars of the performance of brokers in the country.
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. Thereby, the entry
of experienced and unknown agencies in to the field of new issue activity as issue managers,
underwriters, brokers, and so on, is discouraged. A copy of the consent letter should be
filed along with the prospectus to the ROC. 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 other conditions prescribed.
The brokerage rate applicable to all types of public issue of industrial securities is fixed at
1.5 percent, whether the issue is underwritten or not. The mailing cost and other out-of-
pocket expenses for canvassing of public issues have to be borne by the stock brokers
and no payment on that account is made by the companies. A clause to this effect must be
included in the agreement to be entered into between the broker and the company. The
listed companies are allowed to pay a brokerage on private placement of capital at a
maximum rate of 0.5 percent. Brokerage is not allowed in respect of promoters quota
including the amounts taken up by the directors, their friends and employees, and in
respect of the rights issues taken by or renounced by the existing shareholders. Brokerage
is not payable when the applications are made by the institutions/bankers against their
underwriting commitments or on the amounts devolving on them as underwriters consequent
to the under subscription of the issues.
The issuing company is expected to pay brokerage within two months from the date
of allotment and furnish to the broker, on request, the particulars of allotments made against
applications bearing their stamp, without any charge. The Cheques 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 is enclosed in the prospectus.

Q.1.3.a. What are the functions performed by the merchant banker in connection with
management of public issue of corporate enterprise ?
Q.1.3.b. Explain with the help of a chart the mechanics of public issue management

Q.1.3.c. What are the different categories of security issue ?

Q.1.3.d. Write a note on ‘rights issue’.
NOTES
Q.1.3.e. State the advantages of ‘private placement’.
Q.1.3.f. Who is an issue manager ? What are the requirements to be fulfilled for carrying
out his functions ?
Q.1.3.g. What are the restrictions placed on the issue managers by the SEBI ?
Q.1.3.h. What is the role of an issue manager as regards public issue management ?
Q.1.3.i. Elaborate on the pre-issue activities involved in the management of public issue.
Q.1.3.j. Define ‘capital structure’.
Q.1.3.k. What does the term ‘optimal capital structure’ refer to? Bring out the salient
features of optimal capital structure of a firm.
Q.1.3.l. State the fundamental patterns of capital structure.
Q.1.3.m. What do you mean by capital structure decisions? What principles govern such
decisions?
Q.1.3.n. What are capital market instruments? What are its features?
Q.1.3.o. State the various types of capital market instruments.
Q.1.3.p. What are preference shares? What are its types?
Q.1.3.q. Write a short note on fully convertible preference shares.
Q.1.3.r. What are equity shares? What are its features?
Q.1.3.s. What are convertible cumulative preference shares? What are the terms and
conditions governing the issue of such shares?
Q.1.3.t. What are the different types of debt instruments issued by companies in India?
Q.1.3.u. What are the SEBI guidelines relating to convertible debentures?
Q.1.3.v. What are ‘junk bonds’? How are they different from ‘indexed bonds’?
Q.1.3.w. How are floating rate bonds different from secured premium notes?
SUMMARY
Thus the Merchant Banking functions can be simplified as
(i) Banking
All types of foreign exchange transactions including advice on exchange, imports,

exports finance, financing the movement of goods through acceptance credits, the handling
of commercial letters of credit, the negotiation and collection of foreign bills, accepting call
or term deposits, short or medium term finance, bridging finance, leading; corporate banking,
treasury/trading services, discount/guarantee facilities.
Issuing and underwriting.

DBA 1724
Public issues; underwriting of issues, preparation of prospectuses; new equity; obtaining

NOTES stock exchange listings/broking services.
(ii) Corporate Finance
New issues; development capital; negotiation of mergers and takeovers; capital

reconstruction; bridging finance, medium term loans; public sector finance.
(iii) Management Services
Economic planning; trusts administration; share secretarial services; primary capital

market participation.
(iv) Product Knowledge
Foreign exchange, import finance; export finance; commercial LCs; FBCSs; Call/
Term deposits; medium term loans (MTL); Bridging finance; leasing, treasury services,
discount/guarantees, Acceptance credits, public issues, underwriting, equity, broking, estate
planning, trusts, share transfers.

NOTES
LESSON 2
2.1 INTRODUCTION
Marketing the public issue arises because of the highly competitive nature of the
capital market. Moreover, there is a plethora of companies, which knock at the doors of
investors seeking to sell their securities. Above all the media bombards the modern investors
with eye catching advertisement to sell their concepts to prospective investors.

• The different steps in marketing new issues
• The different methods of marketing new issues
• The pricing of new issues
• The law relating to issue management
2.3 MERCHANT BANKING AND MARKETING OF NEW ISSUES
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 mad3e 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

DBA 1724
detailed research on the project, specifying its uniqueness and its advantage over
NOTES 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.
Press meets, brokers and investor’s conference, etc. shall be arranged by the lead
manager at targeted in carrying out opinion polls. These services would useful in collecting
data on investors’ opinion and reactions relating to the public issue of the company, such
a task would help develop an appropriate marketing strategy. This is because, there are
vast numbers of potential investors in semi-urban and rural areas. This calls for sustained
efforts on the part of the company to educate them about the various avenues available for
investment.
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.
8. A critical factor that could make or break the proposed pu8blic 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.
2.3.1 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
NOTES
7. Book-building Method
8. Stock Option Method and
9. Bought-out Deals Method
ABBREVIATIONS
• PPM Pure Prospectus Method
• OSM Offer for Sale Method
• PPM Private Placement Method
• IPOM Initial Public Offers Method
• RIM Right Issue Method
• BIM Bonus Issue Method
• BBM Book Building Method
• SOM Stock Option Method
• BODM Brought-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.
The features of this method are

a. Exclusive subscription : Under this method, the new issues of a company are
offered for exclusive subscription of the general public. According to the SEBI
norms, a minimum of 49 percent of the total issue at a time is to be offered to
public.
b. Issue price : Direct offer is made by the issuing company to the general public to
subscribe to the securities at a staged price. The securities may be issued either at
par, of at a discount or at a premium.
c. Underwriting : Public issue through the ‘pure prospectus method’ is usually
underwritten. This is to safeguard the interest of the issuer in the event of an
unsatisfactory response from the public.
d. Prospectus : A document that information relating to the various aspects of the
issuing company, besides other details of the issue is called a ‘Prospectus’. The
document is circulated to the public. The general details include the company’s
name and address of the registered office, the names and addresses of the company’s
promoters, manager, managing director, directors, company secretary, legal adviser,
auditors, bankers, brokers, etc. the date of opening and closing of subscription

DBA 1724
list, contents of Articles, the names and addresses of underwriters, the amount
NOTES underwritten and the underwriting commission, material details regarding the project,
i.e. Location, plant and machinery, technology, collaboration, performance
guarantee, infrastructure facilities etc. nature of products, marketing set-up, export
potentials and obligations, past performance and future prospects, management’s
perception regarding risk factor, credit rating obtained from any other recognized
rating agency, a statement regarding the fact that the company will make an
application to specified stock exchange(s) for listing its securities and so on.
ADVANTAGES
a. Benefits to Investors : The pure prospectus method of marketing the securities
serves as an excellent mode of disclosure of all the information pertaining to the
issue. Besides, it also facilitates satisfactory compliance with the legal requirements
of transparency etc.. It also allows for good publicity for the issue. The method
promotes confidence of investors through transparency and non-discriminatory
basis of allotment. It prevents artificial packing up of prices as the issue is made
public.
b. Benefits to Issuers : The pure prospectus method is the most popular method
among the large issuers. In addition, it provides for wide diffusion of ownership of
securities contributing to reduction in the concentration of economic and social
power.
DRAW BACKS
a. High Issue Costs : A major drawback of this method is that it is an expensive
mode of raising funds from the capital market. Costs of various hues are incurred
in mobilizing capital. Such costs as underwriting expenses, brokerage, administrative
costs, publicity costs, legal costs and other costs are incurred for raising funds.
Due to the high cost structure, this type of marketing of securities is followed only
for large issues.
b. Time consuming : The issue of securities through prospectus takes more time,
as it requires the due compliance with various formalities before an issue could
take place. For instance, a lot of work such as underwriting, etc. should be
formalized before the printing and the issue of a prospectus.
2. 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’ for the intermediaries.

The intermediaries are responsible for meeting various expenses such as underwriting
commission, prospectus cost, advertisement expenses, etc. NOTES
The issue is also underwritten to ensure total subscription of the issue. The biggest
advantage of this method is that it saves the issuing company the hassles involved in selling
the shares to the public directly through prospectus. This method is, however, expensive
for the investor as it involves the offer of securities by issue houses at very high prices.
3. 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’. 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.
4. INTIAL PUBLIC OFFER (IPO) METHOD
The public issue made by a corporate entity for the first time in its life is called ‘Initial
Public Offer’ (IPO). Under this method of marketing, securities are issued to successful
applicants on the basis of the orders placed by them, through their brokers.

DBA 1724
When a company whose stock is not publicly traded wants to offer that stock to the
NOTES general public, it takes the form of ‘Initial Public Offer’. The job of selling the stock is
entrusted to a popular intermediary, the underwriter. An underwriter is invariably an
investment banking company. He agrees to pay the issuer a certain price for a minimum
number of shares, and then resells those shares to buyers, who are often the clients of the
underwriting firm. The underwriters charge a fee for their services.
Stocks are issued to the underwriter after the issue of prospectus which provides
details of financial and business information as regards the issuer. Stocks are then released
to the underwriter and the underwriter releases the stock to the public.
The issuer and the underwriting syndicate jointly determine the price of a new issue.
The approximate price listed in the red herring (the preliminary prospectus – often with
words in red letters which say this is preliminary and the price is not yet set) may or may
not be close to the final issue price. IPO stock at the release price is usually not available
to most of the public. Good relationship between the broker and the investor is a pre-
requisite for the stock being acquired.
Full disclosure of all material information in connection with the offering of new securities
must be made as part of the new offerings. A statement and preliminary prospectus (also
known as a red herring) containing the following information is to be filed with the Registrar
of Companies:
1. A description of the issuer’s business
2. The names and addresses of the key company offers, with salary and a 5 year
business history on each
3. The amount of ownership of the key officers
4. The company’s capitalization and description of how the proceeds from the offering
will be used and
5. Any legal proceedings that the company is involved in.
Applications are made by the investors on the advice of their brokers who are intimated
of the share allocation by the issuer. The amount becomes payable to the issuer through
the broker only on final allocation. The allotment is credited and share certificates delivered
to the depository account of the successful investor.
The essential steps involved in this method of marketing of securities are as follows:
a. Order Broker receives order from the client and places orders on behalf of the
client with the issuer.
b. Share allocation : The issuer finalizes share allocation and informs the broker
regarding the same.

c. The client : The broker advises the successful clients of his share allocation
Clients then submit the application forms for shares and make payment to the NOTES
issuer through the broker.
d. Primary issue account : The issuer opens a separate escrow account (primary
issue account) for the primary market issue. The clearing house of the exchange
debits the primary issue account of the broker and credits the issuer’s account.
e. Certificates : Certificates are then delivered to investors. Otherwise depository
account may be credited.
The biggest advantage of this method of marketing of securities is that there is no
need for the investors to part with the money even before the shares are allotted in his
favour. Further, the method allows for elimination of unnecessary hassles involved in making
a public issue. Under the regulations of the SEBI, IPOS can be carried out through the
secondary market and the existing infrastructure of stock exchanges can be used for this
purpose.
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.
The relevant guidelines issued by the SEBI in this regard are as follows;
1. Shall be issued only by listed companies
2. Announcement regarding rights issue once made, shall not be withdrawn and where
withdrawn, no security shall be eligible for listing up to 12 months
3. Underwriting as to rights issue is optional and appointment of Registrar is
compulsory
4. Appointment of category I Merchant Bankers holding a certificate of registration
issued by SEBI shall be compulsory
5. Rights shares shall be issued only in respect of fully paid shares
6. Letter of Offer shall contain disclosures as per SEBI requirements
7. Agreement shall be entered into with the depository for materialization of securities
to be issued
8. Issue shall be kept open for a minimum period of 30 days and for a maximum
period of 60 days
9. A minimum subscription of 90 percent of the issue shall be received
10. No reservation is allowed for rights issue as regards FCDs and PCDs
11. A ‘No Complaints Certificate’ is to be filed by the ‘Lead Merchant Banker’ with
the SEBI after 21 days from the date of issue of offer document
12. Obligatory for a company where increase in subscribed capital is necessary after
two years of its formation or after one year of its first issue of shares, whichever is
earlier

DBA 1724
ADVANTAGES
NOTES
Rights issue offers the following advantages :
1. 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.
2. Easy : The issue management procedures connected with the rights issue are
easier as only a limited number of applications are to be handled.
3. 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:

1. Restrictive : The facility of rights issue is available only to existing companies
and not to new companies.
2. 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.
Issued under Section 205 (3) of the Companies Act, such shares are governed by the
guidelines issued by the SEBI (applicable to listed companies only) as follows:
SEBI GUIDELINES
Following are the guidelines pertaining to the issue of bonus shares by a listed corporate
enterprise:
1. Reservation
In respect of FCDs and PCDs, bonus shares must be reserved in proportion to such
convertible part of FCDs and PCDs. The shares so reserved may be issued at the time of
conversion(s) of such debentures on the same terms on which the bonus issues were
made.

2. Reserves
NOTES
The bonus issue shall be made out of free reserves built out of the genuine profits or
share premium collected in cash only. Reserves created by revaluation of fixed assets are
not capitalized.
3. Dividend mode
The declaration of bonus issue, in lieu of dividend, is not made
4. Fully paid
The bonus issue is not made unless the partly paid shares, if any are made fully paid-
up.
5. No default
The company has not defaulted in payment of interest or principal in respect of fixed
deposits and interest on existing debentures or principal on redemption thereof and has
sufficient reason to believe that it has not defaulted in respect of the payment of statutory
dues of the employees such as contribution to provident fund, gratuity, bonus etc.
6. Implementation
A company that announces its bonus issue after the approval of the Board of Directors
must implement the proposal within a period of 6 months from the date of such approval
and shall not have the option of changing the decision.
7. The articles
The articles of Association of the company shall contain a provision for capitalization
of reserves, etc. If there is no such provision in the Articles, the company shall pass a
resolution at its general body meeting making provisions in the Articles of Associations for
capitalization.
8. Resolution
Consequent to the issue of bonus shares if the subscribed and paid-up capital exceeds
the authorized share capital, the company at its general body meeting for increasing the
authorized capital shall pass a resolution.
7. BOOK BUILDING METHOD
A method of marketing the shares of a company whereby the quantum and the price
of the securities to be issued will be decided on the basis of the ‘bids’ received from the
prospective shareholders by the lead merchant bankers is known as ‘book-building method.

DBA 1724
Under the book-building method, share prices are determined on the basis of real
NOTES demand for the shares at various price levels in the market. For discovering the price at
which issue should be made, bids are invited from prospective investors from which the
demand at various price levels is noted. The merchant bankers undertake full responsibility
for the same.
The option of book-building is available to all body corporate, which are otherwise
eligible to make an issue of capital to the public. The initial minimum size of issue through
book-building route was fixed at Rs.100 crores. However, beginning from December 9,
1996 issues of any size will be allowed through the book-building route.
Book-building facility is available as an alternative to firm allotment. Accordingly, a

company can opt for book-building route for the sale of shares to the extent of the percentage
of the issue that can be reserved for firm allotment as per the prevailing SEBI guidelines. It
is therefore possible either to reserve securities for firm allotment or issue them through the
book-building process.
The book-building process involves the following steps:
1. Appointment of book-runners
The first step in the book-building process is the appointment by the issuer company,
of the book-runner, chosen from one of the lead merchant bankers. The book-runner in
turn forms a syndicate for the book-building. A syndicate member should be a member of
National Stock Exchange (NSE) or Over-the-Counter Exchange of India (OTCEI). Offers
of ‘bids’ are to be made by investors to the syndicate members, who register the demands
of investors. The bid indicates the number of shares demanded and the prices offered.
This information, which is stored in the computer, is accessible to the company management
or to the book-runner. The name of the book-runner is to be mentioned in the draft
prospectus submitted to SEBI.
2. Drafting prospectus
The draft prospectus containing all the information except the information regarding
the price at which the securities are offered is to be filed with SEBI as per the prevailing
SEBI guidelines. The offer of securities through this process must separately be disclosed
in the prospectus, under the caption ‘placement portion category’. Similarly, the extent of
shares offered to the public shall be separately shown under the caption ‘net offer to the
public’. According to the latest SEBI guidelines issued in October 1999, the earlier
stipulation that at least 25 percent of the securities were to be issued to the public has been
done away with. This is aimed at enabling companies to offer the entire public issue
through the book-building route.

3. Circulating draft prospectus

NOTES
A copy of the draft prospectus filed with SEBI is to be circulated by the book-runner
to the prospective institutional buyers who are eligible for firm allotment and also to the
intermediaries who are eligible to act as underwriters. The objective is to invite offers for
subscribing to the securities. The draft prospectus to be circulated must indicate the price-
band within which the securities are being offered for subscription.
4. Maintaining offer records
The book-runner maintains a record of the offers received. Details such as the name
and the number of securities ordered together with the price at which each institutional
buyer or underwriter is willing to sub scribe to securities under the placement portion must
find place in the record. SEBI has the right to inspect such records.
5. Intimation about aggregate orders
The underwriters and the institutional investors shall give intimation on the aggregate
of the offers received to the book-runner.
6. Bid analysis
The bid analysis is carried out by the book-runner immediately after the closure of the
bid offer date. An appropriate final price is arrived at after a careful evaluation of demands
at various prices and the quantity. The final price is generally fixed reasonably lower than
the possible offer price. This way, the success of the issue is ensured. The issuer company
announce the pay-in-date at eh expiry of which shares are allotted.
7. Mandatory underwriting
Where it has been decided to make offer of shares to public under the category of
‘Net Offer to the Public’, it is incumbent that the entire portion offered to the public is fully
underwritten. In case an issue is made through book-building route, it is mandatory that
the portion of the issue offered to the public be underwritten. This is the purpose, an
agreement has to be entered into with the underwriter by the issuer. The agreement shall
specify the number of securities as well as the price at which the underwriter would
subscribe to the securities. The book-runner may require the underwriter of the net offer
to the public to pay in advance all moneys required to be paid in respect of their underwriting
commitment.
8. Filling with ROC
A copy of the prospectus as certified by the SEBI shall be filed with the Registrar of
Companies within two days of the receipt of the acknowledgement card from the SEBI.

DBA 1724
9. Bank accounts
NOTES
The issuer company has to open two separate accounts for collection of application
money, one for the private placement portion and the other for the public subscription.
10. Collection of completed applications
The book-runner collects from the institutional buyers and the underwriters the
application forms along with the application money to the extent of the securities proposed
to be allotted to them or subscribed by them. This is to be done one day before the
opening of the issue to the public.
11. Allotment of securities
Allotment for the private placement portion may be made on the second day from
the closure of the issue. The issuer company, however, has the option to choose one date
for both the placement portion and the public portion. The said date shall be considered
to be the date of allotment for the issue of securities through the book-building process.
The issuer company is permitted to pay interest on the application moneys till the date of
allotment or the deemed date of allotment provided that payment of interest is uniformly
given to all the applicants.
12. Payment schedule and listing
The book-runner may require the underwriters to the ‘net offer to the public’ to pay
in advance all moneys required to be paid in respect of their underwriting commitment by
the eleventh day of the closure of the issue. In that case, the shares allotted as per the
private placement category will become eligible for being listed. Allotment of securities
under the public category is to be made as per the prevailing statutory requirements.
13. Under-subscription
In the case of under-subscription in the ‘net offer to the public’ category, any spillover
to the extent of under-subscription is to be permitted from the ‘placement portion’ category
subject to the condition that preference is given to the individual investors. In the case of
under-subscription in the placement portion, spillover is to be permitted from the net offer
to the public to the placement portion.
ADVANTAGES OF BOOK BUILDING
Book-building process is of immense use in the following ways:

1. Reduction in the duration between allotment and listing
2. Reliable allotment procedure
3. Quick listing in stock exchanges possible
4. No price manipulation as the price is determined on the basis of the bids received

STOCK OPTION OF EMPLOYEES STOCK OPTION SCHEME (ESOP)

NOTES
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.
SEBI GUIDELINES
Company whose securities are listed on any stock exchange can introduce the scheme
of employees’ stock option. The offer can be made subject to the conditions specified
below:
1. Issue at discount
Issue of stock option at a discount to the market price would be regarded as another
form of employee compensation and would be treated as such in the financial statements
of the company regardless the quantum of discount on the exercise price of the options.
2. Approval
The issue of ESOPs is subject to the approval by the shareholders through a special
resolution.
3. Maximum limit
There would be no restriction on the maximum number of shares to be issued to a

single employee. However, in case of employees being offered more than 1 percent shares,
a specific disclosure and approval would be necessary in the AGM.
4. Minimum period
A minimum period of one year between grant of options and its vesting has been
prescribed. After one year, the company would determine the period during which the
option can be exercised.
5. Superintendence
The operation of the ESOP Scheme would have to be under the superintendence
and direction of a Compensation Committee of the Board of Directors in which there
would be a majority of independent directors.

DBA 1724
6. Eligibility
NOTES
ESOP scheme is open to all permanent employees and to the directors of the company
but not to promoters and large shareholders. The scheme would be applicable to the
employees of the subsidiary or a holding company with the express approval of the
shareholders.
7. Director’s report
The Director’s report shall make a disclosure of the following :

a. Total number of shares as approved by the shareholders
b. The pricing formula adopted
c. Details as to options granted, options vested, options exercised and options forfeited,
extinguishments or modification of options, money realized by exercise of options,
total number of options in force, employee-wise details of options granted to senior
managerial personnel and to any other employee who receive a grant in any one
year of options amounting to 5 percent or more of options granted during that year
d. Fully diluted EPS computed in accordance with the IAS
IPO
SEBI’s stipulations prohibiting initial public offerings by companies having outstanding

options should not apply to ESOP. If any ESOPs are outstanding at the time of an IPO
issue by an unlisted company, the promoters’ contribution shall be calculated with reference
to the enlarged capital that would arise if all vested options were exercised.
8. STOCK OPTION NORMS FOR SOFTWARE COMPANIES
The relevant guidelines issued by the SEBI as regards ‘employees stock option’ for
software companies are as follows :
1. Minimum issue
A minimum issue of 10 percent of its paid-up capital can be made by a software

company which has already floated American Depository Receipts (ADRs) and Global
Depository Receipts (GDRs) or a company which is proposing to float these is entitled to
issue ADR/GDR-linked stock options to its employees. For this purpose, prior permission
from the Department of Economic Affairs is to be obtained.
2. Mode of Issue
Listed stock options can be issued in foreign currency convertible bonds and ordinary
shares (through depository receipt mechanism) to the employees of subsidiaries of InfoTech
companies.

3. Permanent employees
NOTES
Indian IT companies can issue ADR/GDR linked stock options to permanent
employees, including Indian and overseas directors, of their subsidiary companies
incorporated in India or outside.
4. Pricing
The pricing provisions of SEBI’s preferential allotment guidelines would not cover
the scheme. The purpose is to enable the companies to issue stock options to its employees
at a discount to the market price which serves as another form of compensation.
5. Approval
Shareholders’ approval through a special resolution is necessary for issuing the ESOPs.
A minimum period of one year between grant of option and its vesting has been prescribed.
After one year, the company would determine the period in which option can be exercised.
9. 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.

