Copyright © 2009 by Nat ional St ock Exchange of I ndia Lt d.

( NSE)
Exchange Plaza, Bandra Kurla Com plex,
Bandra ( East ) , Mum bai 400 051 I NDI A

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CON TEN TS

1. I N V ESTM EN T BASI CS....................................................................................................... 6

What is I nvest m ent ?...................................................................................................................6
Why should one invest ? .............................................................................................................6
When t o st ar t I nvest ing?...........................................................................................................6
What care should one t ake w hile invest ing?......................................................................7
What is m eant by I nt er est ?......................................................................................................7
What fact or s det er m ine int er est r at es?...............................................................................7
What are various opt ions available fo r invest m ent ?......................................................8
What are various Short -t erm financial opt ions available for invest m ent ?.............8
What are various Long -t erm financial o pt ions available for invest m ent ?..............9
What is m eant by a St ock Ex change?................................................................................10
What is an ‘Equit y’/ Shar e?......................................................................................................10
What is a ‘Debt I nst rum ent ’?.................................................................................................11
What is a Der iv at iv e?................................................................................................................11
What is a Mut ual Fund?............................................................................................................11
What is an I ndex?.......................................................................................................................12
What is a Deposit ory? ...............................................................................................................12
What is Dem at erializat ion ?.....................................................................................................12

2. SECU RI TI ES ...........................................................................................................................13
What is m eant by ‘Secur it ies’?..............................................................................................13
What is t he funct ion of Secur it ies Mar ket ?.......................................................................13
Which ar e t he secur it ies one can inv est in?.....................................................................13
2.1 R EGULATOR ................................................................................................................................14
Why does Securit ies Market need Regulat ors?...............................................................14
Who regulat es t he Securit ies Market ?................................................................................14
What is SEBI and w hat is it s role?.......................................................................................14
2.2 PARTICIPANTS ............................................................................................................................15
Who are t he part icipant s in t he Securit ies Market ?......................................................15
I s it necessary t o t ransact t hrough an int erm ediary?..................................................15
What ar e t he segm ent s of Secur it ies Mar k et ?................................................................15

3. PRI M ARY M ARKET ............................................................................................................16

What is t he r ole of t he ‘Pr im ar y Mar ket ’? .........................................................................16
What is m eant by Face Value of a shar e/ debent ure? ..................................................16
What do you m ean by t he t erm Prem ium and Discount in a Securit y Market ?.16
3.1 ISSUE OF SHARES ......................................................................................................................17
Why do com panies need t o issue shares t o t he public? .............................................17
What are t he different kinds of issues? .............................................................................17
What is m eant by I ssue pr ice?..............................................................................................18
What is m eant by Market Capit alisat ion?..........................................................................18
What is t he differ ence bet w een public issue and privat e placem ent ?...................19
What is an I nit ial Public Offer ( I PO) ?..................................................................................19

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 Who decides t he pr ice of an issue? .....................................................................................19
What does ‘pr ice discover y t hr ough Book Building Pr ocess’ m ean?......................19
What is t he m ain differ ence bet w een offer of shar es t hr ough book building and
offer of shar es t hr ough nor m al public issue?..................................................................20
What is Cut -Off Price?...............................................................................................................20
What is t he floor price in case of book building? ...........................................................20
What is a Pr ice Band in a book built I PO?........................................................................20
Who decides t he Pr ice Band?.................................................................................................21
What is m inim um num ber of day s for w hich a bid should r em ain open dur ing
book building?..............................................................................................................................21
Can open out cr y sy st em be used for book building?...................................................21
Can t he individual invest or use t he book building facilit y t o m ake an
applicat ion?...................................................................................................................................21
How does one know if shares are allot t ed in an I PO/ offer for sale ? What is t he
t im efr am e for get t ing r efund if shar es not allot t ed?....................................................21
How long does it t ak e t o get t he shar es list ed aft er issue?.......................................21
What is t he r ole of a ‘Regist r ar ’ t o an issue?...................................................................22
Does NSE provide any facilit y for I PO?..............................................................................22
What is a Pr ospect us?...............................................................................................................22
What does ‘Dr aft Offer docum ent ’ m ean?........................................................................23
What is an ‘Abridged Prospect us’?.......................................................................................23
Who prepares t he ‘Prospect us’/ ‘Offer Docum ent s’?......................................................23
What does one m ean by ‘Lock -in’?......................................................................................24
What is m eant by ‘List ing of Securit ies’? ..........................................................................24
What is a ‘List ing Agreem ent ’?..............................................................................................24
What does ‘Delist ing of securit ies’ m ean? ........................................................................24
What is SEBI ’s Role in an I ssue?..........................................................................................24
Does it m ean t hat SEBI recom m ends an issue? ............................................................25
Does SEBI t ag m ake one’s m oney safe?...........................................................................25
3.2 FOREIGN CAPITAL ISSUANCE ..................................................................................................25
Can com panies in I ndia raise foreign currency resources?.......................................25
What is an Am erican Deposit ory Receipt ?........................................................................25
What is an ADS? .........................................................................................................................26
What is m eant by Global Deposit ory Receipt s?..............................................................26

4. SECON D ARY M ARKET.....................................................................................................27

4.1 INTRODUCTION ...........................................................................................................................27
What is m eant by Secondar y m ar k et ?...............................................................................27
What is t he role of t he Secondary Market ?......................................................................27
What is t he differ ence bet w een t he Pr im ar y Market and t he Secondary Market ?
...........................................................................................................................................................27
4.1.1 St ock Exchange .........................................................................................................28
What is t he r ole of a St ock Ex change in buy ing and selling shar es?.....................28
What is Dem ut ualisat ion of st ock exchanges?................................................................28
How is a dem ut ualised exchange different from a m ut ual exchange?..................28
Current ly are t here any dem ut ualised st ock exchanges in I ndia?..........................28
4.1.2 St ock Trading ..................................................................................................................29
What is Scr een Based Tr ading?............................................................................................29
What is NEAT?..............................................................................................................................29
How t o place or der s w it h t he br ok er ? ................................................................................29

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 How does an invest or get access t o int er net based t r ading facilit y?.....................29
What is a Cont r act Not e?.........................................................................................................30
What det ails ar e r equir ed t o be m ent ioned on t he cont r act not e issued by t he
st ock broker?................................................................................................................................30
What is t he m axim um br oker age t hat a br oker can char ge?...................................30
Why should one t r ade on a r ecognized st ock exchange only for buying/ selling
shares?............................................................................................................................................31
How t o know if t he br oker or sub br oker is r egist er ed?..............................................31
What pr ecaut ions m ust one t ake befor e invest ing in t he st ock m ar ket s?...........31
What Do’s and Don’t s should an inv est or bear in m ind w hen inv est ing in t he
st ock m ar k et s?............................................................................................................................32
4.2 PRODUCTS IN THE S ECONDARY MARKETS ..........................................................................34
What are t he product s dealt in t he Secondary Market s?............................................34
4.2.1 Equit y I nv est m ent ....................................................................................................36
Why should one invest in equit ies in part icular?............................................................36
What has been t he aver age r et ur n on Equit ies in I ndia? ...........................................36
Which are t he fact ors t hat influence t he price of a st ock?.........................................37
What is m eant by t he t er m s Gr ow t h St ock / Value St ock? .......................................37
How can one acquir e equit y shar es?..................................................................................38
What is Bid and Ask pr ice?.....................................................................................................38
What is a Por t folio?....................................................................................................................39
What is Diversificat ion?............................................................................................................39
What ar e t he advant ages of having a diver sified por t folio?......................................39
4.2.2. Debt I nvest m ent ..........................................................................................................40
What is a ‘Debt I nst rum ent ’?.................................................................................................40
What are t he feat ures of debt inst rum ent s?....................................................................40
What is m eant by ‘I nt er est ’ pay able by a debent ur e or a bond?............................41
What are t he Segm ent s in t he Debt Market in I ndia? .................................................41
Who ar e t he Par t icipant s in t he Debt Mar k et ?................................................................41
Are bonds rat ed for t heir credit qualit y? ...........................................................................41
How can one acquir e secur it ies in t he debt m ar k et ?...................................................41

5. D ERI V ATI V ES .......................................................................................................................42

What ar e Ty pes of Der iv at iv es?............................................................................................42
What is an ‘Opt ion Prem ium ’? ...............................................................................................42
What is ‘Com m odit y Exchange’? ..........................................................................................43
What is m eant by ‘Com m odit y’?...........................................................................................43
What is Com m odit y derivat ives m arket ? ..........................................................................43
What is t he difference bet ween Com m odit y and Financial derivat ives?...............43

6. D EPOSI TORY .........................................................................................................................44

How is a deposit or y sim ilar t o a bank ?..............................................................................44
Which ar e t he deposit or ies in I ndia?..................................................................................44
What ar e t he benefit s of par t icipat ion in a deposit ory? ..............................................44
Who is a Deposit or y Par t icipant ( DP) ?...............................................................................45
Does one need t o k eep any m inim um balance of secur it ies in his account w it h
his DP? ............................................................................................................................................45
What is an I SI N?.........................................................................................................................45
What is a Cust odian?.................................................................................................................45

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 How can o ne convert physical holding int o elect ronic holding i.e. how can one
dem at erialise securit ies?.........................................................................................................46
Can odd lot shares be dem at erialised?..............................................................................46
Do dem at erialised shares have dist inct ive num bers?..................................................46
Can elect ronic holdings be convert ed int o Physical cert ificat es?.............................46
Can one dem at erialise his debt inst rum ent s, m ut ual fund unit s, governm ent
secur it ies in his dem at account ?..........................................................................................46

7. M U TU AL FU N D S ...................................................................................................................47
What is t he Regulat ory Body for Mut ual Funds?............................................................47
What ar e t he benefit s of invest ing in Mut ual Funds?...................................................47
What is NAV?................................................................................................................................48
What is Ent ry/ Exit Load? .........................................................................................................48
Are t here any risks involved in invest ing in Mut ual Funds?......................................48
What are t he different t ypes of Mut ual funds? ...............................................................49
What ar e t he differ ent invest m ent plans t hat Mut ual Funds offer ?........................52
What ar e t he r ight s t hat ar e av ailable t o a Mut ual Fund holder in I ndia?...........52
What is a Fund Offer docum ent ?..........................................................................................53
What is Act ive Fund Managem ent ?.....................................................................................53
What is Passive Fund Managem ent ?...................................................................................54
What is an ETF?...........................................................................................................................56

8. M I SCELLAN EOU S ...............................................................................................................57

8.1 CORPORATE ACTIONS ..............................................................................................................57
What ar e Cor por at e Act ions?.................................................................................................57
What is m eant by ‘Dividend’ declared by com panies?.................................................57
What is m eant by Div idend y ield?.......................................................................................58
What is a St ock Split ?...............................................................................................................58
Why do com panies announce St ock Split ?.......................................................................59
What is Buyback of Shares?...................................................................................................60
8.2 INDEX ............................................................................................................................................60
What is t he Nift y index?...........................................................................................................60
8.3 CLEARING & S ETTLEMENT AND R EDRESSAL.......................................................................61
What is a Clear ing Cor por at ion?...........................................................................................61
What is Rolling Set t lem ent ? ...................................................................................................61
Wh at is Pay-in an d Pay-out ?..................................................................................................61
What is an Auct ion?...................................................................................................................62
What is a Book-closure/ Record dat e?................................................................................62
What is a No -delivery period?...............................................................................................62
What is an Ex-dividend dat e?................................................................................................62
What is an Ex-dat e?..................................................................................................................63
What r ecour ses ar e available t o invest or / client for r edr essing his gr ievances?63
What is Ar bit r at ion?...................................................................................................................63
What is an I nv est or Pr ot ect ion Fund?................................................................................63

9. CON CEPTS & M OD ES OF AN ALYSI S ....................................................................64

What is Sim ple I nt erest ? .........................................................................................................64
What is Com pound I nt er est ?.................................................................................................65
What is m eant by t he Tim e Value of Money? ..................................................................67
How is t im e v alue of m oney com put ed?...........................................................................70

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 What is Effect ive Annual ret urn?..........................................................................................72
How t o go about sy st em at ically analy zing a com pany?..............................................73
What is an Annual Repor t ?.....................................................................................................74
Which feat ur es of an Annual Repor t should one r ead car efully?.............................74
What is a Balance Sheet and a Pr ofit and Loss Account St at em ent ? What is t he
differ ence bet w een Balance Sheet and Pr ofit and Loss Account St at em ent s of a
com pany?.......................................................................................................................................74
What do t hese sour ces of funds r epr esent ?.....................................................................77
What is t he differ ence bet w een Equit y shar eholder s and Pr efer ent ial
shareholders?...............................................................................................................................78
What is t he difference bet w een secured and unsecured loans under Loan
Funds?.............................................................................................................................................79
What is m eant by applicat ion of funds?............................................................................79
What do t he sub-headings under t he Fixed Asset s like ‘Gross block’
‘Depr eciat ion’, ‘Net Block’ and Capit al-Wor k in Pr ogr ess’ m ean?...........................80
What ar e Cur r ent Liabilit ies and Pr ov isions and Net Current Asset s in t he
balance sheet ?.............................................................................................................................81
How is balance sheet sum m arized?....................................................................................81
What does a Pr ofit and Loss Account st at em ent consist s of?...................................82
What should one look for in a Pr ofit and Loss account ?.............................................83

10. RATI O AN ALYSI S .............................................................................................................85

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1. I n ve st m e n t Ba sics

W hat is I nvest m ent ?

The m oney y ou ear n is par t ly spent and t he r est sav ed for m eet ing fut ur e
ex penses. I nst ead of k eeping t he sav ings idle y ou m ay lik e t o use sav ings in
or der t o get r et ur n on it in t he fut ur e. This is called I nvest m ent .

W hy should one invest ?

One needs t o inv est t o:

§ ear n r et ur n on your idle r esour ces

§ generat e a specified sum of m oney for a specific goal in life
§ m ake a provision for an uncert ain fut ure

One of t he im por t ant r easons w hy one needs t o inv est w isely is t o m eet t he
cost of I nflat ion. I nflat ion is t he r at e at w hich t he cost of liv ing incr eases.
The cost of liv ing is sim ply w hat it cost s t o buy t he goods and ser v ices y ou
need t o liv e. I nflat ion causes m oney t o lose v alue because it w ill not buy t he
sam e am ount of a good or a ser vice in t he fut ur e as it does now or did in t he
past . For ex am ple, if t her e w as a 6% inflat ion r at e for t he next 20 year s, a
Rs. 100 pur chase t oday w ould cost Rs. 321 in 20 year s. This is w hy it is
im por t ant t o consider inflat ion as a fact or in any long- t erm invest m ent
st r at egy . Rem em ber t o look at an inv est m ent 's 'r eal' r at e of r et ur n, w hich is
t he ret urn af t er inflat ion. The aim of invest m ent s should be t o provide a
r et ur n abov e t he inflat ion r at e t o ensur e t hat t he inv est m ent does not
decr ease in v alue. For ex am ple, if t he annual inflat ion r at e is 6% , t hen t he
invest m ent w ill need t o earn m ore t han 6% t o ensure it increases in value.
I f t he aft er- t ax ret urn on your invest m ent is less t han t he inflat ion rat e, t hen
y our asset s hav e act ually decr eased in v alue; t hat is, t hey w on't buy as
m uch t oday as t hey did last year .

W hen t o st art I nvest ing?

The sooner one st ar t s inv est ing t he bet t er . By inv est ing ear ly y ou allow y our
inv est m ent s m or e t im e t o gr ow , w her eby t he concept of com poun ding ( as
w e shall see lat er ) incr eases y our incom e, by accum ulat ing t he pr incipal and

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t he int er est or div idend ear ned on it , y ear aft er y ear . The t hr ee golden r ules
for all invest ors are:

§ I nvest early
§ I nvest regularly
§ I nvest for long t erm and not short t erm

W hat care should one t ake w hile invest ing?

Befor e m aking any invest m ent , one m ust ensur e t o:

1. obt ain w r it t en docum ent s ex plaining t he inv est m ent

2. r ead and under st and such docum ent s
3. ver ify t he legit im acy of t he invest m ent
4. find out t he cost s and benefit s associat ed w it h t he inv est m ent
5. assess t h e risk- r et ur n pr ofile of t he inv est m ent
6. k now t he liquidit y and safet y aspect s of t he inv est m ent
7. ascer t ain if it is appr opr iat e for your specific goals
8. com par e t hese det ails w it h ot her inv est m ent oppor t unit ies av ailable
9. ex am ine if it fit s in w it h ot her inv est m ent s y ou ar e consider ing or y ou
have already m ade
10. deal only t hr ough an aut hor ised int erm ediary
11. seek all clar ificat ions about t he int er m ediar y and t he invest m ent
12. ex plor e t he opt ions av ailable t o y ou if som et hing w er e t o go w r ong,
and t hen, if sat isfied, m ak e t he inv est m ent .

These ar e called t he Tw elv e I m por t ant St eps t o I nv est ing.

W hat is m eant by I nt erest ?

When w e bor r ow m oney , w e ar e ex pect ed t o pay for using it – t his is know n

as I nt er est . I nt er est is an am ount char ged t o t he bor r ow er for t he pr ivilege
of using t he lender ’s m oney . I nt er est is usually calculat ed as a per cent age of
t he pr incipal balance ( t he am ount of m oney bor r ow ed) . The per cent age r at e
m ay be fix ed for t he life of t he loan, or it m ay be v ar iable, depending on t he
t er m s of t he loan.

W ha t fa ct ors det erm ine int erest ra t es?

When w e t alk of int er est r at es, t her e ar e differ ent t y pes of int er est r at es -
r at es t hat bank s offer t o t heir deposit or s, r at es t hat t hey lend t o t heir
borrow ers, t he r at e at w hich t he Gov er nm ent bor r ow s in t he

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Bond/ Gov er nm ent Secur it ies m ar k et , r at es offer ed t o inv est or s in sm all
sav ings schem es lik e NSC, PPF, r at es at w hich com panies issue fix ed
deposit s et c.

The fact or s w hich gov er n t hese int er est r at es ar e m ost ly econom y relat ed
and ar e com m only r efer r ed t o as m acr oeconom ic fact or s. Som e of t hese
fact or s ar e:

§ Dem and for m oney

§ Lev el of Gov er nm ent bor r ow ings
§ Supply of m oney
§ I nflat ion r at e
§ The Reserve Bank of I ndia and t he Governm ent policies w hich
det er m ine some of t he var iables m ent ioned above

W hat a re va rious opt ions a va ila ble for inve st m e nt ?

One m ay invest in:

§ Ph y sica l a sse t s lik e r eal est at e, gold/ j ew eller y , com m odit ies et c.
an d/ or
§ Fin a n cia l a sse t s such as fix ed deposit s w it h bank s, sm all sav ing
inst rum e nt s w it h post offices, insur ance/ pr ov ident / pension fund et c.
or securit ies m ar ket r elat ed inst r um ent s like shar es, bonds,
deben t u r es et c.

W hat are various Short - t erm financial opt ions available for
invest m ent ?

Br oadly speak ing, sav ings bank account , m oney m ar k et / liquid funds and
fix ed deposit s w it h bank s m ay be consider ed as shor t - t er m financial
inv est m ent opt ions:

Sa v in gs Ba n k Accou n t is oft en t he fir st bank ing pr oduct people

use, w hich offers low int er est ( 4%- 5% p.a.) , m ak ing t hem only
m ar ginally bet t er t han fixed deposit s.

M on e y M a r k e t or Liq u id Fu n d s ar e a specialized for m of m ut ual

funds t hat invest in ext r em ely shor t - t er m fix ed incom e inst r um ent s
and t her eby pr ov ide easy liquidit y . Unlik e m ost m ut ual funds, m oney
m ar k et funds ar e pr im ar ily or ient ed t ow ar ds pr ot ect ing y our capit al
and t hen, aim t o m axim ise r et ur ns. Money m ar ket funds usually yield

8
 bet t er r et ur ns t han sav ings account s, but low er t han bank fix ed
deposit s.

Fix e d D e posit s w it h Ba n k s ar e also r efer r ed t o as t er m deposit s

and m inim um inv est m ent per iod for bank FDs is 30 day s. Fix ed
Deposit s w it h bank s ar e for inv est or s w it h low r isk appet it e, and m ay
be consider ed for 6- 12 m ont hs inv est m ent per iod as nor m ally
int er est on less t han 6 m ont hs bank FDs is lik ely t o be low er t han
m oney m arket fund ret urns.

W hat are various Long- t erm fina ncia l opt ions a va ila ble for
invest m ent ?

Post Office Sav ings Schem es, Public Pr ov ident Fund, Com pany Fix ed
Deposit s, Bonds and Debent ur es, Mut ual Funds et c.

Post Of f ice Sa v in g s: Post Office Mont hly I ncom e Sc hem e is a low

r isk sav ing inst r um ent , w hich can be av ailed t hr ough any post office.
I t pr ov ides an int er est r at e of 8% per annum , w hich is paid m ont hly .
Minim um am ount , w hich can be invest ed, is Rs. 1,000/ - and
addit ional invest m ent in m ult iples of 1,000/ - . Maxim um
am ount is Rs. 3,00,000/ - ( if Single) or Rs. 6,00,000/ - ( if held
Joint ly ) dur ing a y ear . I t has a m at ur it y per iod of 6 y ear s. Pr em at ur e
w it hdr aw al is per m it t ed if deposit is m or e t han one y ear old. A
deduct ion of 5% is lev ied fr om t he pr incipal am ount if w it hdr aw n
pr em at ur ely .

Pu blic Pr ov ide n t Fu n d: A long t er m sav ings inst r um ent w it h a

m at ur it y of 1 5 y ear s and int er est pay able at 8 % per annum
com pounded annually . A PPF account can be opened t hr ough a
nat ionalized bank at any t im e dur ing t he y ear and is open all t hr ough
t he y ear for deposit ing m oney . Tax benefit s can be av ailed for t he
am ount inv est ed and int er est accr ued is t ax- fr ee. A w it hdr aw al is
per m issible ev er y y ear fr om t he sev ent h financial y ear of t he dat e of
opening of t he account and the am ount of w it hdraw al w ill be lim it ed
t o 50% of t he balance at cr edit at t he end of t he 4t h y ear
im m ediat ely pr eceding t he y ear in w hich t he am ount is w it hdr aw n or
at t he end of t he pr eceding y ear w hichev er is low er t he am ount of
loan if any.

Co m p a n y Fix e d D e p osit s: These ar e shor t - t erm ( six m ont hs) t o

m edium- t er m ( t hr ee t o fiv e y ear s) bor r ow ings by com panies at a
fix ed r at e of int er est w hich is pay able m ont hly , quar t er ly , sem i-
annually or annually . They can also be cum ulat iv e fix ed deposit s

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 w her e t he e nt ir e pr incipal alongw it h t he int er est is paid at t he end of
t he loan per iod. The r at e of int er est v ar ies bet ween 6- 9 % per annum
for com pany FDs. The int er est r eceiv ed is aft er deduct ion of t ax es.

Bonds: I t is a fix ed incom e ( debt ) inst r um ent issued for a per iod of
m or e t han one y ear w it h t he pur pose of r aising capit al. The cent r al or
st at e gov er nm ent , cor por at ions and sim ilar inst it ut ions sell bonds. A
bond is gener ally a pr om ise t o r epay t he pr incipal along w it h a fixed
r at e of int er est on a specified dat e, called t he Mat ur it y Dat e.

M u t u a l Fu n ds: These ar e funds oper at ed by an inv est m ent com pany

w hich r aises m oney fr om t he public and inv est s in a gr oup of asset s
( shar es, debent ur es et c.) , in accor dance w it h a st at ed set of
obj ect iv es. I t is a subst it ut e for t hose w ho ar e unable t o inv est
dir ect ly in equit ies or debt because of r esour ce, t im e or k now ledge
const r aint s. Benefit s include pr ofessional m oney m anagem ent ,
buying in sm all am ount s and diver sificat ion. Mut ual fund unit s ar e
issued and r edeem ed by t h e Fund Managem ent Com pany based on
t he fund's net asset v alue ( NAV) , w hich is det er m ined at t he end of
each t r ading session. NAV is calculat ed as t he v alue of all t he shar es
held by t he fund, m inus ex penses, div ided by t he num ber of unit s
issued. Mut ual Funds ar e usually long t er m inv est m ent v ehicle
t hough t her e som e cat egor ies of m ut ual funds, such as m oney
m ar k et m ut ual funds w hich ar e shor t t er m inst r um ent s.

W hat is m eant by a St ock Exchange?

The Secur it ies Cont r act ( Regulat ion) Act , 1956 [ SCRA] def ines ‘St ock
Ex change’ as any body of indiv iduals, w het her incor por at ed or not ,
const it ut ed for t he pur pose of assist ing, r egulat ing or cont r olling t he
business of buy ing, selling or dealing in secur it ies. St ock ex change could be
a r egional st ock ex change w hose ar ea of oper at ion/ j ur isdict ion is specified at
t he t im e of it s r ecognit ion or nat ional ex ch an ges, w h ich ar e per m it t ed t o
hav e nat ionw ide t r ading since incept ion. NSE w as incor por at ed as a nat ional
st ock ex change.

W hat is an ‘Equit y’/ Share?

Tot al equit y capit al of a com pany is div ided int o equal unit s of sm all
denom inat ions, each called a shar e. For ex am ple, in a com pany t he t ot al
equ it y capit al of Rs 2, 0 0, 00, 000 is divided int o 20, 00, 000 unit s of Rs 10
each. Each such unit of Rs 10 is called a Shar e. Thus, t he com pany t hen is

10
said t o hav e 20, 00,00 0 equit y shar es of Rs 10 each. The holder s of such
shar es ar e m em ber s of t he com pany and hav e v ot ing r ight s.

W hat is a ‘Debt I nst rum ent ’?

Debt inst r um ent r epr esent s a cont r act w her eby one par t y lends m oney t o
anot her on pre - det er m ined t er m s w it h r egar ds t o r at e and per iodicit y of
int er est , r epaym ent of pr incipal am ount by t he bor r ow er t o t he lender .

I n t h e I ndian secur it ies m ar k et s, t he t er m ‘bond ’ is used for debt

inst r um ent s issued by t he Cent r al and St at e gov er nm ent s and public sect or
or ganizat ions and t he t er m d ‘ ebent ur e’ is used for inst rum ent s issued by
pr iv at e cor por at e sect or .

W hat is a Derivat ive?

Der iv at iv e is a pr oduct w hose v alue is der iv ed fr om t he v alue of one or m or e

basic var iables, called under ly ing. The under ly ing asset can be equit y , index,
for eign ex change ( for ex ) , com m odit y or any ot her asset .

Der iv at iv e pr oduct s init ially em er ged as hedging dev ices against fluct uat ions
in com m odit y pr ices and com m odit y- link ed der iv at iv es r em ained t he sole
for m of such pr oduct s for alm ost t hr ee hundr ed y ear s. The financial
der ivat ives cam e int o spot light in post - 1970 period due t o grow ing inst abilit y
in t he financial m ar ket s. How ever , since t heir em er gence, t hese pr oduct s
have becom e very popular and by 1990s, t hey account ed for about t w o-
t hir ds of t ot al t r ansact ions in der iv at iv e pr oduct s.

W hat is a Mut ual Fund?

A Mut ual Fund is a body cor por at e r egist er ed w it h SEBI ( Secur it ies Ex change
Boar d of I ndia) t hat pools m oney fr om individuals/ cor por at e inv est or s and
inv est s t he sam e in a v ar iet y of differ ent financial inst r um ent s or secur it ies
such as equit y shar es, Gov er nm ent secur it ies, Bonds, debent ur es et c.
Mut ual funds can t hus be consider ed as financial int er m ediar ies in t he
inv est m ent business t hat collect funds fr om t he public and inv est on behalf
of t he inv est or s. Mut ual funds issue unit s t o t he inv est or s. The appr eciat ion
of t he por t folio or secur it ies in w hich t he m ut ual fund has inv est ed t he
m oney leads t o an appr eciat ion in t he v alue of t he unit s held by invest ors .
The invest m ent obj ect ives out lined by a Mut ual Fund in it s pr ospect us ar e
binding on t he Mut ual Fund schem e. The inv est m ent obj ect iv es specify t he
class of secur it ies a Mut ual Fund can inv est in. Mut ual Funds inv est in

11
v ar ious asset classes lik e equit y , bonds, debent ur es, com m er cial paper and
gov er nm ent secur it ies. The schem es offer ed by m ut ual funds v ar y fr om fund
t o fund. Som e are pure equit y schem es; ot hers are a m ix of equit y and
bonds. I nvest or s ar e also given t he opt ion of get t ing div idends, w hich ar e
declar ed per iodically by t he m ut ual fund, or t o par t icipat e only in t he capit al
appr eciat ion of t he schem e.

W hat is an I ndex?

An I ndex show s how a specified por t folio of shar e pr ices ar e m ov ing in or der
t o give an indicat ion of m ark et t r ends. I t is a basket of securit ies and t he
av er age pr ice m ov em ent of t he bask et of secur it ies indicat es t he index
m ov em ent , w het her upw ar ds or dow nw ar ds.

W hat is a Deposit ory?

A deposit or y is lik e a bank w her ein t he deposit s ar e secur it ies ( v iz. shar es,
debent ur es, bonds, gov er nm ent secur it ies, unit s et c.) in elect r onic for m .

W hat is Dem at erializat ion?

Dem at er ializat ion is t he pr ocess by w hich phy sical cer t ificat es of an inv est or
ar e conv er t ed t o an equiv alent num ber of secur it ies in elect r onic for m and
cr edit ed t o t he inv est or ’s account w it h his Deposit or y Par t icipant ( DP) .

12
2. SECURI TI ES

W hat is m eant by ‘Securit ies’?

The definit ion of ‘Secur it ies’ as per t he Secur it ies Cont r act s Regulat ion Act
( SCRA) , 1956, includes inst r um ent s such as sha r es, bonds, scr ips, st ock s or
ot her m ar k et able secur it ies of sim ilar nat ur e in or of any incor por at e
com pany or body cor por at e, gov er nm ent secur it ies, der iv at iv es of secur it ies,
unit s of collect iv e inv est m ent schem e, int er est and r ight s in secur it ies,
secur it y r eceipt or any ot her inst r um ent s so declar ed by t he Cent r al
Gov er n m en t .

W hat is t he funct ion of Securit ies M ark et ?

Secur it ies Mar k et s is a place w her e buy er s and seller s of secur it ies can ent er
int o t r ansact ions t o pur chase and sell shar es, bonds, debent ur es et c.
Fur t her , it per for m s an im por t ant r ole of enabling cor por at es, ent repreneurs
t o r aise r esour ces for t heir com panies and business v ent ur es t hr ough public
issues. Tr ansfer of r esour ces fr om t hose hav ing idle r esour ces ( inv est or s) t o
ot her s w ho have a need for t hem ( corporat es) is m ost efficient ly achieved
t hr ough t he secur it ies m ar k et . St at ed for m ally , secur it ies m ar k et s pr ov ide
channels for r eallocat ion of sav ings t o inv est m ent s and ent r epr eneur ship.
Sav ings ar e link ed t o inv est m ent s by a v ar iet y of int er m ediar ies, t hr ough a
r ange of financial pr oduct s, called ‘Secur it ies’.

W hich are t he securit ies one can invest in?

§ Shares
§ Gov er nm ent Secur it ies
§ Der iv at iv e pr oduct s
§ Unit s of Mut ual Funds et c. , ar e som e of t he secur it ies inv est ors in t he
sec urit ies m arket can invest in.

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2 .1 Re gula t or

W hy does Securit ies M ark et need Regulat ors?

The absence of condit ions of per fect com pet it ion in t he secur it ies m ar ket
m ak es t he r ole of t h e Regulat or ex t r em ely im por t ant . The r egulat or ensur es
t hat t he m ar ke t par t icipant s behav e in a desir ed m anner so t hat secur it ies
m ar k et cont inues t o be a m aj or sour ce of finance for cor por at e and
gov er nm ent and t he int er est of inv est or s ar e pr ot ect ed.

W ho regulat es t he Securit ies M ark et ?

The r esponsibilit y for r egulat ing t he secur it ies m ar k et is shar ed by

Depar t m ent of Econom ic Affair s ( DEA) , Depar t m ent of Com pany Affair s
( DCA) , Reser v e Bank of I ndia ( RBI ) and Secur it ies and Ex change Boar d of
I ndia ( SEBI ) .

W hat is SEBI and w hat is its role?

The Secur it ies and Exchange Board of I ndia ( SEBI ) is t he regulat ory
aut hor it y in I ndia est ablished under Sect ion 3 of SEBI Act , 1992. SEBI Act ,
1992 pr ov ides for est ablishm ent of Secur it ies and Ex change Boar d of I ndia
( SEBI ) w it h st at ut or y pow er s for ( a) pr ot ect ing t he int er est s of inv est or s in
secur it ies ( b) pr om ot ing t he dev elopm ent of t he secur it ies m ar k et and ( c)
r egulat ing t he secur it ies m ar k et . I t s r egulat or y j ur isdict ion ex t ends ov er
cor por at es in t he issuance of capit al and t r ansfer of secur it ies, in addit ion t o
all int erm edia r ies and per sons associat ed w it h secur it ies m ar ket . SEBI has
been obligat ed t o per for m t he afor esaid funct ions by such m easur es as it
t hinks fit . I n part icular, it has powers for:

§ Regulat ing t he business in st ock ex changes and any ot her secur it ies
m ar k et s
§ Regist er ing and r egulat ing t he w or k ing of st ock br ok er s, sub–br ok er s
et c.
§ Pr om ot ing and r egulat ing self - r egulat or y or ganizat ions
§ Pr ohibit ing fr audulent and unfair t r ade pr act ices
§ Calling for infor m at ion fr om , under t ak ing inspect ion, conduct ing
inquiries and audit s of t he st ock ex changes, int erm ediaries, self –
r egulat or y or ganizat ions, m ut ual funds and ot her per sons associat ed
w it h t he secur it ies m ar k et .

14
2 .2 Pa r t icipa nt s

W ho are t he part icipant s in t he Securit ies M ark et ?

The secur it ies m ar k et essent ially has t hr ee cat egor ies of par t icipant s,
nam ely , t he issuer s of secur it ies, inv est or s in secur it ies and t he
int er m ediar ies, such as m er chant bank er s, br ok er s et c. While t he cor por at es
and gov er nm ent r aise r esour ces fr om t he secur it ies m ar k et t o m eet t heir
obligat ions, it is households t hat inv est t heir sav ings in t he secur it ies
m ar k et .

I s it necessary t o t ransact t hrough an int erm ediary?

I t is adv isable t o conduct t r ansact ions t hr ough an int er m ediar y . For ex am ple
y ou need t o t r ansact t hr ough a t r ading m e m ber of a st ock exchange if you
int end t o buy or sell any secur it y on st ock ex changes. You need t o m aint ain
an account w it h a deposit or y if you int end t o hold secur it ies in dem at for m .
You need t o deposit m oney w it h a banker t o an issue if you are subscrib ing
t o public issues. You get guidance if y ou ar e t r ansact ing t hr ough an
int er m ediar y . Chose a SEBI r egist er ed int er m ediar y , as he is account able for
it s act iv it ies. The list of r egist er ed int er m ediar ies is av ailable w it h
exchanges, indust ry associat ions et c.

W hat are t he segm ent s of Securit ies M ark et ?

The secur it ies m ar k et has t w o int er dependent segm ent s: t he pr im ar y ( new

issues) m ar k et and t he secondar y m ar k et . The pr im ar y m ar k et pr ov ides t he
channel for sale of new secur it ies w hile t he secondar y m ar k et deals in
secur it ies pr ev iously issued.

15
3. PRI M ARY M ARKET

W hat is t he role of t he ‘Prim ary M ark et ’?

The pr im ar y m ar k et pr ov ides t he channel for sale of new secur it ies. Pr im ar y

m arket provides opport unit y t o issuers of securit ies; Go v er nm ent as w ell as
cor por at es, t o r aise r esour ces t o m eet t heir r equir em ent s of inv est m ent
and/ or dischar ge som e obligat ion.

They m ay issue t he secur it ies at face v alue, or at a discount / pr em ium and

t hese secur it ies m ay t ak e a v ar iet y of for m s such as equit y , debt et c. They
m ay issue t he secur it ies in dom est ic m ar k et and/ or int er nat ional m ar k et .

W hat is m eant by Face Value of a share/ debent ure?

The nom inal or st at ed am ount ( in Rs.) assigned t o a secur it y by t he issuer .

For shar es, it is t he or iginal cost of t he st ock show n on t he cer t ificat e; for
bonds, it is t he am ount paid t o t he holder at m at ur it y. Also know n as par
v alue or sim ply par . For an equit y shar e, t he face v alue is usually a v er y
sm all am ount ( Rs. 5, Rs. 10) and does not have m uch bear ing on t he pr ice
of t he share , w hich m ay quot e higher in t he m ar k et , at Rs. 100 or Rs. 1000
or any ot her pr ice. For a debt secur it y , face v alue is t he am ount r epaid t o
t he invest or w hen t he bond m at ur es ( usually, Gover nm ent secur it ies and
cor por at e bon ds h av e a face v alue of Rs. 100) . The pr ice at w hich t he
secur it y t r ades depends on t he fluct uat ions in t he int er est r at es in t he
econom y .

W hat do you m ean by t he t erm Prem ium and Discount in a

Securit y M a rk et ?

Secur it ies ar e gener ally issued in denom inat ions of 5, 10 or 100. This is
k now n as t he Face Value or Par Value of t he secur it y as discussed ear lier .
When a secur it y is sold abov e it s face v alue, it is said t o be issued at a
Pr em ium and if it is sold at less t han it s face v alue, t hen it is said t o be
issued at a Discou n t .

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3 .1 I ssu e of Sh a r e s

W hy do com panies need t o issue shares t o t he public?

Most com panies ar e usually st ar t ed pr iv at ely by t heir pr om ot er ( s) . How ev er ,

t he pr om ot er s’ capit al and t he bor r ow ings fr om bank s and financial
inst it ut ions m ay not be sufficient for set t ing up or r unning t he business ov er
a long t er m . So com panies inv it e t he public t o cont r ibut e t ow ar ds t he equit y
and issue shar es t o indiv idual inv est or s. The w ay t o inv it e shar e capit al fr om
t he public is t hr ough a ‘Public I ssue’. Sim ply st at ed, a public issue is an offer
t o t he public t o subscr ibe t o t he shar e capit al of a com pany . Once t his is
done, t he com pany allot s shar es t o t he applicant s as per t he pr escr ibed
rules and regulat ions laid down by SEBI .

W ha t a re t he different k inds of issues?

Pr im ar ily , issues can be classified as a Public, Right s or Prefer ent ial issues
( also k now n as pr iv at e placem ent s) . While public and r ight s issues inv olv e a
det ailed pr ocedur e, pr iv at e placem ent s or pr efer ent ial issues ar e r elat iv ely
sim pler. The classificat ion of issues is illust r at ed below :

I n it ia l Pu b lic Of f e r in g ( I PO) is w hen an unlist ed com pany m ak es eit her a

fr esh issue of secur it ies or an offer for sale of it s exist ing secur it ies or bot h
for t he fir st t im e t o t he public. This paves w ay for list ing and t rading of t he
issuer ’s secur it ies.

A f ollow on p u b lic of f e r in g ( Fu r t h e r I ssu e ) is w hen an alr eady list ed

com pany m ak es eit her a fr esh issue of secur it ies t o t he public or an offer for
sale t o t he public, t hr ough an offer docum ent .

Rig ht s I ssue is w hen a list ed com pany w hich pr oposes t o issue fr esh
secur it ies t o it s ex ist ing shar eholder s as on a r ecor d dat e. The r ight s ar e
nor m ally offer ed in a par t icular r at io t o t he num ber of secur it ies held pr ior t o
t he issue. This r out e is best suit ed for com panies w ho w ould lik e t o r aise
capit al w it hout dilut ing st ak e of it s ex ist ing shar eholder s.

A P r e fe r e n t ia l issu e is an issue of shar es or of conv er t ible secur it ies by

list ed com panies t o a select gr oup of per sons under Sect ion 81 of t he
Com panie s Act , 1956 w hich is neit her a right s issue nor a public issue. This
is a fast er w ay for a com pany t o r aise equit y capit al. The issuer com pany
has t o com ply w it h t he Com panies Act and t he r equir em ent s cont ained in

17
t h e Chapt er per t aining t o pr efer ent ial all ot m ent in SEBI guidelines w hich
int er- alia include pr icing, disclosur es in not ice et c.

Cla ssif ica t ion of I ssu e s

I ssue s

Public Right s Preferent ial

I nit ial Public Offering Furt her Public Offering

Fresh I ssue Offer for Sale Fresh I ssue Offer for Sale

W hat is m eant by I ssue price?

The pr ice at w hich a com pany 's shar es ar e offer ed init ially in t he pr im ar y
m ar k et is called as t he Issue pr ice. When t hey begin t o be t r aded, t he
m ar k et pr ice m ay be abov e or below t he issue pr ice.

W hat is m eant by M ark et Capit alisat ion?

The m ar k et v alue of a quot ed com pany , w hich is calculat ed by m ult iply ing
it s cur r ent shar e pr ice ( m ar k et pr ice) by t he nu m ber of shares in issue is
called as m ar k et capit alizat ion. E.g. Com pany A has 120 m illion shar es in
issue. The cur r ent m ar k et pr ice is Rs. 100. The m ar k et capit alisat ion of
com pany A is Rs. 12000 m illion.

18
W hat is t he difference bet w een public issue and privat e
placem ent ?

When an issue is not m ade t o only a select set of people but is open t o t he
gener al public and any ot her inv est or at lar ge, it is a public issue. But if t he
issue is m ade t o a select set of people, it is called pr iv at e placem ent . As per
Com panies Act , 1956, an issue becom es public if it r esult s in allot m ent t o 50
persons or m ore . This m eans an issue can be pr ivat ely placed w her e an
allot m ent is m ade t o less t han 50 persons.

W hat is an I nit ial Public Offer ( I PO) ?

An I nit ial Public Offer ( I PO) is t he selling of secur it ies t o t he public in t he

pr im ar y m ar ket . I t is w hen an unlist ed com pany m akes eit her a fr esh issue
of secur it ies or an offer for sale of it s ex ist ing secur it ies or bot h for t he fir st
t im e t o t he public. This paves w ay for lis t ing and t r ading of t he issuer ’s
secur it ies. The sale of secur it ies can be eit her t hr ough book building or
t hr ough nor m al public issue.

W ho decides t he price of an issue?

I ndian pr im ar y m ar k et usher ed in an er a of fr ee pr icing in 1992. Follow ing

t h is, t he guidelines hav e pr ov ided t hat t he issuer in consult at ion w it h
Mer chant Banker shall decide t he pr ice. Ther e is no pr ice for m ula st ipulat ed
by SEBI . SEBI does not play any r ole in pr ice fix at ion. The com pany and
m er chant bank er ar e how ev er r equir ed t o giv e full disclosur es of t he
par am et er s w hich t hey had consider ed w hile deciding t he issue pr ice. Ther e
ar e t w o t y pes of issues, one w her e com pany and Lead Mer chant Bank er fix a
pr ice ( called fix ed pr ice) and ot her , w her e t he com pany and t he Lead
Manager ( LM) st ipulat e a floor pr ice or a pr ice band and leav e it t o m ar k et
for ces t o det er m ine t he final pr ice ( pr ice discov er y t hr ough book building
pr ocess) .

W hat does ‘price discovery t hrough Book Building Process’

m ea n?

Book Building is basically a pr ocess used in I POs for efficient pr ice discov er y .
I t is a m echanism w her e, dur ing t he per iod for w hich t he I PO is open, bids
ar e collect ed fr om inv est or s at v ar ious pr ices, w hich ar e abov e or equal t o
t he floor pr ice. The offer pr ice is det er m ined aft er t he bid closing dat e.

19
W hat is t he m ain difference bet w een offer of shares t hrough
book building and offer of shares t hrough norm al public issue?

Price at w hich secur it ies w ill be allot t ed is not k now n in case of offer of
shar es t hr ough Book Building w hile in case of offer of shar es t hr ough nor m al
public issue, pr ice is k now n in adv ance t o inv est or . Under Book Building,
inv est or s bid for shar es at t he floor pr ice or abov e and aft er t he closur e of
t he book building pr ocess t he pr ice is det er m ined for allot m ent of shares.

I n case of Book Building, t he de m a n d can be k now n ev er y day as t he book

is being built . But in case of t he public issue t he dem and is know n at t he
close of t he issue.

W hat is Cut - Off Price?

I n a Book building issue, t he issuer is r equir ed t o indicat e eit her t he price

band or a floor pr ice in t he pr ospect us. The act ual discov er ed issue pr ice can
be any pr ice in t he pr ice band or any pr ice above t he floor pr ice. This issue
price is called “ Cut - Off Pr ice” . The issuer and lead m anager decides t his aft er
c onsider ing t he book and t he inv est or s’ appet it e for t he st ock.

W hat is t he floor price in case of book building?

Floor pr ice is t he m inim um pr ice at w hich bids can be m ade.

W hat is a Price Band in a book built I PO?

The pr ospect us m ay cont ain eit her t he floor pr ice for t he secur it ies or a pr ice
band w it hin w hich t he inv est or s can bid. The spr ead bet w een t he floor and
t he cap of t he pr ice band shall not be m or e t han 20% . I n ot her w or ds, it
m eans t hat t he cap should not be m or e t han 120% of t he floor pr ic e. The
pr ice band can hav e a r ev ision and such a r ev ision in t he pr ice band shall be
w idely dissem inat ed by infor m ing t he st ock ex changes, by issuing a pr ess
r elease and also indicat ing t he change on t he r elev ant w ebsit e and t he
t er m inals of t he t r ading m e m ber s par t icipat ing in t he book building pr ocess.
I n case t he pr ice band is r ev ised, t he bidding per iod shall be ex t ended for a
fur t her per iod of t hr ee day s, subj ect t o t he t ot al bidding per iod not
exceeding t en day s.

20
W ho decides t he Price Band?

I t m ay be under st ood t hat t he r egulat or y m echanism does not play a r ole in

set t ing t he pr ice for issues. I t is up t o t he com pany t o decide on t he pr ice or
t he pr ice band, in consult at ion w it h Mer chant Bank er s.

W ha t is m inim um num ber of da ys for w hich a bid should

rem ain open during book building?

Th e Book should rem ain open for a m inim um of 3 day s.

Can open out cry syst em be used for book building?

No. As per SEBI , only elect r onically link ed t r anspar ent facilit y is allow ed t o
be used in case of book building.

Can t he individual invest or use t he book building facilit y t o

m ake an applicat ion?

Yes.

How does one know if sha res a re allot t ed in an I PO/ offer for
sale ? W hat is t he t im efram e for get t ing refund if sha res not
allot t ed?