DBA 1724
7. OTCEI : Sale of these shares at Over-the-Counter Exchange of India (OTCEI)

NOTES 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 off-
loading 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.

2.3.2 Advertising Strategies

NOTES
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 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.

DBA 1724
8. No advertisement shall be issued stating that the issue has been fully subscribed or
NOTES 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.
2.3.3 FIIs (Foreign Institutional Investors)
GUIDELINES OF GOVERNMENT OF INDIA
Government of India through Guidelines issued on September 14, 1992 has allowed
reputed foreign Institutional Investors (FIIs) including pension funds, mutual funds, asset
management companies, investment trusts, nominee companies and incorporated or
institutional portfolio managers to invest in the India capital market subject to the condition
that they register with the Securities and Exchange Board of India and obtain RBI approval
under FERA. The different forms in which the portfolio investment flows into the country
are global depository receipts(GDR’s), investment in primary and secondary market,
offshore funds and government securities. At the end of March 2000, 506 FIIs were
registered with SEBI. Their total cumulative investment in securities market was Rs.57,038
crores as at March 2002. Of the FIIs only 205 were active and 10 % accounted for 70%
of transactions. There is no restriction on amount of investment and there is no lock in
period.
Portfolio investment by the FIIs are required to allocate their total investment between
equities and debentures in the ratio of 70:30. FII s can make purchases and sales only for
delivery. A FII cannot engage in short sales. FII investing under the scheme, enjoy a
confessional tax rate of 205 on dividend and interest and 10% on long term capital gains
short term capital gains arising out of transfer of securities are taxed at 30%. Tax is deducted
at 20% on interest and dividends.

Net investment by FIIs in Indian Capital Market

Rs. In Crores
NOTES
1992 – 1993 4
1993 – 1994 5445
1994 – 1995 4777
1995 – 1996 6721
1996 – 1997 7386
1997 – 1998 5908
1998 – 1999 (-) 729
1999 – 2000 9765
2000 – 2001 9682
RBI hand Book of Statistics on Indian Economy , 2001, p.299.
FII and SEBI Regulations , 1995
The regulations stipulate that foreign institutional investors have to be registered with
SEBI and obtain a certificate from SEBI. For the purpose of grant of the certificate SEBI
takes into account,
1. The applicant’s track record, professional competence, financial soundness,
experience, general reputation of fairness and integrity
2. Whether the applicant is regulated by appropriate foreign regulatory authority
3. Whether the applicant has been granted permission by RBI under Foreign Exchange
Regulating Act for making investments in India as a foreign institutional investor
and
4. Where the applicant is,
a. an institution established or incorporated outside India as a pension fund,
mutual fund or investment trust ; or
b. an asset management company or nominee company or bank or institutional
portfolio manager, established or incorporated outside India and proposing
to make investments in India on behalf of broad based funds; or
c. A trustee or power of attorney holder established or incorporated outside
India and proposing to make investments in India on behalf of broad based
funds.
The certificate is granted in Form B subject to payment of prescribed fees which is

valid for 5 Years and can be renewed thereafter.

DBA 1724
Provision is also made for registration of sub accounts on whose behalf FII proposes
NOTES to make the investment in India.
The purchases of shares of each company should not be more than ten percent of the
total issued capital of the company.
The investment by foreign institutional investor is also subject to GOI Guidelines.

The general obligations and responsibilities of FIIs include appointment of a domestic
custodian, appointment of designated bank, maintenance of proper books of accounts,
records and their reservation for five years and information to the Board or Reserve Bank
of India.
Defaults are punished by suspension and cancellation of certificate after show cause
notice and enquiry.
PREFERENTIAL ALLOTMENTS TO FIIs
Listed companies have been allowed by SEBI to make preferential allotment to

registered FIIs subject to certain conditions. A company desiring to make a preferential
allotment should obtain the shareholders’ consent. The allotment should be in accordance
with ceilings of 10% of total issued capital for individual FII and 30% of all FIIs and non-
resident Indian investors. The preferential allotment should be made at a price not less than
the highest price during the last 26 weeks on all stock exchanges where the company
securities are listed.
2.3.4 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.
INVESTMENT POTENTIAL OF NRI’s
It is estimated that currently about 25 million Indians living abroad would fall into the
definition of NRI. Of these about 20 million have taken up foreign nationality (FNIOs) and
the remaining 5 million are still Indian passport holders. The pattern of earning and
consumption of NRIs is such that it leaves annually a fairly large amount of investable
resources. Conservative estimates place such resources at Rs.45,000 crores or about US
$15 billion annually and the wealth at $200 billion or Rs.7,20,000 crores. Assuming that

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. NOTES
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 reparable
basis.
NRI’s have also made in the past large investments in specific bonds, i.e., the India
Development Bond in 1991, the Resurgent India Bond in 1998 and India Millennium
Deposits in 2000.
FOREIGN DIRECT INVESTMENT UNDER NEW INDUSTRIAL POLICY

(1991)
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.
INVESTMENT IN NEW ISSUES (PRIMARY MARKET)
Forty percent scheme
Indian companies engaged in industry and manufacturing, Hotel (3,4, and 5 star
category), hospitals and diagnostic enters, shipping companies, development of computer
software and oil exploration services are allowed by RBI to issue shares/debentures to
NRIs with repatriation benefits to the extent of 40% of new issue.
No permission for investment is required in cases where the company has obtained
permission from RBI. This is generally granted in the green field project (e.g. Chambal
Fertilizers, Mangalore Refineries). NRI has to obtain permission from RBI even if the sale
is to be effected after 12 month. Blanket permission can be obtained before completing 12
months of each investment.

DBA 1724
Generally RBI does not permit NRI investment at issue prices in case of
NOTES a. Right issues of existing companies (excluding existing NRI shareholders) and
b. Public issues of an existing profit making company.
NRI can repatriate original investment, profit and dividend provided they are held for
a minimum period of one year. On long term capital gains a rate of 10% is applicable.
If the investment is sold before one year the investment and all related receipts become
non-repatriable unless RBI permission is taken in advance with clearance from Income
Tax department, with long term capital gains (LTCG) provisions as applicable to resident
assesses.
In the case of non allotment or allotment of less than requested amount, refunds can
be credited to NRE accounts.
In case of debentures, long term capital gains (LTCG) provisional apply after three
years (in place of one year for equity issues). But the proceeds are fully repatriable. For
investment and sale through secondary market a blanket permission valid for 5 years is to
be obtained through an NRE banker. RBI permission stipulates that such investments be
routed through any one bank branch to facilitate control/monitoring.
There is a ceiling for NRI investment in each company. For an individual NRI it is one
percent of paid up capital and five percent for all NRI’s and it could be raised to 24 % for
all NRI’s wherever the company passes a special resolution at is annual general meeting.
Repatriation of original investment, profits and dividends is allowed. The lock-in period
has been removed on 12.10.1994.
PORTFOLIO INVESTMENT
NRI Portfolio Investment – One hundred percent scheme:
Repatriable Basis
NRIs and overseas corporate bodies predominantly owned by them are permitted to
invest up to 100% equity in high priority industries with repatriability of capital and income.
NRI investment up to 100 % of equity is also allowed in export houses, trading houses,
star trading houses, hospital EOU’s. Sick industries, hotel and tourism related industries
are without the right of repatriation in the previously excluded areas of real estate, housing
and infrastructure. Power is another sector where 100% investment is allowed. Repatriation
of profits is permitted.
Forty Percent scheme: Reptraible Basis
On repatraible basis investment by to 40% of equity of any company promoted by

NRI in any industry or for exports subject to prior permission from RBI is allowed.

Non Repatriation Basis

NOTES
Investment in Mutual funds:
Mutual funds seeking investment from NRI’S have to obtain approval from RBI.
NRIs do not need a separate approval from RBI. NRIs can make investments in mutual
funds through purchases from secondary market on non repatriation basis. In such cases
they have to submit the application through a designated branch of an authorized dealer.
Investment in Money market mutual Funds (MMFs)
NRIs are permitted to invest on non – repatriation basis in MMFs floated by

commercial banks and public/private sector financial institutions. The concerned bank/
institution should get authorization from RBI/SEBI . NRIs do not need separate permission.
Purchase of Share by Private Arrangement
NRIs/OCBs require permission of RBI for purchasing shares of Indian companies by

private arrangement.
2.3.5 Pricing of Issues
A listed company can freely price equity shares/convertible securities through public/
rights issues. An unlisted company eligible to make a public issue and desirous of getting
its securities listed on a recognized stock exchange can also freely price shares and
convertible securities. The free pricing of equity shares by an infrastructure company 8is
subject to the compliance with disclosure norms as specified by the SEBI from time to
time. While freely pricing their initial public issue of share/convertibles, all banks require
approval by the Reserve Bank of India (RBI).
DIFFERENTIAL PRICING
Listed/unlisted companies may issue shares/convertible securities to applicants in the

firm allotment category (i.e. Allotment on a firm basis made to Indian and multilateral
development finance institutions, Indian mutual funds, foreign institutional investors including
non-resident Indians/overseas corporate bodies and permanent/regular employees of the
issuing company) at a price different from the price at which the net offer to the public (i.e.
the Indian public, excluding firm allotments/reservations/ promoters contribution) is made,
provided the price at which the security is offered to the applicants in firm allotment
category is higher than the price at which securities are offered to the public.
A listed company making a composite issue of capital (i.e. Public-cum-rights basis

made through a single offer document in which he allotment for both public and rights
components is proposed to be made simultaneously) may issue securities at differential
prices in its public and rights issue. In the public issue, which is a part of a composite issue,
differential pricing in the firm allotment category vis-à-vis the net offer to he public is also

DBA 1724
permissible. However, justification for the price differential should be given in the offer
NOTES document in case of firm allotment category as well as in all composite issues.
PRICE BAND
The issuer/issuing companies can mention a price band of 20 percent (cap in the price
band should not exceed 20 percent of the floor price) in the offer document filed with the
SEBI and the actual price can be determined at a later date before filing it with the ROCs
(Registrar of Companies). If the Board of Directors (BOD) of the issuing company has
been authorized to determine the offer price within a specified price band, a resolution
would have to be passed by them to determine such a price. The lead merchant bankers
should ensure that in the case of listed companies, a 48-hour notice of the meeting of the
BOD, for passing the resolution for determination of price, is given to the designated stock
exchange. The final offer document should contain only one price and one set of financial
projections, if applicable.
PAYMENTS OF DISCOUNTS/ COMMISSIONS
Any direct/indirect payment in the nature of discount/commission/allowance or

otherwise cannot be made by the issuer company/promoters to any firm allotted in a public
issue.
DENOMINATION OF SHARES
Public/rights issue of equity shares can be made in any denomination in accordance

with Section 13(4) of the Companies Act and in compliance with norms specified by the
SEBI from time to time. The companies that have already issued shares in the denominations
of Rs.10 or Rs.100 may change their standard denomination by splitting/consolidating
them The issue of shares in any denomination or change in the standard denomination is
subject to the following;
i. The shares should not be issued in the denomination of a decimal of a rupee;
ii. The denomination of the existing shares should not be altered to a denomination of
a decimal of a rupee;
iii. At any given time, there would be only one denomination for the shares of a company,
iv. The companies seeking to change the standard denomination may do so only it
their memorandum and articles of association permit and
v. The company should adhere to the disclosure and accounting norms specified by
the SEBI from time to time.

2.3.6 Merchant Banking And Post Issue Activities

NOTES
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 acce4pted 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.
2.3.7 Law Relating 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)

DBA 1724
NOTES 2. The Securities Contracts (Regulations) Act, 1957 regarding transactions in securities
3. The Securities Contracts (Regulation (Rules, 1957.

Q.2.3.a. What is meant by ‘pure prospectus method’? What are its features ? What are its
advantages ?
Q.2.3.b. What are the limitations of marketing securities through the pure prospectus
method?
Q.2.3.c. What do you mean by ‘offer for sale’ method? What are its features?
Q.2.3.d. What is ‘private placement’? What are its features?
Q.2.3.e. Bring out the advantages and drawbacks of private placement method of marketing
of securities by companies.
Q.2.3.f. What do you know of the ‘IPO’ method of marketing securities? Explain the
procedure involved in the same.
Q.2.3.g. What is ‘rights issue method’ of share offer? What are its advantages and
drawbacks?
Q.2.3.h. State the SEBI guidelines relating to the rights issue.
Q.2.3.i. What is bonus issue? Bring out the relevant SEBI guidelines in this regard.
Q.2.3.j. Distinguish between rights issue and bonus issue methods of marketing new
securities.
Q.2.3.k. What is ‘book-building’ as a method of offering securities? Explain briefly the
steps involved in it. Also state its advantages.
Q.2.3.l. How is an issue marketed through the ESOP? State the relevant SEBI guidelines
in this regard.
Q.2.3.m. What are bought-out deals? What are its features?
Q.2.3.n. Bring out the differences between bought-out deals and private placement.
Q.2.3.o. Outline the merits and demerits of bought-out deals as a method of marketing of
securities.
Q.2.3.p. What are the OTCEI guidelines relating to bought-out deals?
Q.2.3.q. Define the term ‘prospectus’.
Q.2.3.r. What is the information to be provided as regards management discussion and
analysis in respect of a public issue?
Q.2.3.s. State the provisions as regards the issue of securities by a company through the
information memorandum and the red-herring prospectus.
Q.2.3.t. What are the guidelines issued by SEBI with regard to the underwriting business
in India?
Q.2.3.u. What are post-issue activities? Explain.

Q.2.3.v. State the need for marketing of security issue.

Q.2.3.w. Identify the steps involved in marketing the issue of securities?
NOTES
Q.2.3.x. What are the factors influencing the choice of an appropriate public issue:?
Q.2.3.y. How are public issues priced?
Q.2.3.z. What are the regulations and laws that govern issue management in India?
SUMMARY
Thus marketing of new issues help the investors avoiding any need to part with the
money even before the shares are allotted in his favour. It allows elimination of unnecessary
hassles involved in making a public issue.

DBA 1724
NOTES

NOTES
UNIT III
OTHER FEE BASED MANAGEMENT

LESSON 1
1.1 INTRODUCTION
Mergers and Acquisitions (M&A) as forms of business combination are increasingly
being used for undertaking restructuring of corporate enterprises the world over.
In fact, the corporate world is in the grip of merger-mania (mega mergers and hostile
takeovers). The merger wave which began in the U.S. first occurred during the period
between 1890 and 1904. Of late, mergers happen in all the sectors of the economy, the
prime driving force being the accomplishment of synergetic effect for both the acquiring
and the acquirer companies.

1. Mergers and Acquisitions
2. The different steps in mergers and Acquisitions
3. Different issues connected thereon
1.3 MERGERS
A type of business combination where two or more firms amalgamate into one single
firm is known as a merger. In a merger, one or more companies may merge with an existing
company or they may combine to form a new company. In India mergers and amalgamations
are used interchangeably.
In the wider sense, merger includes consolidation, amalgamation, absorption and
takeover. It signifies the transfer of all assets and liabilities of one or more existing companies
to another existing or new company.
1.3.1 Objectives
The main purpose of merges is to achieve the advantage of fusion and synergy through
expansion and diversification.

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1.3.2 Steps IN M & A

NOTES
Following are the steps involved in M&A :
1. Review of Objectives
The first and foremost step in M&A is that the merging companies must undertake the
review of the purpose for which the proposal to merge is to be considered. Major objectives
of merger include attaining faster growth, improving profitability, improving managerial
effectiveness, gaining market power and leadership, achieving cost reduction, etc. The
review of objectives is done to assess the strengths and weaknesses, and corporate goals
of the merging enterprise. In addition, the need for elimination of inefficient operations,
cost reduction and productivity improvement, etc. should also be considered. Such a
move would help the acquiring company to decide as to the kind of business units that
must be acquired.
2. Data for analysis
After reviewing the relevant objective of acquisition the acquiring firm needs to collect
detailed information pertaining to financial and other aspects of the firm and the industry.
Industry-centric information will be needed to make an assessment of market growth,
nature of competition, case of entry, capital and labour intensity, degree of regulation, etc.
Similarly, firm-centric information will be needed to assess quality of management, market
share, size, capital structure, profitability, production and marketing capabilities, etc. The
data to be collected serves as the criteria for evaluation.
3. Analysis of information
After collecting both industry-specific and firm-specific information, the acquiring firm
undertakes analysis of data and the pros and cons are weighed. Data is to be analyzed
with a view to determine the earnings and cash flows, areas of risk, the maximum price
payable to the target company and the best way to finance the merger.
4. Fixing price
Price to be paid for the company being acquired shall be fixed taking into consideration
the current market value of share of the company being acquired. The price shall usually
be above the current market price of the share. A merger may take place at a premium. In
such a case, the firm would pay an offer price which is higher than the target firm’s pre-
merger market value. This would happen where the acquiring firm is of the firm opinion
that such an option would augment operational results of the target firm owing to synergic
effect.

5. Finding merger value

NOTES
Value created by merger is to be found so that it is possible for the merging firms to
determine their respective share. Merger value is equal to the excess of combined present
value of the merged firms over and above the sum of their individual present values as
separate entities. Any cost incurred towards the merging process is subtracted to arrive at
the figure of net economic advantage of merger. This advantage is shared between the
shareholders of the merging firms.
1.3.3 Take Overs
Take over is the case where one company obtains control over the management of
another company.
Under both acquisition and takeover, it is possible for a company to have effective
control over another company even by holding minority ownership. For instance, the
Monopolies and Restrictive Trade Practices (MRTP) Act prescribes that a minimum of 25
percent voting power must be acquired as to constitute a takeover. Similarly, section 372
of the Companies Act defines the limit of a company’s investment in the shares of another
company as anything more than 10 percent of the subscribed capital so as to constitute a
takeover.
DISTINCTION BETWEEN ACQUISITION AND TAKE OVER
Where a distinction between acquisition and takeover is made, takeover usually takes
the form of ‘hostile’ or ‘forced’ or ‘unwilling acquisition and acquisition happens at the
instance and the willingness of the company management and the shareholders. It is for
this reason that acquisition is generally referred to as ‘friendly takeover’.
“Acquisition”: e.g.
An example of acquisition is Mahindra and Mahindra Ltd., a leading manufacturer of

jeeps and tractors, acquiring equity stake of Allwyn Nissan Ltd.
“Hostile takeovers”: e.g.
The acquisition of Shaw Wallace, Dunlop, Mather and Platt and Hindustan Dorr Oliver
by Chablis and Ashok Leyland by Hindujas, etc.
HOSILE TAKEOVERS
Where in a merger one firm acquires another firm without the knowledge and consent
of the management of the target firm, it takes the form of a ‘hostile takeover’. The acquiring
firm makes a unilateral attempt to gain a controlling interest in the target firm, by purchasing
shares of the later firm directly in the open (stock) market.

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An example of hostile takeover was the takeover of TMBL by Sivasankaran of the

NOTES Sterling Group. Since this type of takeover is generally prejudicial to the interest of the
stakeholders, SEBI has come out with relevant code of conduct for the purpose of regulating
the takeover practice in India.
DISTINCTION BETWEEN MERGERS Vs. TAKEOVERS
The following are the differences between “Mergers” and “Takeovers”

Sl.
Distinction Merger Takeover
No.
1 Definition Defined as an Defined as a transaction or
arrangement whereby series of transactions
the assets of two whereby a person
companies become (individual, group of
vested in, or under the individuals or company)
control of, one company acquires control over the
(which may or may not assets of a company, either
be one of the original directly by becoming the
two companies), which owner of those assets or
has as its shareholders indirectly by obtaining
all, or substantially all, control of the management
the shareholders of the of the company.
two companies.
2. Mode Effected by the Effected by agreement with
shareholders of one or the holders of the whole of
both of the merging the share capital of the
companies exchanging company being acquired,
their shares (either where the shares are held by
voluntarily or as the the public generally, the
result of a legal takeover may be effected by
operation) for shares in agreement between the
the other or a third acquirer and the controllers
company, the of the acquired company, or
arrangement being by purchases of shares on
frequently effected by the Stock Exchange, or by
means of a takeover bid means of a “takeover bid”.
by one of the companies
for the shares of the
other, or of a takeover
bid by a third company
for the shares of both
3. Control Shareholding in the Direct or indirect control
over assets combined enterprise over the assets of the
will be spread between acquired company passes to
the shareholders of the the acquirer
two companies
4. Bid Bid is generally by the Bid is frequently against the
consent of the wishes of the management
management of both of the offeree company.
companies

1.3.4 Major Issues Of M&A In India

NOTES
Business combinations and re-structuring in the form of merger, etc. have been attempted
to face the challenge of increasing competition and to achieve synergy in business operations.
The major issues of M&A are as follows :
Depreciation
The acquiring firm claims depreciation in respect of fixed assets transferred to it by

the target firm. The depreciation allowance is available on the written down value of fixed
assets. Further, the depreciation charge is based on the consideration paid and without
any revaluation.
R&D Expenditure
It is possible for the acquiring firm to claim the benefit of tax deduction under section
35 of the Income Tax Act, 1961 in respect of transfer of any asset representing capital
expenditure on R&D.
Tax Exemption
The fixed assets transferred to the acquiring firm by the target firm are exempt from
capital gains tax. This is however subject to the condition that the acquiring firm is an
Indian Company and that shares are swapped for shares in the target firm. Further, as the
swap of shares is not considered as sale by the shareholders, profit or loss on such swap
is not taxable in the hands of the shareholders of the amalgamated company.
Carry Forward Losses
The Indian Income Tax Act, 1961 contains highly favourable provision with regard to
merger of a sick company with a healthy company. For instance, section 72A(1) of the
Act gives the advantage of carry forward of losses of the target firm. The benefit is however
available only :
• Where the acquiring from is an Indian Company;
• Where the target firm is not financially viable;
• Where the merger is in public interest,
• Where the merger facilities the revival of the business of the target firm; and
• Where the scheme of amalgamation is approved by a specified authority.
Q.1.3.a. What are M&A advisory services?
Q.1.3.b. Define the term ‘merger’.
Q.1.3.c. Distinguish between merger and takeover.

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Q.1.3.d. What are the different forms of a merger?

NOTES Q.1.3.e. What are the arguments that are put forth in favour of M&A proposal. .
Q.1.3.f. Elaborate on the steps that are involved in a typical M&A proposal.
Q.1.3.g. Ring out the rationale for the heightened M&A activity in the Indian corporate
world
Q.1.3.h. Discuss the major issues of M&A in India.
SUMMARY
Thus M& A as an important corporate restructuring activity enquires the imposition

and implementation of strict measures of control and regulation by the state authority. The
objective is to ensure that the M&A proposals do not degenerate into the exploitation of
shareholders, particularly minority shareholders. Further to ward off the potentially dangerous
effects of M&A such as stifling of competition and encouraging monopoly and monopolistic
corporate behavior, it is essential that proper and adequate regulatory measures are put in
place
In India M & A is governed by a host of regulations, enactments and guidelines. The

regulatory provisions concerning the M& A in India are contained in MRTP Act, 1969,
Income Tax Act, 1961, Companies Act, 1956, Securities Contracts (regulations) act,
1956, Sick Industries Companies (special provisions)Act, 1985, Securities and Exchange
Board of India Act, 1992 and Listing Agreement of the Stock Exchanges.