As per SEBI guidelines, t he Basis of Allot m ent should be com plet ed w it h 15

day s fr om t he issue close dat e. As soon as t he basis of allot m ent is
com plet ed, w it hin 2 w or king days t he det ails of cr edit t o dem at account /
allot m ent adv ice and despat ch of r efund or der needs t o be com plet ed. So an
inv est or should k now in about 15 day s t im e fr om t he closur e of issue,
w het her shar es ar e allot t ed t o him or not .

How long does it t a k e t o ge t t he shares list ed aft er issue ?

I t w ould t ake ar ound 3 w eeks aft er t he closur e of t he book built issue.

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W ha t is t he role of a ‘Regist rar’ t o an issue?

The Regist r ar finalizes t he list of eligible allot t ees aft er delet ing t he inv alid
applicat ions and ensur es t hat t he cor por at e act ion for cr edit ing of shar es t o
t he dem at account s of t he applicant s is done and t he dispat ch of refund
or der s t o t hose applicable ar e sent . The Lead Manager coor dinat es w it h t he
Regist r ar t o ensur e follow up so t hat t hat t he flow of applicat ions fr om
collect ing bank br anches, pr ocessing of t he applicat ions and ot her m at t er s
t ill t he bas is of allot m ent is finalized, dispat ch secur it y cer t ificat es and
r efund or der s com plet ed and secur it ies list ed.

Does N SE provide a ny fa cilit y for I PO?

Yes. NSE’s elect r onic t r ading net w or k spans acr oss t he count r y pr ov iding
access t o inv est or s in r em ot e ar eas. NSE decided t o offer t his infr ast r uct ur e
for conduct ing online I POs t hr ough t he Book Building pr ocess. NSE oper at es
a fully aut om at ed scr een based bidding sy st em called NEAT I PO t hat enables
t r ading m em ber s t o ent er bids dir ect ly fr om t heir offices t hrough a
sophist icat ed t elecom m unicat ion net w or k .

Book Building t hr ough t he NSE sy st em offer s sev er al adv ant ages:

§ The NSE syst em offer s a nat ion w ide bidding facilit y in secur it ies

§ I t pr ov ide a fair , efficient & t r anspar ent m et hod for collect ing bids
using t he lat est elect ronic t rading syst em s

§ Cost s involved in t he issue are far less t han t hose in a norm al I PO

§ The sy st em r educes t he t im e t ak en for com plet ion of t he issue

pr ocess

The I PO m ar k et t im ings ar e fr om 10.00 a.m . t o 3.00 p.m . On t he last day of

t he I PO, t he session t im ings can be fur t her ex t ended on specific r equest by
t he Book Running Lead Manager .

W hat is a Prospect us?

A lar ge num ber of new com panies float public issues. While a lar ge num ber
of t hese com panies ar e genuine, quit e a few m ay w ant t o ex ploit t he
inv est or s. Ther efor e, it is v er y im por t ant t hat an inv est or befor e apply ing for
any issue ident ifies fut ur e pot ent ial of a com pany . A par t of t he guidelines
issued by SEBI ( Secur it ies and Ex change Boar d of I ndia) is t he disclosur e of

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infor m at ion t o t he public. This disclosur e includes infor m at ion lik e t he r eason
for r aising t he m oney , t he w ay m oney is pr oposed t o be spent , t he r et ur n
ex pect ed on t he m oney et c. This infor m at ion is in t he for m of ‘Pr ospe ct u s ’
w hich also includes infor m at ion r egar ding t he size of t he issue, t he cur r ent
st at us of t he com pany , it s equit y capit al, it s cur r ent and past per for m ance,
t he pr om ot er s, t he pr oj ect , cost of t he pr oj ect , m eans of financing, pr oduct
and capacit y et c. I t also cont ains lot of m andat ory infor m at ion r egar ding
under w r it ing and st at ut or y com pliances. This helps inv est or s t o ev aluat e
shor t t er m and long t er m pr ospect s of t he com pany .

W hat does ‘Draft Offer docum ent ’ m ean?

‘Offer docum ent ’ m eans Pr ospect us in case of a public issue or offer for sale
and Let t er of Offer in case of a right s issue which is filed w it h t he Regist r ar
of Com panies ( ROC) and St ock Ex changes ( SEs) . An offer docum ent cov er s
all t he r elev ant infor m at ion t o help an inv est or t o m ak e his/ her inv est m ent
decision.

‘Dr aft Offer docum ent ’ m eans t he offer docum ent in draft st age. The draft
offer docum ent s ar e filed w it h SEBI , at least 21 day s pr ior t o t he filing of t he
Offer Docum ent wit h ROC/ SEs. SEBI m ay specify changes, if any , in t he
dr aft Offer Docum ent and t he issuer or t he lead m erchant bank er shall car r y
out such changes in t he dr aft offer docum ent befor e filing t he Offer
Docum ent w it h ROC/ SEs. The Dr aft Offer Docum ent is av ailable on t he SEBI
w ebsit e for public com m ent s for a per iod of 2 1 day s fr om t he filing of t he
Dr aft Offer Docum ent wit h SEBI .

W hat is an ‘Abridged Prospect us’?

‘Abr idged Pr ospect us’ is a shor t er ver sion of t he Pr ospect us and cont ains all
t he salient feat ur es of a Pr ospect us. I t accom panies t he applicat ion for m of
public issues.

W ho prepares t he ‘Prospect us’/ ‘Offer Docum ent s’?

Gener ally , t he public issues of com panies ar e handled by ‘Mer chant Bank er s’
w ho ar e r esponsible for get t ing t he pr oj ect appr aised, finalizing t he cost of
t he pr oj ect , pr ofit abilit y est im at es and for pr epar ing of ‘Pr ospect us’. The
‘Pr ospect us’ is subm it t ed t o SEBI for it s approval.

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W hat does one m ean by ‘Lock - in’?

‘Lock- in’ indicat es a fr eeze on t he sale of shares for a cer t ain per iod of t im e .
SEBI guidelines hav e st ipulat ed lock- in r equir em ent s on shar es of pr om ot er s
m ain ly t o ensur e t hat t he pr om ot er s or m ain per sons, w ho ar e cont r olling
t he com pany , shall cont inue t o hold som e m inim um per cent age in t he
com pany aft er t he public issue.

W hat is m eant by ‘List ing of Securit ies’?

List ing m eans adm ission of secur it ies of an issuer t o t r ading pr iv ileges
( dealings) on a st ock ex change t hr ough a for m al agr eem ent . The pr im e
obj ect iv e of adm ission t o dealings on t he ex change is t o pr ov ide liquidit y
and m ar k et abilit y t o secur it ies, as also t o pr ov ide a m echanism for effect iv e
cont r ol and super vision of t r ading.

W hat is a ‘List ing Agreem ent ’?

At t he t im e of list ing secur it ies of a com pany on a st ock ex change, t he

com pany is r equir ed t o ent er int o a list ing agr eem ent w it h t he ex change.
The list ing agr eem ent specifies t he t er m s and condit ions of list ing and t he
disclosur es t hat shall be m ade by a com pany on a cont inuous basis t o t he
exchange.

W hat does ‘Delist ing of securit ies’ m ean?

The t er m ‘Delist ing of secur it ies’ m eans per m anent r em oval of secur it ies of a
list ed com pany fr om a st ock ex change. As a consequence of delist ing, t he
secur it ies of t hat com pany w ould no longer be t r aded at t hat st ock
exchange.

W hat is SEBI ’s Role in an I ssue?

Any com pany m ak ing a public issue or a list ed com pany m ak ing a r ight s
issue of v alue of m or e t han Rs 50 lak h is r equir ed t o file a dr aft offer
docum ent w it h SEBI for it s obser v at ions. The com pany can pr oceed fur t her
on t he issue only aft er get t ing obser v at ions fr om SEBI . The v alidit y per iod of
SEBI ’s obser v at ion let t er is t hr ee m ont hs only i. e. t he com pany has t o open
it s issue w it hin t hree m ont hs period.

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Does it m ean t hat SEBI recom m ends an issue?

SEBI does not r ecom m end any issue nor does t ake any r esponsibilit y eit her
for t he financial soundness of any schem e or t he pr oj ect for w hich t he issue
is pr oposed t o be m ade or for t he cor r ect ness of t he st at em ent s m ade or
opinions expr essed in t he offer docum ent . SEBI m ainly scr ut inizes t he issue
for seeing t hat adequat e disclosur es ar e m ade by t he issuing com pany in t he
pr ospect us or offer docum ent .

Does SEBI t a g m a k e one’s m one y sa fe ?

The inv est or s should m ak e an infor m ed decision pur ely by t hem selv es based
on t he cont ent s disclosed in t he offer docum ent s. SEBI does not associat e
it self w it h any issue/ issuer and should in no w ay be const r ued as a
guar ant ee for t he funds t hat t he inv est or pr oposes t o inv est t hr ough t he
issue. How ev er , t he inv est or s ar e gener ally adv ised t o st udy all t he m at er ial
fact s per t aining t o t he issue including t he r isk fact or s befor e consider ing any
inv est m ent . They ar e st r ongly w ar ned against r ely ing on any ‘t ips’ or new s
t hr ough unofficial m eans.

3 .2 For e ign Ca pit a l I ssua nce

Can com panies in I ndia raise foreign currency resources?

Yes. I ndian com panies ar e per m it t ed t o r aise for eign cur r ency r esour ces
t hr ough t w o m ain sou r ces: a) issue of for eign cur r ency conv er t ible bonds
m or e com m only k now n as ‘Eur o’ issues and b) issue of or dinar y shar es
t hr ough deposit or y r eceipt s nam ely ‘Global Deposit or y Receipt s
( GDRs) / Am er ican Deposit or y Receipt s ( ADRs) ’ t o for eign invest or s i.e. t o t he
inst it ut ional inv est or s or indiv idual inv est or s.

W hat is an Am erican Deposit ory Receipt ?

An Am er ican Deposit ar y Receipt ( " ADR" ) is a phy sical cer t ificat e ev idencing
ow ner ship of Am er ican Deposit ar y Shar es ( " ADSs" ) . The t er m is oft en used
t o r efer t o t he ADSs t hem selv es.

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W hat is an ADS?

An Am er ican Deposit ar y Shar e ( " ADS" ) is a U. S. dollar denom inat ed for m of

equit y ownership in a non- U.S. com pany . I t r epr esent s t he for eign shar es of
t he com pany held on deposit by a cust odian bank in t he com pany 's hom e
count r y and car r ies t he cor por at e and econom ic r ight s of t he for eign shar es,
subj ect t o t he t er m s specified on t he ADR cer t ificat e.

One or sev er al ADSs can be r epr esent ed by a phy sical ADR cer t ificat e. The
t er m s ADR and ADS ar e oft en used int er changeably .

ADSs pr ov ide U.S. inv est or s w it h a conv enient w ay t o inv est in ov er seas
secur it ies and t o t r ade non- U.S. securit ies in t he U.S. ADSs are issued by a
deposit ory bank , such as JPMor gan Chase Bank . They ar e t r aded in t he
sam e m anner as shares in U. S. com panies, on t he New Yor k St ock Ex change
( N YSE) and t he Am er ican St ock Ex change ( AM EX) or quot ed on N ASD AQ
and t he ov er- t h e- count er ( OTC) m ar ket .

Alt hough ADSs ar e U.S. dollar denom inat ed secur it ies and pay div idends in
U. S. dollar s, t hey do not eliminat e t he cur r ency r isk associat ed w it h an
invest m ent in a non- U.S. com pany.

W hat is m eant by Global Deposit ory Receipt s?

Global Deposit or y Receipt s ( GDRs) m ay be defined as a global finance

v ehicle t hat allow s an issuer t o r aise capit al sim ult aneously in t wo or
m arket s t hrough a global offering. GDRs m ay be used in public or privat e
m ar ket s inside or out side US. GDR, a negot iable cer t ificat e usually
r epr esent s com pany ’s t r aded equit y / debt . The under ly ing shar es cor r espond
t o t he GDRs in a fixed rat io say 1 GDR= 10 shar es.

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4. SECON D ARY M ARKET

4 .1 I nt r oduct ion

W hat is m eant by Secondary m arket ?

Secondar y m ar k et r efer s t o a m ar k et w her e secur it ies ar e t r aded aft er being

init ially offer ed t o t he public in t he pr im ar y m ar k et and/ or list ed on t he
St ock Ex change. Maj or it y of t he t r ading is done in t he secondar y m ar k et .
Secondar y m ar k et com pr ises of equit y m ar k et s and t he debt m ar k et s.

W hat is t he role of t he Secondary Market ?

For t he gener al inv est or , t he secondar y m ar k et pr ov ides an efficient

plat for m for t rading of his secur it ies. For t he m anagem ent of t he com pany ,
Secondar y equit y m ar ket s ser ve as a m onit or ing and cont r ol conduit —by
facilit at ing v alue- enhancing cont r ol act iv it ies, enabling im plem ent at ion of
incent iv e- based m anagem ent cont r act s, and aggr egat ing infor m at ion ( v ia
pr ice discover y) t hat guides m anagem ent decisions.

W hat is t he difference bet w een t he Prim ary M ark et and t he

Secondary M ark et ?

I n t he pr im ar y m ar k et , secur it ies ar e offer ed t o public for subscr ipt ion for

t he pur pose of r aising capit al or fund. Secondar y m ar k et is an equit y t r ading
v enue in w hich alr eady ex ist ing/ pr e - issued secur it ies ar e t r aded am ong
inv est or s. Secondar y m ar k et could be eit her auct ion or dealer m ar k et . While
st ock ex change is t he par t of an auct ion m ar k et , Ov er- t he- Count er ( OTC) is
a par t of t he dealer m ar k et .

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4 .1 .1 St ock Ex cha nge

W hat is t he role of a St ock Exchange in buying and selling

sha res?

The st ock ex changes in I ndia, under t he ov er all super v ision of t he r egulat or y

aut hor it y , t he Secur it ies and Ex change Boar d of I ndia ( SEBI ) , pr ov ide a
t r ading plat for m , w her e buy er s and seller s can m eet t o t r ansact in
secur it ies. The t r ading plat for m pr ov ided by NSE is an elect r onic one and
t her e is no need for buy er s and seller s t o m eet at a phy sical locat ion t o
t r ade. They can t r ade t hr ough t he com put er ized t r ading scr eens av ailable
w it h t he NSE t r ading m em ber s or t he int er net based t r ading facilit y pr ov ided
by t he t rading m em bers of NSE.

W hat is Dem ut ualisat ion of st ock exchanges?

Dem ut ualisat ion r efer s t o t he legal st r uct ur e of an ex change w her eby t he

ow ner ship, t he m anagem ent and t he t r ading r ight s at t he ex change ar e
segr egat ed fr om one anot her .

H ow is a dem ut ualised exchange different from a m ut ual

exchange?

I n a m ut ual ex change, t he t hr ee funct ions of ow ner sh ip, m anagem ent and

t r ading ar e concent r at ed int o a single Gr oup. Her e, t he br ok er m em ber s of
t he exchange ar e bot h t he ow ner s and t he t r ader s on t he exchange and
t hey fur t her m anage t he ex change as w ell. This at t im es can lead t o conflict s
of int er est in decision m ak ing. A dem ut ualised ex change, on t he ot her hand,
has all t hese t hr ee funct ions clear ly segr egat ed, i.e. t he ow ner ship,
m anagem ent and t r ading ar e in separ at e hands.

Current ly are t here any dem ut ualised st ock exchanges in

I ndia?

Cur r ent ly , t w o st ock ex changes in I ndia, t he Nat ional St ock Ex change ( NSE)
and Ov er t he Count er Ex change of I ndia ( OTCEI ) ar e dem ut ualised.

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4 .1 .2 St ock Tr a din g

W hat is Screen Based Trading?

The t r ading on st ock ex changes in I ndia used t o t ak e place t hr ough open

out cr y w it hout use of infor m at ion t echnology for im m ediat e m at ching or
r ecor ding of t r ades. This w as t im e consum ing and inefficient . This im posed
lim it s on t r ading v olum es and efficiency . I n or der t o pr ov ide efficiency ,
liquidit y and t r anspar ency , NSE int r oduced a nat ionw ide, on- line, fully -
aut om at ed scr een based t r ading sy st em ( SBTS) w her e a m em ber can punch
int o t he com put er t he quant it ies of a secur it y and t he pr ice at which he
w ould lik e t o t r ansact , and t he t r ansact ion is ex ecut ed as soon as a
m at ching sale or buy or der fr om a count er par t y is found.

W hat is N EAT?

NSE is t he fir st ex change in t he w or ld t o use sat ellit e com m unicat ion

t echnology for t r ading. I t s t r ading sy st em , called Nat ional Ex change for
Aut om at ed Tr ading ( NEAT) , is a st at e of- t h e- art c lient server based
applicat ion. At t he ser v er end all t r ading infor m at ion is st or ed in an in-
m em or y dat abase t o achiev e m inim um r esponse t im e and m ax im um sy st em
av ailabilit y for user s. I t has upt im e r ecor d of 99.7% . For all t r ades ent er ed
int o NEAT syst em , t her e is unifor m r esponse t im e of less t han one second.

How t o place orders w it h t he broker?

You m ay go t o t he broker’s office or place an or der on t he phone/ int er net or

as defined in t he Model Agr eem ent , w hich ev er y client needs t o ent er int o
wit h his or her broker.

H ow does an invest or get access t o int ernet based t rading

fa cilit y?

Ther e ar e m any br ok er s of t he NSE w ho pr ov ide int er net based t r ading

facilit y t o t heir client s. I nt er net based t r ading enables an inv est or t o buy / sell
secur it ies t hr ough int er net w hich can be accessed from a com put er at t he
inv est or ’s r esidence or any w her e else w her e t he client can access t he
int er net . I nv est or s need t o get in t ouch w it h an NSE br ok er pr ov iding t his
ser v ice t o av ail of int er net based t r ading facilit y .

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W hat is a Cont ract N ot e?

Con t r act Not e is a confir m at ion of t r ades done on a par t icular day on behalf
of t he client by a t r ading m em ber . I t im poses a legally enfor ceable
r elat ionship bet w een t he client and t he t r ading m em ber w it h r espect t o
purchase/ sale and set t lem ent of t r ades. I t also helps t o set t le
disput es/ claim s bet w een t he inv est or and t he t r ading m em ber . I t is a
pr er equisit e for filing a com plaint or ar bit r at ion pr oceeding against t he
t rading m em ber in case of a disput e. A valid cont ract not e should be in t he
pr escr ibed for m , cont ain t he det ails of t r ades, st am ped w it h r equisit e v alue
and duly signed by t he aut hor ized signat or y . Cont r act not es ar e k ept in
duplicat e, t he t r ading m em ber and t he client should k eep one copy each.
Aft er v er ify ing t he det ails cont ained t her ein, t he client k eeps one copy and
r et ur ns t he second copy t o t he t r ading m em ber duly ack now ledged by him .

W hat det ails are required t o be m ent ioned on t he cont ract

not e issued by t he st ock broker?

A br ok er has t o issue a cont r act not e t o client s for all t r ansact ions in t he
for m specified by t he st ock ex change. The cont r act not e int er- alia should
hav e follow ing:

§ Nam e, addr ess and SEBI Regist r at ion num ber of t he Mem ber br oker .
§ Nam e of par t ner / pr opr iet or / Aut hor ised Signat or y .
§ Dealing Office Addr ess/ Tel. No./ Fax no., Code num ber of t he m em ber
giv en by t he Ex change.
§ Cont r act num ber , dat e of issue of cont r act not e, set t lem ent num ber
and t im e per iod for set t lem ent .
§ Const it uent ( Client ) nam e/ Code Num ber .
§ Or der num ber and or der t im e cor r esponding t o t he t r ades.
§ Tr ade num ber and Tr ade t im e.
§ Quant it y and kind of Securit y bought / sold by t he client .
§ Br ok er age and Pur chase/ Sale r at e.
§ Ser v ice t ax r at es, Secur it ies Tr ansact ion Tax and any ot her char ges
levied by t he br oker .
§ Appr opr iat e st am ps hav e t o be affixed on t he cont r act not e or it is
m ent ioned t hat t he consolidat ed st am p dut y is paid.
§ Signat ur e of t he St ock br ok er / Aut hor ized Signat or y .

W hat is t he m axim um brokerage t hat a broker can charge?

The m ax im um br ok er age t hat can be char ged by a br oker fr om his client s as

com m ission cannot be m or e t han 2 . 5 % of t he v alue m ent ioned in t he
r espect iv e pur chase or sale not e.

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W hy should one t ra de on a recognized st ock ex cha nge only for
buying/ selling shares?

An inv est or does not get any pr ot ect ion if he t r ades out side a st ock
ex change. Tr ading at t he ex change offer s inv est or s t he best pr ices
pr ev ailing at t he t im e in t he m ar k et , lack of any count er- part y risk which is
assum ed by t he clear ing cor por at ion, access t o inv est or gr iev ance and
redressal m echanism of st ock ex changes, pr ot ect ion upt o a pr escr ibed lim it ,
fr om t he I nv est or Pr ot ect ion Fund et c.

How t o know if t he broker or sub broker is regist ered?

One can confir m it by v er ify ing t he r egist r at ion cer t ificat e issued by SEBI . A
broker's regist ra t ion num ber begins w it h t he let t er s ‘I NB’ and t hat of a sub
broker w it h t he let t ers ‘I NS’.

W hat precaut ions m ust one t ak e before invest ing in t he st ock

m a r k e t s?

Her e ar e som e useful point er s t o bear in m ind befor e y ou inv est in t he

m ar k et s:

§ Make sur e your broker is r egist er ed w it h SEBI and t he ex changes and

do not deal w it h unr egist er ed int er m ediar ies.

§ Ensur e t hat y ou r eceiv e cont r act not es for all y our t r ansact ions fr om
y our br ok er w it hin one w or k ing day of ex ecut ion of t he t r ades.

§ All inv est m ent s car r y r isk of som e kind. I nvest or s should alw ays
k now t he r isk t hat t hey ar e t ak ing and inv est in a m anner t hat
m at ches t heir r isk t oler ance.

§ Do not be m isled by m ar k et r um our s, lur ing adv er t isem ent or ‘hot

t ips’ of t he day .

§ Tak e infor m ed decisions by st udy ing t he fundam ent als of t he

com pany . Find out t he business t he com pany is int o, it s fut ure
pr ospect s, qualit y of m anagem ent , past t r ack r ecor d et c Sources of
k now ing about a com pany ar e t hr ough annual r epor t s, econom ic
m agazines, dat abases av ailable w it h v endor s or y our financial
advisor.

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 § I f y our financial adv isor or br ok er adv ises y ou t o inv est in a com pany
y ou hav e nev er hear d of, be caut ious. Spend som e t im e check ing out
about t he com pany befor e inv est ing.

§ Do not be at t r act ed by announcem ent s of fant ast ic r esu lt s/ new s

r epor t s, about a com pany . Do y our ow n r esear ch befor e inv est ing in
any st ock.
§ Do not be at t r act ed t o st ock s based on w hat an int er net w ebsit e
pr om ot es, unless y ou hav e done adequat e st udy of t he com pany .

§ I nv est ing in v er y low pr iced st ock s or w hat ar e k now n as penny

st ock s does not guar ant ee high r et ur ns.

§ Be caut ious about st ocks w hich show a sudden spur t in pr ice or

t r ading act iv it y .

§ Any adv ise or t ip t hat claim s t hat t her e ar e huge r et ur ns ex pect ed,
especially for act ing quickly, m a y be r isky and m ay t o lead t o losing
som e, m ost , or all of your m oney.

W ha t Do’s a nd Don’t s should a n invest or bea r in m ind w hen

invest ing in t he st ock m ark et s?