NOTES
LESSON 2
2.1 INTRODUCTION
Preserving and growing capital is as hard as earning it. Knowing what one want is as
important as achieving those goals. Assessing one’s risk profile and aligning potential returns
for the risk assumed from various investment options is the crucial task. In today’s fluid
environment, that has become a hard task to achieve. As the investor’s net worth increases,
financial complexity expands exponentially and the investment needs and options multiply.
And equities offer one of the best options for investments.
Mutual funds as an investment vehicle are structured to reduce risks as far as possible,
as they cater to thousands of investors. This results in some limitations as far as the investment
strategy is concerned despite adopting the active management approach. As a discerning
investor, one who is not averse to taking on more risk in order to achieve greater returns,
one want his investments to be managed more actively compared to a mutual fund. He
wants his investments to be managed in a way that tries to maximize value.
To achieve this objective of preserving and growing one’s capital a new service to
help in this onerous but rewarding task, there emerged the concept of portfolio management
services. A focus on providing one with options which would aim at wealth accretion while
minimizing the risk .

• Portfolio management services
a. definition
b. objectives
c. functions
d. latest developments
2.3 PORTFOLIO AND MANAGEMENT SERVICES:
A list of all those services and facilities that are provided by a portfolio manager to its
clients, relating to the management and administration of portfolio of securities or the funds
of the client, is referred to as ‘portfolio management services’. The term ‘portfolio’ means
the total holdings of securities belonging to any person.

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Portfolio Manager
NOTES
According to SEBI, ‘Portfolio Manager’ means any person who pursuant to a contract
or arrangement with a client, advises or directs or undertakes on behalf of he client (whether
as a discretionary portfolio manager or otherwise) the management or administration of a
portfolio of securities or the funds of the client, as the case may be.
Discretionary Portfolio Manager
According to SEBI, ‘discretionary portfolio manager’ means a portfolio manager

who exercises or may, under a contract relating to portfolio management, exercises any
degree of discretion as to the investments or management of the portfolio of securities or
the funds of the client, as the case may be.
2.3.1 Objectives
a. Provide long term capital appreciation with lower volatility, compared to the
broad equity markets.
b. Takes long positions in the cash market and short positions in the index futures
markets.
c. Invests in the model portfolios thus downside the risk by selling index futures in the
derivatives market.
2.3.2 Functions
The objective of portfolio management is to develop a portfolio that has a maximum
return at whatever level of risk the investor deems appropriate.
Risk Diversification
An essential function of portfolio management is spread risk akin to investment of
assets. Diversification could take place across different securities and across different
industries. Is an effective way of diversifying the risk in an investment. Simple diversification
reduces risk within categories of stocks that all have the same quality rating.
Asset Allocation
An important function of portfolio management is asset allocation. It deals with attaining
the operational proportions of investments from asset categories. Portfolio managers
basically aim of stock-bond mix. For this purpose, equally weighted categories of assets
are used.
Bets Estimation
Another important function of a portfolio manager is to make an estimate of best
coefficient. It measurers and ranks the systematic risk of different assets. Best coefficient
is an index of the systematic risk. This is useful in making ultimate selection of securities for
investment by a investment by a portfolio manager.

Rebalancing Portfolios
NOTES
Rebalancing of portfolios involves the process of periodically adjusting the portfolios
to maintain the original conditions of the portfolio. The adjustment may be made either by
way of ‘Constant proportion portfolio’ or by way of ‘Constant best portfolio’.
In Constant proportion portfolio, adjustments are made in such a way as to maintain

the relative weighing in portfolio components according to the change in prices.
Under the constant beta portfolio, adjustments are made to accommodate the values
of component betas in the portfolio.
2.3.3 Strategies
A portfolio manager may adopt any of the following strategies an part of an efficient
portfolio management.
Buy and Hold Strategy
Under the ‘buy and hold’ strategy, the portfolio manager builds a portfolio of stock
which is not disturbed at all for a long period of time. This practice is common in the case
of perpetual securities such as common stock.
Indexing
Another strategy employed by portfolio managers is ‘indexing’. Indexing involves an

attempt to replicate the investment characteristics of a popular measure of the bond market.
Securities that are held in best-known bond indexes are basically high grade issues.
Laddered Portfolio
Under the laddered portfolio, bonds are selected in such a way as that their maturities
are spread uniformly over a long period of time. This way a portfolio manager aims at
distributing the funds throughout the yield curve.
Barbell Portfolio
Under the laddered portfolio, bonds are selected in such a way as that their maturities
are spread uniformly over a long period of time. This way a portfolio manager aims at
distributing the funds throughout the yield curve.
Q.2.3.a. Who is a portfolio manager?
Q.2.3.b. Who is a discretionary portfolio manager?
Q.2.3.c. What are the functions of a portfolio manager?
Q.2.3.d. State the strategies employed by a portfolio manager.the SEBI regulations, 1993.

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Q.2.3.e. Outline the procedures relating to the registration of portfolio managers under
NOTES Q.2.3.f. What are the aspects considered by the SEBI before granting the certificate of
registration to commence the business of portfolio management?
SUMMARY
Thus the portfolio management services are mapped to suit a conservative or aggressive
risk profile. This service focuses on large cap stocks that are well researched, so as to
reduce negative surprises in terms of corporate governance and management quality. The
large cap orientation of this offering gives you the reassurance that one’s money is invested
only in established blue-chip stocks, which enjoy an established performance. One can
also benefit from lower transaction costs because of better liquidity.

NOTES
LESSON – 3
3.1 INTRODUCTION
‘Credit syndication services’ are services rendered by the merchant bankers in the
form of organizing and procuring the financial facilities form financial institutions, banks, or
other lending agencies.
Financing arranged on behalf of the client for meeting both fixed capital as well as
working capital requirements is known as ‘loan syndication service’

• Credit syndication services
• Its scope
3.3 CREDIT SYNDICATION SERVICES
Merchant bankers provide various services towards syndication of loans. The services
may be either loan sought for long term fixed capital or of working capital funds. They are
discussed in detail.
3.3.1 Objectives
• arranging medium and long term funds for long term fixed capital and working
capital fund needs.
3.3.2 Scope
The scope of syndicated loan services as provided by merchant bankers include

identifying the sources of finance, approaching these sources, applying for the credit, and
sanction and disbursal of loans to the clients.
While carrying out the activities connected with credit syndication, the merchant banker
ensure due compliance with the formalities of the financial institution, banks and regulatory
authority. They are :
1. General Information : The purpose of furnishing general information is to enable the

financing company to obtain a general idea about the applicant company and its proposed
project.
2. Promoter information : Information about promoters is furnished by the merchant

banker with the objective of helping the lending agency to gain an understanding of the
promoter, his activities economic background, credibility and integrity.

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3. Company information : The merchant banker has to furnish the following information
NOTES as regard the company for loan syndication arrangements to be made:
• Brief history of the concern
• Schemes already executed in the case of existing company
• Expansion/diversification plans in the case of an existing company
• Nature, size and status of the project to assess the funds requirement in the case of
a new company
• Changes in names, business, management, etc. and mergers, reorganizations, etc.
that have taken place in the past.
4. Project profile information : Full information relating to the project for which financial
assistance is sought is furnished by the merchant banker. The type of information may
pertain to plant capacity, nature of production process to be employed, nature of technical
arrangements available for the project.
5. Project cost information : Details of the estimated cost of the project should be
provided to the lending institution. This includes information as regards rupee cost/rupee
equivalent of foreign exchange cost/total cost for land or site development/buildings/plant
and machinery, imported/indigenous, technical know-how, etc. to be furnished. Besides,
details of expenses likely to be incurred on foreign technicians/training of Indian technicians
abroad, miscellaneous fixed assets, preliminary pre-operative expenses, provision for
contingencies, margin money for working capital etc. should be stated in the loan application.
6. Project financing information : Details regarding the mode of financing used for the
project should be stated. This includes information on the extent of debt and equity capital
funding source. Besides, details of rupee loans, foreign currency loans, debentures, internal
cash accruals, promoters’ contribution. The security offered for he loan/bank guarantee,
etc. should also be specified. Data should also be provided on the extent of loan
arrangements already applied for and the limit of financial arrangements thereto.
7. Project marketing information : As part of the credit syndication exercise, it is

incumbent on the part of the merchant banker to furnish adequate information about the
marketing arrangements made for the products of the borrowing unit.
8. Cash flow information : The merchant banker has to furnish details as to profitability
and expected stream of cash flows and cost of the proposed project for this purpose, it is
essential that working results of operations, cash flow statements and projected balance
sheet are given in prescribed form along with the basis of the calculations.
9. Other information : The merchant banker has to indicate as to how the purpose of
the economic and national importance of the proposed project will be realized. Besides,
following are the other details to be furnished by the merchant banker to the lending agency.

1. CIF/FOB international price of inputs to be imported/exported

2. Economic benefits in general and the region in particular available to the nation
NOTES
from the project
3. Economic benefits in general and the region in particular available to the nation
from the project
4. Expected contribution to the growth, if any of ancillary industries in the region
5. Government consent by way issue of letter of intent, industrial license, foreign
exchange permission, approval of technical financial collaboration etc.
a. Making Application
The merchant banker files the duly filled-in application in a manner as desired by the
term-lending institution. While presenting the application, it is incumbent on the part of the
merchant banker to ensure that all the required formalities have been complied with. For
instance, it is important that necessary sanction is obtained from the Government for the
proposed project. Loans are syndicated by development financial institutions though the
‘lead institution’ especially in the case of ‘consortium financing’ or ‘joint lending’. Where
loans are sought in huge amounts consortium approach to lending is followed. The lead
institution adopts ‘single window scheme’ while appraising, sanctioning and disbursing
loans.
A part of credit syndication services, the merchant banker arranges for appraisal of
the project by sufficiently interacting with the officials of the development financial institutions.
The merchant banker holds formal discussions with the appraisal team of financial institutions.
He helps the promoters/chief executive of the company by providing information to the
appraisal team. He takes part in the site inspection with the appraisal team and provides
information to them about the technical aspect of the project implementation. He also
assists the appraisal team on matters connected with the choice of technique to be adopted
for appraisal of the project. Merchant banker provides advice in the preparation of
project/feasibility report and the market survey report, and the financial projections relating
to the project.
1 Technical appraisal : Technical appraisal involves the assessment of technical and

engineering soundness of the project. While carrying out the technical appraisal of a project,
aspects such as competence of the experts preparing design of facilities and specifications;
purchase arrangements of equipments; supervision of construction and installation; ability
of consultants and their costs for services, are looked into. Attention is also paid to the
aspects concerning the scale of operation, cost of production and prospective demand.
Similarly, attention is paid to understand the appropriateness of the methods and processes
to be used for the project. Consideration is also given to the level of availability of latest
technology, degree of obsolescence in technological process, etc.

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2 Ecological appraisal : Regarding the ecological aspects of the project, the merchant
NOTES banker ensures that the borrowing company has taken all possible steps for preventing air,
water and soil pollution arising out of the industrial project proposed to be undertaken. A
certificate from the State Pollution Control Board has to be produced to the effect that the
company has installed equipment adequate and appropriate to the requirement of meeting
the environment protection. Ecological appraisal is mandatory with respect to highly polluting
industries such as zinc, lead, copper, aluminum, steel, paper, pesticides/insecticides, refineries,
fertilizers, paints, dyes, leathering tanning, rayon, sodium/potassium cyanide, basic drugs,
foundry, batteries, acids/alkalis, plastics, rubber, cement, asbestos, fermentation, electro-
placing, etc.
3 Financial appraisal : Financial appraisal involves analyzing the financial viability of
the project under consideration. Analysis of the need for fixed capital and working capital
is also carried out. Consideration is also given to the cost of the project as relating to
acquisition of capital assets, interest cost on loans obtained for promotional, organizational,
training and other purposes.
4 Promoters’ contribution: Promoter’s contribution for establishment and running of
a project is vital. The important sources of promoters’ contribution in the case of newly
established companies include own equity, managed equity from special funds such as
Risk Capital/venture Capital Funds or Seed Capital from IDBI through SFCs, etc. and
foreign equity, deposits contributed by promoters, etc. In the case of existing companies
the sources of promoter contribution include internal accruals, right issues, divestment of
shares, additional equity, unsecured loans, etc. The extent of promoters’ contribution and
debt-equity norms must be scrutinized by the merchant banker.
5 Economic appraisal: The project involves making an analysis of the expected
contribution of the project to the particular sector, besides its contribution to the
development of the national economy. Particular attention is paid to the project’s usefulness
in terms of best possible utilization of scarce resources. It is essential to consider the
priority nature of the project. Accordingly, a project will be considered desirable if it has
a tremendous impact on the balance of payment and the capacity to generate exchange
surplus through new exports, import substitution and resultant savings in foreign exchange.
6 Commercial appraisal: It involves the determination of commercial viability of the
project in terms of arrangements for buying, transporting and marketing the product.
7 Managerial appraisal: It is concerned with the evaluation of effectiveness and
efficiency of the managerial personnel who are vested with the responsibility of organizing
the available resources of the project. The merchant banker checks the managerial
competency both at construction and operation stages to ensure the success of the project.
8 Arrangement of Loan Sanction – It is the function of a merchant banker to obtain
the letter of intent/sanction from the lending institution/bank. The lending agency informs
the merchant banker about the sanction of loan by the sanctioning authority. The sanction

letter invariably contains terms and conditions pertaining to the sanction of loan. Some
these terms include amount of loan, rate of interest applicable, commitment charge levied NOTES
by the lender in order to motivate the borrowing unit to make efficient use of the loan,
security for the loan, conversion option in the case of default and rehabilitation assistance,
repayment terms of loan, and other terms and conditions.
9 Compliance for Loan Disbursement: It is essential duty of the merchant banker to

ensure compliance of terms and conditions to have the loan facility disbursed by the bank
or the financial institution. Compliance is required in respect of the following.
9.3 Compliance with the provisions of Memorandum and the Articles
9.4 Compliance with the provisions of Acts
9.5 Compliance with the provisions of loan agreement.
10. Compliance with memorandum and the articles
The merchant banker ensures due compliance with the provisions of Memorandum
and Articles of Association of the borrowing unit. This is to check the extent of
powers commanded by the Board of Directors of the company to make borrowings
from the lending agency. The borrowing powers of the Board are enshrined in the
memorandum by means of its ‘objects clause’. The compliance would help the lending
agency to ensure that the acts of directors are not ultra-vires so as to safeguard its
interest.
b. STATUTORY COMPLIANCE
In addition, compliance is also called for with regard to the provisions constrained in
various enactments concerning the management and regulation of joint stock companies in
India. Some of these enactments include Companies Act, 1956, Industries (Development
and Regulation) Act, 1951, Foreign Exchange Regulation Act, 1973, Securities Contracts
(Regulation) Act, 1956. The Foreign Trade (Development and Regulation) Act, 1992,
Income-Tax Act, 1961.
(I) The companies Act, 1956 contains specific provisions that stipulate the powers of
borrowings vested with the Board of Directors of the company. For instance, section 292
and 293 of the Act outline the exercise of powers to borrow from banks and financial
institutions. Similarly, sections 17 and 31 of the said Act give an account of restrictive
covenants pertaining to powers of directors to borrow to be contained in the Memorandum
of Association and Articles of Association of a company. The provisions mainly outline
the procedures such as passing of resolutions etc. to be followed for raising loans from
term lending agencies.

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2 Compliance is also required under the provisions of the Industries

NOTES (Development and Regulation) Act, 1951.
The Act contains provisions of control and regulation for the setting up of new industries
and also expansion of existing industries. The provisions mainly relate to registration and
revocation of registration of industrial undertaking, licensing of new industrial undertakings,
license and revocation of license for producing or manufacturing new articles, licensing of
industrial undertakings in special cases, etc. Besides, provisions also outline the powers of
the Central Government to specify the requirements which shall be complied with by small-
scale industrial undertakings, power of the Central Government to exempt any industrial
undertaking in special cases, etc.
3 Compliance is called for as regards provisions contained in the Foreign

Exchange Management Act (FEMA).
The provisions are applicable in the case of non-resident Indians being associated in any
manner with the organization or management or operations of the client company or where
foreign capital in any manner with the organization or management or operations of the
client company or where foreign capital in any manner (i.e. By way of foreign collaborator’s
contribution to equity capital, loans etc.) is being utilized or foreign currency loans are
being raised from financial institutions or banks.
(IV) Provisions of the Securities Contracts (Regulation) Act, 1956 (SCRA) are
also required to be complied with by the borrowing unit before seeking financial assistance
from the term lending agency. Compliance is related to stipulations of enlistment of securities
of the company in recognized stock exchanges (although listing is not mandatory under the
said Act). Under Section 21 of the Act, Central Government is empowered to compel
any public limited company to enlist its securities with a recognized stock exchange.
(V) Compliance with the provisions of the FIDRA (Foreign Trade Development
and Regulation Act), 1992 are required compliance by the borrowing unit. This becomes
necessary where the client company envisages to procure raw material, machinery, plant
and equipments from overseas through imports under the import license granted by the
Central Government under Import and Export (Control) Act, 1947.
(VI) An important enactment in India that requires closer compliance by the

borrowing units is the Income-Tax Act, 1961.
The Act contains provisions that require furnishing of a tax clearance certificate from
assessing officer under section 230A of Income Tax Act before creation of security by
way of English mortgage in favour of lenders.

C. DOCUMENTATION AND CREATION OF SECURITY

NOTES
An important function of a merchant banker is to create an adequate documentation of
security by working closely with the ‘lead financial institution,’ so as to ensure quicker
disbursement of loan. The type of documents to be prepared and executed by the merchant
banker will be as per the requirements of the lead financial institution. Depending on the
loan type, the merchant banker executes bridge loan document or interim loan document.
The merchant banker provides the following details with regard to the security for the
loan:
1. First mortgage and charge of all immovable properties both present and future
of the borrower company in the form as may be indicated by lenders which is
equitable mortgage by deposit of title deeds.
2. First charge by way of hypothecation : (i) of all movables such as stocks of
raw material, semi-finished and finished goods, consumable stores and such offer
movables as may be agreed to by the lead institution for securing the borrowings
for working capital requirements in the ordinary course of the business, and (ii)
on specific items of machinery as permitted by the lender purchased and/or to be
purchased by the client company under the deferred payment facilities granted to
the client company.
3. Security for bridge loan
4. Security for interim loan
5. Substantive security where the loan amount is being secured in terms of the
loan agreement by first charge on the company’s immovable and movable assets,
present and future
6. Personal guarantee where the loan amount is being secured in terms of the loan
agreement by first charge on the company’s immovable and movable assets,
present and future
7. Personal guarantee where the borrowing is being secured by irrevocable and
unconditional personal guarantee from its promoters/directors in favour of the
lending institutions.
D. PRE – DISBURSEMENT COMPLIANCE
This function is aimed at merchant bankers assisting the borrowing unit in the withdrawal
of the loan amount from the financial institution. This done with additional compliance of
formalities of provision of information and documentation. Some of the pre-disbursement
conditions that require compliance by the merchant banker are documentation. Some of
the pre-disbursement conditions that require compliance by the merchant banker are as
follows:

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1. Completion of creation of security as stipulated in loan agreement

NOTES 2. Completion of borrowing arrangements with other institutions and banks for raising
funds as per the financing plan
3. Non-existence of event of default in payment of principal sum of the loan interest,
arrears of interest, and in performance of other terms and conditions of the loan
4. Compliance of special conditions of sanction of loan
5. Review of progress as satisfactory
6. Subscription of share capital by promoters as stipulated in the loan agreement and
as stipulated in proposal of financing the project cost.

Q.3.3.a. State the details to be furnished by the merchant banker as regards ‘promoter’.
Q.3.3.b. What are the details to be furnished by the merchant banker as to cost of project?
Q.3.3.c. What are the major funding sources identified by the merchant banker?
Q.3.3.d. What are the important data to be supplied by the merchant banker regarding the
borrowing company:?
Q.3.3.e. What is the project marketing information to be supplied by the merchant banker?
Q.3.3.f. How do merchant bankers assist the term lending institutions in making appraisal
of the project? Elaborate.
Q.3.3.g. Write a note on the compliance of terms and conditions for loan disbursement as
regards statutes.
SUMMARY
Thus the institutions with which the merchant bankers syndicate include Industrial
finance corporate of India, Industrial Development Bank of India, Industrial Credit and
Investment Corporation of India Ltd., Industrial Reconstruction bank of India, and Shipping
Credit and Investment Company of India Ltd., the state level bodies such as State Financial
Corporations, State Industrial Development Corporations, State Industrial and Investment
Corporations an all-India investment institutions such as Life Insurance Corporation of
India, Unit Trust of India, General Insurance Corporation of India, and its subsidiary
companies etc.,

NOTES
LESSON – 4
4.1 INTRODUCTION

• the basis of credit rating
• the credit rating companies in India
• the different types of credit rating
4.3 CREDIT RATING
Credit rating is a mechanism by which the reliability and viability of a credit instrument
is brought out. When a company borrows or when a businessman raises loan, the lenders
are interested in knowing the credit worthiness of the borrower not only in the present
condition but also in future. Hence, credit rating reveals the soundness of any credit
instruments issued by various business concerns for the purpose of financing their business,.
In credit rating, the investor is not only able to know the soundness of the credit instrument,
but be is also able to analyze between different credit instruments and he can make a trade
off between risk and return.
CREDIT RATING OF INDIVIDUALS, COMPANIES AND COUNTRIES
Credit rating is resorted to :

a) Companies
b) Individuals
c) Countries
a) RATING OF INDIVIDUALS : Individuals go for credit rating when they want to

borrow from recognized institutions. In India, we have Onida Individual Credit Rating
Agency (ONICRA) which gives credit rating for individuals.
b) RATING OF COMPANIES: As per the guidelines of SEBI and RBI, companies

have to resort to credit rating when they :
(i) accept public deposits
(ii) issue credit instruments in domestic market
(iii) issue credit instruments in overseas market.

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c) RATING OF COUNTRIES: Credit rating is resorted to by countries for borrowing

NOTES in international market or for attracting foreign investments or for raising funds from the
international institutions like IMF and IBRD.
4.3.1 Basis of Credit Rating
Various aspects are taken into account by a credit rating agency when a borrowing
company applies for rating. They are :
a. Business Analysis
b. Evaluation of industrial risks
c. Market position of the company within the industry
d. Operating efficiency of the company
e. Legal position in terms of prospectus
f. Financial analysis based on accounting quality
g. Statement of profits
h. Earnings protection
i. Cash flow and their adequacy
j. Financial flexibility
k. Track record of management
l. Capacity to overcome adverse situations
m. Goals philosophy and strategy
n. Labour turnover
o. Regulatory and competitive environment
p. Asset quality
q. Financial position-interest/tax sensitivity
4.3.2. Credit Rating Companies in India
Credit rating companies were started in India during the late 1980s. Credit Rating
Information Services of India Ltd (CRISIL) was started in 1988 as a subsidiary of ICICI.
Information and Credit Rating Services Ltd., (ICRA)was started in 1990, which is a
subsidiary of IDBI. In 993, Credit Analysis and Research Ltd. (CARE) was started.

Debt Debt
Rating symbols Remarks
NOTES
Category instrument
CRISIL ICRA CARE
Long term Debentures AAA LAAA CARE Highest safety
instrument Bonds, *AA *LAA AAA High safety
Preference *A *LA *CARE Adequate
*BBB *LBB AA safety
*BB B *CARE A Moderate
*B *LBB *CARE B safety
*C *LB *CARE Inadequate
D *LC BB safety
Medium Fixed FAAA LD *CARE B Risk prone
term Deposits *FAA MAA *CARE C Substantial
Instrument *FA A CARE D risk
*FB *MAA CARE Default
*MA AAA Highest safety
*MB *CARE High safety
*FC AA Adequate
FD *CARE A safety
Short term Commercial *P1 *MC *CARE Inadequate
instrument Paper *P2 MD BBB safety
*P3 *A1 *CARE 1. Do –
*P4 *LAA BB 2. Do –
P5 *LA *CARE B Risk prone
*LAA CARE C Default
*LA CARE D High safety
*PR-1 Highest safety
*PR-2 Adequate
*PR-3 safety
*PR-4 Risk prone
PR-5 Default
8. The suffix of “+” (plus) or “-” (minus) signs are used with the rating symbols to
indicate the comparative position of the instrument within the group covered by
the symbol.
4.3.3 Types of Credit Rating
We have seen the various rating symbols for different categories of the debt instruments.
We can also classify credit rating as types of credit rating which are based on different
securities. These are :
1. Equity rating
2. Bond rating
3. Promissory note rating

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4. Commercial paper rating

NOTES 5. Sovereign rating.
1. EQUITY RATING
When different companies are issuing shares, equity rating will enable the investor to
choose proper equity share on the basis of the credit rating. While judging the equity
rating, the past performance of the company, the earning per share and the turn-over of the
company will be taken into account. If a loss making company turns into a profit making
one, after wiping off its losses, its equity rating will go up.
At the same time, if there is a decline in the dividend rate of an existing concern,
compared to its previous years, its rating will get a beating.
2. BOND RATING
Bonds are issued both by Government as well as by private sector companies. In the
international market, rating of bonds will depends on the rate of interest offered and the
value of the currency it represents. If the bond is issued in terms of U.S. Dollar or Pound
Sterling, its value will be high and the rating will naturally be on the positive side. But the
bonds of under developed countries will have lesser credit rating due to high fluctuations in
their currency value.
Bonds are also issued in the domestic market by both State and Central governments.
Even the local governments, such as Corporation, such as Corporations and Boards also
issue bonds for raising long-term finance in India, government bonds are preferred to
private bonds as there is a guarantee for repayment of the principal and interest amount.
3. PROMISSORY NOTE RATING
In order to raise short-term loans, promissory note are issued by different commercial
companies and depending upon their resources, these promissory notes will have credit
rating. But, the issue of promissory notes will have no backing and the person advancing
the resources against the promissory notes will undertake greater risks. Depending upon
the credit rating, ranging from P1 to P6, promissory notes are preferred as a short-dated
instrument. The unutilized resources lying with commercial banks may be invested in
promissory notes of a better credit rating so that within a short period, a reasonable ‘return’
can be obtained on idle funds.
4. COMMERCIAL PAPERS
These are instruments issued by leading non-banking financial companies which can
be obtained by companies for raising short-term loans from commercial banks. On due
date, commercial banks will present these papers to the NBFC which has issued the
commercial paper and funds will be obtained along with interest. Later on, the NBFC will

collect the amount from the company which has utilized its commercial paper for raising its
short-term loans. NOTES
In order to enable the commercial banks to discount commercial papers, credit rating
is provided to the commercial papers which depends upon the standing of the non-banking
financial company NBFC) which is issuing the commercial paper.
5. SOVEREIGN RATING
When countries are issuing credit instruments in the international market such as Treasury
bills and Bonds, they will be rated according to the economic condition of the country.
Generally, the countries in the world are grouped under three categories, viz.,
(a) Countries which are politically and economically well developed.
(b) Countries which are politically stable but economically week.
(c) Countries which are politically and economically unstable or weak.
In the first category, we have all the developed countries like U.S.A., U.K., Japan,
etc., and their bonds will have high credit rating. In the second category we have countries
like India which have slightly lesser credit rating and in the third category we have some of
the African countries such as Rwanda, Kenya, Zulu, etc. The credit rating of the third
category of countries will certainly be lower.
In India, State Bank of India issued in the international market different credit
instruments such as India Resurgent Bonds and Millennium Deposits and they were
over subscribed owing to the reputation of SBI,. All the NRIs throughout the world, could
subscribe to these bonds and SBI could raise a substantial amount in terms of foreign
exchange.

Q.4.3.a. What do you mean by the term ‘Credit Rating’? What are its features?
Q.4.3.b. What are the benefits of credit rating?
Q.4.3.c. What are the limitations of credit rating?
Q.4.3.d. Discuss the major issues of credit rating in the context of the rapid growth
witnessed in the global financial markets.
Q.4.3.e. Give an account of some of the credit rating agencies, both domestic and
international.
Q.4.3.f. Discuss the regulatory framework available for credit rating in various countries
of the world.
Q.4.3.g. What are rating symbols? What do they connote? Give a brief account of the
rating symbols of the leading credit rating agency in India.

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Q.4.3.h. What is ‘equity grading’? State the need for equity rating.
NOTES Q.4.3.i. Explain the process of equity grading. Attempt your answer with reference to a
leading credit rating agency.
SUMMARY
The outlook for the credit rating industry appears positive. But the industry has to
continuously strive to improve the professional capabilities and sustain its credibility. No
doubt the credit rating agencies today have ample opportunities to play a unique role in
strengthening the capital market and building investors’ confidence in the financial system.

NOTES
LESSON 5
5.1 INTRODUCTION
A mutual fund is a professionally managed firm of collective investments that collects

money from many investors and puts it in stocks, bonds, short-term money market
instruments, and/or other securities. The fund manager, also known as portfolio manager,
invests and trades the fund’s underlying securities, realizing capital gains or losses and
passing any proceeds to the individual investors.

• Mutual funds
o objectives
o types of mutual funds
o latest developments
5.3 MUTUAL FUNDS
a. A mutual fund is a fund exchanged between the public and the capital market
through a corporate body.
b. The Securities and Exchange Board of India Regulations, 1993 defines a
mutual fund as ‘a fund established in the form of a trust by a sponsor, to raise
monies by the trustees through the sale of units to the public, under one or more
schemes, for investing in securities in accordance with these regulations’.
c. Kamm, J.O. defines an open end investment company or Mutual fund company in
U.S.A as ‘an organization formed for the investment of funds obtained from
individuals and institutional investors who in exchange for the funds receive shares
which can be redeemed at any time at their underlying asset values’.
d According to Weston j. Fred and Brighmam, Eugene, F. Unit Trusts in U.K. are ‘
Corporations w
Thus mutual fund is nothing but a form of collective investment. It is formed by the
coming together of a number of investors who transfer their surplus funds to a professionally
qualified organization to manage it.
To get the surplus funds from investors, the fund adopts a simple technique. Each
fund is divided in to a small fraction called “units’ of equal value. Each investor is allocated
units in proportion to the size of his investment.

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Thus, every investor, whether big or small, will have a stake in the fund and can enjoy
NOTES the wide portfolio of the investment held by the fund. Hence, mutual funds enable millions
of small and large investors to participate in and derive the benefit of the capital market
growth. It has emerged as a popular vehicle of creation of wealth due to high return, lower
cost and diversified risk.
5.3.1 Objectives
Mutual funds came into existence in order to attract the savings of lower and middle
income group people and give them the benefit of corporate profits by distributing attractive
dividends at the end of the year. Mutual funds cater the different types of customers who
are interested in
(a) fixed income or
(b) a higher return for investment or
(c) who is growth oriented.
5.3.2 Mutual Funds Set Up In India
The structure of mutual fund operations in India envisages a three tier establishment
namely:
(II) A Sponsor institution to promote the fund
(III)A team of Trustees to oversee the operations and to provide checks for the efficient,
profitable and transparent operations of the fund and
(IV) An Asset Management Company to actually deal with the funds.
Sponsoring Institution
The Company which sets up the Mutual Fund is called the ‘sponsor’. The SEBI has
laid down certain criteria to be met by the sponsor. These criteria mainly deal with adequate
experience, good past tract record, net worth etc.
Trustees
Trustees are people with long experience and good integrity in their respective fields.
They carry the crucial responsibility of safeguarding the interest of investors. For this purpose,
they monitor the operations of the different schemes. They have wide ranging powers and
they can even dismiss Asset Management Companies with the approval of the SEBI.
Asset Management Company (AMC)
The AMC actually manages the funds of the various schemes. The AMC employs a
large number of professionals to make investments, carry out research and to do agent and
investor servicing. Infact, the success of any Mutual Fund depends upon the efficiency of

this AMC. The AMC submits a quarterly report on the functioning of the mutual fund to the
trustees who will guide and control the AMC. NOTES
5.3.3 Types of Mutual Funds
MUTUAL FUND
On the basis of execution

and operation On the basis of yield and investment
Close ended Open ended
Income fund Growth fund Balance specialized Money Taxation

Fund Fund Market Fund Fund
Classification of Mutual Funds
4 CLOSE ENDED FUNDS
Close ended funds are funds which have definite period or target amount . Once the
period is over and or the target is reached, the door is closed for the investors. They
cannot purchase any more units. These units are publicly traded through stock exchange
and generally, there is no repurchase facility by the fund. The main objective of this fund is
capital appreciation. Thus after the expiry of the fixed period, the entire corpus is disinvested
and the proceeds are distributed to the various unit holders in proportion to their holding.
Thus the fund ceases to be a fund, after the final distribution. E.g. UTI Master Share,
1986.
5 OPEN ENDED FUNDS
Open ended funds are those which have no fixed maturity periods. Open ended
scheme consists of mutual funds which sell the units to the public. These mutual funds can
also repurchase the units. Initial Public Offer (IPO) is open for a period of 30 days and
then reopens as an open-ended scheme after a period not exceeding 30 days from the
date of closure of the IPO. Investors can buy or repurchase units at net asset value or net
value related prices, as decided by the mutual fund. Example: Unit Trust of India’s Growth
sector funds.

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ON THE BASIS OF YIELD AND INVESTMENT

NOTES
1. INCOME FUND
Income funds are those which generate regular income to the members on a periodical
basis. It concentrates more on the distribution of regular income and it also sees that the
average return is higher than that of the income from bank deposits.
a. The investor is assured of regular income at periodical intervals
b. The main objective is to declare regular dividends and not capital appreciation.
c. The investment pattern is towards high and fixed income yielding securities
d. It is concerned with short run gains only.
2. GROWTH FUND
Growth are those which concentrate mainly on long term gains i.e., capital appreciation.
Hence they are termed as “Nest Eggs” investments.
a. It aims at meeting the investors’ need for capital appreciation.
b. The investor’s strategy conforms to investing the funds on equities with high growth
potential.
c. The Investment tries to get capital appreciation by taking much risks and investing
on risk bearing equities and high growth equity shares.
d. The fund declares dividends.
e. It is best suited to salaried and business people.
3. BALANCED FUND
It is a balance between income and growth fund. This is called as “Income –cum-
growth”. It aims at distributing regular income as well as capital appreciation. Thus the
investments are made in high growth equity shares and also the fixed income earning securities.
4. SPECIALISED FUNDS
These are special funds to meet specific needs of specific categories of people like
pensioners, widows etc.
5. MONEY MARKET MUTUAL FUNDS
The funds are invested in money market instruments. These funds basically have all
the features of open ended funds but they invest in highly liquid and safe securities like
commercial paper, bankers’ acceptances, and certificates of deposits treasury bills. These
funds are called “money funds” in the U.S.A. The RBI has fixed the minimum amount of
investment as Rs.1 Lakh, it is out of the reach of many small investors. However, the

private sector funds have been permitted to deal in money market mutual funds. It is best
suited to institutional investors like banks and other financial institutions. NOTES
6. TAXATION FUNDS
It is a fund which offers tax rebated to the investors either in the domestic or foreign
capital market. It is suitable to salaried people who want to enjoy tax rebates particularly
during the month of February and March. An investor is entitled to get 20% rebated in
Income Tax for investments made under this fund subject to a maximum investment of
Rs.10,000 per annum. E.g. Tax Saving Magnum of SBI Capital Market Limited.
7. OTHER CLASSIFICATION
i. Leveraged Funds: Also called as borrowed funds as the are used primarily to
increase the size of the value of portfolio of a mutual funds. When the value increases,
the earning capacity of the fund also increases.
ii. Dual Funds: It is a fund which gives a single investment opportunity for two
different types of investors. It sells income shares and capital. Those investors
who seek current investment income can purchase incomes shares. The capital
shares receive all the capital gains earned on those shares and they are not entitled
to receive any dividend of any type.
iii. Index Fund: It is a fund based the some broad market index. This is done by
holding securities in the same proportion as the index itself. The value of these
index linked funds will automatically go up whenever the market index goes up
and vice versa.
iv. Bond Funds: The funds have portfolios consisting mainly of fixed income securities
like bonds. The main thrust is income rather than capital gains.
v. Aggressive Growth Funds: These funds are capital gains oriented and thus the
thrust area of these funds is capital gains. Hence, these funds are generally invested
in speculative stocks They may also use specialized investment techniques like
short term trading, option writing etc.,
vi. Off shore Mutual Funds: These funds are meant for non resident investors.
These funds facilitate flow of funds across different countries, with free and efficient
movement of capital for investment and repatriation.
vii. Property Fund: These funds are real estate mutual funds. Its investment also
includes shares/bonds of companies involved in real estate and mortgage backed
companies.
viii.Fund of Funds: It is a fund that invests in other mutual fund schemes. The
concept in prevalent in abroad.
5.3.4 History of Mutual Funds In India
The Mutual fund concept in India was launched by Unit Trust of India (UTI) in the
year 1964 by a special Act of Parliament. The first scheme offered was the “US-64”. A

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host of other fund schemes were subsequently introduced by the UTI. The basic objective
NOTES behind the setting up of the Trust was to mobilize small savings and to allow channeling of
those savings into productive sectors of the economy, so as to accelerate the industrial and
economic development of the country.
In 1987, the Government of India permitted commercial banks in the public sector to
set up subsidiaries operating as trusts to perform the functions of mutual funds by amending
the Banking Regulation Act. SBI set its first mutual fund, followed by Canara Bank. Later
many large financial institutions under government control also came out with mutual funds
subsidiaries. Recently, with the beginning of the economic reforms and liberalization of the
economy, based on the recommendations of the Abid Hussain committee, foreign companies
were also permitted to start mutual funds in India. The government introduced a number of
regulatory measures, through various agencies such as the SEBI, to the benefit the investors,
esp. the small investors.
5.3.5. Business Valuation
The basic valuation methods of holdings by the Mutual funds should be done by
keeping in view the following elements:
• For listed securities – take last sale price quoted in the stock exchange dealing
list
• for OTCEI securities – take bid/ask price as may be relevant on case to case
basis
• Trustees may determine market value at a reasonable price as per current market
at which the investors would buy at fairly reasonable rate.
• For short term investments the basis of valuation should be the amortized
cost.
NET ASSETS VALUE
It is a parameter used to measure the operational efficiency of mutual funds. The

intrinsic value of a unit under a particular scheme is referred to as the NAV of the scheme.
The value gives an idea of the amount that may be obtained by the unit holder on its sale to
the mutual fund company.
The main components of Net assets value are

• Investment income and expenses
• Capital stocks and distribution
INVESTMENT INCOME AND EXPENSES:
Investment income covers the following major items:

1. Dividend income from accounting point of view

2. Capital changes i.e., resulting from return on capital, stock dividends, bonus shares,
rights shares and stock split, mergers, litigation settlement, tax treatment. NOTES
3. Interest income from fixed income investment
4. Costs of carrying on Mutual fund business as highlighted in the Enclosure I
CAPITAL STOCK AND DISTRIBUTION
- The capital stock and distribution involving share purchases and sales or redemptions.
CALCULATION OF NAV
The NAV calculation should include the following elements for open end funds.
1. Investment at value recorded on first business day after trade transaction.
2. Changes in outstanding shares on first business day after trade transaction.
3. Dividend and distribution to shareholder ex-date.
4. Expenses (estimated and accrued to date of calculation)
5. Dividends receipts from investments ex-date
6. Interest and other income (estimated and accrued to date of calculation)
7. Other assets /organization costs.
Formula for calculating NAV is given below:
NAV = X- L divided by Y or Net assets / No. of shares outstanding
Where , X= market value of investments and other assets.
L= Liabilities
Y = fund shares outstanding

E.g. ABC Mutual fund has in its investment portfolio following shares:
1. DEF Industries Ltd., 100 shares of Rs. 10 each at market value of
Rs. 20 each.
2. OPQ Industries Ltd., 200 shares of Rs.10 each at market value of
Rs.50 each.
3. Other Assets Rs.100
4. Accrued expenses Rs.100
Mutual fund has 100 investors who have contributed to Mutual funds Rs.100 each at
the initial price of Rs.10 per share. In other words, there are 1000 shares outstanding (100
x 10)

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We have:
NOTES Market value of investments=
100 shares x 20 2,000
200 shares x 50 10,000
————
12,000
Other assets 100
————
X= 12,100
L= (-) 100
————
Net assets 12,000
Y= 1,000
NAV = X – L / Y 12,000/1000 = Rs.12
NAV per share = Rs.12
Appreciation (A) in value is calculated as under:
A= Current Market Value 12,000
Less Original cost of securities Rs.1,000
Rs.2,000 3,000
—————
Unrealized appreciation Rs.9,000
—————
However has come out with the recommendations of the L.C. Gupta, a committee
appointed by it to review the accounting polices, NAV and pricing of Mutual Funds.

Q.5.3.a. What is a ‘Mutual Fund’?
Q.5.3.b. Explain the features and role of mutual funds.
Q.5.3.c. Give an account of the various schemes of mutual funds.
Q.5.3.d. Distinguish between an open-ended fund and a close-ended fund.
Q.5.3.e. Write short notes on:
a. Sectoral funds b. Index funds c. Gilt funds
d. Growth funds e. Income funds f. Equity funds
g. Debt funds

Q.5.3.f. What are offshore mutual funds?

Q.5.3.g. How are mutual funds managed in India?
NOTES
Q.5.3.h. What are the causes for the slow growth of mutual funds in India?: What are
your suggestions to overcome this?
SUMMARY
Despite all the advantages linked with mutual funds, people still prefer to invest their
money independently. So far mutual funds have not been able to introduce the schemes
which are suitable to the needs of farmers, small entrepreneurs, and merchants to tap the
rural savings. Further mutual funds have not yet developed product structuring to tap target
customers. There is a lack of product conceptualization and innovation. Weak distribution
and marketing channels are another problem which the mutual funds industry is facing
today. The merchant banking industry is not sufficiently matured and this has led to slow
development of mutual funds industry. The interesting thing is that mutual funds are the
most misunderstood financial products in India. Mutual fund industries are also not making
efforts in investor awareness programmes which are the need of the day.

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NOTES

NOTES
UNIT IV
FUND BASED FINANCIAL SERVICES

LESSON – 1
1.1 INTRODUCTION
Leasing is not a concept which emerged in the modern days. Even in the olden days
we had leasing in the form of Charter Party agreement, when in an entire ship is taken on
lease either for a particular period or for a particular voyage. Similarly we had agricultural
lands are given on lease for a specified period.
1.3 FUND BASED FINANCIAL SERVICES
Some of the fund based financial services are leasing, hire purchase agreements.
These are discussed below in detail in the pages to come.
1.3.1 Leasing
It is a contract by which one party conveys land, property, services etc., to

another for a specified time.
Definitions :
The Transfer of Property Act, 1882 (as amended in 1952) describes Lease as follows
“A Lease of the movable property is a transfer of a right to enjoy such property,

made for a certain time, express of implied, or in perpetuity, inconsideration of a
price paid or promised or of money, a share of crops, service or any other things of
value, to be rendered periodically or on specified occasions to the transferor by
the transferee, who accepts the transfer on such terms.”
• The transferor is called the ‘lessor’
• The transferee is called the ‘lessee’
• The price is called the ‘premium’
• The money, share, service or other thing to be rendered is called the ‘rent’.

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Definition : Section 105 of the above Act defines a lease as follows :

NOTES
“A Lease is a transfer of a right to enjoy the property. The consideration
may be a price or a rent. The rent may be either money, or share of crops, service
of anything of value, to be rendered periodically by the transferee to the
transferor.”
1.3.2 Basic Concepts In Leasing
Broker
An agent who brings two parties together, enabling them to enter into a contract to
which he is not a principal. His remuneration consists of a brokerage, which is usually
calculated as a percentage of the sum involved in the contract
Deposit
1. A sum of money paid by a buyer as part of the sale price of something in order to
reserve it. Depending on the terms agreed, the deposit may or may not be returned
if the sale is not completed.
2. A sum of money left with an organization, such as a bank, for safekeeping or to
earn interest or with a broker, dealer, etc., as a security to cover any trading losses
incurred.
3. A sum of money paid as the first installment on a hire-purchase agreement. It is
usually paid when the buyer takes possession of the goods.
Depreciation
1. Depreciation is principally a means of allocating the cost of an asset over its useful
life. It is an amount charged to the profit and loss account of an organization to represent
the wearing out or diminution in value of an asset. The amount charged is normally based
on a percentage of the value of the asset as shown in the books.
Finance Broker
A broker who arranges finance.
Hire Purchase
System of purchase by paying in installments.
Interest
It is the charge made for borrowing a sum of money. The rate of interest is the charge
made, expressed as a percentage of the total sum borrowed for a specific stated period
of time.

Lease Broker
NOTES
Any broker who arranges a lease between a lender and a lessee.
Lease Purchases
It is a type of leasing where, at the end of the lease period the goods become the
lessee’s property.
Lender
The person or institution, that grants a loan.
Operating Lease
Essentially long term rent, not a capital expense transaction.
Refinancing
The process of repaying some or all of the loan capital of a firm by obtaining fresh
loans, usually at a lower rate of interest.
Residual Value
The expected selling price of an asset at the end of its useful life.
Term :
A specified period of time.
1.3.3 Evolution of Leasing
The concept and practice of leasing is not an innovation of the late 20th century.
There are historical evidences to show that the practice of leasing was found even five
centuries earlier. Such leases were for leasing land, agricultural tools, animals and ships, as
documented in the Sumerian and Greek civilizations.
These operators found leasing a viable alternative for enhanced operations as they
were desperately short of their own funds. They could not also rely upon conventional
sources of funds.
The unparalleled success of Rail Road companies highlighted the importance of

equipment leasing as a tool for promoting capital formation.
In the post-Second World War era, European rail companies also took to equipment
leasing on a large scale. In the early sixties, this practice of equipment leasing has gained
popularity and it is believed that approximately 25% of all business equipments in terms of
value are leased.