§ Ensur e t hat t he int er m ediar y ( br ok er / sub- broker) has a valid SEBI

r egist r at ion cer t ificat e.
§ Ent er int o an agr eem ent w it h y our br ok er / sub- br ok er set t ing out
t er m s and condit ions clear ly.
§ Ensure t hat you give all your det ails in t he ‘Know Your Client ’ form .
§ Ensur e t hat y ou r ead car efully and under st and t he cont ent s of t he
‘Risk Disclosure Docum ent ’ and t hen ack now ledge it .
§ I nsist on a cont r act not e issued by your br oker only, for t r ades done
each day .
§ Ensur e t hat y ou r eceiv e t he cont r act not e fr om y our br ok er w it hin 24
hour s of t he t r ansact ion.
§ Ensur e t hat t he cont r act not e cont ains det ails such as t he br ok er ’s
nam e, t r ade t im e and num ber , t r ansact ion pr ice, br ok er age, ser v ice
t ax , secur it ies t r ansact ion t ax et c. and is signed by t he Aut hor ised
Signat ory of t he broker.
§ To cr oss check genuineness of t he t r ansact ions, log in t o t he NSE
w ebsit e ( w w w . nseindia.com ) and go t o t he t r ade ver ificat ion facilit y
ext ended by NSE at w w w .nseindia.com / cont ent / equit ies/
eq_t r dv er ify .ht m .

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§ I ssue account pay ee cheques/ dem and dr aft s in t he nam e of y our
br ok er only , as it appear s on t he cont r act not e/ SEBI r egist r at ion
c ert ificat e of t he broker.
§ While deliv er ing shar es t o y our br ok er t o m eet y our obligat ions,
ensur e t hat t he deliv er y inst r uct ions ar e m ade only t o t he designat ed
account of y our br ok er only .
§ I nsist on per iodical st at em ent of account s of funds and secur it ies
fr om y our br ok er . Cr oss check and r econcile y our account s pr om pt ly
and in case of any discr epancies br ing it t o t he at t ent ion of y our
br ok er im m ediat ely .
§ Please ensur e t hat y ou r eceiv e pay m ent s/ deliv er ies fr om y our br ok er ,
for t he t r ansact ions ent er ed by y ou, w it hin one w or k ing day of t he
pay out dat e.
§ Ensur e t hat y ou do not under t ak e deals on behalf of ot her s or t r ade
on your ow n nam e and t hen issue cheques fr om a fam ily m em ber s’/
fr iends’ bank account s.
§ Sim ilar ly , t he Dem at deliv er y inst r uct ion slip shou ld be fr om y our
ow n Dem at account , not fr om any ot her fam ily m em ber s’/ fr iends’
account s.
§ Do not sign blank deliver y inst r uct ion slip( s) w hile m eet ing secur it y
pay in obligat ion.
§ No int er m ediar y in t he m ar k et can accept deposit assur ing fix ed
ret urns. Hence do not giv e y our m oney as deposit against assur ances
of ret urns.
§ ‘Por t folio Managem ent Ser v ices’ could be offer ed only by
int er m ediar ies hav ing specific appr ov al of SEBI for PMS. Hence, do
not par t y our funds t o unaut hor ized per sons for Por t folio
Managem ent .
§ Deliv er y I nst r uct ion Slip is a v er y v aluable docum ent . Do not leav e
signed blank deliv er y inst r uct ion slip w it h any one. While m eet ing pay
in obligat ion m ak e sur e t hat cor r ect I D of aut hor ised int er m ediar y is
filled in t he Delivery I nst ruct ion Form .
§ Be caut ious w hile t ak ing funding for m aut hor ised int er m ediar ies as
t hese t r ansact ions ar e not cov er ed under Set t lem ent Guar ant ee
m echanism s of t he ex change.
§ I nsist on ex ecut ion of all or der s under unique client code allot t ed t o
y ou. Do not accept t r ades ex ecut ed under som e ot her client code t o
y ou r accou n t .
§ When y ou ar e aut hor ising som eone t hr ough ‘Pow er of At t or ney ’ for
oper at ion of y our DP account , m ak e sur e t hat :
§ y our aut hor izat ion is in fav our of r egist er ed
int er m ediar y only.
§ aut horisat ion is only for lim it ed pur pose of debit s and
cr edit s ar ising out of v alid t r ansact ions ex ecut ed
t hr ough t hat int er m ediar y only .

33
 § you ver ify DP st at em ent per iodically say ever y m ont h/
for t night t o ensur e t hat no unaut hor ised t r ansact ions
hav e t ak en place in y our account .
§ aut hor izat ion giv en by y ou has been pr oper ly used for
t he pur pose for w hich aut hor izat ion has been given.
§ in case y ou find w r ong ent r ies please r epor t in w r it ing
t o t he aut hor ized int er m ediar y .
§ Don’t accept unsigned/ duplicat e cont r act not e.
§ Don’t accept cont r a ct not e signed by any unaut hor ised per son.
§ Don’t delay paym ent / deliver ies of secur it ies t o br oker .
§ I n t he ev ent of any discr epancies/ disput es, please br ing t hem t o t he
not ice of t he br ok er im m ediat ely in w r it ing ( ack now ledged by t he
br ok er ) and ensur e t heir pr om pt r ect ificat ion.
§ I n case of sub- br ok er disput es, infor m t he m ain br ok er in w r it ing
about t he disput e at t he ear liest and in any case not lat er t han 6
m ont hs.
§ I f y our br ok er / sub- br ok er does not r esolv e y our com plaint s w it hin a
r easonable per iod ( say w it hin 15 days) , please br ing it t o t he
at t ent ion of t he ‘I nv est or Gr iev ances Cell’ of t he NSE.
§ While lodging a com plaint w it h t he ‘I nvest or Gr ievances Cell’ of t he
NSE, it is v er y im por t ant t hat y ou subm it copies of all r elev ant
docum ent s lik e cont r act not es, pr oof of pay m ent s/ deliv er y of shar es
et c. alongw it h t he com plaint . Rem em ber , in t he absence of sufficient
docum ent s, r esolut ion of com plaint s becom es difficult .
§ Fam iliar ise y our self w it h t he r ules, r egulat ions and cir cular s issued by
st ock ex changes/ SEBI befor e car r y ing out any t r ansact ion.

4 .2 Product s in t he Seconda ry M a rk et s

W hat are t he product s dealt in t he Secondary M ark et s?

Follow ing ar e t he m ain financial pr oduct s/ inst r um ent s dealt in t he Secondar y

m ar ket w hich m ay be divided br oadly int o Shares and Bonds:

Sh a r e s:

Equ it y Shares: An equit y shar e, com m only r efer r ed t o as or dinar y

shar e, r epr esent s t he for m of fr act ional ow ner ship in a business
v ent ur e.

Right s I ssue/ Right s Shar es: The issue of new secur it ies t o exist ing
shar eholder s at a r at io t o t hose already held, at a price. For e.g. a

34
 2: 3 r ight s issue at Rs. 125, w ould ent it le a shar eholder t o r eceiv e 2
shar es for ever y 3 shar es held at a pr ice of Rs. 125 per shar e.

Bonus Shar es: Shar es issued by t he com panies t o t heir shar eholder s
fr ee of cost based on t he num ber of shar es t he shar eholder ow ns.

Pr efer ence shar es: Ow ner s of t hese k ind of shar es ar e ent it led t o a
fixed dividend or dividend calculat ed at a fixed rat e t o be paid
r egular ly befor e div idend can be paid in r espect of equit y share. They
also enj oy pr ior it y ov er t he equit y shar eholder s in pay m ent of
surplus. But in t he event of liquidat ion, t heir claim s rank below t he
claim s of t he com pany’s cr edit or s, bondholder s / debent ur e holder s.

Cum ulat iv e Pr efer ence Shar es: A t y pe of pr efer ence shar es on w hich
div idend accum ulat es if r em ained unpaid. All ar r ear s of pr efer ence
div idend hav e t o be paid out befor e pay ing div idend on equit y
shares.

Cum ulat iv e Conv er t ible Pr efer ence Shar es: A t y pe of pr efer ence
shar es w her e t he div idend pay able on t he sam e accum ulat es, if not
paid. Aft er a specified dat e, t hese shar es w ill be conv er t ed int o
equit y capit al of t he com pany .

Bond: is a negot iable cer t ificat e ev idencing indebt edness. I t is nor m ally
unsecur ed. A debt secur it y is gener ally issued by a com pany , m unicipalit y or
gov er nm ent agency . A bond inv est or lends m oney t o t he issuer and in
ex change, t he issuer pr om ises t o r epay t he loan am ount on a specified
m at ur it y dat e. The issuer usually pay s t he bond holder per iodic int er est
pay m ent s ov er t he life of t he loan. The var ious t ypes of Bonds ar e as
follows:

Zer o Coupon Bond: Bond issued at a discount and r epaid at a face

v alue. No per iodic int er est is paid. The differ ence bet w een t he issue
pr ice and r edem pt ion pr ice r epr esent s t he r et ur n t o t he holder . The
buy er of t hese bonds r eceiv es only one pay m ent , at t he m at ur it y of
t he bond.

Convert ible Bond: A bond giv ing t he inv est or t he opt ion t o conv er t
t he bond int o equit y at a fix ed conv er sion pr ice.

Tr easur y Bills: Shor t - t er m ( up t o one y ear ) bearer discount secur it y

issued by gov er nm ent as a m eans of financing t heir cash
r equir em ent s.

35
4 .2 .1 Equit y I nve st m e nt

W hy should one invest in equit ies in part icular?

When y ou buy a shar e of a com pany y ou becom e a shar eholder in t hat

com pany . Shar es ar e also known as Equit ies. Equit ies hav e t he pot ent ial t o
incr ease in v alue ov er t im e. I t also pr ov ides y our por t folio w it h t he gr ow t h
necessary t o reach your long t erm invest m ent goals. Research st udies have
pr ov ed t hat t he equit ies hav e out per for m ed m ost ot her for m s of
inv est m ent s in t he long t er m . This m ay be illust r at ed w it h t he help of
follow ing ex am ples:

a) Over a 15 year per iod bet w een 1990 t o 2005, Nift y has given an
annualised r et ur n of 17 % .

b) Mr . Raj u inv est s in Nift y on Januar y 1, 2000 ( index v alue 1592. 90) .
The Nift y v alue as of end Decem ber 2 0 0 5 w as 2836.55. Holding t his
inv est m ent ov er t his per iod Jan 2000 t o Dec 2005 he get s a r et ur n of
7 8 . 0 7 %. I nv est m ent in shar es of ONGC Lt d for t he sam e per iod
gave a ret urn of 465. 86% , SBI 301. 17% and Reliance 281.42% .

Ther efor e,

§ Equit ies ar e consider ed t he m ost challenging and t he r ew ar ding,

w hen com par ed t o ot her inv est m ent opt ions.
§ Resear ch st udies hav e pr ov ed t hat inv est m ent s in som e shar es w it h
a longer t enur e of invest m ent have yielded far super io r ret urns t han
any ot her inv est m ent .

How ev er , t his does not m ean all equit y inv est m ent s w ould guar ant ee sim ilar
high r et ur ns. Equit ies ar e high r isk inv est m ent s. One needs t o st udy t hem
car efully befor e invest ing.

W hat has been t he average ret urn on Equ it ies in I ndia?

Since 199 0 t ill dat e, I ndian st ock m ar k et has r et ur ned about 17 % t o

inv est or s on an av er age in t er m s of incr ease in shar e pr ices or capit al
appr eciat ion annually . Besides t hat on av er age st ock s hav e paid 1.5%
div idend annually . Div idend is a per cent age of t he face v alue of a shar e t hat
a com pany r et ur ns t o it s shar eholder s fr om it s annual pr ofit s. Com par ed t o

36
m ost ot her for m s of inv est m ent s, inv est ing in equit y shar es offer s t he
highest r at e of r et ur n, if inv est ed ov er a longer dur at ion.

W hich are t he fact ors t hat influence t he price of a st ock ?

Br oadly t her e ar e t w o fact or s: ( 1) st ock specific and ( 2) m ar k et specific. The

st ock- specific fact or is r elat ed t o people’s ex pect at ions about t he com pany ,
it s fut ur e ear nings capacit y, financia l healt h and m anagem ent , level of
t echnology and m ar ket ing skills.

The m ar k et specific fact or is influenced by t he inv est or ’s sent im ent t ow ar ds

t he st ock m ar k et as a w hole. This fact or depends on t he env ir onm ent r at her
t han t he per for m ance of any par t icular com pany . Ev ent s fav our able t o an
econom y , polit ical or r egulat or y env ir onm ent lik e high econom ic gr ow t h,
fr iendly budget , st able gov er nm ent et c. can fuel euphor ia in t he inv est or s,
result ing in a boom in t he m arket . On t he ot her hand, unfavourable event s
lik e w ar , econom ic cr isis, com m unal r iot s, m inor it y gov er nm ent et c. depr ess
t he m ar k et ir r espect iv e of cer t ain com panies per for m ing w ell. How ev er , t he
effect of m arket - specific fact or is gener ally shor t - t erm . Despit e ups and
dow ns, pr ice of a st ock in t he long r un get s st abilized based on t he st ock-
specific fact or s. Ther efor e, a pr udent adv ice t o all inv est or s is t o analy se and
inv est and not speculat e in shar es.

W hat is m eant by t he t erm s Grow t h St ock / Value St ock?

Gr ow t h St ocks :

I n t he inv est m ent w or ld w e com e acr oss t er m s such as Gr ow t h st ock s, Value

st ock s et c. Com panies w hose pot ent ial for gr ow t h in sales and ear nings ar e
ex cellent , ar e gr ow ing fast er t han ot her com panies in t he m ar k et or ot her
st ocks in t he sam e indust r y ar e called t he Gr ow t h St ock s. These com panies
usually pay lit t le or no dividends and inst ead pr efer t o r einvest t heir pr ofit s
in t heir business for fur t her ex pansions.

V a lu e St ock s:

The t ask her e is t o look for st ock s t hat hav e been ov er look ed by ot her
inv est or s and w hich m ay h av e a ‘hidden v alue’. These com panies m ay hav e
been beat en dow n in pr ice because of som e bad ev ent , or m ay be in an
indust r y t hat 's not fancied by m ost inv est or s. How ev er , ev en a com pany
t hat has seen it s st ock pr ice decline st ill has asset s t o it s nam e - buildings,
r eal est at e, inv ent or ies, subsidiar ies, and so on. Many of t hese asset s st ill
hav e v alue, y et t hat v alue m ay not be r eflect ed in t he st ock 's pr ice. Value

37
inv est or s look t o buy st ock s t hat ar e under v alued, and t hen hold t hose
st ocks unt il t he re st of t he m ar k et r ealizes t he r eal v alue of t he com pany 's
asset s. The v alue inv est or s t end t o pur chase a com pany 's st ock usually
based on r elat ionships bet w een t he cur r ent m ar k et pr ice of t he com pany
and cer t ain business fundam ent als. They lik e P/ E r at io being below a cer t ain
absolut e lim it ; div idend y ields abov e a cer t ain absolut e lim it ; Tot al sales at a
cer t ain lev el r elat iv e t o t he com pany 's m ar k et capit alizat ion, or m ar k et v alue
et c.

H ow can one acquire equit y shares?

You m ay subscribe t o issues m ade by cor por at es in t he pr im ar y m ar k et . I n

t he pr im ar y m ar ket , r esour ces ar e m obilised by t he cor por at es t hr ough fr esh
public issues ( I POs) or t hr ough pr iv at e placem ent s. Alt er nat ely , y ou m ay
pur chase shar es fr om t he secondar y m ar k et . To buy and sell secur it ies y ou
should appr oach a SEBI r egist er ed t r ading m em ber ( br ok er ) of a r ecognized
st ock ex change.

W hat is Bid and Ask price?

The ‘Bid’ is t he buy er ’s pr ice. I t is t his pr ice t hat y ou need t o k now w hen y ou
hav e t o sell a st ock . Bid is t he r at e/ pr ice at w hich t her e is a r eady buy er for
t he st ock , w hich y ou int end t o sell.

The ‘Ask ’ ( or offer ) is w hat y ou need t o k now w hen y ou'r e buy ing i. e. t his is
t he rat e/ price at w hich t here is seller ready t o sell his st ock. The seller w ill
sell his st ock if he get s t he quot ed “ Ask’ pr ice.

I f an invest or looks at a com put er scr een for a quot e on t he st ock of say
XYZ Lt d, it m ight look som et hing like t his:

Bid ( Bu y sid e ) Ask ( Se ll sid e )

______________________________________________________
Qt y . Pr ice ( Rs.) Qt y . Pr ice ( Rs.)
_____________________________________________________________
1000 50. 25 50. 35 2000
500 50. 10 50. 40 1000
550 50. 05 50. 50 1500
2500 50. 00 50. 55 3000
1300 49. 85 50. 65 1450
_____________________________________________________________
Tot a l 5 8 5 0 8950
_____________________________________________________________

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Her e, on t he left - hand side aft er t he Bid quant it y and pr ice, w her eas on t he
r ight hand side w e find t he Ask quant it y and pr ices. The best Buy ( Bid) order
is t he or der w it h t he highest pr ice and t her efor e sit s on t he fir st line of t he
Bid side ( 1000 shar es @ Rs. 50.25) . The best Sell ( Ask ) or der is t he or der
w it h t he low est sell pr ice ( 2000 shar es @ Rs. 50.35) . The differ ence in t he
pr ice of t he best bid and ask is called as t he Bid- Ask spr ead and oft en is an
indicat or of liquidit y in a st ock . The nar r ow er t he differ ence t he m or e liquid
or highly t r aded is t he st ock .

W hat is a Port folio?

A Port folio is a com binat ion of differ ent inv est m ent asset s m ixed and
m at ched for t he pur pose of achiev ing an inv est or 's goal( s) . I t em s t hat ar e
consider ed a par t of y our por t folio can include any asset y ou ow n- fr om
shar es, debent ur es, bonds, m ut ual fund unit s t o it em s such as gold, ar t and
ev en r eal est at e et c. How ev er , for m ost inv est or s a por t folio has com e t o
signify an inv est m ent in financial inst r um ent s lik e shar es, debent ur es, fix ed
deposit s, m ut ual fund unit s.

W hat is Diversificat ion?

I t is a r isk m anagem ent t echnique t hat m ix es a w ide v ar ie t y of inv est m ent s

w it hin a por t folio. I t is designed t o m inim ize t he im pact of any one secur it y
on ov er all por t folio per for m ance. Div er sificat ion is possibly t he best w ay t o
reduce t he risk in a port folio.

W hat are t he advant ages of having a diversified por t folio?

A good inv est m ent por t folio is a m ix of a w ide r ange of asset class. Differ ent
secur it ies per for m differ ent ly at any point in t im e, so w it h a m ix of asset
t y pes, y our ent ir e por t folio does not suffer t he im pact of a decline of any
one secur it y . When your st ocks go dow n, you m ay st ill have t he st abilit y of
t he bonds in your por t folio. Ther e have been all sor t s of academ ic st udies
and for m ulas t hat dem onst r at e w hy div er sificat ion is im por t ant , but it 's
r eally j ust t he sim ple pr act ice of " not put t ing all y our eggs in one bask et ." I f
y ou spr ead y our inv est m ent s acr oss v ar ious t y pes of asset s and m ar k et s,
y ou'll r educe t he r isk of y our ent ir e por t folio get t ing affect ed by t he adv er se
r et ur ns of any single asset class.

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4 .2 .2 . D e bt I nve st m e nt

W hat is a ‘Debt I nst rum ent ’?

Debt inst r um ent r epr esent s a cont r act w her eby one par t y lends m oney t o
anot her on pre - det er m ined t er m s w it h r egar ds t o r at e and per iodicit y of
int er est , r epaym ent of pr incipal am ount by t he bor r ow er t o t he lender .

I n I ndian securit ie s m ar k et s, t he t er m ‘bon d’ is used for debt inst r um ent s

issued by t he Cent r al and St at e gov er nm ent s and public sect or or ganizat ions
and t he t er m ‘debent ur e’ is used for inst r um ent s issued by pr iv at e cor por at e
sect or.

W hat are t he feat ures of debt inst rum ent s?

Each debt inst r um ent has t hr ee feat ur es: Mat ur it y , coupon and pr incipal.

Mat u r it y: Mat urit y of a bond refers t o t he dat e, on w hich t he bond

m at ur es, w hich is t he dat e on w hich t he bor r ow er has agr eed t o
repay t he principal. Ter m - t o- Mat ur it y r ef er s to t he num ber of years
r em aining for t he bond t o m at ur e. The Ter m- t o- Mat urit y changes
ev er y day , fr om dat e of issue of t he bond unt il it s m at ur it y . The t er m
t o m at ur it y of a bond can be calculat ed on any dat e, as t he dist ance
bet w een such a dat e and t he dat e of m at urit y. I t is also called t he
t erm or t he t enure of t he bond.

Coupon: Coupon r efer s t o t he per iodic int er est pay m ent s t hat ar e
m ade by t he bor r ow er ( w ho is also t he issuer of t he bond) t o t he
lender ( t he subscr iber of t he bond) . Coupon r at e is t he r at e at w hich
int er est is paid, and is usually r epr esent ed as a per cent age of t he par
value of a bond.

Pr incipal: Pr incipal is t he am ount t hat has been bor r ow ed, and is also
called t he par v alue or face v alue of t he bond. The coupon is t he
pr oduct of t he pr incipal and t he coupon r at e.

The nam e of t he bond it self conv ey s t he k ey feat ur es of a bond. For

exam ple, a GS CG2008 11.40% bond r efer s t o a Cent r al Gover nm ent bond
m at ur ing in t he y ear 2008 and pay ing a coupon of 11. 40% . Since Cent r al
Gov er n m en t bonds hav e a face v alue of Rs.100 and nor m ally pay coupon
sem i- annually, t his bond w ill pay Rs. 5.70 as six- m ont hly coupon, unt il
m at ur it y .

40
W hat is m eant by ‘I nt erest ’ payable by a debent ure or a bond?

I nt er est is t he am ount paid by t he bor r ow er ( t he com pa ny ) t o t he lender

( t he debent ure - holder ) for bor r ow ing t he am ount for a specific per iod of
t im e. The int er est m ay be paid annual, sem i- annually , quart erly or m ont hly
and is paid usually on t he face value ( t he value print ed on t he bond
cer t ificat e) of t he bond.

W hat are t he Segm ent s in t he Debt M ark et in I ndia?

Ther e ar e t hr ee m ain segm ent s in t he debt m ar k et s in I ndia, v iz., ( 1)

Gov er nm ent Secur it ies, ( 2) Public Sect or Unit s ( PSU) bonds, and ( 3)
Cor por at e secur it ies.

The m ar k et for Gover nm ent Secur it ies com pr ises t he Cent r e, St at e and
St at e- sponsor ed secur it ies. I n t he r ecent past , local bodies such as
m unicipalit ies hav e also begun t o t ap t he debt m ar k et s for funds. Som e of
t he PSU bonds ar e t ax fr ee, w hile m ost bonds including gover nm ent
secur it ies ar e n ot t ax- fr ee. Cor por at e bond m ar k et s com pr ise of com m er cial
paper and bonds. These bonds t y pically ar e st r uct ur ed t o suit t he
r equir em ent s of inv est or s and t he issuing cor por at e, and include a v ar iet y of
t ailor- m ade feat ur es w it h r espect t o int er est pay ment s and r edem pt ion.

W ho are t he Part icipant s in t he Debt M ark et ?