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The later half of 19th century bore witness to this practice as the Rail Road operators
NOTES in the USA leased Rail Cars and Locomotives.
The practice of Equipment Leasing is of recent origin in India. Equipment leasing

took roots only in the eighties. Equipment leasing includes, leasing of plant and machinery,
office equipments, automobiles, ships and aircrafts.
1.3.4 Types of Leasing
CLASSIFICATION OF LEASE
Lease may be classified as
1. Finance Lease and Operating Lease.
2. Sale and Lease Back and Direct Lease.
3. Single Investor Lease and Leveraged Lease.
4. Domestic Lease and International Lease.
FINANCE LEASE
• A lease is defined as a finance lease if it transfers a substantial part of the risks and
rewards associated with ownership from the lessor to the lessee.
Thus the finance lease is characterized by whether :
a) The lease transfers ownership of the asset to the lessee by the end of the lease
term; or
b) The lessee has the option to purchase the asset at a price within is expected to be
sufficiently lower than the Fair Market Value (FMV) at the date, the option becomes
exercisable that, at the inception of the lease it is reasonably certain that the option
will be exercised; or
c) The lease term is for a major part of the useful life of the asset. The title may or
may not be transferred eventually; or
d) The Present Value of the minimum lease payments is greater than or substantially
equal to the Fair Market Value (FMV) of the asset at the inception of the lease.
The title may or may not be transferred eventually.
• These are largely based on the criteria laid down by the Financial Accounting Standards
Board (FASB) of the USA.
If the lease term exceeds 75% of the useful life of the asset or if the present
value of the minimum lease payments exceeds 90% of the FMV of the asset, at the
inception of the lease, the lease will be classified as ‘Financial Lease’.
• To determine the present value, the discount rate to be used by the lessor will be
the rate of interest implicit in the lease and the discount rate to be used by the
lessee will be its incremental borrowing rate. In the Indian context, criteria (a) and

(b) above are inapplicable, because, inclusion of any one of these conditions in the
lease agreement will make the agreement being treated as a Hire Purchase NOTES
Agreement. Hence a lease can be classified as a finance lease only if any one of
criteria (c) and (d) are satisfied.
• The lessee is responsible for repair, maintenance and insurance of the asset.
• The lessee also undertakes an extreme obligation to pay rental regardless of the
condition or the suitability of the asset.
• A finance lease, which prevails over the entire useful life of the equipment, is called
a ‘full payout lease’.
Illustration : ABC Company has leased equipments costing Rs.400 lakhs with the
following terms :
Lease term : 5 years
Lease rents : Rs.300/1,000 p.a.
The incremental borrowing rate for ABC Co., is 18% p.a. is this transaction a finance
lease ?
Consider the useful life of the equipments to be—
(a) 6 years, and (b) 10 years.
Solution :
a) (1) Lease term : 5 years
(2) Estimated life of the equipment : 6 years
As percentage of (1) & (2) : 83.3
As a leased term exceeds 75% of the estimated useful life of the equipments, this
transaction is classified as finance lease.
b) (1) Lease term : 5 years
(2) Estimated useful life : 10 years
1) As a percentage of (1) & (2) : 50
The third criterion specified by the FASB for classifying a lease, as finance lease
Is not fulfilled.
2) Present value of minimum lease payments
= (400 x 0.3) x PVIFA (18.5)

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= 120 X 3.127
NOTES
= Rs.375.24 lakhs.
3) FMV at the time of inception = Rs.400 lakhs
4) As a percentage of (2) & (3) = 94
The fourth criterion given by FASB is fulfilled and hence the transaction is a finance
lease
OPERATING LEASE :
The International Accounting Standard Committee defines operating lease as
“any lease other than a finance lease”.
An operating lease has the following characteristics :

1. The lease term is significantly less than the economic life of the equipment.
2. The lessee enjoys the right to terminate the lease at short notice without any significant
penalty.
3. The lessor usually provides the operating know-how, supplies the related services
and undertakes the responsibility of insuring and maintaining the equipment, in
which case the operating lease is called a ‘Wet Lease’.
4. An operating lease where the lessee bears the cost of insuring and maintaining the
leased equipment is called a ‘Dry Lease’.
5. An operating lease does not shift the equipment-related, business and technological
risks from the lessor to lessee.
The lessor structuring an operating lease transaction has to depend upon multiple
lease or on the realization of substantial resale value (on the expiry of first lease), to recover
the instrument cost plus reasonable rate of return thereon.
To deal in operating leasing one requires an in-depth knowledge of the equipments

and the resale market. In our country, as the resale market for most of the used capital
equipments is not active, operating leases are not very popular.
SALE AND LEASE BACK
In the case of sale and lease back, the owner of an equipment sells it to a leasing
company, which, in turn, lease it back to the seller of the equipment, who then becomes the
lessee.
The ‘Lease Back’ arrangement in this transaction can be in the form of either a finance
lease or an operating lease e.g., the sale and lease back of safe deposit vaults practiced by
commercial banks.

The banks sell the safe deposit vaults in its custody to a leasing company at a market
price, which is substantially higher than the book value. NOTES
The leasing company then offers these lockers on a long-term lease to the bank.
This sale and lease back’ arrangement is an easily available source of funds for the
expansion and diversification programmes of a firm where high-cost short-term debt has
been used for capital investments in the past, the sale and lease back gives an opportunity
to substitute the short-term debt by medium-term finance (provided the lease back
arrangement is a finance lease).
For the leasing company offering sale and lease back arrangement, it is difficult to
establish a fair market value of the asset being acquired as the resale markets are virtually
absent.
DIRECT LEASE
It is defined as any lease, which is not a ‘sale and lease back transaction’.
A direct lease can be of two types :
(i) Bipartite lease, and
(ii) Tripartite Lease.
BIPARTITE LEASE
There are two parties to the transaction,
1. Equipment supplier cum lessor
2. The lessee.
It functions like an operating lease with built-in facilities like up gradation of the
equipments called as ‘Upgrade Lease’.
The lessor undertakes to maintain the equipment and even replaces the equipment
that is in need of major repair with the similar functioning equipment called as “Swap
Lease”.
TRIPARTITE LEASE
It involves three different parties

1. The equipment supplier
2. The lessor
3. The lessee.
Most of the equipment lease transactions fall under this category. In this form of lease

DBA 1724
1. The equipment supplier may provide a reference about the customer to the leasing
NOTES company.
2. The equipment supplier can negotiate the terms of the lease with the customer and
complete the necessary paper work on behalf of the leasing company.
3. The supplier can take the lease on his own account and discount the lease receivables
with the designated leasing company. So the leasing company owns the equipment
and obtains an assignment of the lease rentals.
This form of lease has recourse to the supplier in case of default by the lessee, either
to buy back the equipment from the lessor on default or providing a guarantee on behalf of
lessee.
SINGLE INVESTOR LEASE
The entire investment is funded by the lessor by arriving at a judicious mix of debt
and equity. The debt funds raised by the leasing company are without recourse to the
lessee, i.e., in the event of the default by the leasing company on its debt-servicing obligation,
the lender cannot demand payment from the lessee.
LEVERAGED LEASE
It is a lease which is leveraged through a trustee. The leasing company invests in

equipments by borrowing large investments with full recourse to the lessee without any
recourse to it.
The lender (loan participant) gets an assignment of the lease and enjoys benefit of the
rentals to be paid by the lessee and a first mortgage on the leased assets. This transaction
is routed through the trustee to take care of the lender and the lessee.
Lessor
Trustee Leases the Lessee

Equipment to
Loan
Participant
Leveraged Lease Process
LOAN PARTICIPANT : A leveraged lease entitles the lessor to avail the shields on
depreciation, other capital allowances on the entire investment cost, though, a substantial
part of the investment cost is funded with non-recourse debt.
So, the return on equity (profit after tax divided by net worth) tends to be high. For,
the lessee, the rate of interest is less than that of a straight loan as the lessor extends the tax
benefits to the lessee in the form of lower rental payments. This lease is usually preferred
for leasing investment-intensive assets like aircraft, ships, etc.

DOMESTIC LEASE AND INTERNATIONAL LEASE

NOTES
In domestic lease, all the parties to the lease transaction i.e., the equipment supplier,
lessor and lessee are domiciled in the same country.
An international lease transaction presupposes :

1. An understanding of the political and economic climate; and
2. A knowledge about the tax and other regulatory framework governing these
transactions in the respective countries, the payments to be effected in different
currencies and hence knowledge about exchange rate variation.
As a result international lease is exposed to country risk and currency risk.
1.3.5 Regulatory Authority
No specific Act or Authority regulates leasing in India. Some of the Acts which indirectly
governs are :
• Income Tax Act, 1962
• Indian Contract Act, 1872
• Indian Stamp Act, 1899
• Manufacturing and Other Companies (Auditor’s Report) Order, 1988
• Motor vehicles Act, 1988
• Recovery of Debts due to Bank and Financial Institutions Act, 1993
• Registration Act, 1908
• Reserve Bank of India Act, 1934
• Sale of Goods Act, 1930
• Sick Industrial Companies (Special Provisions) Act, 1985
• Transfer of Property Act, 1882
• Companies Act, 1956
• Consumer Protection Act, 1986
• Easements Act, 1882
• Foreign Exchange Management Act, 2000.
• Hire Purchase Act, 1972
Reserve Bank of India’s (RBI) Supervision of NBFCs
The RBI has also proposed the following measures to track the performance of
NBFCs. NBFCs that do not conform to the requirements may find their registrations
cancelled on 5 February 2003, the RBI has said that NBFCs not having a minimum Net
Owned Fund (NOF) of Rs.25 lakhs as on 9 January 2003, would not be allowed to
continue with their business.

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Off Site Monitoring

NOTES
Monitoring of large NBFCs with asset bases exceeding US $ 23 million must furnish
three years of operations data in the annual returns.
On Site Inspection
Periodic inspection of NBFCs are conducted especially those suspected of unhealthy

financial positions or non-compliance of prudential requirements.
External Audit
External auditors must certify important returns of NBFCs, Certified Public Accountant
(CPA) firms are engaged to conduct special examinations of certain NBFCs, which are
suspected of poor financial strength or violations of regulations. Reports prepared by the
CPA firms on NBFCs’ operations are scrutinized further by the RBI’s Department of
Supervision.
1.3.6 Lease Market In India
Lease market in India may be in the form

a. Formal market
b. Informal market
The formal players in the market are the financial institutions, commercial banks,
foreign financial institutions, manufacturers and non-banking financial companies (NBFCs).
Individuals and families handle leasing in the informal market.
Market Size
The market size of the leased asset base in India’s organized sector is estimated at
3% to 4% of the total gross fixed capital formation. The specific reason for slow growth of
leasing finance in India is due to
• Depreciation - high rate of depreciation allowed in India.
• Tax Exemption - the hire purchase system has an edge over leasing with respect
to tax exemption in India from the point of lessor and lessee.
• Time Factor - Financial institutions make loans with favorable terms to companies
to assist them in establishing themselves in the market. The financial institutions
have a low cost of capital and can offer cheap loans. It is a time-consuming
process. Only few companies prefer leasing to avoid time-consuming process of
availing loans from financial institutions.

Slow Down
NOTES
The total base of leased assets (excluding real estate) in India in 1997-98 the formal
sector was estimated at approximately US $ 37.0 billion. This figure represents 7.6 per
cent nominal growth from the 1996-97 level of US $ 34.0 billion. The latter figure was up
approximately 20 per cent from US $ 28.5 billion in 1995-96. The slow down is due to
three reasons :
1. The slow down in the market since 1996. Clients began defaulting on payments.
Consequently, a number of lease financing companies faced a severe asset-liability
mismatch. That led to a repayment crises and bankruptcy. However, even to-
day, there are over 38,000 estimated players in the market.
2. Since 1996, most existing leasing companies have become more conservative in
their lending practices following the collapse of several leasing and hire-purchase
finance companies.
The Players
The market shares for the various players in the leasing market in India in 1996-97
appear in the table.
Market Player Category Share
Financial Institutions 30 per cent
Scheduled Commercial Banks 10 per cent
Non-banking financial Institutions 52 per cent
Foreign Institutional Investors 6 per cent
Others 2 per cent
Market Shares of Players in the Leasing Market, 1996-97
1.3.7 Players In Leasing
Financial Institutions (FIs)
FIs are term lending institutions. There are over 10 such institutions handling project
finance on an all-India basis and over 20 State-level institutions. While FIs have over 30
per cent of the total lease market, it is not their main line of business.
Commercial Banks
State Bank of India, India’s largest commercial bank, entered the market in 1997.
This has altered market dynamics considerably because State Bank of India has a very
large deposit base from savings accounts and deposit accounts, leading to the lowest cost
of capital amongst all players.

DBA 1724
Foreign banks
NOTES
The role of foreign banks are very limited in the leasing market. Few foreign banks
such as ABN-AMRO and ANZ Grind lays, have organized aircraft leasing for private
airlines.
Citicorp Securities & investment, the financial services arm of Citibank has leased
assets worth US $ 6.7 million in 1996-97.
Non-banking Finance Companies (NBFCs)
All those Indian finance companies that do not fall into any of the above categories
are called as NBFCs. NBFCs has a market share of over 50 per cent of the leasing
market. On the other hand, 70 per cent of NBFCs’ business originates with leasing and
hire-purchase activities.
In 1998, Anagram Finance and ITC Classic merged with the Industrial Credit and
Investment Corporation of India (ICICI), a leading all-India FI. In addition, Twenty-First
Century Finance merged with Centurion Bank. Although all of the companies recorded
profits in 1996-97, fears of a harder recovery and squeezed margins led them to the
decision to exit the NBFC segment of the market.
Foreign Institutional Investors (FIls)
There are no legislative barriers that prevent FIIs from entering the leasing market,
the only FIIs with measurable involvement in the market are the U.S. company GE Capital
and the Japanese company Orix Corporation.
1.3.8 Hire Purchase

• It is the purchase of goods on hire
• The buyer makes payment for goods on a monthly installment basis and at
the same time is allowed to be used by the buyer
• The buyer becomes the owner of the goods only on the payment of the last
installment.
• Till such time, the amount paid by the buyer is treated as hiring charges.
• If the buyer fails to pay any installment, the goods will be seized for non
payment of the installment amount.
According to the Hire Purchase Act of 1972, the term ‘hire purchase’ is defined as,
an agreement under which goods are let on hire and under which the hirer has an option to
purchase them in accordance with the terms of the agreement, and includes an agreement
under which

a. Possession of goods is delivered by the owner thereof to a person on the condition

that such person pays the agreed amount in periodic payments NOTES
b. The property of the goods is to pass to such a person on the payment of the last of
such installment
c. Such a person has a right to terminate the agreement any time before the property
so passes”.
All Hire purchase finance companies are controlled by the Hire Purchase Act, 1972.
A Hire purchase transaction has two elements, Bailment which is governed by the Indian
Contract Act, 1872 and Sale under the Sale of Goods Act, 1930.
HIRE PURCHASE AGREEMENT
A Hire Purchase Agreement is an agreement between the seller and the buyer, where
the ownership of goods does not pass to the buyer until he pays the last installment. There
are two parties to the hire purchase agreement.
The hire vendor, who is the seller and
The other is the hire purchaser, the buyer.
The purchaser has to make a down payment of 20 to 25% of the cost and the remaining
amount has to be paid in equal monthly installments. In the case of a Deposit linked plan,
the hire purchaser has to invest a fixed amount as fixed deposits in the finance company
which is returned together with interest after the payment of the last installment.
PARTIES TO THE HIRE PURCHASE CONTRACT
There are two parties in a hire purchase contract

1. The intending seller
2. The intending purchaser or the hirer.
Tripartite agreement
1. Seller
2. Financier
3. Hirer/Purchaser

DBA 1724
1.3.9 Difference Between Hire Purchase And Leasing

NOTES
HIRE PURCHASE LEASING
1. It is a Tripartite agreement, 1. It is a bipartite agreement involving
involving the seller, finance company lessor and lessee.
and the purchaser/hirer
2. Depreciation is claimed by the 2. Depreciation is claimed by the lessor in
purchaser/hirer the lease agreem ent.
3. The agreement is entered for the 3. In finance lease the ownership will get
transfer of ownership after a fixed transferred. While in operating lease, the
period. ownership is not transferred.
1.3.10 Financial Evaluation
It is an evaluation by the hirer of the desirability for lease and hire purchase. The hirer
makes decision based on the Present Value of Net Cash Outflow. The decision is considered
favourable when the PV of Net Cash Outflow under Hire Purchase is less than the PV of
Net cash Outflow under leasing. Following are the steps involved.
Step 1 Calculate annual interest amount
Step 2 Find the principal amount outstanding at the beginning of the each year
= Total outstanding principal – principal paid in the previous year.
Step 3 Find principal paid in the previous year
= Annual installment amount – Annual Interest
Step 4 Find Annual ITS
= Annual Interest x Tax rate
Step 5 Find Annual Depreciation
Step 6 Find Annual DTS = Annual depreciation x Tax rate
Step 7 Find Total TS
= Step 4 + Step 6
Step 8 Find Annual installment amount
= Total HP amount + (HP amount x flat rate of interest) / No. of HP years
Step 9 Find PV of salvage value of assets = SV x PVF
Step 10 Find Net Cash Outflow of HP
= Step 8 – Step 7

Step 11 Find PV of net cash outflow of HP at the appropriate discount rate

NOTES
Step 12 Find Total PV net cash outflow of HP
= Step 11 – Step 9
Step 13 Find Tax shield on annual ease rentals
= Annual Lease rental x Tax rate
Step 14 Find Net cash outflow of Leasing
= Annual lease rental – Step 13
Step 15 Find Total PV of net cash outflow of Leasing at the approp. discount rate
= Net cash outflow of Leasing x PVAF
Step 16 Make a decision : HP is desirable if total PV of net cash flow of HP is
Less than that of leasing
1.3.11 Tax Implication
Tax Benefits in Hire purchase transaction
HP Transactions
Benefits in Income Tax Benefits in Sales Tax Benefits in interest Tax
A hire purchaser can claim the benefits by claming depreciation on the good which
are use in his business. Such tax benefits are applicable to sole trader, partnership firms, as
well as Joint Hindu firms. Depreciation can be claimed on the entire purchase price.
Income Tax
Deductions could be made on account of interest charged e.g. In the purchase of

house on hire purchase basis, the initial payment of interest charges will be totally waived
form income tax as per the new regulations. Even the principal amount is entitled for 20%
deduction under Section 80( C) of the Income Tax Act.
Sales Tax
Sales Tax is levied on the total value of the goods and not on the installment payment.
The respective State is benefited when there are more sales under hire purchase transactions
as they get more revenue.

DBA 1724
Interest Tax
NOTES
It is the tax payable by the Hire Purchase Companies on Interest under the Interest
Tax Act 1974. However the tax is treated as a tax deductible expense for the purpose of
computing taxable income under the Income Tax Act.

Q.1.3.a. Define the term ‘leasing’? What are its features?
Q.1.3.b. What is a financial lease? What are its special features? What tests will you use
to determine that a lease is a financial lease?
Q.1.3.c. What is an operating lease? What are its features?
Q.1.3.d. Distinguish between a financial lease and an operating lease.
Q.1.3.e. Give a detailed account of the different types of lease.
Q.1.3.f. What is ‘sale and lease back’?
Q.1.3.g. What is an ‘open-end lease?
Q.1.3.h. What is ‘swap leasing’?
Q.1.3.i. What are the myths regarding leasing?
Q.1.3.j. Discuss briefly the role played by various participants in lease finance services.
Q.1.3.k. Explain the process of leasing.
Q.1.3.l. What are the services rendered by the lessor?
Q.1.3.m. What are the advantages and disadvantages of leasing?
Q.1.3.n. State the shortcomings of leasing as a financial service.
Q.1.3.o. State the special procedures involved in ‘import leasing’ under the export-import
policy of the government.
Q.1.3.p. What is cross-border leasing?
Q.1.3.q. What is ‘hire purchase finance’?
Q.1.3.r. What are the terms of agreement as prescribed under the provisions of the Hire
Purchase act of 1972?
Q.1.3.s. Enumerate the rights available to a hirer under the hire purchase finance agreement.
Q.1.3.t. Identify the different ways of determining the rate of interest under the hire purchase
finance arrangement.
Q.1.3.u. Distinguish between lease financing and hire purchase financing.
SUMMARY
Thus leasing finance provides enough opportunity for both lessor and lessee to gain in
both income tax and sales tax, as a result of which there is more scope for this kind of
business in future in India.

NOTES
UNIT V
OTHER FUND BASED FINANCIAL SERVICES

LESSON – 1
1.1 INTRODUCTION
A consumer may obtain loan for the purchase of a vehicle, refrigerator, washing
machines, etc., when a bank or any other financial agency provides loan to a consumer for
the purchase of consumer durables it is called as consumer credit.
The consumer with his income is not in a position to repay the full value of consumer
durables but would like to take advantage of his future earning and purchase them through
installment payment to his creditor. By doing so, he not only enjoys the product, but he is
also in a position to repay the value of the product. Hence, through consumer credit banks
provide loans to enable the consumer to purchase valuable goods.
Once you finish this unit, you should be able to understand:
Consumer Finance and its transactions
Nature of Consumer Classes in India
Importance of Consumer Credit in India
1.3 CONSUMER CREDIT
It is a finance to consumers
For the purchase of semi durables and durables by paying a part of the total
price
Reavis Cox, an authority on economics of consumer finance defines consumer finance as
“Business procedure through which the consumers purchase semi-durables and durables
other than real estate, in order to obtain from them a series of payments extending over a
period of three months to five years, and obtain possession of them when only a fraction of
the total price has been paid.”
According to E.R.A. Seligman, an authority on consumer finance, “the term
consumer finance refers to a transfer of wealth, the payment of which is deferred in whole
DBA 1724
or in part, to future, and is liquidated piecemeal or in successive fractions under a plan

NOTES agreed upon at the time of the transfer.”
CHARACTERISTICS OF CONSUMER CREDIT
The nature of consumer credit may be

the transfer of wealth to consumers for purchase of semi durables or durables
except real estate
where the payment is deferred in whole or in part upon agreed terms
the agreed terms for repayment may be in the form of EMI’s
1.3.1 Consumer Finance Transactions
The nature of consumer finance transactions may be
(a) Parties and structure of the transaction
The parties and the structure of the transaction may be either

(i) Bipartite
(ii) Tripartite.
A bipartite transaction involves two parties i.e.

1. dealer-cum-financer and
2. Borrower or customer.
A tripartite transaction involves three parties

1. The dealer
2. The financier
3. Borrower or customer
Transactions can either be structured in the form of hire purchase, conditional sale or
credit sale, but a majority of the tripartite consumer finance transactions are of the hire
purchase type.
(b) Payment for the transaction
The payment for specific transactions is divided into two categories:

(i) Down Payment Schemes
(ii) Deposit Linked Schemes
The down payment varies from initial payments ranging from 20%-25% of the value
of goods and financing is available for 75%-80% or as the case may be.

In a deposit-linked scheme, the down payment in the form initial deposit varying
from 15% and 25% of the total value of the asset. The financier pays the full amount to the NOTES
seller. Deposits carry a prescribed interest rate. Zero Deposit schemes are also available,
under which the Equated Monthly Installment (EMI) is higher than the EMI under normal
deposit schemes.
(c) Repayment Period
The repayment period ranges from 12-60 months. Finance companies notify the
customer indicating the amount of equated monthly installments to be paid through post-
dated Cheques.
(d) Security
The asset is secured through first charge on it for the credit provided. The borrower
is prohibited from disposing, pledging or hypothecating the asset during above said credit
period.
(e) Eligibility Criteria for Borrowers
There is no specific criteria for borrowers, all the borrowers in the form of individuals,
partnership firms, private and public limited companies are eligible to borrow.
1.3.2 Nature Of Consumer Classes In India
MIDDLE-INCOME CLASSES IN INDIA
• The middle income class refers to that class of people between the lower
income groups and higher income groups.
The need to study the middle income class in India was felt because the consumer
finance was absolutely designed to meet their financial requirements and in turn upgrade
their standard of living. Moreover the total population of middle class in India exceeds
more than 2/3 rd of the total population.
• India has registered a very impressive growth of its middle class – a class which
was virtually nonexistent in 1947 when India became a politically sovereign nation.
• At the start of 1999, the size of the middle class was unofficially estimated at 300
million people.
• The middle class comprises of three sub-classes: the upper-middle, middle-middle
and lower-middle classes.
• The upper-middle class has an estimated 40 million people.
• The middle-middle class has an estimated 150 million people,
• The lower middle class comprises an estimated 110 million people.

DBA 1724
CONSUMING CLASS IN INDIA:

NOTES
Annual income (in Rupees) at No. of households
1994-95 prices (in million)
<25,000 80.7
25,001-50,000 50.4
50,001-77,000 19.7
77,001-106,000 8.2
>106,000 5.8
Total no. of households: 164.9 million
Source : National Council of Applied Economic Research (NCAER).
Estimated households by annual income

Annual income Number of households (in million)
(In Rupees) at 1994-95 Classification
Urban Rural total
Prices
<16,000 Destitute 5.3 27.7 33.0
16,001-22,000 Aspirants 7.1 36.9 44.0
22,001-45,000 Climbers 16.8 37.3 54.1
45,001-215,000 Consumers 16.6 15.9 32.5
>215,000 The rich 0.8 0.4 1.2
Total no. of households 46.6 118.2 164.8
Structure of the Indian consumer market (1995-96)

1. Data on income distribution of households is insufficient in determining market size for
different consumer product in India.
a. This because of the lack of homogeneity of the consuming class and the varying
prices of a single product in different parts of India.
b. Consumption habits of households are therefore better determinants of consumer
market size than income distribution.
2. While determining market size for a consumer product, the structure of the consuming
class as seen in the above, can be both revealing as well as misleading depending on
the kind of product. For example, any specific consuming class would be fit to be a
market for consumer products like tea or soap, but a product such as vacuum cleaners
would find market largely only in the “consumers” and “rich” segments of the market
as defined in the above table .
3. Identifying a plausible market size for a consumer product is therefore a hazardous
task in a heterogeneous country like India. Yet, the marketer needs some data to
come as close to the real picture as possible. For this purpose, it can be cautiously
assumed that purchasing power is proportional to income despite variables such as
location, taste etc. Companies are therefore advised to plan their consumer product
marketing strategies on an area-by-area basis, rather than on the country as a whole.

4. Income data is insufficient. Therefore, it must be supplemented by product-specific

information regarding its existing stock in the marketplace (in the case of consumer NOTES
durables) and existing rate of purchases.
5. It is also advisable to further refine the plausible market size by taking into account
details based on social, cultural and demographic factors.
6. Marketing a super-premium product such as a Rolex watch is relatively easy. Just go
for the income class above Rs.2,15,000 per annum (in 1995-96) as per Table above.
This class, the table shows, comprises 5.8 million households. But the problem lies in
the fact that the 5.8 million households are spread all over India.
7. The prime market for consumer products in India is aware of the cost-benefit or value
for money aspect. Their concept of value incorporates socio-cultural benefits in addition
to product utility. For example, many households in the “consumers” class and the
“rich” class (as defined in Table ) may have two television sets, but both the sets may
not be top-of-the-line. Thus, while there may be demand for an additional TV set in
many households in the two mentioned classes, it must not be mistaken as demand for
the higher-priced TV models. The prime consumer market in India therefore is not a
market for absolute premium products, but for something between the “high end popular
brands” to the “premium brands”.
8. The class described in the previous paragraph is actually the “consumers” class defined
in Table. This class comprises 33.5 million households as at 1995-96 and it owned
and ‘consumed’ most of the expensive consumer products such as refrigerators and
washing machines as well as premium expendables. At 1994-95 prices, their annual
household incomes ranged between Rs.45,000 and Rs.2,15,000 (to calculate the latest
income statistics, use an annual inflator of 5 percent). In addition to this class, the
“climbers” and “aspirant” classes (defined in the Table ) totaling 23.9 million households
in urban India, also have the socio-cultural traits of the “consumers” class and, with
time, will join the consumer’s class. Medium-to-long-term marketing strategy must
therefore aim at the aspirants and the climbers as well. This is based on the safe
assumption that, except for the destitute class as defined in Table , the other classes
are on the way to the next higher class. For companies with long-term marketing plans
in India, the “consumers” (urban + rural), “climbers” (urban only) and “aspirants”
(urban only) classes can be clubbed together to give a market size of around 57 million
households which can be said to be the “prime segment” of the Indian consumer market.
This becomes even truer as consumer finance and the credit card culture picks up.
Fine-tuning between the classes is of course important.
9. Suppose you are marketing washing machines. Go for two broad types : fully automatic
and semi-automatic. Target the fully automatic machines at the “consumers” class and
the semi-automatic at the “aspirant” class, the “climbers” class will then overlap the
market for both the types of washing machines.
10. All of the above may be confusing, but the marketing strategist has to live with it
because that’s how the Indian consumer market is in reality. There is hardly a
characteristic that applies across the market. It would be more accurate to describe it
as a collection of distinct consumer markets.

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1.3.3 Latest Developments In Consumer Credit Changing Consumer Behaviour

NOTES
The behavior of the consumers in India witnessed a remarkable change esp. the
attitude. The Indian consumer is fast changing his habits, borrowing money to buy the
products he wants, not content with buying what he can afford. The resultant consumer
boom is what market strategists explain as the key to the success of the Indian consumer
finance market.
a. Consumer finance today helps everyone to upgrade his standard of living right
now instead of waiting for years for his savings to accumulate.
For manufacturers, it stimulates demand and lowers inventory
For middlemen, it’s a sales boosting device
For players of consumer finance, it’s a means of profit generation.
b. The culture of buy-now-pay-later is fairly present in India, evolving through various
forms like consumer lending, consumer credit, consumer loans, friendly and family
borrowings, daily payment schemes etc.
c. The basic objective of consumer financing is that the consumer’s present spending
habits tend to be geared to expectations of future income. They are losing their
fear of borrowing of consumer finance.
d. Along with buying a home, consumers prefer consumer finance to buy home
appliances and vehicles, opting for finance based on the rate of interest,
administrative fee, processing fee, commitment charges, pre-payment penalty, types
of facilities, standard and kind of services mix other terms and conditions.
e. These are members of a growing breed of normally conservative middle-class
Indians who are opting for consumer finance loans despite the high interest cost
being charged.
IMPACT OF CONSUMER FINANCE GROWTH ON CONSUMER

DURABLES MARKET:
The impact of consumer finance has a direct impact on the fortunes of the consumer
durables market including two wheelers and passenger cars. This correlation is already
clear from the surge in demand in recent times. Sales of cars would grow at an even faster
20% annualized, as the gradual decline in excise duties makes the vehicles more affordable.
(a) Passenger Cars and Two-wheelers
Sales of passenger cars increased by 26.5% in the first half of this fiscal, owing to the
lowering of excise duties in the general budget. The two-wheeler industry grew by 8.9%
during this period, much slower than the heady high-teens growth over the past two years,

as the agricultural slowdown last year hit rural incomes. Two-wheeler sales are expected
to increase at a compounded 15.6% . Car sales would rise at an even faster 20%. NOTES
(b) Key Issues and Success Factors
For the consumer finance companies to flourish, there is need to develop a credit
information system, which will ease the process, making it faster and easier to determine
the creditworthiness of customers.
• Ability to offer simple, convenient and innovative consumer finance products, a
wide distribution network and choice of repayment tenor, documentation and loan
offer.
• As a result of the large number of players, market pressures, increased competition,
increased awareness and wider offerings consumer-financing activities need to
become customer-oriented and user-friendly.
• One of the perceived problems relating to consumer finance is the absence of
credit bureaus to rate the creditworthiness of consumers. As of now, the advent
of information technology has paved way for sharing data about defaulters among
private sector banks. Any loan proposal is based on this shared information before
further process.
(c) Innovative Solutions
The banks are lending against collateral and have concentrated on small potential
borrowers to achieve disbursal targets.
• The Vijaya Bank offers ‘V stock’ for loans against shares; ‘V equip’ loans to help
professionals acquire equipment and vehicles; and ‘V-cash’ to enable clean loans
against salaries after getting an employer’s guarantee.
• Judges, cops and teachers can now get cheaper loans with banks spinning out of
new products to cash in on the great retail rush. The country’s largest commercial
bank, State Bank of India, will charge lower interests to these set of borrowers
for buying a home, car, two-wheeler or simply opting for personal or festival loans.
Concessions would be give to them on interest rate, processing fees and margins
under three new schemes; ‘teacher plus’, police plus’ and ‘justice plus’. The
move, SBI officials say, is aimed at capturing the market share in different segments.
The bank aims to tie-up with various organizations, to put in place a structure,
where the EMI or (equal monthly installment) for servicing the loan will be debited
from the salary accounts of the borrower. A tie-up would minimize default risk.
On home loans, teachers, policemen and judges will be charged 0.25% lower than
interest charged to other borrowers. At present, the normal SBI home loan rates are
9.25% for 10 to 20 years. Similarly, car loans will also be charged 0.25% lower than the
usual rate, currently pegged at the medium-term lending rate (MTLR) of 11.25%. For
scooter and motorcycle loans, the rates will be 0.35% lower. SBI normally charges a

DBA 1724
spread of 0.85% over its MTLR, but for teachers, policemen and judges, the spread will
NOTES be 0.50%. Effectively, they would be charged 11.75% as against 12.1% for other customers.
In case of personal loans, the spread over MTLR will be reduced to 2% against 2.23%.
Effectively, these three special categories of borrowers would be required to pay 13.25%,
instead of 13.6%
• For festival loans, SBI would be offering a spread of 2.25% over the MTLR, as
against 2.5% charge to its regular customers. Thus, the festival loans would cost
13.5%, as against 13.75%.
• Again, the processing fee on personal and two-wheeler schemes will stand reduced
to 0.75%, as against 1% charged to its regular customers. The absolute fee for
festival loan schemes has been reduced from Rs.100 to Rs.75. Margins are also
being relaxed. For home loans, it has been brought down from 15% to 10%, and
for repair and renovation, it will be reduced from 20% to 15%. In case of car
loans, the margins are pegged at 10%, against 15% for cars priced up to Rs.4
lakhs and 20% margins, while a 2-4 years old car will attract 30% margin. For
scooters and motorcycles up to Rs.50,000, the margin would be 5% as against
10% for regular customer and 10% (as against 20%) for over Rs.50,000. The
bank does not charge any margin for festival and personal loans.
(d) Credit Constraint in Rural India for Consumer Durables
According to a new survey, ‘Role of Consumer Finance in Rural India’ conducted by

Chennai-based Anugrah Madison and Delhi-based Marketing and Research Team
(MART), the future growth for consumer durable is Rural India.
The constraints involved are the reluctance of banks to provide finance and the lack
of electricity in 2/3rd of the homes. “Penetration of consumer durables would be cheaper
in rural India if banks were ready to finance them. Banks have shown reluctance in this
sector and restrict themselves to tractors and diesel pumps.”
While the consumer durables market is facing a slowdown due to saturation in the
urban market, rural consumers are ready to put their money on the counter if consumer
finance is made available and basic infrastructure requirements such as electricity and voltage
are ironed out. Currently, rural consumers purchase their durables from the nearest towns,
leading to increased expenses due to transportation, Hence, purchase is necessarily only
done during the harvest, festive and wedding seasons – April to June and October to
November in North India and October to February in the South, believed to be months
‘good for buying’. The question remains as to why the Banks shy away from financing
rural consumers.
(e) Consumer Preferences
Indian consumers identify ease and speed of the loan application and approval process,
as well as flexibility of evaluation procedures, as the key drivers of financing satisfaction.

Consumer financing Satisfaction performance is measured by four factors :

• Application process (44 %);
NOTES
• Approval and documentation (22 %)’
• Finance advisor (18 %); and
• Loan value (16 %).
Customers who obtained their loans from a nationalized bank are relatively more
satisfied than those choosing a non-banking finance company (NBFC) or a foreign bank.
Low interest rates and the reputation of the finance company are among the key reasons
for customers who opted either for an NBFC or a foreign bank. In comparison, past
experience and personalized service are the main reasons indicated by those opting for a
nationalized bank. Furthermore, more than 50% of NBFC and foreign bank customers
obtained their financing at an automobile dealer or through a direct selling agent of the
finance provider. In contrast, more than 90% of nationalized bank customers obtained
their financing directly through the bank.
The car finance market has reached a new level of maturity, so much so that the car-
maker, the automobile dealer and the financier now work together to provide better features
and funding options for the buyer. Depending on the manufacturer, tenure of the loan and
credit history of the car buyer, interest rates, on a reducing balance basis in the 10-13.5 %
range for new cars compared to 13-16.5 % for old cars. There is an increased preference
for financing car purchases through loans.
1.3.4 Importance of Consumer Credit In India
The following best explains the importance of consumer credit in India.
(a) Increasing Risk in Corporate Lending
Increasing risk in corporate lending, banks are forced to opt for an alternative spot
for finance . The supernormal growth in retail finance has made it the primary driver of
banks’ asset books. It is expected to capture 40-50% of banks’ incremental lending by
end of financial year 2004.
FY2003 FY2004
State Bank of India 39.1 40.4
HDFC Bank 39.1 62.9
ICICI Bank 209.7 174.1
Corporation Bank 72.0 64.3
Andhra Bank 48.8 48.8
Union Bank of India 23.5 21.3
Punjab Nation Bank 0 0
ING Vysya Bank 28.1 22.8
Oriental Bank of Commerce 107.0 66.2
Bank of Baroda 75.3 29.4
Canara Bank 25.6 35.7
Banks’ share in incremental retail advances (%)

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(b) Housing Loans

NOTES Housing loans have been the product of choice for state-owned banks because of
their attractive profitability, low risk weight-low delinquency history, and the ease of
processing loans.
All the state-owned banks have recorded explosive growth in their mortgages; this has
vastly expanded the market.
(c) Consumer Durables
Banks have entered almost all the segments in retail finance. They are gaining share
from NBFCs. Private Banks have started offering loans for low-ticket items like consumer
durables and two-wheelers, besides personal loans. Some schemes of some banks are
given below :
• SBI has struck a preferred-financier arrangement with carmaker Maruti, and
now markets these can loans from more than 2,000 branches. The bank has also
tied up with Bajaj Auto and TVS Motors to finance two-wheelers.
• SBI is offering 3-year two-wheeler loans at an interest rate of 10% across all
sales outlets of these companies. These alliances are significant, because they
have extended the availability of car and two-wheeler finance to second-and
third-tier towns.
• Axis Bank has tied up with Ford Credit as a preferred financer for Ford cars.
• Punjab National Bank has struck a similar arrangement with Hyundai.
• More such alliances are expected between carmakers and state-owned banks.
These arrangements will drive strong growth in car finance market over the years
to come.
(d) Reduction in Interest Rates
Falling interest rates, coupled with increasing loan durations, have substantially reduced
the EMIs on retail loans, thereby making them affordable to more people than ever before.
The table below shows the fall in interest Rates :
Year to 31 March 1999 2002 Current Rates
Cars
Basic IRR (%) 18 13.5 9.5
Less manufacturer subventions (%) 1-1.5 1-1.5 1.5
Dealer (%) 1.5 1.5
DSA (%) 1 1
Net rate to customer (%) 16.5-17 9.5-10 5.5
Housing
For 10-15-year loans (%) 15.0-15.4 10.5-11 7.75
Tax benefit on interest payment 75,000 150,000 150,000
Net rate (%) 12.75-13.1 7.3-7.7 5.4
2 wheelers Basic IRR (%) 25 20-23 17
Commercial vehicles Basic IRR (%) 18-18 13-13 8.5
Table harply falling interest costs

(e) Expanding Target Market : Loans becoming more affordable

NOTES
The target market for retail loans have grown the fastest because the incomes of
middle and upper-middle class households have grown substantially. The table below
shows the expanding market in loan products.
Loan Products FY1996 FY2002 CAGR (%) FY2005E FY2007E

Mortgages 22.9 35.4 9.1 48 51.1
Car 9.5 17.2 12.6 29.6 31.7
2-wheeler 62.8 77.3 4.2 98.3 102.8
Consumer Durables 65.1 83 5 90.4 106.1
Personal 12.9 22.7 11.9 30.2 32.7
Credit cards 12.9 22.7 11.9 30.2 32.7
Expanding Target Population

Q.1.3.a. what do you mean by ‘consumer finance’?
Q.1.3.b. Explain briefly the different types of consumer finance.
Q.1.3.c. What are the different sources of consumer finance?
Q.1.3.d. What is ‘consumer finance insurance’?
Q.1.3.e. State the arguments in favor of and against consumer finance.
Q.1.3.f. Sketch the factors that have caused a boom in consumer finance in India
in recent past.
Q.1.3.g. What is ‘hire purchase finance system’? What are its features?
Q.1.3.h. Bring out the advantages and disadvantages of the hire purchase system.
Q.1.3.i. Identify the safeguards to be followed by a banker while granting consumer
credit.
Q.1.3.j. What is ‘hire purchase cost’?
SUMMARY
There has been a major improvement in consumer finance segment to cater to the
growing needs of the consumers. But it’s high time to streamline the different segments of
consumer credit facilitators. A bill was passed in 2002, called The consumer protection
(amendment)bill, 2002 to enable state governments to setup up District Consumer council
on their own, make the compliance of the orders of the National Consumer Council on
their own, make the compliance of the orders of the National Consumer Council, State
Consumer Council and District Consumer council meaningful and effective.

DBA 1724
NOTES
LESSON – 2
2.1 INTRODUCTION
The commercial banks extends different functions to customers. The most important
in the modern days are credit card facilities to customers. These facilities are not extended
to not only customers in the urban areas or cities but also to customers residing in rural
areas. Agriculturist are enjoying the facility of credit card and the card extended to them
are called as green card.

• Types of Credit Cards
• The importance of Credit cards
• Future of Consumer Credit in India
2.3 CREDIT CARDS
A credit card is given by the banker to the customer in which the name of the customer
is embossed in block letters. The name of the bank and the date of issue and expiry are
also mentioned on the face of the card. The reverse side of the card will bear the specimen
signature of the customer. A list of vendors or sellers will be gibe by the banker to the
customers. A credit card is a thin plastic card, usually 3 1/8 inches x 2 1/8 inches in size
that contains identification information such as signature or picture or both and authorizes
the person named on it to charge for purchases or services to his account. In addition to
this, the card can be used in automated teller machines for withdrawing cash and the
machine stores the information and also transactions through electronic date processing
system.
2.3.1 Origin of Credit Cards In India
The usage of Credit Cards in India is less when compared to the usage of credit
cards in China, Taiwan and Malaysia. It picked up only in the last 10 years until then the
Indian looked it as a luxury. The idea of owning a credit card has had its roots in the minds
of millions of Indians. They started viewing the card as a convenient substitute to carrying
cash. The change in mindset is clear from the growth, both in terms of absolute numbers
and growth rates. The industry has grown at the rate of 30% and strongly counts for
steady years to come.

NOTES
Source : Chartered Financial Analyst, Jan. 2004.
Credit Cards in India
According to Visa International an average Indian cardholder uses his card 9.3 times,
spending about Rs.23,000 per year. A number of card owners do not use their cards and
almost 20-23% cards are inactive. In India, two players dominate the credit cards industry.
Visa and Master Cards and 15 out of 17 banks provide credit card services through Visa
or Master Cards.
The importance of having a pie in the credit cards segment was not lost on any bank,
and most banks started their credit card operations. Currently, there are more than 20
banks offering credit cards, but the market share of the top five exceeds 75%.
Credit card is a low margin, high volume business. The initial investments required by
a bank are very high. The income per card is low, thereby requiring large volumes in terms
of cards issued and the transactions finance to make the operations profitable.
Another reason for the inability of players to upstage the well-entrenched ones is
lower patronage by the merchant and business outfits. The bigger businesses and merchants
are already acquired by the existing players, so far new banks, braking into this business
and convincing a merchant is increasing because the banks are shifting towards lower end
merchants. Secondly, because of competition in acquiring business, new categories of
merchants are coming up.
The foreign banks have a dominant share due to various reasons like having been in
the field for decades, sound operational and financial strength, strong brand recognition
etc. They were catering to the upper segments and charged high annual fees. Later, with
aggressive entry of SBI, ICICI Bank and HDFC Bank, the rules of the game changed.
The cards were positioned in manners which gave an impression that the cards can be
acquired by people from not only the upper class, but also the middle income categories.
This was the strategy followed by SBI-GE as a result of which it is the third largest issuer
of credit cards today. It positioned itself in a segment as to be of mass appeal and at the
same time reinforced a clean and dependable image of the bank.

DBA 1724
__________________________________________________________________
NOTES No. of Cards (in Lakhs)
--------------------------------------
Banks 2001 2002 2003
---------------------------------------------------------------------------------------------------
Citibank 14.00 16.00 20.00
StanChart 12.50 14.00 18.00
SBI-GE 6.00 9.03 13.00
HSBC 4.73 5.88 7.40
ICICI 2.50 5.00 8.0
AMEX 2.90 3.53 7.00
Source : Chartered Financial Analyst – January 2004
Table : Major players and their ranks
The new private banks like ICICI and HDFC are also aggressively increasing their
share. They adopted a strategy of reaching lower down the income strata by lowering
down their eligibility norms. Of course, the credit limits are set at lower levels as compared
to the foreign banks. As a result of this strategy, the credit cards base is widening day by
day with the increase of base in B-grade cities.
2.3.2 Types of Credit Cards
Types of Cards :
1. Charge Card
2. Debit Card
3. Deferred Debit card
4. Affinity card
5. Standard card
6. Classic card
7. Gold card
8. Platinum card
9. Best Platinum credit card
10. Fleet Platinum credit card
11. Next card Platinum credit card
12. Titanium card
13. Secured card
14. Smart card

1. Charge card
NOTES
In this card, the cardholder has to make full payment of the charge by the due date.
Unlike other credit cards, here dues are not allowed to carry forward. It is meant for
people who spend responsibly.
2. Debit Card :
A debit card is different from credit card. Debit card is issued by a bank. The following
are the differences between credit and debit cards :
Credit Card Debit Card

1 It is issued by an agency such as 1. A debit card is issued by a bank in
Master or Visa which the customer has an account.
2. A credit card allows certain 2. The bank account in a debit card is
period for making payment for the debited immediately the moment the
purchases made which may vary card is used. They have no credit
from 30 to 45 days. period.
3. The credit worthiness of the 3. There is no such income criteria but
customer is based on income- the credit balance, maintained in the
eligibility criteria on the basis of account is the criterion.
which the credit card is issued .
4. A credit card holder has a ceiling 4. A debit card holder has his
limit For his purchases and also for purchases restricted to his credit
his cash withdrawals through ATM. balance.
5. Credit card can be used for 5. A debit card can be used even for
withdrawing money only from with drawing money from the bank and
ATMs. hence it is account holders’ mobile
6. When the purchase are made by 6. Any use of debit card by a similar
using The Credit Card, the retail method will be immediately recorded
seller swipes the card over an by the bank and the account of the
electronic terminal at his outlet, and customer is debited. Thus, it is an
enters the personal identification online transaction.
number (PIN) and the transactions
are recorded by the card issuing
authority.
7. Loss of credit card should be 7. Loss of debit card should be
reported to the issuing agency. reported to The issuing bank.
3. Deferred debit card
When a debit card carries the benefit of the credit card, allowing the payment after
certain period, it is called deferred debit card.