Given t he lar ge size of t he t r ades, Debt m ar ket is pr edo m inant ly a w holesale

m ar k et , w it h dom inant inst it ut ional inv est or par t icipat ion. The inv est or s in
t he debt m ar k et s ar e m ainly banks, financial inst it ut ions, m ut ual funds,
pr ov ident funds, insur ance com panies and cor por at es.

Are bonds rat ed for t heir credit qualit y?

Most Bond/ Debent ur e issues ar e r at ed by specialised cr edit r at ing agencies.

Credit rat ing agencies in I ndia are CRI SI L, CARE, I CRA and Fit ch. The y ield
on a bond varies inversely w it h it s credit ( safet y) rat ing. The safer t he
inst r um ent , t he low er is t he r at e of int er est offer ed.

H ow can one acquire securit ies in t he debt m ark et ?

You m ay subscr ibe t o issues m ade by the gov er nm ent / cor por at es in t he
pr im ar y m ar k et . Alt er nat iv ely , y ou m ay pur chase t he sam e fr om t he
secondar y m ar k et t hr ough t he st ock ex changes.

41
5. D ERI VATI VES

W hat are Types of Derivat ives?

For w a r ds: A for w ar d cont r act is a cust om ized cont r act bet w een two
ent it ies, w her e set t lem ent t akes place on a specific dat e in t he fut ur e at
t oday’s pre - agr eed pr ice.

Fu t u r e s: A fu t u r es con t r act is an agr eem en t bet w een t w o par t ies t o bu y or

sell an asset at a cer t ain t im e in t he fut ur e at a cer t ain pr ice. Fut ur es
cont r act s ar e special t y pes of for w ar d cont r act s in t he sense t hat t he for m er
ar e st andar dized ex change- t r aded cont r act s, such as fut ur es of t he Nift y
index.

Opt ions : An Opt ion is a cont r act w hich gives t he r ight , but not an
obligat ion, t o buy or sell t he under ly ing at a st at ed dat e and at a st at ed
price. While a buyer of an opt ion pays t he prem ium and buys t he right t o
ex er cise his opt ion, t he w r it er of an opt ion is t he one w ho r eceiv es t he
opt ion pr em ium and t her efor e obliged t o sell/ buy t he asset if t he buy er
ex er cises it on him . Opt ions ar e of t w o t y pes - Ca lls and Pu t s opt ions:

‘Ca l l s’ give t he buyer t he r ight but not t he obligat ion t o buy a given
quant it y of t he under ly ing asset , at a giv en pr ice on or befor e a giv en
fut ur e dat e.

‘Pu t s’ give t he buyer t he r ight , but not t he obligat ion t o sell a given
quant it y of under ly ing asset at a giv en pr ice on or befor e a giv en
fut ur e dat e.

Pr esent ly , at NSE fut ur es and opt ions ar e t r aded on t he Nift y , CNX I T, BANK
Nift y and 116 single st ock s.

W a r r a n t s: Opt ions gener ally hav e liv es of up t o one y ear . The m aj or it y of

opt ions t raded on exchanges have m axim um m at urit y of nine m ont hs.
Longer dat ed opt ions ar e called Wa r r ant s and ar e gener ally t r aded ov er- t h e-
count er .

W hat is an ‘Opt ion Prem ium ’?

At t he t im e of buy ing an opt ion cont r act , t he buy er has t o pay pr em ium . The
pr em ium is t he pr ice for acquir ing t he r ight t o buy or sell. I t is pr ice paid by
t he opt ion buyer t o t he opt ion seller for acquiring t he right t o buy or sell.
Opt ion prem ium s are always paid upfro n t .

42
W hat is ‘Com m odit y Exchange’?

A Com m odit y Ex change is an associat ion, or a com pany of any ot her body
cor por at e or ganizing fut ur es t r ading in com m odit ies. I n a w ider sense, it is
t ak en t o include any or ganized m ar k et place w her e t r ade is r out ed t hr oug h
one m echanism , allow ing effect iv e com pet it ion am ong buy er s and am ong
sellers – t his w ould include auct ion- t ype exchanges, but not w holesale
m ar k et s, w her e t r ade is localized, but effect iv ely t ak es place t hr ough m any
non- r elat ed indiv idual t r ansact ions bet w een differ ent per m ut at ions of buy er s
and sellers.

W hat is m eant by ‘Com m odit y’?

FCRA For w ar d Cont r act s ( Regulat ion) Act , 1952 defines “ goods” as “ ev er y
k ind of m ov able pr oper t y ot her t han act ionable claim s, m oney and
secur it ies” . Fut ur es’ t r ading is or ganized in such goods or com m odit ies as
ar e per m it t ed by t he Cent r al Gov er nm ent . At pr esent , all goods and
pr oduct s of agr icult ur al ( including plant at ion) , m iner al and fossil or igin ar e
allow ed for fut ur es t r ading under t he auspices of t he com m odit y ex changes
r ecognized under t he FCRA.

W hat is Com m odit y derivat ives m ark et ?

Com m odit y der iv at iv es m ar k et t r ade cont r act s for w hich t he under ly ing
asset is com m odit y . I t can be an agr icult ur al com m odit y lik e w heat ,
soybeans, rapeseed, cot t on, et c or precious m e t als lik e gold, silv er , et c.

W hat is t he difference bet w een Com m odit y and Financial

derivat ives?

The basic concept of a der iv at iv e cont r act r em ains t he sam e w het her t he
under ly ing happens t o be a com m odit y or a financial asset . How ev er t her e
ar e som e feat ur es w hich ar e v er y peculiar t o com m odit y der iv at iv e m ar k et s.
I n t he case of financial der iv at iv es, m ost of t hese cont r act s ar e cash set t led.
Ev en in t he case of phy sical set t lem ent , financial asset s ar e not bulk y and
do not need special facilit y for st or age. Due t o t he bulk y nat ur e of t he
under ly ing asset s, phy sical set t lem ent in com m odit y der iv at iv es cr eat es t he
need for w ar ehousing. Sim ilar ly , t he concept of v ar y ing qualit y of asset does
not r eally ex ist as far as financial under ly ings ar e concer ned. However in t he
case of com m odit ies, t he qualit y of t he asset under ly ing a cont r act can v ar y
at t im es.

43
6. D EPOSI TORY
How is a deposit ory sim ilar t o a bank?

A Deposit or y can be com par ed w it h a bank , w hich holds t he funds for

deposit or s. An analogy bet w een a bank and a deposit or y m ay be dr aw n as
follows:

BAN K D EPOSI TORY

Holds funds in an account
Tr ansfer s funds bet w een
account s on t he inst r uct ion of
t he account holder
Facilit at es t r ansfer s w it hout
having t o handle m oney
Facilit at es safek eeping of
m oney
Hold secur it ies in an account
Tr ansfer s secur it ies bet w een
account s on t he inst r uct ion of t he
account holder.
Facilit at es t r ansfer s of ow ner ship
w it hout having t o handle secur it ies.
Facilit at es safek eeping of shar es.

W hich are t he deposit ories in I ndia?

Ther e ar e t w o deposit or ies in I ndia w hich pr ov ide dem at er ializat ion of

secur it ies. The Nat ional Secur it ies Deposit or y Lim it ed ( NSDL) and Cent r al
Deposit ory Ser v ices ( I ndia) Lim it ed ( CDS L) .

W hat are t he benefit s of part icipat ion in a deposit ory?

Th e benefit s of par t icipat ion in a deposit or y ar e:

§ I m m ediat e t r ansfer of secur it ies

§ No st am p dut y on t r ansfer of secur it ies

§ Elim inat ion of r isk s associat ed w it h phy sical cer t ificat es such as bad
deliv er y , fak e secur it ies, et c.

§ Reduct ion in paper w or k inv olved in t ransfer of securit ies

§ Reduct ion in t r ansact ion cost

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 § Ease of nom inat ion facilit y

§ Change in addr ess r ecor ded w it h DP get s r egist er ed elect r onically

w it h all com panies in w hich inv est or holds secur it ies elim inat ing t he
need t o cor r espond w it h eac h of t hem separat ely

§ Tr ansm ission of secur it ies is done dir ect ly by t he DP elim inat ing
cor r espondence w it h com panies

§ Conv enient m et hod of consolidat ion of folios/ account s

§ Holding inv est m ent s in equit y , debt inst r um ent s and Gov er nm ent
securit ies in a single account ; aut om at ic cr edit int o dem at account , of
shar es, ar ising out of split / consolidat ion/ m er ger et c.

W ho is a Deposit ory Part icipant ( DP) ?

The Deposit or y pr ov ides it s ser v ices t o inv est or s t hr ough it s agent s called
deposit or y par t icipant s ( DPs) . These agent s ar e appoint ed by t he deposit or y
w it h t he appr ov al of SEBI . Accor ding t o SEBI r egulat ions, am ongst ot her s,
t hr ee cat egor ies of ent it ies, i.e. Bank s, Financial I nst it ut ions and SEBI
r egist er ed t r ading m em ber s can becom e DPs.

Does one need t o keep any m inim um balance of securit ies in

his account w it h his DP?

No. The deposit or y has not pr escr ibed any m inim um balance. You can hav e
zer o balance in y our account .

W hat is an I SI N ?

I SI N ( I nt er nat ional Secur it ies I dent ificat ion Num ber ) is a unique
ident ificat ion num ber for a secur it y .

W hat is a Cust odian?

A Cust odian is basically an or ganisat ion, w hich helps r egist er and safeguar d
t he secur it ies of it s client s.

Besides safeguar ding secur it ies, a cust odian also k eeps t r ack of cor por at e
act ions on behalf of it s client s:

45
 § Maint aining a client ’s secur it ies account
§ Collect ing t he benefit s or r ight s accr uing t o t he client in r espect of
secur it ies
§ Keeping t he client infor m ed of t he act ions t ak en or t o be t ak en by t he
issue of secur it ies, having a bea r ing on t he benefit s or r ight s accr uing
t o t h e clien t .

How can one convert physical holding int o elect ronic holding
i.e. how can one dem at erialise securit ies?

I n or der t o dem at er ialise physical secur it ies one has t o fill in a Dem at
Request For m ( DRF) w hich is av ailable w it h t he DP and subm it t he sam e
along w it h phy sical cer t ificat es one w ishes t o dem at er ialise. Separ at e DRF
has t o be filled for each I SI N num ber.

Can odd lot shares be dem at erialised?

Yes, odd lot shar e cer t ificat es can also be dem at er ialised.

Do dem at erialised shares have dist inct ive num bers?

Dem at er ialised shar es do not hav e any dist inct iv e num ber s. These shar es
are fungible , w hich m eans t hat all t he holdings of a par t icular secur it y w ill
be ident ical and int er changeable.

Can elect ro nic holdings be convert ed int o Physica l

cert ificat es?

Yes. The pr ocess is called Rem at er ialisat ion. I f one w ishes t o get back y our
secur it ies in t he phy sical for m one has t o fill in t he Rem at Request For m
( RRF) and r equest y our DP for r em at er ialisat ion of t he balances in y our
secur it ies account .

Can one dem at erialise his debt inst rum ent s, m ut ual fund
unit s, governm ent securit ies in his dem at account ?

Yes. You can dem at er ialise and hold all such inv est m ent s in a single dem at
accou n t .

46
7. M UTUAL FUN D S

W hat is t he Regulat ory Body for Mut ual Funds?

Secur it ies Exchange Boar d of I ndia ( SEBI ) is t he r egulat or y body for all t he
m ut ual funds. All t he m ut ual funds m ust get r egist er ed w it h SEBI .

W hat are t he benefit s of invest ing in Mut ual Funds?

Ther e ar e sev er al benefit s fr om inv est ing in a Mut ual Fund:

Sm a ll in v e st m e n t s: Mut ual funds help y ou t o r eap t he benefit of

r et ur ns by a por t folio spr ead acr oss a w ide spect r um of com panies
w it h sm all invest m ent s.

Pr ofe ssion a l Fu n d M a n a ge m e n t : Pr ofessionals hav ing

consider able ex per t ise, ex per ience and r esour ces m anage t he pool of
m oney collect ed by a m ut ual fund. They t hor oughly analy se t he
m ar ket s and econom y t o pick good invest m ent oppor t unit ies.

Spr e a din g Risk : An invest or w it h lim it ed funds m ight be able t o

invest in only one or t w o st ocks/ bonds, t hus increasing his or her
r isk . How ev er , a m ut ual fund w ill spr ead it s r isk by inv est ing a
num ber of sound st ock s or bonds. A fund nor m ally inv est s in
com panies acr oss a w ide r ange of indust r ies, so t he r isk is
div er sified.

Tr a n sp a r e n cy : Mut ual Funds r egular ly pr ov ide inv est or s w it h

infor m at ion on t he v alue of t heir inv est m ent s. Mut ual Funds also
pr ov ide com plet e por t folio disclosu r e of t h e in v est m ent s m ade by
v ar ious schem es and also t he pr opor t ion inv est ed in each asset t y pe.

Ch oice : The lar ge am ount of Mut ual Funds offer t he inv est or a w ide
v ar iet y t o choose fr om . An inv est or can pick up a schem e depending
upon his risk/ ret urn profile.

Re g u la t ion s: All t he m ut ual funds ar e r egist er ed w it h SEBI and t hey

funct ion w it hin t he pr ov isions of st r ict r egulat ion designed t o pr ot ect
t he int er est s of t he inv est or .

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W hat is NAV?

NAV or Net Asset Value of t he fund is t he cum ulat ive m ar ket value of t he
asset s of t he fund net of it s liabilit ies. NAV per unit is sim ply t he net value of
asset s div ided by t he num ber of unit s out st anding. Buy ing and selling int o
funds is done on t he basis of NAV- r elat ed pr ices.

The NAV of a m ut ual fun d ar e r equir ed t o be published in new spaper s. The

NAV of an open end schem e should be disclosed on a daily basis and t he
NAV of a close end schem e should be disclosed at least on a w eekly basis

W hat is Ent ry/ Exit Load?

A Load is a charge, w hich t he m ut ual fund m ay collect on ent ry and/ or exit

fr om a fund. A load is levied t o cover t he up- fr ont cost incur r ed by t he
m ut ual fund for selling t he fund. I t also cover s one t im e pr ocessing cost s.
Som e funds do not char ge any ent r y or ex it load. These funds ar e r efer r ed
t o as ‘No Load Fund’. Funds usually char ge an ent r y load r anging bet w een
1.00% and 2.00% . Exit loads var y bet w een 0. 25% and 2.00% .

For e.g. Let us assum e an invest or invest s Rs. 10,000/ - and t he cur r ent NAV
is Rs.13/ - . I f t he ent r y load lev ied is 1 . 0 0 % , t he pr ice at w hich t he inv est or
inv est s is Rs.13.13 per unit . The inv est or r eceiv es 10000/ 13.13 = 761.6146
unit s. ( No t e t hat unit s ar e allot t ed t o an inv est or based on t he am ount
invest ed and not on t he basis of no. of unit s pur chased) .

Let us now assum e t hat t he sam e inv est or decides t o r edeem his 761.6146
unit s. Let us also assum e t hat t he NAV is Rs 15/ - and t he ex it load is
0.50% . Ther efor e t he r edem pt ion pr ice per unit w or k s out t o Rs. 14.925.
The invest or t herefore receives 761.6146 x 14.925 = Rs.11367.10.

Are t here any risks involved in inv est ing in Mut ual Funds?

Mut ual Funds do not provide assured ret urns. Their ret urns are linked t o
t heir per for m ance. They inv est in shar es, debent ur es, bonds et c. All t hese
invest m ent s involve an elem ent of r isk. The unit value m ay var y depending
upon t he per for m ance of t he com pany and if a com pany default s in pay m ent
of int er est / pr incipal on t heir debent ur es/ bonds t he per for m ance of t he fund
m ay get affect ed. Besides incase t her e is a sudden dow nt ur n in an indust r y
or t he governm ent com es up w it h new a re gulat ion w hich affect s a par t icular
indust r y or com pany t he fund can again be adv er sely affect ed. All t hese
fact or s influence t he per for m ance of Mut ual Funds.

48
Som e of t he Risk t o w hich Mut ual Funds ar e exposed t o is given below :

M a r k e t r isk

I f t he overa ll st ock or bond m ar k et s fall on account of ov er all

econom ic fact or s, t he v alue of st ock or bond holdings in t he fund's
por t folio can dr op, t her eby im pact ing t he fund per for m ance.

N on- m a r k e t r isk

Bad new s about an indiv idual com pany can pull dow n it s st ock pr ice,
w hich can negat iv ely affect fund holdings. This r isk can be r educed
by hav ing a div er sified por t folio t hat consist s of a w ide v ar iet y of
st ock s dr aw n fr om differ ent indust r ies.

I n t e r e st r a t e r isk

Bond pr ices and int er est r at es m ov e in opposit e dir ect ions. When
int er est r at es r ise, bond pr ices fall and t his decline in under ly ing
secur it ies affect s t he fund negat iv ely .

Cr e d it r isk

Bonds ar e debt obligat ions. So w hen t he funds inv est in cor por at e
bonds, t hey r un t he r isk of t he cor por at e default ing on t heir int er est
and pr incipal paym ent obligat ions and w hen t hat r isk cr yst allizes, it
leads t o a fall in t he v alue of t he bond causing t he NAV of t he fund t o
t ak e a beat ing.

W hat are t he different t ypes of Mut ual funds?

M u t u a l f u n d s a r e cla ssif ie d in t h e f ollow in g m a n n e r :

( a) On t h e b a sis of Ob j e ct iv e

Eq u it y Fu n d s/ Gr ow t h Fu n d s

Funds t hat inv est in equit y shar es ar e called equit y funds. They car r y
t he pr incipal obj ect iv e of capit al appr eciat ion of t he inv est m ent ov er
t he m edium t o long- t er m . They ar e best suit ed for inv est or s w ho ar e
seek ing capit al appr eciat ion. Ther e ar e differ ent t y pes of equit y funds
such as Div er sified funds, Sect or specific funds and I ndex based
funds.

49
 D iv e r sif ie d f u n d s

These funds inv est in com panies spr ead acr oss sect or s. These
funds ar e gener ally m eant for r isk- av er se inv est or s w ho w ant
a div er sified por t folio acr oss sect or s.

Se ct or f u n d s

These funds inv est pr im ar ily in equit y shar es of com panies in

a par t icular business sect or or indust r y . These funds ar e
t ar get ed at inv est or s w ho ar e bullish or fancy t he pr ospect s of
a par t icular sect or .

I n de x f u n ds

These funds inv est in t he sam e pat t er n as popular m ar k et

indices like S&P CNX Nift y or CNX Midcap 200. The m oney
collect ed fr om t he inv est or s is inv est ed only in t he st ock s,
w hich r epr esent t he index . For e.g. a Nift y index fund w ill
inv est only in t he Nift y 50 st ock s. The obj ect iv e of such funds
is not t o beat t he m ar k et but t o giv e a r et ur n equiv alent t o
t he m ar ket r et ur ns.

Ta x Sa v in g Fu n d s

These funds offer t ax benefit s t o inv est or s under t he I ncom e Tax Act .
Oppor t unit ies pr ovided under t his schem e ar e in t he for m of t ax
r ebat es under t he I ncom e Tax act .

D e bt / I n com e Fu n d s

These funds invest pr edom inant ly in high- r at ed fixed- incom e - bear ing
inst r um ent s lik e bonds, debent ur es, gov er nm ent secur it ies,
com m er cial paper and ot her m oney m ar k et inst r um ent s. They ar e
best suit ed for t he m edium t o long- t er m inv est or s w ho ar e av er se t o
r isk and seek capit al pr eser v at ion. They pr ov ide a r egular incom e t o
t he invest or.

Liqu id Fu n ds/ M on e y M a r k e t Fu n d s

These funds inv est in highly liquid m oney m ar k et inst r um ent s. The
per iod of inv est m ent could be as shor t as a day . They pr ov ide easy
liquidit y . They hav e em er ged as an alt er nat iv e for sav ings and shor t -
t er m fix ed deposit account s w it h com par at iv ely higher r et ur ns. These
funds ar e ideal for cor por at es, inst it ut ional inv est or s and business
houses t hat inv est t heir funds for v er y shor t per iods.

50
Gilt Fu n d s

These funds inv est in Cent r al and St at e Gov er nm ent secur it ies. Since
t hey ar e Gov er nm ent back ed bonds t hey giv e a secur ed r et ur n and
also ensur e safet y of t he pr incipal am ount . They ar e best suit ed for
t he m edium t o long- t er m invest or s w ho ar e aver se t o r isk.

Ba la n ce d Fu n d s

These funds inv est bot h in equit y shar es and fix ed- incom e - bear ing
inst r um ent s ( debt ) in som e pr opor t ion. They pr ovide a st eady r et ur n
and r educe t he v olat ilit y of t he fund w hile pr ov iding som e upside for
capit al appr eciat ion. They ar e ideal for m edium t o long- t erm
invest ors w ho are w illing t o t ake m oder at e r isks.

b ) On t h e b a sis of Fle x ib ilit y

Op e n- e n d e d Fu n d s

These funds do not hav e a fix ed dat e of r edem pt ion. Gener ally t hey
ar e open for subscr ipt ion and r edem pt ion t hr oughout t he y ear. Their
pr ices ar e link ed t o t he daily net asset v alue ( NAV) . Fr om t he
invest or s' per spect ive, t hey ar e m uch m or e liquid t han closed- ended
funds.
Close - e n de d Fu n ds

These funds ar e open init ially for ent r y dur ing t he I nit ial Public
Offer ing ( I PO) and t her eaft er closed for ent r y as w ell as ex it . These
funds hav e a fix ed dat e of r edem pt ion. One of t he char act er ist ics of
t he close- ended schem es is t hat t hey are generally t raded at a
discount t o NAV; but t he discount nar r ow s as m at ur it y near s. These
funds are open for subscr ipt ion only once and can be r edeem ed only
on t he fix ed dat e of r edem pt ion. The unit s of t hese funds ar e list ed
on st ock ex changes ( w it h cer t ain ex cept ions) , ar e t r adable and t he
subscr iber s t o t he fund w ould be able t o ex it fr om t he fund at any
t im e t hr ough t he secondar y m ar k et .

51
W hat are t he different invest m ent plans t hat M ut ual Funds
offer?

The t er m ’inv est m ent plans’ gener ally r efer s t o t he ser v ices t hat t he funds
pr ov ide t o inv est or s offer ing differ ent w ay s t o inv est or r einv est . The
differ ent invest m ent plans ar e an im por t ant consider at ion in t he invest m ent
decision, because t hey det er m ine t he flex ibilit y av ailable t o t he inv est or.
Som e of t he invest m ent pla ns offered by m ut ual funds in I ndia are:

Gr ow t h Pla n a n d D iv id e n d Pla n

A gr ow t h plan is a plan under a schem e w her ein t he r et ur ns fr om

inv est m ent s ar e r einv est ed and v er y few incom e dist r ibut ions, if any ,
ar e m ade. The invest or t hus only r ealizes capit al appr eciat ion on t he
inv est m ent . Under t he div idend plan, incom e is dist r ibut ed fr om t im e
t o t im e. This plan is ideal t o t hose invest or s r equir ing r egular incom e.

D iv id e n d Re in v e st m e n t Pla n

Div idend plans of schem es car r y an addit ional opt ion for
r einvest m ent of incom e dist r ibut ion. This is r efer r ed t o as t he
div idend r einv est m ent plan. Under t his plan, div idends declar ed by a
fund ar e r einvest ed in t he schem e on behalf of t he invest or , t hus
incr easing t he num ber of unit s held by t he inv est or s.

W hat are t he right s t hat are available t o a Mut ual Fund holder
in I ndia?