DBA 1724
4. Affinity card
NOTES
A card offered by two organizations of which one is a lending institution and the other
a non-financial group. Here, schools, non-profit groups, airlines, petroleum companies
issue affinity cards. These cards carry special discounts.
5. Standard Card
It is a normal credit card which carries limit on transactions, according to the credit
worthiness of the card holder.
6. Classic card
A credit card issues by Visa, carrying the logo of Visa.
7. Gold card
A higher line of credit is given than a standard card. The income eligibility for getting
this card is higher. Gold card is given to very rich customers or persons with high social
status.
8. Platinum card
In order to distinguish credit cards belonging to certain companies, platinum credit

cards are issued. Some companies use these to denote their best premium credit card.
9. Best Platinum credit card
Companies which set highest standard in customer service issue these cards. There
is lowest interest rate for the outstanding, and the cards will have no annual fee or application
fee and can be applied online in seconds.
10. Fleet Platinum credit card
It is a zero liability guarantee for purchases. It protects the credit card holder from
any unauthorized use.
11. Next card platinum credit card
This is given to those with a good credit and it offers a low introductory rate.
12. Titanium card
A card which has a higher credit limit than a platinum card.
13. Secured card
A credit card is given to a card holder who has Savings deposit which will take care
of his outstanding balance, in case of his default on payment.

14. Smart card

NOTES
The revolution in Information Technology is responsible for the invention of Smart
card. The development in semiconductors has advanced so much that computing power
that was available in a computer matching a room size in the early days, is now available on
a visiting card-sized plastic. Kit is an embedded micro-chip card and it can store 1280
times more data than the magnetic strip card. The can store data for more than 10 years
and can be read or written for more than 1 lakh times.
For example : Visa is converting 22 million Brazilian debt and credit cards to Smart
cards.
Sim card in the mobile phone is an example for the use of Smart cards in the telecom
sector. There are 3 types of Smart cards. 1. Storage/memory cards 2. Intelligent cards
and 3. Hybrid cards.
• Storage card has an inherent monetary value associated with it.‘
• Intelligent card acts as a store-house of information.
• Hybrid card contains a micro processor chip and a magnetic strip and bar coding.
Use of smart cards

1. A smart card can be used for multiple applications. Government agencies are a big
target for Smart card manufacturers.
2. Gemplus and Schlumberger are the major players in the Smart card market. In
India, Bharat Petroleum and Indian Postal department have introduced this.
3. Smart cards can be used by government agencies for large data storage such as driving
license, vehicle registration and national permit for commercial vehicles, etc. Gujarat
and Andhra Pradesh have already introduced this. IDBI’s Bank’s Money Smart card,
a stored value card for even small transactions such as buying coffee and Bharat
Petroleum’s pre-paid perto-card are some of the examples of Smart cards.
4. Other applications of smart cards consist of :
(a) Public telephone (b) e-Commerce (c) Electronic wallet
(d) Cable TV (e) Internet banking
(f) Transportation This card can be used in different modes of transport.
(g) In health card, a patient’s blood pressure, sugar, blood group and other
Vital data could be obtained.
(h) Miscellaneous, such as insurance, club subscription and school fees, etc.

DBA 1724
2.3.3 Benefits Of Credit Cards

NOTES
Benefits derived from credit card
The following persons derives benefits from the credit card system :
(1) Customer (2) Seller
(3) Wholesaler (4) Manufacturer
(5) Commercial banks (6) Central bank
(7) Government (8) Economy
1. Customer
i. A customer can make purchases at any time
ii. One need not carry cash for making purchases
iii. In case of losing credit card, one can immediately inform the bank and prevent
misuse by others
iv. One can take benefit of lower prices by purchasing goods before the hike in
prices.
v. During inflation period, credit card benefits customers as the payments are made
after one month from the date of purchase.
vi. Railway ticket or Air ticket reservation can be done by using credit card even
during night when banking facility is not available.
vii. Credit card can be used even through computers and purchases can be made by
sitting at home.
viii. More customers will come forward to avail banking facility
ix. At any point of time, the customer will be able to know the available credit even
after purchases.
x. Credit card can be used even for withdrawing cash through ATM (Automatic
Teller Machine) up to a certain limit.
xi. The holders of credit card are given insurance cover by the banks.
(2) Seller
The benefits to seller are as follows :

i. Sales are affected throughout the year.
ii. With increasing sales, the turnover of the seller increases.
iii. The seller can go for competitive price as he can get credit from the bank.
iv. Due to credit card facility, he can attract customers from far off places also.
v. Durable goods can be sold easily through credit card.

vi. Bad debts can be avoided as the bank arranges for payment under credit card.
vii. Sellers extending sales through credit card can also extend additional credit to
NOTES
customers as they can receive payment in installment through the credit card.
(3) Wholesaler
i. The wholesaler will be getting more orders from the retailer as the sales will go up
due to credit card.
ii. The wholesaler will be dealing products of different manufacturers due to credit
extended by them
iii. The wholesaler will also be given credit by the banks.
iv. The wholesaler will be able to place orders throughout the year and hence can get
trade credit as well as cash credit from the manufacturers.
(4) Manufacturer
i. With orders continuously received from the wholesalers, the manufacturer can
increase his production.
ii. Due to large scale production, the cost of production will come down and the
manufacturer will be able to sell at a lower price.
iii. Since the orders are received throughout the year, there will be continuous
production even for goods which are seasonal in nature. Example : Manufacture
of umbrellas.
iv. The manufacturer will also diversify his production due to the goodwill he has
enjoyed due to increased production.
v. The profit of the manufacturer will also increase and he will extend a higher
commission to his wholesalers.
(5) Commercial banks
Due to credit card facility
i. More customers will avail the banking facility.
ii. There will not be cash withdrawals from the bank as most of the customers use
credit card for their purchase.
iii. The bank, by extending credit to customer, retailer, wholesaler and manufacturer
is able to earn interest on the credit.
iv. The credit facility is extended only in the books of accounts and there will be no
cash withdrawals. The account of the customer is debited for the purchases while
the account of the seller is credited. Both the parties are given credit and the bank
enjoys interest on the loan.
v. All the transactions in the country are done through the banking system, as a result
of which, the role of money lenders and other financiers is reduced.
vi. The profit of the bank will also increase due to the extension of credit to different
parties.
DBA 1724
(6) Central bank

NOTES
It is a national bank that provides financial and banking service for its country’s
government and commercial banking system and issues currency. Central bank for
India is Reserve Bank of India.
i. A better control on the banking system is evolved by the Central bank.
ii. During inflation, the Central bank can control the price level by instructing the head
office of commercial banks to reduce the quantum of credit extended to customers
under credit card. This will reduce the demand and thereby prices will come
down.
iii. Central bank is able to take instantaneous action on the economy as credit card
provides information regarding purchases and sale in the country.
iv. The activity of Non Banking Financial Companies will also be reduced due to
the credit card facility extended by commercial banks. So, the Central bank need
not control NBFCS.
v. By extending credit card facility to agriculturists, agricultural finance is improved
and this relieves the farmers from the clutches of money lenders.
(7) Government
i. Whenever any sale is made, it is properly billed. That means sales tax, commercial
tax due to the government will not be evaded.
ii. It prevents the growth of unaccounted money as all transactions are recorded.
iii. It improves the revenue of the government due to increase in production by the
manufacturers. Excise duty will be paid to the government.
iv. Government employees can also avail credit card facility against their salaries.
(8) Economy
Economy gets benefited in all its different sectors like primary, secondary and territory
sectors. . Transport system will improve with movement of goods to different places.
Exports will improve, increasing the earnings of foreign exchange. Employment opportunities
will increase not only in production centers but also in the service sector. Marketing will
develop with increasing advertisements. Stiff competition will bring out good products for
the benefit of consumers.

Q.2.3.a. What is a ‘credit card’? Explain its features.
Q.2.3.b. Trace the history of credit cards.
Q.2.3.c. How will you classify credit cards?
Q.2.3.d. Write a note on ‘Innovative Cards’.

Q.2.3.e. What are the facilities and services provided by credit card issuers?
Q.2.3.f. Give a brief account of the credit card business in India.
NOTES
Q.2.3.g. What are the benefits of credit cards?
Q.2.3.h. What are the drawbacks of credit cards?
Q.2.3. What is a ‘smart card’?
Q.2.3.j What are ‘pre-paid cards’?
Q.2.3.k. What is a ‘chip card’?
SUMMARY
Credit card which was considered to be a luxury, has become one of necessity. It
was considered to be used only by higher income group. But today, with development in
banking and trading activities, fixed income group or salaried class has also started using
the same. There may be the criticism that it induces far more purchases or makes people
Spend-thrift. This may be so in the initial stage, but when once a customer gets used to
the credit card, he/she will know how to use the same in a discretionary manner.

DBA 1724
NOTES
LESSON – 3
3.1 INTRODUCTION
The Real Estate financing has become so popular, that the procedure for obtaining a
loan has become so simplified that housing loans are easily available. This may be attributed
to the change in the housing policy of both the Central and Sate Governments. A redeeming
feature of Indian real estate finance is the recent entry of real estate commercial banks in a
big way.

• Factors determining the Real Estate finance
• The different sources of finance
• Future of Real Estate Financing
3.3 REAL ESTATE FINANCING

• It is financing for the purchase of real property, where real property refers to
land or buildings.
It’s a set of all financial arrangements that are made available by housing finance
institutions to meet the requirements of housing. Housing finance institutions include banks,
housing finance companies, special lousing finance institutions, etc.
3.3.1 Factors Determining the Real Estate Finance Assistance
Real estate finance companies consider the following factors before making any financial
assistance for housing :
1. Loan Amount
2. Tenure
3. Administrative and processing costs, etc.
4. Pre-payment charges
5. Services
6. Value Addition
7. Sources of finance like HFC’s and Banks
8. EMI calculation methods

1. The Loan Amount

NOTES
The amount of loan that any HFC decides to provide to a loan seeker depends on the
following variables :
1. Customer’s repayment capacity
2. Rate of interest charged
3. Term of the loan
2. Tenure
Repayment is done through EMI, which includes principal and the interest. As a
rule, an HFC fixes the EMI between 30 and 40 percent of the customer’s gross monthly
income, or 50 percent of the net monthly income. For instance, considering a loan of
Rs.10, 00,000/- for 10 years, at 13 percent flat interest rate, the EMI would be
Rs.19,166.66/-. This way the gross earnings of the loan-seeker must be Rs.54,761.88
per month, where the installment to income ratio is 35 percent. The general trend in the
market is that customers try to obtain loans for longer tenures, without realizing that the
longer the duration the more will be the amount paid by them. An increase in the tenure
from 10 to 15 years increases the amount payable by 28 percent. In case the tenure of the
loan is decreased from 15 years to 10 years, the monthly EMI becomes Rs.16,388.77/-.
3. Administrative and processing cost
The effective cost of the loan depends on the type of method used by banks or
finance companies. Based on the method, the principal component, which is paid monthly,
is deducted from the outstanding principal amount. The two methods, which banks and
finance companies generally follow, they are:
a. Monthly rest system
Under this system, the principal amount is deducted every month from the outstanding
amount, and the interest for the following month is calculated on the outstanding amount.
This is illustrated as follows:
Loan Amount (Rs.) Tenure Interest EMI Total Payment

(Years) (%) (Rs.) (Rs.)
1,00,000 5 13 2,275 1,36,500
1,00,000 10 13 1,493 1,79,160
1,00,000 15 13 1,265 2,27,700

DBA 1724
b. Annual rest system

NOTES
Under this system, although the principal amount is paid every month, it is accounted
only at the end of the year. This is illustrated as follows:
Loan Amount (Rs.) Tenure Interest EMI Total Payment (Rs.)

(Years) (%) (Rs.)
1,00,000 5 13 2,370 1,42,200
1,00,000 10 13 1,536 1,84,320
1,00,000 15 13 1,290 2,32,200
c. Fixed and Floating Rate
Customers should check whether the rates offered are fixed or floating (varies with
PLR). Floating rates are better in a falling rate scenario, but expensive in an increasing rate
scenario. The borrower should check whether it is viable to shift the loan from fixed rate
to the floating rate in a decreasing rate scenario by carrying out a cost benefit analysis.
4. Pre-payment Charges
This is an important factor to be considered, especially in situations where the ability

to repay the loan matters. There are certain HVCs which charge pre-payment, in case the
loan is repaid before schedule. This pushes up the cost of fund of the borrower. Borrowers
who desirous of repaying ahead of schedule should approach HFCs which do not have a
pre-payment charge.
5. Value addition
The value addition includes the additional or supplementary services that HFCs provide,
such as fast disbursals of loan, legal services, meeting with brokers, builders etc.,
3.3.2 Sources Of Finance
1. THE NATIONAL HOUSING BANK (NHB)
The National Housing Bank (NHB) was set up in July 1988, under an Act of
Parliament, and is wholly owned by RBI, NHB, at present, has a paid-up capital of
Rs.350/- Crores. It was conceived and promoted to function as the apex institution in the
housing sector. The need to set up this institution stemmed from the fact that the housing
sector had not received the attention it required, not only in terms of finance for individual
loans, but also in terms of buildable or serviced land, building materials and cost effective
technology.

2. LIFE INSURANCE CORPORATE HOUSING FINANCE LIMITED

(LICHFL) NOTES
The corporation was set up under the Companies Act, 1956. Incorporated on 19th
June 1989, it is recognized by NHB. It commands about 25 percent market share in the
housing finance industry. It has a wide network in the industry with 67 Area/Unit Offices
and 6 Regional Offices across the length and breadth of the country besides about 5,000
LIC Agents trained for housing finance.
3. HOUSING AND URBAN DEVELOPMENT CORPORATION OF INDIA

(HUDCO)
Incorporated on 25th April, 1970, HUDCO was an expression of the concern of the
Central Government towards the deteriorating housing conditions in the country, and a
desire to assist various agencies in dealing with it in a positive manner. The principal
mandate of HUDCO was to ameliorate the housing conditions of all groups and with a
thrust to meet the needs of the low-income group and economically weaker sections.
Q.3.3.a. How will you define the term ‘housing’?

Q.3.3.b. What is real estate finance?
Q.3.3.c. Describe briefly the different models of housing development.
Q.3.3.d. Discuss the major issues confronting real estate financing in India.
Q.3.3.e. Identify the major factors responsible for the growth of housing finance in India.
Q.3.3.f. How does competition shape the growth of institutions pursuing real estate finance
schemes in India?
Q.3.3.g. What are the factors considered by the HFC while granting housing finance
assistance? Discuss briefly.
Q.3.3.h. Give an account of the genesis and the objectives of major real estate finance
institutions in India.
Q.3.3.i. What are the objectives of NHB?
Q.3.3.j. State the objectives of HDFC.
Q.3.3.k. State the type of loans offered by HDFC.
Q.3.3.l. Write a note on the Life Insurance Corporation Housing Finance Limited .
Q.3.3.m. Describe the role of HUDCO in the sphere of housing finance in India.
Q.3.3.n. What are the businesses undertaken by the NHB?

DBA 1724
SUMMARY
NOTES
Thus the different financial institutions are accomplished with the major objective of
promoting a sound, healthy, viable and efficient housing finance system to cater to all segments
of the populations, promote savings from housing , make housing more affordable , upgrade
the housing stock in the country, and enable the housing finance system to access the
capital market for resources.

NOTES
LESSON – 4
4.1 INTRODUCTION
Bills of exchange that are used in the course of normal trade and commercial activities
are called ‘commercial bills’. Bill financing, is an ideal mode of short-term financing available
to business concerns. It imparts flexibility to the money market, besides providing liquidity
within the banking system. It also contributes towards the effective-ness of the monetary
policy of the central bank of a country.
According to the Indian Negotiable Instruments Act 1881, “Bill of Exchange is an

instrument in writing containing an unconditional order, signed by the marker, directing a
certain person to pay a certain sum of money only to, or to the order of, a certain person,
or to the bearer of that instrument”. The bill of exchange is essentially a trade-related
instrument, and is used for financing genuine transactions.
Bill financing, is an ideal mode of short term financing available to business concerns.
It imparts flexibility to the money market, besides providing liquidity within the banking
system. It also contributes towards the effectiveness of the monetary policy of the central
bank of a country.

• Bill discounting
• Steps in Bills Discounting
• Bill Systems
4.3 BILL DISCOUNTING
When the seller (drawer) deposits genuine commercial bills and obtains financial
accommodation from a bank or financial institution, it is known as ‘bill discounting’. The
seller, instead of discounting the bill immediately may choose to wait till the date of maturity.
Commercial, the option of discounting will be advantageous because the seller obtains
ready cash, which can be used for meeting immediate business requirements. However, in
the process, the seller may lose a little by way of discount charged by the discounting
banker.

DBA 1724
4.3.1 Features
NOTES
Following are the salient features of bill discounting financing:
1. Discount charge : The margin between advance granted by the bank and face value
of the bill is called the discount, and is calculated on the maturity value at rate a certain
percentage per annum.
2. Maturity : Maturity date of a bill is defined as the date on which payment will fall due.
Normal maturity periods are 30, 60,90 or 120 days. However, bills maturing within 90
days are the most popular.
3. Ready finance : Banks discount and purchase the bills of their customers so that the
customers get immediate finance from the bank. They need not wait till the bank collects
the payment of the bill.
4. Discounting and purchasing : The term ‘discounting of bills’ is used for ‘demand
bills’, where the term ‘purchasing of bills’ is used for ‘usance bills’. In both cases, the
bank immediately credits the account of the customer with the amount of the bill, less its
charges.
Charges are less in case of ‘purchasing of bill’ because the bank can collect the
payment immediately by presenting the bill to the drawee for payment. Charges are,
however, higher in the case of ‘discounting of bill’ because the bank charges include not
only the charges for service rendered, but also the interest for the period from the date of
discounting the bill to the date of its maturity. In addition, there are also charges when bills
are dishonored. In such circumstances, the bank will debit the account of the customer
with the amount of the bill along with interest and other charges.
Since the bank is granting advance to the customers in both the discounting and
purchasing of bills, “bills discounted and purchased’ are shown as advances (Schedule 9)
by a bank in its balance sheet.
4.3.2 Steps In Discounting And Purchasing
Following steps are involved in the discounting and purchas8isng of commercial bills
of exchange :
1. Examination of Bill : The banker verifies the nature of the bill and the transaction.
The banker then ensures that the customer has supplied all required documents
along with the bill.
2. Crediting Customer Account After examining the genuineness of the bill, the
banker grants a credit limit, either on a regular or on an adhoc basis. The customer’s
account is credited with the net amount of the bill i.e. value of bill minus discount
charges. The amount of discount is the income earned by the bank on discounting
/ purchasing. The amount of the bill is taken as advance by the bank.

3. Control over Accounts : To ensure that no customer borrows more than the
sanctioned limit, a separate register is maintained for determining the amount availed NOTES
by each customer. Separate columns are allotted to show the names of customers,
limits sanctioned, bills discounted, bills collected, loans granted and loans repaid.
Thus, at any given point in time the extent of limit utilized by the customer can be
readily known.
4. Sending Bill for collection : The bill, together with documents duly stamped
by the banker, is sent to the banker’s branch (or some other bank’s branch if the
banker does not have a branch of its own) for presenting the bill for acceptance or
payment, in accordance with the instructions accompanying the bill.
5. Action by the Branch : On receipt of payment, the collecting bank remits the
payment to the banker which has sent the bill for collection.
6. Dishonor : In the event of dishonor, the dishonor advice is sent to the drawer of
the bill. It would be appropriate for the collecting banker to get the protested for
dishonor. For this purpose, the collecting banker or branch of the bank maintains
a separate register in which details such as date on which the bills are to be presented,
the party to whom it is to be presented, etc. are recorded. The banker then
presents them for acceptance or payment, as required. The banker debits the
customers’ (drawer / borrower) account with the amount of the bill and also all
charges incurred due to dishonor of the bill. Such a bill should not be purchased
in the event of its being presented again. However, the banker may agree to
accept it for collection.
4.3.3 BILL SYSTEMS

There are essentially two systems of bills, the drawer bill system and the drawee bill
system, which are explained blow :
Drawer Bills System
‘Drawer Bills System’ is characterized by :

1. Bills being drawn by the sellers of goods on the buyer of the goods
2. Bills being discounted or purchased at the instance of the drawer of the bills
3. The banker primarily taking into consideration the credit of the drawer of bill,
while discounting or purchasing these bills
This system of financing goods is quite popular in our country.
Drawee Bills System
‘Drawee Bills System’ is characterized by :

a. The banker accepting the bill drawn by the seller at the instance of the buyer (the
drawee)
b. The banker providing assistance, primarily on the strength of the creditworthiness of
the buyer
DBA 1724
The two types of the drawee bills system are as follows :

NOTES
1. Acceptance credit system : Under this system, the buyer’s banker accepts the bill
of exchange for the goods purchased by the drawee. Such a bill may either be drawn on
the buyer or the banker. The banker also requires the borrower to show separately, the
goods purchased under acceptance credit in periodical stock statements submitted to the
banker.
2. Bills discounting system : Under this system, the seller directly draws the bill on
the buyer’s bank. The buyer’s bank discounts the bill and sends the proceeds to the seller.
The buyer’s banker will show the bill as ‘bill discounted’.
Under both the systems, the banker keeps a record of the bills, both accepted and
still outstanding. This is to ensure that the advance sanctioned does not exceed the credit
limit.
The main advantages of the Drawee bill scheme are as follows :

1. Assured payment : Since the banker has accepted the bill, the seller is assured
of payment. Moreover, if the seller decides to get it discounted, the discount rate
will be lower because the drawee is the banker itself.
2. Buying advantage : Due to the surety and standing of the banker, it is possible
for the buyer to obtain goods at competitive rates.
3. Safety of funds : There is hardly any risk for the buyer’s bank because the bill is
accepted or discounted against the security of the goods purchased by the buyer.
Moreover, the goods are under the control of the banker. It is equally advantageous
for the seller’s bank, since the discounted bill may be rediscounted with any other
financial institution. This is because, a banker has accepted the bill.

Q.4.3.a. What are commercial bills? What are the features of such bills?
Q.4.3.b. Explain the different types of commercial bills.
Q.4.3.c. What do you mean by the term ‘commercial bill discounting’?
Q.4.3.d. Bring out the features of commercial bill discounting.
Q.4.3.e. State the advantages of commercial bill discounting.
Q.4.3.f. What are the precautions to be taken by a banker while discounting/ purchasing
commercial bills?
Q.4.3.g. Outline the steps in Discounting and Purchasing of bills.
Q.4.3.h. What is a bills system? Explain its types, bringing out the salient features.

SUMMARY
NOTES
Thus commercially, the option of discounting will be advantageous because the seller
obtains ready cash, which can be used for meeting immediate business requirements.
However, in the process, the seller may lose a little by way of discount charged by the
discounting banker.