As per SEBI Regulat ions on Mut ual Funds, an invest or is ent it led t o:

1. Receiv e Unit cer t ificat es or st at em ent s of account s confir m ing

y our t it le w it hin 6 w eek s fr om t he dat e y our r equest for a unit
cer t ificat e is r eceiv ed by t he Mut ual Fund.
2. Receiv e infor m at ion about t he inv est m ent policies, inv est m ent
obj ect iv es, financial posit ion and gener al affair s of t he schem e.
3. Receiv e div idend w it hin 30 day s of t heir declar at ion and r eceiv e
t he r edem pt ion or r epur chase pr oceeds w it hin 10 day s fr om t he
dat e of r edem pt ion or r epur chase.
4. The t r ust ees shall be bound t o m ak e such disclosur es t o t he unit
holder s as ar e essent ial in or der t o keep t hem infor m ed about any
infor m at ion, w hich m ay hav e an adv er se bear ing on t heir
inv est m ent s.

52
 5. 75% of t he unit holder s w it h t he pr ior appr ov al of SEBI can
t er m inat e t he AMC of t he fund.
6. 75% of t he unit holder s can pass a r esolut ion t o w ind- up t he
schem e.
7. An inv est or can send com plaint s t o SEBI , w ho w ill t ak e up t he
m at t er w it h t he concer ned Mut ual Funds and follow up w it h t hem
t ill t hey are resolved.

W hat is a Fund Offer docum ent ?

A Fund Offer docum ent is a docum ent t hat offer s y ou all t he infor m at ion y ou
could possibly need about a par t icular schem e and t he fund launching t hat
schem e. That w ay , befor e y ou put in y our m oney , y ou'r e w ell aw ar e of t he
r isk s et c inv olv ed. This has t o be designed in accor dance w it h t he guidelines
st ipulat ed by SEBI and t he pr ospect us m ust disclose det ails about :

§ I nv est m ent obj ect iv es

§ Risk fact or s and special consider at ions

§ Sum m ar y of ex penses

§ Const it ut ion of t he fund

§ Guidelines on how t o inv est

§ Or ganizat ion and capit al st r uct ur e

§ Tax pr ov isions r elat ed t o t r a nsact ions

§ Financial infor m at ion

W hat is Act ive Fund Managem ent ?

When inv est m ent decisions of t he fund ar e at t he discr et ion of a fund

m anager ( s) and he or she decides w hich com pany , inst r um ent or class of
asset s t he fund should inv est in based on r esearch, analy sis, m ar k et new s
et c. such a fund is called as an act iv ely m anaged fund. The fund buy s and
sells secur it ies act iv ely based on changed per cept ions of inv est m ent fr om
t im e t o t im e. Based on t he classificat ions of shar es w it h differ ent
charact erist ic s, ‘act iv e’ inv est m ent m anager s const r uct differ ent por t folio.
Tw o basic inv est m ent st y les pr ev alent am ong t he m ut ual funds ar e Gr ow t h
I nv est ing and Value I nv est ing:

53
 § Gr ow t h I n v e st in g St y le

The pr im ar y obj ect iv e of equit y inv est m ent is t o obt ain

capit al appreciat ion. A growt h m anager looks for
com panies t hat ar e ex pect ed t o giv e abov e av er age
ear nings gr ow t h, w her e t he m anager feels t hat t he
earnin g pr ospect s and t her efor e t he st ock pr ices in
fut ur e w ill be even higher . I dent ifying such gr ow t h
sect or s is the challenge befor e t he gr ow t h inv est m ent
m anager.

§ V a lu e in v e st m e n t St y le

A Value Manager look s t o buy com panies t hat t hey

believe ar e cur r ent ly under valued in t he m ar ket , but
w hose w or t h t hey est im at e w ill be r ecognized in t he
m ar k et v aluat ions ev ent ually.

W hat is Passive Fund Managem ent ?

When an inv est or inv est s in an act iv ely m anaged m ut ual fund, he or she
leav es t he decision of inv est ing t o t he fund m anager . The fund m anager is
t he decision- m ak er as t o w hich com pany or inst r um ent t o inv est in.
Som et im es such decisions m ay be r ight , r ew ar ding t he inv est or handsom ely .
How ev er , chances ar e t hat t he decisions m ight go w r ong or m ay not be r ight
all t he t im e w hich can lead t o subst ant ial losses for t he inv est or . Ther e ar e
m ut ual funds t hat offer I ndex funds w hose obj ect iv e is t o equal t he r et ur n
giv en by a select m ar k et index . Such funds follow a passiv e inv est m ent
st y le. They do not analy se com panies, m ar k et s, econom ic fact or s and t hen
nar r ow dow n on st ocks t o invest in. I nst ead t hey pr efer t o invest in a
por t folio of st ock s t hat r eflect a m ar k et index , such as t he Nift y index . The
r et ur ns gener at ed by t he index ar e t he r et ur ns giv en by t he fund. No
at t em pt is m ade t o t r y and beat t he index . Resear ch has show n t hat m ost
fund m anager s ar e unable t o const ant ly beat t he m ar k et index y ear aft er
year . Also it is not possible t o ident ify w hich fund w ill beat t he m ar ket index.
Ther efor e, t her e is an elem ent of going w r ong in select ing a fund t o inv est
in. This has lead t o a huge int erest in passively m anaged funds such as
I ndex Funds w her e t he choice of inv est m ent s is not left t o t he discr et ion of
t he fund m anager. I ndex Funds hold a diversified basket of securit ies w hich
r epr esent s t he index w hile at t he sam e t im e since t her e is not m uch act iv e
t urnover of t he port folio t he cost of m anaging t he fund also r em ains low .
This giv es a dual adv ant age t o t he inv est or of hav ing a div er sified por t folio

54
w hile at t he sam e t im e hav ing low ex penses in fund. Ther e ar e v ar ious
passively m anaged funds in I ndia t oday som e of t hem are:

Pr incipal I ndex Fund, an index fund schem e on S&P CNX Nift y

launched by Pr incipal Mut ual Fund in July 1999.

UTI Nift y Fund launched by Unit Trust of I ndia in March 2000.

Fr ank lin I ndia I ndex Fund launched by Fr ank lin Tem plet on Mut ual
Fund in June 200 0.

Fr anklin I ndia I ndex Tax Fund launched by Fr anklin Tem plet on

Mut ual Fund in February 2001.

Magnum I ndex Fund launched by SBI Mut ual Fund in Decem ber
2001.

I L&FS I ndex Fund launched by I L&FS Mut ual Fund in Febr uar y 2002.

Prudent ial I CI CI I ndex Fund launched by Pr udent ial I CI CI Mut ual

Fund in February 2002.

HDFC I ndex Fund- Nift y Plan launched by HDFC Mut ual Fund in July
2002.

Bir la I ndex Fund launched by Bir la Sun Life Mut ual Fund in
Sept em ber 2002.

LI C I ndex Fund- Nift y Plan launched by LI C Mut ual Fund in Nov em ber
2002.

Tat a I ndex Fund launched by Tat a TD Wat er house Mut ual Fund in
February 2003.

I NG Vy sy a Nift y Plus Fund launched by I NG Vy sy a Mut ual Fund in

January 2004.

Canindex Fund launched by Canbank Mut ual Fund in Sept em ber 2004

55
W hat is an ETF?

Think of an ex change- t r aded fund as a m ut ual fund t hat t r ades lik e a st ock .
Just lik e an index fund, an ETF r epr esent s a bask et of st ock s t hat r eflect an
index such as t he Nift y . An ETF, how ev er , isn't a m ut ual fund; it t r ades j ust
lik e any ot her com pany on a st ock ex change. Unlik e a m ut ual fund t hat has
it s net - asset value ( NAV) calculat ed at t he end of each t r ading day , an ETF's
pr ice changes t hr oughout t he day , fluct uat ing w it h supply and dem and. I t is
im por t ant t o r em em ber t hat w hile ETFs at t em pt t o r eplicat e t he r et ur n on
index es, t her e is no guar ant ee t hat t hey w ill do so ex act ly .

By ow ning an ETF, y ou get t he diver sificat ion of an index fund plus t he

flex ibilit y of a st ock . Because, ETFs t r ade lik e st ock s, y ou can shor t sell
t h e m, buy t hem on m argin and pur chase as lit t le as one shar e. Anot her
adv ant age is t hat t he expense rat ios of m ost ETFs ar e low er t han t hat of t he
aver age m ut ual fund. When buying and selling ETFs, you pay your br oker
t he sam e com m ission t hat y ou'd pay on any r egular t r ade.

There are various ETFs available in I ndia , such as:

NI FTY BeES: An Ex change Tr aded Fund launched by Benchm ar k

Mut ual Fund in January 2002.

Junior BeES: An Exchange Tr aded Fund on CNX Nift y Junior ,

launched by Benchm ar k Mut ual Fund in Febr uar y 2003.

SUNDER: An Ex change Tr aded Fund launched by UTI in July 2003.

Liquid BeES: An Exchange Tr aded Fund launched by Benchm ar k

Mut ual Fund in July 2003.

Bank BeES: An Ex change Tr aded Fund ( ETF) launched by Benchm ar k

Mut ual Fund in May 2004.

56
8. M I SCELLAN EOUS

8 .1 Cor por a t e Act ions

W hat are Corporat e Act ions?

Cor por at e act ions t end t o hav e a bear ing on t he pr ice of a secur it y . When a
com pany announces a cor por at e act ion, it is init iat ing a pr ocess t hat w ill
br ing act ual change t o it s secur it ies eit her in t er m s of num ber of shar es
incr easing in t he hands o n t he shar eholder s or a change t o t he face v alue of
t he secur it y or r eceiv ing shar es of a new com pany by t he shar eholder s as in
t he case of m er ger or acquisit ion et c. By under st anding t hese differ ent t y pes
of pr ocesses and t heir effect s, an inv est or can hav e a clear er pict ur e of w hat
a cor por at e act ion indicat es about a com pany 's financial affair s and how t hat
act ion w ill influence t he com pany 's shar e pr ice and per for m ance.

Cor por at e act ions ar e t y pically agr eed upon by a com pany 's Boar d of
Dir ect or s and aut hor ized by t he shar eholder s. Som e ex am ples ar e
div idends, st ock split s, right s issues, bonus issues et c.

W hat is m eant by ‘Dividend’ declared by com panies?

Ret ur ns r eceived by invest or s in equit ies com e in t w o for m s a) gr ow t h in t he

v alue ( m ar k et pr ice) of t he shar e and b) div idends. Dividend is dist ri but ion
of par t of a com pany's ear nings t o shar eholder s, usually t w ice a year in t he
form of a final dividend and an int erim dividend. Dividend is t herefore a
sour ce of incom e for t he shar eholder . Nor m ally , t he div idend is ex pr essed
on a 'per share' basis, for inst ance – Rs. 3 per share. This m akes it easy t o
see how m uch of t he com pany 's pr ofit s ar e being paid out , and how m uch
ar e being r et ained by t he com pany t o plough back int o t he business. So a
com pany t hat has ear nings per shar e in t he y ear of Rs. 6 and pays out Rs. 3
per shar e as a div idend is passing half of it s pr ofit s on t o shar eholder s and
r et aining t he ot her half. Dir ect or s of a com pany hav e discr et ion as t o how
m uch of a div idend t o declar e or w het her t hey should pay any div idend at
all.

57
W hat is m eant by Dividend yield?

Div idend y ield giv es t he r elat ionship bet w een t he cur r ent pr ice of a st ock
and t he dividend paid by it s’ issuing com pany dur ing t he last 12 m ont hs. I t
is calculat ed by aggr egat ing past y ear 's div idend and div iding it by t he
cur r ent st ock pr ice.

Exam ple:
ABC Co.
Share price: Rs. 360
Annual dividend: Rs. 10
Div idend y ield: 2.77% ( 10/ 360)

Hist or ically , a higher div idend y ield has been consider ed t o be desir able
am ong inv est or s. A high div idend y ield is consider ed t o be ev idence t h at a
st ock is under pr iced, w her eas a low div idend y ield is consider ed ev idence
t hat t he st ock is ov er pr iced. A not e of caut ion her e t hough. Ther e hav e been
com panies in t he past w hich had a record of high dividend yield, only t o go
bust in lat er years. Div idend y ield t her efor e can be only one of t he fact or s in
det er m ining fut ur e per for m ance of a com pany .

W hat is a St ock Split ?

A st ock split is a cor por at e act ion w hich split s t he exist ing shares of a
par t icular face v alue int o sm aller denom inat ions so t hat t he num ber of
shar es incr ease, how ever , t he m ar ket capit alizat ion or t he value of shar es
held by t he invest or s post split r em ains t he sam e as t hat befor e t he split .
For e.g. I f a com pany has issued 1,00,00,000 shar es w it h a face v alue of Rs.
10 and t he cur r ent m ar k et pr ice being Rs. 100, a 2- for- 1 st ock split w ould
r educe t he face v alue of t he shar es t o 5 and incr ease t he num ber of t he
com pany ’s out st anding shar es t o 2, 00, 00, 000, ( 1, 00, 00, 000* ( 10/ 5) ) .
Consequent ly , t he shar e pr ice w ould also halv e t o Rs. 50 so t hat t he m ar k et
capit alizat ion or t he v alue shar es held by an inv est or r em ains unchanged. I t
is t he sam e t hing as ex changing a Rs. 100 not e for t w o Rs. 50 not es; t he
value rem ains t he sam e .

Let us see t he im pact of t his on t he shar e holder : - Let 's say com pany ABC
is t rading at Rs. 40 and has 100 m illion shares issued, w hich gives it a
m ar k et capit alizat ion of Rs. 4000 m illion ( Rs. 40 x 100 m illion shar es) . An
inv est or holds 400 shar es of t he com pany v alued at Rs. 16,000. The
com pany t hen decides t o im plem ent a 4- for- 1 st ock split ( i. e. a shar eholder
holding 1 shar e, w ill now hold 4 shar es) . For each shar e shar eholder s
cur r ent ly ow n, t hey r eceiv e t hr ee addit ional shar es. The inv est or w ill
t her efor e hold 1600 shar es. So t he inv est or gains 3 addit ional shar es for

58
each shar e held. But t his does not im pact t he value of t he shar es held by
t he inv est or since post split , t he pr ice of t he st ock is also split by 25%
( 1/ 4 t h ) , from Rs. 40 t o Rs.10, t herefore t he invest or cont inues t o hold Rs.
16,000 w or t h of shar es. Not ice t hat t he m ar k et capit alizat ion st ay s t he sam e
- it has incr eased t he am ount of st ock s out st anding t o 400 m illion while
sim ult aneously r educing t h e st ock pr ice by 25% t o Rs. 10 for a capit alizat ion
of Rs. 4000 m illion. The t r ue v alue of t he com pany hasn't changed.

An easy w ay t o det er m ine t he new st ock pr ice is t o div ide t he pr ev ious st ock
pr ice by t he split r at io. I n t he case of our ex am ple, div ide Rs. 40 by 4 and
w e get t he new t r ading pr ice of Rs. 10. I f a st ock w er e t o split 3- for- 2, we'd
do t he sam e t hing: 40/ ( 3/ 2) = 40/ 1.5 = Rs. 26.60.

Pre- Split Post - Split

2- for- 1 Split

No. of shares 100 m ill. 200 m ill.

Shar e Pr ice Rs. 40 Rs. 20
Mar k et Cap. Rs. 4000 m ill. Rs. 4000 m ill.

4- for- 1
No. of shar es 100 m ill. 400 m ill.
Shar e Pr ice Rs. 40 Rs. 10
Mar k et Cap. Rs. 4000 m ill. Rs. 4000 m ill.

W hy do com panies announce St ock Split ?

I f t he v alue of t he st ock doesn't change, w hat m ot iv at es a com pany t o split

it s st ock ? Though t her e ar e no t heor et ical r easons in financial lit er at ur e t o
indicat e t he need for a st ock split , gener ally , t her e ar e m ainly t w o im por t ant
reasons. As t he pr ice of a secur it y get s higher and higher , som e inv est or s
m ay feel t he pr ice is t oo high for t hem t o buy , or sm all inv est or s m ay feel it
is unaffor dable. Split t ing t he st ock br ings t he shar e pr ice dow n t o a m or e
" at t r act ive" level. I n our ear lier e x am ple t o buy 1 shar e of com pany ABC y ou
need Rs. 40 pre - split , but aft er t he st ock split t he sam e num ber of shar es
can be bought for Rs.10, m aking it at t r act ive for m or e invest or s t o buy t he
share. This leads us t o t he second reason. Split t ing a st ock m ay lead t o
incr ease in t he st ock 's liquidit y, since m or e inv est or s ar e able t o affor d t he
shar e and t he t ot al out st anding shar es of t he com pany hav e also incr eased
in t he m arket .

59
W hat is Buy back of Shares?

A buy back can be seen as a m et hod for com pany t o invest in it self by buying
shar es fr om ot her inv est or s in t he m ar k et . Buy back s r educe t he num ber of
shares out st anding in t he m ar ket . Buy back is done by t he com pany w it h
t he pur pose t o im pr ov e t he liquidit y in it s shar es and enhance t he
shar eholder s’ w ealt h. Under t he SEBI ( Buy Back of Secur it ies) Regulat ion,
1998, a com pany is per m it t ed t o buy back it s shar e from :

a) Ex ist ing shar eholder s on a pr opor t ionat e basis t hr ough t he offer

docum ent .

b) Open m ar k et t hr ough st ock ex changes using book building pr ocess.

c) Shar eholder s holding odd lot shar es.

The com pany has t o disclose t he pr e and post - buy back holdin g of t h e
pr om ot er s. To ensur e com plet ion of t he buy back pr ocess speedily , t he
r egulat ions hav e st ipulat ed t im e lim it for each st ep. For ex am ple, in t he
cases of pur chases t hr ough st ock ex changes, an offer for buy back should
not r em ain open for m or e t han 30 day s. The v er ificat ion of shar es r eceiv ed
in buy back has t o be com plet ed w it hin 15 day s of t he closur e of t he offer .
The pay m ent s for accept ed secur it ies has t o be m ade w it hin 7 day s of t he
com plet ion of v er ificat ion and bought back shar es hav e t o be ex t inguished
w it hin 7 day s of t he dat e of t he pay m ent .

8 .2 I ndex

W hat is t he N ift y index?

S&P CNX Nift y ( Nift y ) , is a scient ifically dev eloped, 50 st ock index , r eflect ing
accur at ely t he m ar k et m ov em ent of t he I ndian m ar k et s. I t com pr ises of
som e of t he largest and m ost liquid st ock s t r aded on t he NSE. I t is
m aint ained by I ndia I ndex Ser v ices & Pr oduct s Lt d. ( I I SL) , w hich is a j oint
v ent ur e bet w een NSE and CRI SI L. The index has been co- branded by
St andard & Poor’s ( S&P) . Nift y is t he barom et er of t he I ndian m ar k et s.

60
8 .3 Cle a r in g & Se t t le m e n t a n d Re dr e ssa l

W hat is a Clearing Corporat ion?

A Clear ing Cor por at ion is a par t of an ex change or a separ at e ent it y and
per for m s t hr ee funct ions, nam ely , it clear s and set t les all t r ansact ions, i. e.
com plet es t he pr ocess of r eceiv ing and deliv er ing shar es/ funds t o t he buy er s
and seller s in t he m ar k et , it pr ov ides financial guar ant ee for all t r ansact ions
ex ecut ed on t he ex change and pr ov ides r isk m anagem ent funct ions.
Nat ional Secur it ies Clear ing Cor por at ion ( NSCCL) , a 1 0 0 % subsidiar y of
NSE, per for m s t he r ole of a Clear ing Cor por at ion for t r ansact ions ex ecut ed
on t he NSE.

W hat is Rolling Set t lem ent ?

Under r olling set t lem ent all open posit ions at t he end of t he day m andat or ily
r esult in paym ent / deliver y ‘n’ days lat er. Current ly t rades in rolling
set t lem ent ar e set t led on T+ 2 basis w her e T is t he t r ade day. For exam ple,
a t r ade ex ecut ed on Monday is m andat or ily set t led by Wednesday
( consider ing t w o w or k ing day s fr om t he t r ade day ) . The funds and secur it ies
pay - in and pay - out ar e car r ied out on T+ 2 days.

W hat is Pay- in and Pay- out ?

Pay - in day is t he day w hen t he secur it ies sold ar e deliv er ed t o t he ex change

by t he seller s and funds for t he secur it ies pur chased ar e m ade av ailable t o
t he ex change by t he buy er s.

Pay - out day is t he day t he secur it ies pur chased ar e deliv er ed t o t he buy er s
and t he funds for t he secur it ies sold ar e giv en t o t he seller s by t he
exchange.

At pr esent t he pay- in and pay- out happens on t he 2nd w or k ing day aft er t he
t rade is execut ed on t he st oc k exchange.

61
W hat is an Auction?

On account of non- deliv er y of secur it ies by t he t r ading m em ber on t he pay -

in day , t he secur it ies ar e put up for auct ion by t he Ex change. This ensur es
t hat t he buy ing t r ading m em ber r eceiv es t he secur it ies. The Ex change
pur chases t he r equisit e quant it y in auct ion m ar k et and giv es t hem t o t he
buying t rading m em ber.

W hat is a Book- closure/ Record dat e?

Book closur e and r ecor d dat e help a com pany det er m ine ex act ly t he
shar eholder s of a com pany as on a given dat e. Book closure refers t o t he
closing of t he r egist er of t he nam es of inv est or s in t he r ecor ds of a
com pany . Com panies announce book closur e dat es fr om t im e t o t im e. The
benefit s of dividends, bonus issues, r ight s issue accr ue t o invest or s w hose
n am e appear s on t h e company 's r ecor ds as on a giv en dat e w hich is k now n
as t he r ecor d dat e and is declar ed in adv ance by t he com pany so t hat
buy er s hav e enough t im e t o buy t he shar es, get t hem r egist er ed in t he
book s of t he com pany and becom e ent it led for t he benefit s such as bonus,
r ight s, div idends et c. Wit h t he deposit or ies now in place, t he buy er s need
not send shar es phy sically t o t he com panies for r egist r at ion. This is t ak en
car e by t he deposit or y since t hey hav e t he r ecor ds of inv est or holdings as
on a par t icular dat e elect r onically w it h t hem .

W hat is a No- delivery period?

Whenev er a com pany announces a book closur e or r ecor d dat e, t he

ex change set s up a no- deliv er y per iod for t hat secur it y . Dur ing t his per iod
only t r ading is per m it t ed in t he secur it y . How ev er , t hese t rades ar e set t led
only aft er t he no- delivery period is over. This is done t o ensure t hat
inv est or 's ent it lem ent for t he cor por at e benefit is clear ly det er m ined.

W hat is an Ex- dividend dat e?

The dat e on or aft er w hich a secur it y begins t r ading w it hout t he div idend
included in t he pr ice, i.e. buyer s of t he shar es w ill no longer be ent it led for
t he div idend w hich has been declar ed r ecent ly by t he com pany , in case t hey
buy on or aft er t he ex- div idend dat e.

62
W hat is an Ex- da t e ?

The fir st day of t he no- deliv er y per iod is t h e ex- dat e. I f t her e is any
cor por at e benefit s such as r ight s, bonus, div idend announced for w hich book
closur e/ r ecor d dat e is fix ed, t he buy er of t he shar es on or aft er t he ex- dat e
w ill not be eligible for t he benefit s.

W hat recourses are available t o invest or/ client for redressing

his grievances?

You can lodge com plaint w it h t he I nv est or Gr iev ances Cell ( I GC) of t h e
Ex change against br ok er s on cer t ain t r ade disput es or non- r eceipt of
pay m ent / secur it ies. I GC t ak es up com plaint s in r espec t of t r ades ex ecut ed
on t he NSE, t hr ough t he NSE t r ading m em ber or SEBI r egist er ed sub- broker
of a NSE t r ading m em ber and t r ades per t aining t o com panies t r aded on
NSE.