DBA 1724
NOTES
LESSON – 5
5.1 INTRODUCTION
An important development in the Indian factoring services took place with the RBI
setting up a ‘Study Group’ under the chairmanship of Shri C.S. Kalyanasundaram in
January, 1988. The study group aimed at examining the feasibility and mechanism of
organizing factoring business in India. The group submitted its report in January 1989.

• The characteristics of Factoring and Forfaiting
• The different types of Factoring
• The major distinction between Factoring and Forfaiting
5.3 FACTORING AND FORFAITING
Peter M. Biscose defines the term ‘Factoring’ in his treatise ‘Law and Practice of
Credit Factoring as a” continuing legal relationship between a financial institution (the factor)
and a business concern (the client) selling goods or providing services to trade customers,
whereby the factory purchases the clients’ book debts, either with or without recourse to
the client, and in relation thereto, controls the credit extended to customers, and administers
the sales ledger”.
C.S. Kalyansundaram, in his report (1988) submitted to the RBI defines factoring
as, “a continuing arrangement under which a financing institution assumes he credit and
collection functions for its client, purchases receivables as they arise (with or without recourse
for credit losses, i.e., the customer’s financial inability to pay), maintains the sales ledger,
attends to other book-keeping duties relating to such accounts, and performs other auxiliary
functions”.
According to the study Group appointed by the International Institute for the
Unification of Private Law (UNIDROTT), Rome, 1988". “A domestic factoring means an
arrangement between a Factor and his client, which includes at least two of the following
services to be provided by the Factor.
a. Finance
b. Maintenance of accounts
c. Collection of debts
d. Protection against credit risk.

FORFAITING
NOTES
A form of financing of receivables arising from international trade is known as forfaitng.
Within this arrangement, a bank/financial institutions undertakes the purchase of trade bills/
promissory notes without recourse to the seller. Purchase is through discounting of the
documents covering the entire risk of non-payment at the time of collection. All risks become
the full responsibility of the purchaser. Forfaiter pays cash to the seller after discounting the
bills/notes.
5.3.1 Features of Factoring
The characteristics of Factoring are as follows :
1. The Nature
The nature of the Factoring contract is similar to that of a bailment contract. Factoring
is a specialized activity whereby a firm converts its receivables into cash by selling them to
a factoring organization. The Factor assumes the risk associated with the collection of
receivables, and in the event of non-payment by the customers/debtors, bears the risk of a
bad debt loss.
2. The Form
Factoring takes the form of a typical ‘Invoice Factoring’ since it covers only those
receivables which are not supported by negotiable instruments, such as bills of exchange,
etc. This is because, the firm resorts to the practice of bill discounting with its banks, in the
event of receivables being backed by bills. Factoring of receivables helps the client do
away with the credit department, and the debtors of the firm become the debtors of the
Factor.
3. The Assignment
Under factoring, there is an assignment of debt in favor of the Factor. This is the basic
requirement for the working of a factoring service.
4. Fiduciary Position
The position of the Factor is fiduciary in nature, since it arises from the relationship
with the client firm. The factor is mainly responsible for fulfilling the terms of the contract
between the parties.
5. Professionalism
Factoring firms are professionally competent, with skilled persons to handle credit
sales realizations for different clients in different trades, for better credit management.

DBA 1724
6. Credit Realizations
NOTES
Factors assist in realization of credit sales. They help in avoiding the risk of bad debt
loss, which might arise otherwise.
7. Less Dependence
Factors help in reducing the dependence on bank finance towards working capital.
This greatly relieves the firm of the burden of finding financial facility.
8. Recourse Factoring
Factoring may be non-recourse, in which case the Factor will have no recourse to the
supplier on non-payment from the customer. Factoring may also be with recourse, in
which case the Factor will have recourse to the seller in the event of non-payment by the
buyers.
9. Compensation
A Factor works in return for a service charge calculated on the turnover. Actor pays
the net amount after deducing the necessary chares, some of which may be special terms
to handle the accounts of certain customers.
5.3.2 Types of Factoring
Factors take different forms, depending upon the type of specials features attached
to them. Following are the important forms of factoring arrangements:
1. Domestic Factoring
Factoring that arises from transactions relating to domestic sales is known as ‘Domestic
Factoring’. Domestic Factoring may be of three types, as described below.
2. Disclosed factoring
In the case of ‘disclosed factoring’ the name of the proposed actor is mentioned on
the face of the invoice made out by the seller of goods. In this type of factoring, the
payment has to be made by the buyer directly to the Factor named in the invoice. The
arrangement for factoring may take the form of ‘recourse’, whereby the supplier may
continue to bear the risk of non-payment by the buyer without passing it on to the Factor.
In the case of non-recourse factoring, Factor, assumes the risk of bad debt arising from
non-payment.
3. Undisclosed factoring
Under ‘undisclosed factoring’, the name of the proposed Factor finds no mention on
the invoice made out by the seller of goods. Although the control of all monies remain with

the Factory, the entire realization of the sales transaction is done in the name of the seller.
This type of factoring is quite popular in the UK. NOTES
4. Discount factoring
‘Discount Factoring’ is a process where the Factor discounts the invoices of the seller
at a pre-agreed credit limit with the institutions providing finance. Book debts and
receivables serve as securities for obtaining financial accommodation.
5. Export Factoring
When the claims of an exporter are assigned to a banker or any financial institution,
and financial assistance is obtained on the strength of export documents and guaranteed
payments, it is called ‘export factoring’. An important feature of this type of factoring is
that the Factor=-bank is located in the country of the exporter. If the importer does not
honor claims, exporter has to make payment to the Factor. The Factor-bank admits a
usual advance of 50 to 75 percent of the export claims as advance. Export factoring is
offered both as a ‘re-course’ and as a ‘non-recourse’ factoring.
6. Cross-border Factoring
‘Cross-border Factoring’ involves the claims of an exporter which are assigned to a
banker or any financial institution in the importers’ country and financial assistance is obtained
on the strength of the export documents and guaranteed payments. International factoring
essentially works on a non-recourse factoring model. They handle exporter’s overseas
sales on credit terms. Complete protection is provided to the clients (exporter against bad
debt loss on credit-approved sales. The Factors take requisite assistance and avail the
facilities provided for export promotion by the exporting country. When once documentation
is complete, and goods have been shipped, the Factor becomes the sole debtor to the
exporter.
7. Full-service Factoring
Full-service factoring, also known as Old-line factoring, is a type of factoring whereby
the Factor has no recourse to the seller in the event of the failure of the buyers to make
prompt payment of their dues to the Factor, which might result from financial inability/
insolvency/bankruptcy of the buyer. It is a comprehensive form of factoring that combines
the features of almost all factoring services, especially those of non-recourse and advance
factoring.
8. With Recourse Factoring
The salient features of the type of factoring arrangement are as follows

1. The Factor has recourse to the client firm in the event of the book debts purchased
becoming irrecoverable
2. The Factor assumes no credit risks associated with the receivables

DBA 1724
3. If the consumer defaults in payment, the resulting bad debts loss shall be met by
NOTES the firm
4. The Factor becomes entitled to recover dues from the amount paid in advance if
the customer commits a default on maturity
5. The Factor charges the client for services rendered to the client, such as maintaining
sales ledger, collecting customers’ debt, etc.
9. Without Recourse Factoring
The salient features of this type of factoring are as follows :

1. No right with the Factor to have recourse to the client
2. The Factor bears the loss arising out of irrecoverable receivables
3. The Factor charges higher commission called ‘del credere commission’ as a
compensation for the said loss
4. The Factor actively involves in the process of grant of credit and the extension of
line of credit to the customers of the client
10. Advance and Maturity Factoring
The essential features of this type of factoring are as follows :

1. The Factor makes an advance payment in the range of 70 to 80 percent of the
receivables factored and approved from the client, the balance amount being
payable after collecting from customers
2. The Factor collects interest on the advance payment from the client
3. The Factor considers such conditions as the prevailing short-term rate, the financial
standing of the client and the volume of turnover while determining the rate of
interest
11. Bank Participation Factoring
It is variation of advance and maturity factoring. Under this type of factoring, the
Factor arranges a part of the advance to the clients through the banker.
The net Factor advance will be calculated as follows :
(Factor Advance Percent x Bank Advance Percent)
12. Collection / Maturing Factoring
Under this type of factoring, the Factor makes no advancement of finance to the
client. The Factor makes payment either on the guaranteed payment date or on the date of
collection, the guaranteed payment date being fixed after taking into account the previous
ledger experience of the client and the date of collection being reckoned after the due date
of the invoice.
5.3.3 Difference Between Factoring And Forfaiting

NOTES
The following are differences between factoring and forfeiting
Sl.
Characteristic Factoring Forfaiting
No.
1. Suitability For transactions with short- For transactions with
term maturity medium-term
maturity period
2. Recourse Can be either with or Can be without recourse
without recourse only
3. Risk Risk can be transferred to All risks are assumed by
seller the forfaiter
4. Cost Cost of factoring is usually Cost of forfeiting is borne
borne by the seller by the overseas buyer
(importer)
5. Coverage Covers a whole set of jobs Structuring and costing is
at a predetermined price done on a case-to-case
basis
6. Extent of Only a certain percent of Hundred percent finance
Financing receivables factors is is available
advanced
7. Basis of Financing depends on the Financing depends on the
financing credit standing of the financial standing of the
exporter availing bank
8. Besides financing a Factor It is a pure financing
Services also provides other services arrangement
such as ledger
administration etc.
9. Exchange No security against A forfeiter guards against
fluctuations exchange rate fluctuations exchange rate fluctuations
for a premium charge
10. Contract Between seller and Factor Between exporter and
Forfaiter
Q.5.3.a. Define factoring. State the mechanism involved in a factoring financial service.
Q.5.3.b. What are the characteristic features of factoring?
Q.5.3.c. Briefly explain the different types of factoring.
Q.5.3.d. State the salient features of cross border factoring.
Q.5.3.e. Detail the services of various players in the Indian factoring business.
Q.5.3.f. Discuss the functions performed by a Factor.
Q.5.3.g. What are the advisory services rendered by a Factor?

DBA 1724
Q.5.3.h. Evaluate the methods used by a Factory to determine the line of credit.
NOTES Q.5.3.i. Bring out RBI guidelines relating to the factoring business in India.
Q.5.3.j. Discuss the scenario of factoring in India with specific reference to the working of
factoring institutions.
Q.5.3.k. Explain the operational profile of the factoring business in India.
Q.5.3.l. What hurdles do you think factoring in India is faced with in is operations?
Q.5.3.m. What is ‘forfaiting’? What are its features?
Q.5.3.n. Explain the modus operandi involved in forfeiting.
Q.5.3.o. How is factoring different from forfeiting?
SUMMARY
Factoring in India is still in the infant stage. If we have to improve factoring organizations
in the country, there should be more credit investigating agencies so that they can recommend
genuine business transactions. However, factoring service has a very bright future in India.
In fact, it will be a boon for small scale sector.

NOTES
LESSON – 6
6.1 INTRODUCTION
An entrepreneur, with a good technical knowledge, raising of capital in the conventional

method will be very difficult. So, by a new technique of financing, long term capital is
provided to small and medium sector through an institutional mechanism. So capital assistance
against high growth oriented along with managerial assistance was felt necessary. This
gave to the birth of Venture Capital Assistance.
6.2 LERNING OBJECTIVES

• The financing by venture capital institutions
• The present status of venture capital in India
• Guidelines for providing venture capital
• The investment pattern in venture capital
6.3 VENTURE CAPITAL VENTURE
A business enterprise involving considerable risk
VENTURE CAPITAL
It is a long term capital invested in companies which involves high risk.
The financing involves high risk but is compensated by high return.

FEATURES OF VENTURE CAPITAL
The following are the features of venture capital
1. It is the financing of capital for new companies.
2. This finance can also be loan-based or in convertible debentures
3. Providers of venture capital aim at capital gain due to the success achieved by the
borrowing concern.
4. Venture capital is always a long-term investment and made in companies which
have high growth potential.
5. The venture capital provider take part in the business of borrowing concern
simultaneously provides managerial skill.
6. Venture capital financing contains risks. But the risk is compensated with a higher
return.
7. It involves financing mainly small and medium size firms, which are in their early
stages. When the assistance of venture capital, these firms will stabilize and later
can go in for traditional finance.

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6.3.1 Objectives
NOTES
• To finance new companies who find it difficult to go to capital market
• To provide long term finance to small and medium scale industries
• To provide managerial assistance
• To bring in rapid growth in the business
6.3.2 Financing By Venture Capital Institutions
Before going in for venture capital finance, the venture capital institution will have to
assess the potentiality of the borrowing concern by a proper appraisal. This appraisal will
be similar to the project appraisal undertaken by commercial banks. There are three
stages involved in the venture capital finance.
1. Seed capital
It is the capital provided for testing the product and examining the commercial viability
of the product. It enables the venture capital institution to find out the technical skill of the
borrowing concern and its market potentially. So, we can say seed capital is more of a
product development and all the finance required at this stage is provided by the venture
capital institution.
2. Start up
Start up of the product refers to the is tested in the market and after being satisfied
with its acceptability by the market, financing will be provided for further development of
the product and marketing of the product.
The start up may be classified into four categories :

1. A new high technology, introduced by the entrepreneur.
2. A new business started by an entrepreneur who has a thorough working knowledge
and experience – normally started by persons who were working in an established
firm and having gained sufficient experience.
3. New projects started by existing companies.
Example: Retail business started by Hindustan Lever Limited.
4. A new company promoted by existing company. Here, the venture capital
institution is keen to have a first-rated management which may have a second
rated product. But not vice versa i.e., venture capital will not be provided for a
concern having a second-rated management but a first-quality product.
3. Second round finance
It is the second round of finance after the initial stage after being commercially successful
for want of some more finance.

4. Later stage financing

NOTES
It is the financing after second round finance. The business concern which has borrowed
venture capital has now become a well established business. But still, it is not able to go in
for public issue of shares. At this stage, the venture capital institution will provide finance.
5. Messanine capital
This is a stage where the borrowing company is not only well established but has
overcome the risks and has started earning profits. But they have to go for some more year
before reaching the stage of self sustenance. This finance is used by the borrowing company
for purchase of plant and machinery, repayment of past debts, and entering new areas.
6. Bridge capital
A capital of medium term finance ranging from one to three years and used for extending
a business
Example : bridge loan for acquiring other firms.
7. Management Buy-outs (MBO)
It is the capital used for acquiring all the shares and the voting rights to remove external
control.
Example : An Indian company’s shares may be purchased by NRIs at the initial

stage and after sometime these shares are bought back by the company with the help of
profits and finance by venture capital institutions.
8. Management buy-in (MBI)
Management buy in is the case where the funds are provided for an outside group to
buy an on going company.
9. Turn Arounds
Turn around may be
Financial Turn around : When the company is able to improve its conditions
financially, it is called financial turn around, which is due to the financial assistance by
venture capital institution.
Management Turn around : similarly, when the management of the company makes
a turn around by becoming self dependent and is able to face the challenges of business, it
is called management turn around.

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Infrastructure financing
NOTES
Incubators :
Incubators are non profit entities providing consultancy services in promoting venture
capital.
To encourage venture capital industry, it is necessary to develop proper infrastructure

for venture capital, as being done in foreign countries. Consultancy may be about office
environment, finance and other complimentary resources. Incubators are promoted normally
by government or professional organizations interested in developing small companies.
The venture capital fund companies also have their own incubators and they provide
in-house incubators. The job of incubators will be to provide early support to young
entrepreneurs so that the enterprise is converted into a successful commercial venture at
the earliest. For this purpose, proper financial support and managerial support are given.
There are two successful incubator models. These are :

1. Small Business Investment Company Programme (SBIC), administrated by
Small Business Administrator (SBA)
2. Bilateral Industrial Research and Development Foundation (BIRD).
SBIC, USA provides venture capital to private investment managers who promote
small companies. SBIC provides two-third of the capital and the remaining one-third is
provided by insurance companies, endowments, foundations, etc.
The capital supplied by SBA requires rate of return which is much lower than the
market rate. SBIC will also raise capital from the open market. 45% of the total equity is
provided by venture capital firms in America for the small enterprises. This method can be
adopted in India also.
The second model, BIRD is introduced by Israel – The Israeli government with
international corporation, could mobilize funds for providing venture capital fund. The
fund provides not merely financial assistance but infrastructure development, assistance
for manufacturing and for selling innovative products.
6.3.3 Venture Capital In India
The venture capital institutions (VCIs) in India can be broadly classified into 5 types.
1. Venture Capital companies promoted by Development Banks
2. State level Venture capital companies
3. Commercial banks promoted Venture capital companies
4. Private sector Venture capital companies
5. Foreign venture Capital funds.

1. VC companies promoted by Development banks

a) IDBI – VFC (Venture Fund Company) : IDBI promoted venture fund company
NOTES
in the year 1986. It is promoted by the Technology Development Wing of IDBI.
b) TDICI - Technology Development and Information company of India
Ltd. This was started in January 1988 with the support of ICICI and UTI. This
is the country’s first venture fund (Venture Capital Unit Scheme). It was started
with an initial fund of Rs.20 Crores and it has financed nearly 37 small and medium
scale enterprises. At present, it has a total fund of Rs.120 crores. The initial fund
has yielded a return of Rs.16 crores.
c) RCTC – Risk Capital and Technology Finance Corporation Ltd.: It is a
subsidiary of IFCI, started in January 1988. Its resource base has Rs.30 crores
which has contributions from UTI, IFCI and World Bank.
2. State level Venture Capital companies
There are two state-level venture fund companies in India. They are
1. Gujarat Venture Finance Ltd.

2. Andhra Pradesh Venture Capital Limited (AVCL).
Gujarat Venture Finance Ltd : Gujarat Industries Investment Corporation Ltd., along
with Gujarat Lease Finance Corporation Ltd., Gujarat Alkalies & Chemicals Ltd., and
Gujarat State Fertilizer Ltd., promoted Gujarat Venture finance Ltd. It has a venture fund
of Rs.24 crores and was started in 1990.
Andhra Pradesh Venture Capital Limited (AVCL) : This was promoted by APIDC
(Andhra Pradesh Industrial Development Corporation), IDBI, Andhra Bank and Indian
Overseas Bank.
3. Venture Capital Companies promoted by Commercial Banks
Notable among the venture companies promoted by the commercial banks

i. Canara Bank venture Capital Fund (CVCF) :
ii. Grind lays Bank has promoted India Investment Fund and Second India Investment
Fund.
iii. SBI Capital Venture Capital Fund.
4. Private sector Venture Capital companies
In private sector, we have Larazd Credit Capital Venture Fund and Indus Venture
Management Ltd. (IVML).

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5. Foreign Venture Capital funds

NOTES
The Hong Kong Bank has promoted venture fund.
Alliance Capital of U.S.A. has also promoted venture capital fund.
6.3.4 Guidelines For Providing Venture Capital
The venture capital companies have been given certain guidelines for providing venture
capital. Accordingly, the venture capital companies must obtain a detailed report from the
borrowing company. The report should contain the following details : -
1. History of the borrowing company
2. Available facility for the borrowing company
3. Description of the products manufactured by the company
4. Market trend of the products
5. Cash flow position of the concern
6. Operating profit
7. key personnel.
It takes about 6 months for a venture capital company to process the application
during which period, aspects such as the organizational structure, competition for the
company’s product, etc., are studied.
6.3.5 Investment Pattern In Venture Capital
The investment plan will consist of 3 stages –

a) Basic stage
b) Operating stage
c) Exit stage
• Basic stage involves the study and evaluation of the project.
• Operating stage deals with monitoring the functioning of the management of the
borrowing concerns and advice for providing new round of finance.
In the course of studying the managerial skill, the following aspects will be taken
a) product quality
b) Market size
c) rate of return
d) venture location
e) growth potential
f) state of entrepreneur

• Exit stage – The borrowing company may be sold to a third party or the company
may be left to look after itself. NOTES
While studying the managerial skill, he following aspects will be taken :
a) Product quality
b) Market size
c) Rate of return
d) Venture location
e) Growth potential
f) State of entrepreneur
Q.6.3.a. What is venture capital? What are the characteristics features of venture capital?
Q.6.3.b. What are the stage involved in venture capital financing?
Q.6.3.c. How a venture capital firm evaluates a borrowing company?
Q.6.3.d. What are the different types of venture capital companies?
Q.6.3.e. What is the significance of venture capital? How does it promote new class of
entrepreneurs?
SUMMARY
In spite of the major steps taken by SEBI to encourage venture capital investor there
is still slow growth of venture capital companies in India. They are due to
a. Lack of understanding of venture capital
b. The companies act s not in favour of venture capital fund
c. No proper exit policy
d. Lack of training to employees of venture capital companies
e. Unfavourable tax regulations
f. Too many restrictions on foreign venture capital companies
g. Lack of clarity in the calculation of equity of borrowing companies.
h. Lack of capital market support
i. Failure to revive sick companies by the venture capital companies.

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NOTES NOTES

NOTES NOTES

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NOTES NOTES

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MBA

MERCHANT BANKING AND

Centre for Distance Education

UNIT I - MERCHANT BANKING

2.1 INTRODUCTION 123

1.1 INTRODUCTION 151

2.1 INTRODUCTION 157

3.1 INTRODUCTION 161

4.1 INTRODUCTION 169

5.1 INTRODUCTION 175

1.1 INTRODUCTION 185

1.1 INTRODUCTION 201

2.1 INTRODUCTION 212

3.1 INTRODUCTION 222

4.1 INTRODUCTION 227

5.1 INTRODUCTION 232

6.1 INTRODUCTION 239

1.2 LEARNING OBJECTIVES

After reading the unit, you will understand:

- The functions of financial system

- The importance of financial System

- The financial system in India and its structure

- Limitations of financial system in India

1.3 FINANCIAL SYSTEM

• It is a system for the efficient management and creation of finance

1 ANNA UNIVERSITY CHENNAI

According to Robinson, financial system provides a link between savings and

According to Van Horne, financial system is defined as the purpose of financial

Thus the financial system mainly stands on three factors

The objectives of the financial system are

Functions of financial system are distributed from creation of money to efficient

2 ANNA UNIVERSITY CHENNAI

The promotional activities are

1.3.3 Significance Of Financial System

Financial system of a country or an organization is the main motivating factor to run

3 ANNA UNIVERSITY CHENNAI

The significance of financial system are

1.3.4 Introduction To Financial System In India

PRE INDEPENDENCE SITUATIONS

4 ANNA UNIVERSITY CHENNAI

POST INDEPENDENCE ERA (1950-1991)

5 ANNA UNIVERSITY CHENNAI

ERA AFTER LIBERALISATION

1.3.5 Structure Of Indian Financial System

Figure 1.1 Components of Financial System

6 ANNA UNIVERSITY CHENNAI

(A) FINANCIAL INSTITUTIONS

Commercial Co-Operative Non Banking Joint Stock

Structure of Financial Institutions

Private Sector Banks Foreign Banks

SBI & Subsidiaries Nationalized

Classification of Commercial Banks

7 ANNA UNIVERSITY CHENNAI

State Co-operative State Co-operative Urban Co-operative Land

Classification of Co-operative Banks

NON BANKING FINANCIL INTERMEDIARIES

Classification of Non Banking Financial Intermediaries

(B) FINANCIAL MARKETS:

Components of Financial Market

8 ANNA UNIVERSITY CHENNAI

(a) CAPITAL MARKET

Primary Market Secondary Market

Fig 1.7Classification of Capital Market