W hat is Arbit rat ion?

Ar bit r at ion is an alt er nat iv e disput e r esolut ion m echanism pr ov ided by a

st ock ex change for r esolv ing disput es bet w een t he t r ading m em ber s and
t heir client s in r espect of t r ades done on t he exchange. I f no am icable
set t lem ent could be r eached t hr ough t he nor m al gr iev ance r edr essal
m echanism of t he st ock ex change, t hen y ou can m ak e applicat ion for
r efer ence t o Ar bit r at ion under t he Bye- Law s of t he concer ned St ock
exchange.

W hat is an I nvest or Prot ect ion Fund?

I nvest or Pr ot ect ion Fund ( I PF) is m aint ained by NSE t o m ake good invest or
claim s, w hich m ay arise out of non- set t lem ent of obligat ions by t he t r ading
m em ber , w ho has been declar ed a default er , in r espect of t r ades ex ecut ed
on t he Ex change. The I PF is ut ilised t o set t le claim s of such inv est or s w her e
t he t r ading m em ber t hr ough w hom t he inv est or has dealt has been declar ed
a default er . Pay m ent s out of t he I PF m ay include claim s ar ising of non
pay m ent / non r eceipt of secur it ies by t he inv est or fr om t he t r ading m em ber
w ho has been declar ed a default er . The m ax im um am ount of claim pay able
fr om t he I PF t o t he inv est or ( w her e t he t r ading m em ber t hr ough w hom t he
invest or has dealt is declar ed a default er ) is Rs. 10 lakh.

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9. CON CEPTS & M OD ES OF AN ALYSI S

W hat is Sim ple I nt erest ?

Sim ple I n t e r e st : Sim ple I nt er est is t he int er est paid only on t he pr incipal
am ount bor r ow ed. No int er est is paid on t he int er est accr ued dur ing t he
t er m of t he loan.

Ther e ar e t hr ee com ponent s t o calculat e sim ple int er est : pr incipal, int er est
rat e and t im e.

For m u la f or ca lcu la t in g sim p le in t e r e st :

I = Prt
Where,
I = int erest
P = pr incipal
r = int er est r at e ( per year )
t = t im e ( in year s or fr act ion of a year )

Exam ple:
Mr. X borrow ed Rs. 10,000 from t he bank t o purchase a household it em . He
agr eed t o r epay t he am ount in 8 m ont hs, plus sim ple int er est at an int er est
r at e of 10% per annum ( year ) .

I f he repays t he full am ount of Rs. 10,000 in eight m ont hs, t he int erest
would be:
P = Rs. 10,000 r = 0.10 ( 10% per y ear ) t = 8/ 12 ( t his denot es fr act ion of a
year)

Apply ing t he abov e for m ula, int er est w ould be:

I = Rs. 10,000* ( 0.10) * ( 8/ 12) = Rs. 667.

This is t he Sim ple I nt erest on t he Rs. 10,000 loan t aken by Mr. X for 8
m ont hs.

I f he r epay s t he am ount of Rs. 10,000 in fift een m ont hs, t he only change is
w it h t im e.

Therefore, his int erest w ould be:

I = Rs. 10,000* ( 0.10) * ( 15/ 12) = Rs. 1,250

64
W ha t is Com pound I nt erest ?

Com p ou n d I n t e r e st : Com pound int er est m eans t hat , t he int er est w ill
include int er est calculat ed on int er est . The int er est accr ued on a pr incipal
am ount is added back t o t he pr incipal sum , and t he w hole am ount is t hen
t r eat ed as new principal, for t he calculat ion of t he int er est for t he nex t
period.

For exam ple, if an am ount of Rs. 5,000 is invest ed for t w o year s and t he
int er est r at e is 10% , com pounded y ear ly :

• At t he end of t he fir st y ear t he int er est w ould be ( Rs. 5,000 * 0.10)

or Rs. 500.

• I n t he second y ear t he int er est r at e of 10% w ill applied not only t o

Rs. 5,000 but also t o t he Rs. 500 int er est of t he fir st y ear . Thus, in
t he second year t he int erest w ould be ( 0.10 * Rs. 5,500) or Rs. 550.

For any loan or bor r ow ing unless sim ple int er est is st at ed, one should
alw ay s assum e int er est is com pounded. When com pound int er est is used w e
m ust alw ay s k now how oft en t he int er est r at e is calculat ed each y ear .
Gener ally t he int er est r at e is quot ed annually . E.g. 10% per annum .

Com p ound int er est m ay inv olv e calculat ions for m or e t han once a y ear , each
using a new pr incipal, i.e. ( int er est + pr incipal) . The fir st t er m w e m ust
under st and in dealing w it h com pound int er est is conv er sion per iod.
Conv er sion per iod r efer s t o how oft en t he n i t er est is calculat ed ov er t he
t erm of t he loan or invest m ent . I t m ust be det erm ined for each year or
fr act ion of a year .

E. g. : I f t he int er est r at e is com pounded sem iannually , t hen t he num ber of

conv er sion per iods per y ear w ould be t w o. I f t he loan or deposit w as for fiv e
y ear s, t hen t he num ber of conv er sion per iods w ould be t en.

65
For m u la f or ca lcu la t in g Com p ou n d I n t e r e st :

n
C = P ( 1+ i)

Where
C = am ount
P = pr incipal
i = I nt erest rat e per conversion period
n = t ot al num ber of conver sion per iods

Ex a m p le :

Mr . X inv est ed Rs. 10,000 for fiv e y ear s at an int er est r at e of 7.5%
com pounded quar t er ly

P = Rs. 10,000
i = 0.075 / 4, or 0.01875
n = 4 * 5, or 20, conversion periods over t he five years

Ther efor e, t he am ount , C, is:

C = Rs. 10,000( 1 + 0.01875) ^ 2 0
= Rs 10,000 x 1.449948
= Rs 14,499.48

So at t he end of fiv e y ear s Mr . X w ould ear n Rs. 4,499.48 ( Rs.14,499.48 –

Rs.10,000) as int er est . This is also called as Com pounding.

Com pounding play s a v er y im por t ant r ole in inv est m ent since ear ning a
sim ple int er est and ear ning an int er est on int er est m akes t he am ount
r eceiv ed at t he end of t he per iod for t he t w o cases significant ly differ ent .

I f Mr . X had invest ed t his am ount for five year s at t he sam e int er est r at e
offer ing t he sim ple int er est opt ion, t hen t he am ount t hat he w ould ear n is
calculat ed by apply ing t he follow ing for m ula:

S = P ( 1 + rt) ,
P= 10,000
r = 0.075
t = 5

Thus, S = Rs. 10,000[ 1+ 0.075( 5) ]

= Rs. 13,750

Here, t he sim ple int erest earned is Rs. 3,750.

66
A com par ison of t he int er est amount s calculat ed under bot h t he m et hod
indicat es t hat Mr . X w ould hav e ear ned Rs. 749.48 ( Rs.4,499.48 – Rs.
3,750) or near ly 20% m or e under t he com pound int er est m et hod t han
under t he sim ple int erest m et hod.

Sim ply put , com pounding r efer s t o t he r e - invest m ent of incom e at t he sam e
r at e of r et ur n t o const ant ly gr ow t he pr incipal am ount , y ear aft er y ear .
Should one car e t oo m uch w het her t he r at e of r et ur n is 5% or 15% ? The
fact is t hat w it h com pounding, t he higher t he r at e of r et ur n, m or e is t he
incom e w hich k eeps get t ing added back t o t he pr incipal r egular ly gener at ing
higher rat es of ret urn year aft er year.

The t able below show s y ou how a single inv est m ent of Rs 10,000 w ill gr ow
at v ar ious r at es of r et ur n w it h com pounding. 5% is w hat y ou m ight get by
leav ing y our m oney in a sav ings bank account , 10% is t y pically t he r at e of
r et ur n y ou could ex pect fr om a one- y ear com pany fix ed deposit , 15% - 20%
or m ore is w hat you m ight get if you prudent ly invest in m ut ual funds or
equit y shares.

Th e I m p a ct of Pow e r of Com pou n din g:

The im pact of t he pow er of com pounding w it h differ ent r at es of r et ur n and

differ ent t im e per iods:

At en d of Year 5% 10% 15% 20%

1 Rs 10500 Rs 11000 Rs 11500 Rs 12000
5 Rs 12800 Rs 16100 Rs 20100 Rs 24900
10 Rs 16300 Rs 25900 Rs 40500 Rs 61900
15 Rs 20800 Rs 41800 Rs 81400 Rs 154100
25 Rs 33900 Rs 1, 08300 Rs 3, 29200 Rs 9, 54, 000

W hat is m eant by t he Tim e Value of Money?

Money has t im e v alue. The idea behind t im e v alue of m oney is t hat a r upee
now is w or t h m or e t han r upee in t he fut ur e. The r elat ionship bet w een v alue
of a r upee t oday and v alue of a r upee in fut ur e is k now n as ‘Tim e Value of
Mon ey ’. A r upee r eceiv ed now can ear n int er est in fut ur e. An am ount
inv est ed t oday has m or e v alue t han t he sam e am ount inv est ed at a lat er
dat e because it can ut ilize t he pow er of com pounding. Com pounding is t he
pr ocess by w hich int er est is ear ned on int er est . When a pr incipal am ount is
inv est ed, int er est is ear ned on t he pr incipal dur ing t he fir st per iod or y ear .
I n t he second per iod or y ear , int er est is ear ned on t he or iginal pr incipal plus

67
t he int er est ear ned in t he fir st per iod. Ov er t im e, t his r einv est m ent pr ocess
can help an am ount t o gr ow significant ly.

Let us t ake an exam ple :

Suppose y ou ar e giv en t w o opt ions:

( A) Receive Rs. 10,000 now OR

(B) Receive Rs.10,000 aft er t hr ee y ear s.

Which of t he opt ions w ould you choose?

Rat ionally, y ou w ould choose t o r eceiv e t he Rs. 10,000 now inst ead of
w ait ing for t hr ee y ear s t o get t he sam e am ount . So, t h e t im e v alu e of
m oney dem onst r at es t hat , all t hings being equal, it is bet t er t o hav e m oney
now rat her t han lat er.

Back t o our ex am ple: by r eceiv ing Rs.10,000 t oday , y ou ar e poised t o

incr ease t he fut ur e v alue of y our m oney by inv est ing and gaining int er est
ov er a per iod of t im e. For opt ion B, y ou don't hav e t im e on y our side, and
t he pay m ent r eceiv ed in t hr ee y ear s w ould be y our fut ur e v alue. To
illust r at e, w e hav e pr ov ided a t im eline:

Present Value Future Value

0 1 2 3 Years

Option A: Rs. 10,000 Rs. 10,000 + Interest

Option B: Rs. 10,000 - Interest Rs. 10,000

I f you are choosing opt ion A, y our fut ur e v alue w ill be Rs. 10,000 plus any
int er est acquir ed ov er t he t hr ee y ear s. The fut ur e v alue for opt ion B, on t he
ot her hand, w ould only be Rs. 10,000. This clear ly illust r at es t hat v alue of
m oney r eceiv ed t oday is w or t h m or e than t he sam e am ount r eceiv ed in
fut ur e since t he am ount can be inv est ed t oday and gener at e r et ur ns.

68
Let us t ak e an anot her exam ple:

I f y ou choose opt ion A and inv est t he t ot al am ount at a sim ple annual r at e
of 5% , t he fut ur e v alue of y our inv est m ent at t he end of t he fir st year is Rs.
10,500, w hich is calculat ed by m ult iply ing t he pr incipal am ount of Rs.
10,000 by t he in t er est r at e of 5% and t hen adding t he int er est gained t o t he
pr incipal am ount .

Thus, Fut ur e value of invest m ent at end of fir st year :

= ( ( Rs. 10,000 X ( 5/ 100) ) + Rs. 10,000

= ( Rs.10,000 x 0.050) + Rs. 10,000

= Rs.10,500

You can also calculat e t he t ot al am ount of a one- y ear inv est m ent w it h a
sim ple m odificat ion of t he abov e equat ion:

Original equat ion: ( Rs.10,000 x 0.050) + Rs.10,000 = Rs.10,500

Modified form ula: Rs.10,000 x [ ( 1 x 0. 050) + 1] = Rs.10,500

Final equat ion: Rs. 10,000 x ( 0.050 + 1) = Rs. 10,500

Which can also be w r it t en as:

S = P ( r+ 1)

Where,
S = am ount received at t he end of period
P = pr incipal am ount
r = int erest rat e ( per year)

This for m ula denot es t he fut ur e v alue ( S) of an am ount inv est ed ( P) at a

sim ple int erest of ( r) for a period of 1 year.

69
How is t im e value of m oney com put ed?

The t im e value of m oney m ay be com put ed in t he follow ing cir cum st ances:

1. Fut ur e v alue of a single cash flow

2. Fut ur e v alue of an annuit y
3. Pr esent v alue of a single cash flow
4. Pr esent v alue of an annuit y

( 1) Fu t u r e V a lu e of a Sin g le Ca sh Fl o w

For a giv en pr esent v alue ( PV) of m oney , fut ur e v alue of m oney ( FV) aft er a
per iod ‘t ’ for w hich com pounding is done at an int er est r at e of ‘r ’, is given
by t he equat ion

FV = PV ( 1+ r) t

This assum es t hat com pounding is done at discr et e int er v als. How ev er , in
case of cont inuous com pounding, t he fut ur e v alue is det er m ined using t he
form ula

FV = PV * e r t

Wher e ‘e’ is a m at hem at ical funct ion called ‘ex ponent ial’ t he v alue of
ex ponent ial ( e) = 2.7183. The com pounding fact or is calculat ed by t aking
nat ur al logar it hm ( log t o t he base of 2.7183) .

Ex a m p l e 1: Calculat e t he value of a deposit of Rs.2,000 m ade t oday, 3

year s hence if t he int er est r at e is 10% .

By discr et e com pounding:

FV = 2,000 * ( 1+ 0.10) 3 = 2,000 * ( 1.1) 3 = 2,000 * 1.331 = Rs. 2, 662

By cont inuous com pounding:

FV = 2,000 * e ( 0.10 * 3) = 2,000 * 1.349862 = Rs.2699.72

70
2. Fu t u r e V a lu e of a n An n u it y

An annuit y is a st r eam of equal annual cash flow s. The fut ur e v alue ( FVA) of
a unifor m cash flow ( CF) m ade at t he end of each per iod t ill t he t im e of
m at ur it y ‘t ’ for w hich com pounding is done at t he r at e ‘r ’ is calculat ed as
follows:

FVA = CF* ( 1+ r) t - 1 + CF* ( 1+ r) t - 2 + ... + CF* ( 1+ r) 1 + CF

 (1 + r) t − 1 
= CF  
 r 

 (1 + r) t − 1 
The t er m   is referred as t he Fut ure Value I nt erest fact or for an
 r 
annuit y ( FVI FA) . The sam e can be applied in a v ar iet y of cont ex t s. For e.g.
t o k now accum ulat ed am ount aft er a cer t ain per iod, t o k now how m uch t o
sav e annually t o r each t he t ar get ed am ount , t o k now t he int er est r at e et c.

Exam p le 1: Suppose, you deposit Rs.3,000 annually in a bank for 5 year s

and y our deposit s ear n a com pound int er est r at e of 10 per cent , w hat w ill be
v alue of t his ser ies of deposit s ( an annuit y ) at t he end of 5 y ear s? Assum e
t hat each deposit occur s at t he end of t he y ear .
Fut ur e value of t his annuit y is:
= Rs.3000* ( 1.10) 4 + Rs.3000* ( 1.10) 3 + Rs.3000* ( 1.10) 2 + Rs.3000* ( 1.10)
+ Rs.3000
= Rs.3000* ( 1.4641) + Rs.3000* ( 1.3310) + Rs.3000* ( 1.2100) + Rs.3000* ( 1.10)
+ Rs.3000
= Rs. 18315.30

3. Pr e se n t V a lu e of a Sin g le Ca sh Fl o w

Pr esent v alue of ( PV) of t he fut ur e sum ( FV) t o be r eceiv ed aft er a per iod ‘t ’
for w hich discount ing is done at an int er est r at e of ‘r ’, is giv en by t he
equat ion
I n case of discr et e discount ing: PV = FV / ( 1+ r) t

Ex am ple 1: Wh at is t h e pr esen t v alue of Rs.5,000 pay able 3 y ear s hence, if

t he int erest rat e is 10 % p.a.
PV = 5000 / ( 1.10) 3 i.e. = Rs.3756.57
I n case of cont inuous discount ing: PV = FV * e- rt

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Exam ple 2: What is t he pr esent v alue of Rs. 10,000 r eceiv able aft er 2 y ear s
at a discount r at e of 10% under cont inuous discount ing?
Present Value = 10,000/ ( exp^ ( 0.1* 2) ) = Rs. 8187.297

4. Pr e se n t V a lu e of a n An n u it y

The pr esent v alue of annuit y is t he sum of t he pr esent v alues of all t he cash

inflow s of t his annuit y .

Present value of an annuit y ( in case of discr et e discount ing)

PVA = FV [ { ( 1+ r) t - 1 } / { r * ( 1+ r) t } ]

The t erm [ ( 1+ r) t - 1/ r* ( 1+ r) t ] is r efer r ed as t he Pr esent Value I nt er est

fact or for an annuit y ( PVI FA) .

Pr esent v alue of an annuit y ( in case of cont inuous discount ing) is calculat ed

as:
PVa = FVa * ( 1- e- rt ) / r

Exam ple 1: What is t he pr esent v alue of Rs. 2000/ - r eceived at t he end of

each year for 3 cont inuous years
= 2000* [ 1/ 1. 10] + 2000* [ 1/ 1. 10] ^ 2+ 2000* [ 1/ 1. 10] ^ 3
= 2000* 0.9091+ 2000* 0.8264+ 2000* 0.7513
= 1818.181818 + 1652.892 5 6 2 + 1502.629602
= Rs. 4 9 7 3 . 7 0 4

W hat is Effect ive Annual ret urn?

Usually w hile applying for a fixed deposit or a bond it is st at ed in t he

applicat ion for m , t hat t he annual r et ur n ( int er est ) of an invest m ent is 10% ,
but t he effect iv e annual r et ur n m ent ione d is som et hing m or e, 10. 38% . Why
t he differ ence? Essent ially , t he effect iv e annual ret urn account s for int r a -
year com pounding and t he st at ed annual r et ur n does not . The differ ence
bet w een t hese t w o m easur es is best illust r at ed w it h an ex am ple. Suppose
t he st at ed annual int er est r at e on a savings account is 10% , and say you
put Rs 1,000 int o t his savings account . Aft er one year , your m oney w ould
gr ow t o Rs 1,100. But , if t he account has a quar t er ly com pounding feat ur e,
y our effect iv e r at e of r et ur n w ill be higher t han 10% . Aft er t he fir st quar t er ,
or fir st t hr ee m ont hs, y our sav ings w ould gr ow t o Rs 1,025. Then, in t he
second quar t er , t he effect of com pounding w ould becom e appar ent : y ou
w ould r eceive anot her Rs 25 in int er est on t he or iginal Rs 1,000, but you

72
w ould also r eceiv e an addit ional Rs 0.63 fr om t he Rs. 25 t hat w as paid aft er
t he fir st quar t er . I n ot her w or ds, t he int er est ear ned in each quar t er w ill
incr ease t he int er est ear ned in subsequent quar t er s. By t he end of t he y ear ,
t he pow er of quar t er ly com pounding w ould giv e y ou a t ot al of Rs 1,103.80.
So, alt hough t he st at ed annual int er est r at e is 10% , because of quar t er ly
com pounding, t he effect iv e r at e of r et ur n is 10.38% . The differ ence of
0.38% m ay appear insignificant , but it can be huge w hen y ou're dealing
w it h lar ge num ber s. 0. 38% of Rs. 100, 000 is Rs 380! Anot her t hing t o
consider is t hat com pounding does not necessar ily occur quar t er ly , or only
four t im es a y ear , as it does in t he ex am ple abov e. Ther e ar e account s t hat
com pound m ont hly, and even som e t hat com pound daily . And, as our
ex am ple show ed, t he fr equency w it h w hich int er est is paid ( com pounded)
w ill have an effect on effect ive r at e of r et ur n.

How t o go about syst em at ically analyzing a com pany?

You m ust look for t he follow ing t o m ake t he right analysis:

I n du st r y An a lysis : Com panies pr oducing sim ilar pr oduct s ar e

subset ( for m a par t ) of an I ndust r y / Sect or . For ex am ple, Nat ional
Hy dr oelect r ic Pow er Com pany ( NHPC) Lt d., Nat ional Ther m al Pow er
Com pany ( NTPC) Lt d., Tat a Pow er Com pany ( TPC) Lt d. et c. belong t o
t he Pow er Sect or / I ndust r y of I ndia. I t is v er y im por t ant t o see how
t he indust r y t o w hich t he com pany belongs is far ing. Specifics lik e
effect of Gover nm ent policy, fut ur e dem and of it s pr oduct s et c. need
t o be check ed. At t im es pr ospect s of an indust ry m ay change
dr ast ically by any alt er at ions in business env ir onm ent . For inst ance,
dev aluat ion of r upee m ay br ight en pr ospect s of all ex por t or ient ed
com panies. I nv est m ent analy st s call t his as I ndust ry Analysis .

Cor por a t e An a ly sis : How has t he com pany been far ing ov er t he
past few year s? Seek infor m at ion on it s cur r ent oper at ions,
m anager ial capabilit ies, gr ow t h plans, it s past per for m ance v is - à- vis
it s com pet it or s et c. This is k now n as Corporat e Analysis .

Fin a n cia l An a lysis : I f per for m ance of an indust r y as w ell as of t he

com pany seem s good, t hen check if at t he cur r ent pr ice, t he shar e is
a good buy . For t his look at t he financial per for m ance of t he com pany
and cer t ain k ey financial par am et er s lik e Ear nings Per Shar e ( EPS) ,
P/ E r at io, cur ren t size of equ it y et c. for ar r iv ing at t he est im at ed
fut ur e pr ice. This is t er m ed as Financial Analy sis. For t hat y ou need
t o under st and financial st at em ent s of a com pany i. e. Balance Sheet
and Pr ofit and Loss Account cont ained in t he Annual Repor t of a
c om pany.

73
W hat is an Annual Report ?

An annual r epor t is a for m al financial st at em ent issued y ear ly by a

cor por at e. The annual r epor t show s asset s, liabilit ies, r ev enues, ex penses
and earnings - how t he com pany st ood at t he close of t he business y ear ,
h o w it far ed pr ofit - w ise dur ing t he y ear , as w ell as ot her infor m at ion of
int er est t o shar eholder s. Com panies publish annual r epor t s and send
abr idged v er sions t o shar eholder s fr ee of cost . A det ailed annual r epor t is
sent on r equest . Rem em ber an annual r epor t of a com pany is t he best
sour ce of infor m at ion about t he financial healt h of a com pany .

W hich feat ures of an Annual Report should one read carefully?

One m ust read an Annual Report w it h em phasis on t he follow ing:

§ Direct or’s Report and Chairm an’s st at em e nt w hich ar e

r elat ed t o t he cur r ent and fut ur e oper at ional
per for m ance of a com pany .
§ Audit or s’ Repor t ( including Annex ur e t o t he Audit or s
Repor t )
§ Pr ofit and Loss Account .
§ Balance Sheet .
§ Not es t o account s at t ached t o t he Balance Sheet .

W hat is a Balance Sheet and a Profit and Loss Account

St a t em ent ? W ha t is t he difference bet w een Ba la nce Sheet a nd
Profit and Loss Account St at em ent s of a com pany?

The Balance sheet of a com pany show s t he financial posit ion of t he com pany
a t a pa r t icu la r poin t of t im e . The balance sheet of a com pany / fir m ,
accor ding t o t he Com panies Act , 1956 should be eit her in t he accou n t for m
or t he r epor t for m .

Ba la n ce Sh e e t : Accou n t For m

Lia bilit ie s Asse t s

Shar e Capit al Fix ed Asset s
Reser ves and Sur plus I nv est m ent s
Secured loans Cur rent Asset s, loans and adv ances
Unsecured loans Miscellaneous ex pendit ur e
Cur r ent liabilit ies and pr ov isions

74
Ba la n ce Sh e e t : Re por t For m

I . Sou r ce s of Fu n d s

1. Shar eholder s’ Funds

( a) Shar e Capit al
( b) Reserves & surplus
2. Loan Funds
( a) Secur ed loans
( b) Unsecured loans

I I . Ap p lica t ion of Fu n d s

( i) Fix ed Asset s
( ii) I nv est m ent s
( iii) Cur r ent Asset s, loans and adv ances
Less: Cur r ent liabilit ies and pr ovisions
Net cur r ent asset s
( iv) Miscellaneous expendit ure and lo sses

The Pr ofit and Loss account ( I ncom e St at em ent ) , on t he ot her hand, show s
t he financial per for m ance of t he com pany / fir m ov e r a pe r iod of t im e . I t
indicat es t he r ev enues and ex penses dur ing par t icular per iod of t im e. The
per iod of t im e is an account ing per iod/ y ear , Apr il- Mar ch. The account ing
r epor t sum m ar izes t he r ev enue it em s, t he ex pense it em s, and t he differ ence
bet w een t hem ( net incom e) for an account ing per iod.

H ow t o in t e r pr e t Ba la n ce Sh e e t a n d Pr of it a n d Loss Accou n t of a
com p a n y ?

Let ’s st ar t w it h Balance Sheet . The Box- 1 giv es t he balance sheet of XYZ

Lt d. com pany as on 31s t March 2005. Let us under st and t he balance sheet
show n in t he Box- 1.

BOX - 1
X YZ COM PAN Y LTD . ,
As a t As a t
3 1 st 3 1 st
M a r ch , M a r ch ,
2005 2004
Ba la n ce sh e e t a s on 3 1 st M a r ch , 2 0 05
Rs . Cr Rs . Cr Rs . Cr
SO U RCES O F FU N D S Sch ed u le Pa g e

1 SHAREHOLDERS' FUNDS

( a) Cap it al 1 19 103.87 104.44

75
 ( b) Reser v es an d Su r plu s 2 20 479.21 387.70

583.08 483.14

2 LOAN FUNDS

( a) Secur ed 3 21 353.34 387.76

( b ) Un secu r ed 4 21 129.89 101.07

483.23 488.83

3 TOTAL FUNDS EMPLOYED 1 0 6 6 .3 1 9 7 1 .9 7

APPLI CAT I O N O F FU N D S

4 FI XED ASSETS

( a) Gr oss Block 5 22 946.84 870.44

( b) Less: Depr eciat ion 482.19 430.70

( c) Net Block 464.65 439.74

( d ) Cap it al Wor k in Pr og r ess 62. 10 44. 44

526.75 484.18

5 I NVESTMENTS 6 23 108.58 303.48

CURRENT ASSETS, LOANS AND

6 ADVANCES
( a) I nv ent or ies 7 24 446.34 350.25

( b) Sundr y Debt or s 8 24 458.47 300.32

( c) Cash an d Ban k Balan ces 9 25 66. 03 5. 67

( d) Loan s an d Adv an ces 10 25 194.36 110.83

1165.20 767.07

Less: C URRENT LI ABI LI TI ES AND

7 PRI VI SI ONS
( a) Cur r ent Liabilit ies 11 26 595.22 500.19

( b) Pr ov isions 12 26 139.00 82. 57

734.22 582.76

76
 NET CURRENT ASSETS [ ( 6 ) less
8 ( 7) ] 430.98 184.31

9 TOTAL ASSETS ( NET) 1 0 6 6 .3 1 9 7 1 .9 7

NO TES TO BALANCE SHEET AND

10 CONTI NGENT LI ABI LI TI ES 13 27

For an d on b eh alf of t h e
As p er ou r r ep or t at t ach ed Boar d .

ASD FG

Fo r A. SD F & CO. XXXXX AAAA

Ch ar t er ed Accou n t an t s, Ch air m an BBBB LKJH

Q. W. TYUR CCCC TYUB

Par t ner . REFGH POI UY Dir ect or s

For HI JKL YYYY NSDF

Vice-
Ch air m an
Ch ar t er ed Account ant s , an d QW ER
Man ag in g
WERT Dir ect or MNBV

Par t ner . ZZZZZZ

Bom bay , 2 8 t h Ju n e,
Bom b ay 1 0 t h Ju ly , 2 0 0 4 Secret ary 2004.

The balance sheet of a com pany is a r ecor d show ing sour ces of funds and
t heir applicat ion for cr eat ing/ building asset s. How ev er , since com pany ’s fund
st r uct ur e and asset posit ion change ev er y day due t o fund inflow and
out flow , balance sheet s ar e dr aw n on a specific dat e, say 31s t Mar ch.

W hat do t hese sources of funds represent ?

As show n in a sam ple balance sheet in Box- 1, t her e ar e t w o sour ces of

funds:

( a) Sh a r e h old e r s’ Fu n d ( also know n as N e t W or t h) is t he fund com ing

fr om t he ow ner s of t he com pany ; and

( b) Lo a n Fu n d is t he fund bor r ow ed fr om out sider s.

When a com pany / fir m st ar t s oper at ions, it s ow ner s, called shar eholder s,
cont r ibut e funds called Sh a r e Ca p it a l. Not e t hat in Box- 1 XYZ COMPANY
LTD.’s capit al in 2005 w as Rs. 103.87 cr or e. The shar eholder s being t he
ow ners, shar e par t of t he pr ofit of t he com pany , as div idend. Shar e capit al
has been fur t her div ided int o e q u it y ca p it a l and p r e f e r e n ce ca p it a l.
Equit y capit al does not hav e fix ed r at e of div idend. The pr efer ence capit al

77
r epr esent s cont r ibut ion of pr efer ence shar eholder s and has fix ed r at e of
div idend.

Aft er dist r ibut ing div idends, a par t of t he pr ofit is r et ained by t he com pany
for m eet ing fund r equir em ent s in fut ur e. The r et ained pr ofit s accum ulat ed
ov er t he y ear s ar e called r e se r ve s a n d su r plu s , w h ich ar e shar eholder s’
pr oper t y . I n case of XYZ COMPANY LTD. , not e t hat t he r eser v es and sur plus
incr eased fr om Rs. 387.70 cr or e in 2004 t o Rs. 479.21 cr or e in 2005.

W hat is t he difference bet w een Equit y shareholders and

Preferent ial shareholders?

Eq u it y Sh a r e h olde r s ar e supposed t o be t he ow ner s of t he com pany , w ho

t her efor e, hav e r ight t o get div idend, as declar ed, and a r ight t o v ot e in t he
Annual Gener al Meet ing for passing any r esolut ion.

The act defines a pr e fe r e n ce sh a r e as t hat par t of shar e capit al of the

Com pany w hich enj oy s pr efer ent ial r ight as t o: ( a) pay m ent of div idend at a
fix ed r at e dur ing t he life t im e of t he Com pany ; and ( b) t he r et ur n of capit al
on w inding up of t he Com pany.

But Pr efer ence shar es cannot be t r aded, unlik e equit y shar es, and are
r edeem ed aft er a pr e - decided per iod. Also, Pr e f e r e n t ia l Sh a r e h olde r s do
not hav e v ot ing r ight s.

W h a t d o t e r m s lik e a u t h or iz e d , issu e d , su b scr ib e d , ca lle d u p a n d

p a id u p ca p it a l m e a n ?

§ Au t h or iz e d ca pit a l is t he m ax im um capit al t hat a com pany is

aut hor ized t o r aise.

§ I ssu e d ca p it a l is t hat par t of t he aut hor ized capit al w hich is offer ed

by t he com pany for being subscr ibed by m em ber s of t he public or
anybody.

§ Su bscr ibe d ca pit a l is t hat par t of t he issued capit al w hich is

subscr ibed ( accept ed) by t he public.

§ Ca lle d u p ca p it a l is a par t of subscr ibed capit al w hich has been

called up by t he com pany for pay m ent . For ex am ple, if 10,000 shar es
of Rs. 100 each hav e been subscr ibed by t he public and of w hich Rs.
50 per shar e has been called up. Then t he subscr ibed capit al of t he

78
 Com pany works out t o Rs. 1,00, 000 of w hich t he called up capit al of
t he Com pany is Rs. 50,0000.

§ Pa id U p ca p it a l r efer s t o t hat par t of t he called up capit al w hich has

been act ually paid by t he shar eholder s. Som e of t he shar eholder s
m ight hav e default ed in pay ing t he called up m oney . Such default ed
am ount is called as ar r ear s. Fr om t he called up capit al, calls in
ar r ear s is deduct ed t o obt ain t he paid up capit al.

W hat is t he difference bet w een secured and unsecured loans

under Loan Funds?

Secur ed loans ar e t he bor r ow ings against t he secur it y i. e. against

m or t gaging som e im m ov able pr oper t y or hy pot hecat ing/ pledging som e
m ov able pr oper t y of t he com pany . This is k now n as cr eat ion of char ge,
w hich safeguar ds cr edit or s in t he ev ent of any default on t he par t of t he
com pany . They ar e in t he for m of debent ur es, loans fr om financial
inst it ut ions and loans fr om com m er cial bank s. Not ice t hat in case of t he XYZ
COMPANY LTD. , it w as Rs. 353.34 cr or e as on Mar ch 31, 2005. Th e
unsecur ed loans ar e ot her shor t t er m bor r ow ings w it hout a specific secur it y .
They ar e fix ed deposit s, loans and adv ances fr om pr om ot er s, int er- corporat e
bor r ow ings, and unsecur ed loans fr om t he bank s. Such bor r ow ings am ount
t o Rs. 129.89 cr or e in case of t he XYZ COMPANY LTD.

W hat is m eant by applicat ion of funds?

The funds collect ed by a com pany fr om t he ow ner s and out sider s ar e

em ploy ed t o cr eat e follow ing asset s:

Fixed Asset s: These asset s ar e acquir ed for long- t erm s and are used
for business oper at ion, but not m eant for r esale. The land and
buildings, plant , m achiner y , pat ent s, and copy r ight s ar e t he fix ed
asset s. I n case of t he XYZ COMPANY LTD., fix ed asset s ar e w or t h Rs.
526.75 crore.

I nv est m ent s: The inv est m ent s ar e t he financial secur it ies cr eat ed by
invest ing sur plus funds int o any non- business r elat ed av enues for
get t ing incom e eit her for long- t er m or shor t - t er m . Thus incom es and
gains fr om t he inv est m ent s ar e not fr om t he business oper at ions.

Cur r ent Asset s, Loans, and Adv ances: This consist s of cash and ot her
resour ces w hich can be conv er t ed int o cash dur ing t he business
oper at ion. Cur r ent asset s ar e held for a shor t - t er m per iod for

79
 m eet ing day - t o day oper at ional ex pendit ur e. The cur r ent asset s ar e
in t he for m of r aw m at er ials, finished goods, cash, debt or s,
invent or ies, loans and adv ances, and pr e - paid ex penses. For t he XYZ
COMPANY LTD., cur r ent asset s are w ort h Rs. 1165.20 crore.

Miscellaneous Ex pendit ur es and Losses: The m iscellaneous

ex pendit ur es r epr esent cer t ain out lay s such as pr elim inar y ex penses
and pre- oper at ive expenses not w r it t en off. Though loss indicat es a
decr ease in t he ow ner s’ equit y , t he shar e capit al can not be r educed
w it h loss. I nst ead, share capit al and losses ar e show n separ at ely on
t he liabilit ies side and asset s side of t he balance sheet , r espect ively.

W hat do t he sub- headings under t he Fixed Asset s lik e ‘Gross

block ’ ‘Deprecia t ion’, ‘N et Block ’ a nd Ca pit a l- W ork in
Progress’ m ea n?

The t ot al v alue of acquir ing all fix ed asset s ( ev en t hough at differ ent point s
of t im e) is called ‘Gr oss Blo c k’ or ‘Gr oss Fix e d Asse t ’.

As per account ing conv ent ion, all fix ed asset s ex cept land have a fixed life.
I t is assum ed t hat ev er y y ear t he w or t h of an asset falls due t o usage. This
r educt ion in value is called ‘D e pr e cia t ion ’. The Com panies Act 1956
st ipulat es differ ent r at es of depr eciat ion for differ ent t y pes of asset s and
differ ent m et hods calculat ing depr eciat ion, nam ely, St raight Line Met hod
( const ant annual m et hod) and Wr it t en Dow n Value Met hod ( depr eciat ion
r at e decr eases over a per iod of t im e) .

The w or t h of t he fix ed asset s aft er pr ov iding for depr eciat ion is called ‘N e t
Bl o ck’. I n case of t he XYZ COMPANY LTD., Net Block w as Rs. 464.65 cr or e
as on March 31, 2 0 05.

Gr o ss Blo ck- D e p r e cia t ion = N e t Block

Rs. 9 4 6 . 8 4- Rs. 4 8 2 .1 9 = Rs. 4 6 4 .6 5

Th e c apit al/ funds used for a new plant under er ect ion, a m achine yet t o be
com m issioned et c. ar e ex am ples of ‘Capit al Wor k in Pr ogr ess’, w hich also
has t o be t ak en int o account w hile calculat ing t he fix ed asset s as it w ill be
conver t ed int o gr oss block soon.

80
W hat are Current Liabilit ies and Provisions and N et Current
Asset s in t he balance sheet ?

A com pany m ay r eceiv e m any of it s daily ser v ices for w hich it does not hav e
t o pay im m ediat ely lik e for r aw m at er ials, goods and ser v ices br ought on
cr edit . A com pany m ay also accept adv ances fr om t he cust om er . The
com pany t hus has a liabilit y t o pay t hough t he pay m ent is defer r ed. These
are know n as ‘Cu r r e n t Lia bilit ie s’. Sim ilar ly t he com pany m ay hav e t o
pr ov ide for cer t ain ot her ex penses ( t hough not r equir ed t o be paid
im m ediat ely ) lik e div idend t o shar eholder s, pay m ent of t ax et c. These ar e
called ‘Pr ovision s ’. I n shor t , Cur r ent Liabilit ies and Pr ov isions ar e am ount s
due t o t he supplier s of goods and ser v ices br ought on cr edit , adv ances
pay m ent s r eceiv ed, accr ued expenses, unclaim ed div idend, pr ov isions for
t ax es, div idends, gr at uit y , pensions, et c.

Cur r ent Liabilit ies and Pr ov isions, t her efor e, r educe t he bur den of day - t o-
day ex pendit ur e on cur r ent asset s by defer r ing som e of t he pay m ent s. For
daily oper at ions t he com pany r equir es funds equal t o t he cur r ent asset s less
t he cur r ent liabilit ies. This am ount is called ‘N e t Cu r r e n t Asse t s’ o r ‘N e t
W o r k in g Ca p it a l’. I n case of t he XYZ COMPANY LTD., Net Cur r ent Asset
figur e of Rs. 430.98 cr . has been ar r iv ed at by deduct ing Cur r ent Liabilit ies
( Rs. 595.22 cr .) and Pr ovisions ( Rs. 139 cr .) fr om Cur r ent Asset s w or t h Rs.
1165.20 cr or e.

How is balance sheet sum m arized?

A balance sheet indicat es m at ching of sour ces of funds w it h applicat ion of

funds. I n case of t he XYZ Com pa ny Lt d. , ‘Tot al Funds Em ploy ed’ t o t he t une
of Rs. 1066.31 cr . ar e fr om t he said t w o Sour ces of Funds- Shareholders
Funds and Loan Funds. These funds hav e been ut ilized t o fund Tot al ( Net )
Asset s of Rs. 1 0 6 6 . 3 1 cr . t hat consist of Fix ed Asset s ( Rs. 5 2 6 . 7 5 cr.) ,
I nv est m ent s ( Rs. 108.58 cr .) and Net Cur r ent Asset s ( Rs. 430.98 cr .) .

Thus in a balance sheet ,

Tot a l Ca p it a l Em p loy e d = N e t Asse t s.

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W hat does a Profit and Loss Account st at em ent consist s of?

A Pr ofit and Loss Account show s how m uch pr ofit or loss has been incur r ed
by a com pany fr om it s incom e aft er pr ov iding for all it s ex pendit ur e w it hin a
financial y ear . One m ay also k now how t he pr ofit av ailable for appr opr iat ion
is ar r iv ed at by using pr ofit aft er t ax as w ell as por t ion of r eser v es. Fur t her ,
it show s t he pr ofit appr opr iat ion t ow ar ds div idends, gener al r eser v e and
balance car r ied t o t he balance sheet .

The Box- 2 ex hibit s Pr ofit and Loss Account of XYZ Com pany Lt d. I t em- 1
represent s incom e , I t em s fr om 2 t o 6 show v ar ious ex pendit ur e it em s.
I t ems fr om 7 t o 12 show t he pr ofit s av ailable for appr opr iat ion and it em s 13
( a) , ( b) , and ( c) indicat e appr opr iat ion of pr ofit s.

BOX – 2
PROFI T AN D LOSS ACCOU N T FOR TH E YEAR EN D ED
3 1 ST M ARCH , 2 0 0 5

PARTI CULARS RUPEES RUPEES RUPEES

( in cr or e s) ( in cr or e s) ( in cr or e s)
As at As at
31st March, 31st March,
2005 2004
I N COME
1. SALE OF PRODUCTS AND OTHER I NCOME 2595.99 1969.10

EXPEN DI TURE
2. MANUFACTURI NG AND OTHER EXPENSES 2275.37 1742.54
3. DEPRECI ATI ON 54.26 48.91
4. I NTEREST 81.63 73.63
5. EXPENDI TURE TRANSFERRED TO CAPI TAL
ACCOUNTS 49.82 ( 44.27)
6. TOTAL EXPENDI TURE 2316.44 1820.81

PROFI T BEFORE TAX 234.55 148.29

7. TAX FOR THE YEAR 92.5 45.75

PROFI T AFTER TAX 142.05 102.54

8. I NVESTMENT ALLOWANCE RESERVE
ACCOUNT 4.66 3.55
9. I NVESTMENT ALLOWANCE ( UTI LI SED)
RESERVE WRI TTEN BACK ( 15.2) ( 11.2)
10. DEBENTURE REDEMPTI ON RESERVE ( 0.57) ( 0.57)
11. CAPI TAL REDEMPTI ON RESERVE

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 12. BALANCE BROUGHT FORWARD FROM
PREVI OUS YEAR 86.71 33.65

AM OUN T AVAI LABLE FOR

APPROPRI ATI ONS 217.65 127.97
13. APPROPRI ATI ONS
( a) Proposed Dividends* 41.54 31.26
(b) General Reserve 100 10
( c) Balance credit ed t o Balance Sheet 76.11 86.71
217.65 127.97
14. NOTES TO PROFI T AND LOSS ACCOUNT
* Det ails as per Direct ors Report

As per our report at t ached

t o t he Balance Sheet For and on behalf of t he Board
For XYZ & co. PQR AAA
Chart ered Account ant s, Chairm an BBB
ABC CCC
Partner DDD Directors
For LMN & co. GHI
Vice -
Chairm an
Chart ered Account ant s, and
Managing
DEF Direct or
Partner STU
Mum bai, 10t h July 2004 Secret ary Mum bai, 28t h June 2004

W hat should one look for in a Profit and Loss account ?

For a com pany, t he pr ofit and loss st at em ent is t he m ost im por t ant
docum ent pr esent ed t o t he shar eholder s. Ther efor e, each com pany t r ies t o
giv e m ax im um st r ess on it s r epr esent at ion/ m isr epr esent at ion. One should
con sider t he follow ing:

§ Whet her t here is an overall im provem ent of sales as w ell as profit s

( oper at ing, gr oss and net ) ov er t he sim ilar per iod ( half - yearly or
annual) pr ev ious y ear . I f so, t he com pany ’s oper at ional m anagem ent
is good.

§ Check for t he ot her inc om e car efully , for her e com panies hav e t he
scope t o m anipulat e. I f t he ot her incom e st em s fr om div idend on t he
invest m ent s or int er est fr om t he loans and advances, it is good,
because such incom e is st eady . But if t he ot her incom e is der iv ed by

83
 selling any asset s or land, be caut ious since such incom e is not an
annual occur r ence.

§ Also check for t he incr ease of all expendit ur e it em s viz. r aw m at er ial

consum pt ion, m anpow er cost and m anufact ur ing, adm inist r at iv e and
selling ex penses. See w het her t he incr eases in t hese cost s are m ore
t han t he incr ease in sales. I f so, it r eveals t he oper at ing condit ions
ar e not conduciv e t o m ak ing pr ofit s. Sim ilar ly , check w het her r at io of
t hese cost s t o sales could be cont ained ov er t he pr ev ious y ear . I f so,
t hen t he com pany’s oper at ions ar e efficient .

§ Evaluat e w het her t he com pany could m ake pr ofit fr om it s oper at ions
alone. For t his y ou should calculat e t he pr ofit s of t he com pany , aft er
ignoring all ot her incom e except sales. I f t he profit so obt ained is
posit ive, t he com pany is oper at ionally pr ofit able, w hich is a healt hy
sign.

§ Scr ut inize t he depr eciat ion as w ell as int er est for any abnor m al
incr ease. The incr ease in depr eciat ion is at t r ibut ed t o higher addit ion
of fix ed asset s, w hich is good for long t er m oper at ions of t he
com pany . High depr eciat ion m ay suppr ess t he net pr ofit s, but it ’s
good for t he cash flow . So inst ead of look ing out for t he net pr ofit s,
check t he cash pr ofit s and com par e w het her it has r isen. High
int er est cost is alw ay s a cause of concer n because t he incr eased debt
bur den cannot be r educed in t he short run.

§ Calculat e t he ear nings per shar e and t he v ar ious r at ios. I n case of

half year ly r esult s, m ult iply half year ly ear nings per shar e by 2 t o get
appr ox im at ely t he annualized ear nings per shar e.

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1 0 . RATI O AN ALYSI S

Mer e st at ist ics/ dat a pr esent ed in t he differ ent financial st at em ent s do not
r ev eal t he t r ue pict ur e of a financial posit ion of a fir m . Pr oper ly analy zed and
int er pr et ed financial st at em ent s can pr ov ide v aluable insight s int o a fir m ’s
per for m ance. To ex t r act t he infor m at ion fr om t he financial st at em ent s, a
num ber of t ools ar e used t o analy se such st at em ent s. The m ost popular t ool
is t he Ra t io An a ly sis.

Financial r at ios can be br oadly classified int o t hr ee gr oups: ( I ) Liquidit y

r at ios, ( I I ) Lev er age/ Capit al st r uct ur e r at io, and ( I I I ) Pr ofit abilit y r at ios.

( I ) Liqu idit y r a t ios :

Liquidit y r efer s t o t he abilit y of a fir m t o m eet it s financial obligat ions in t he

short - t erm w hich is less t han a year. Cert ain rat ios, w hich indicat e t he
liqu idit y of a firm , ar e ( i) Cur r ent Rat io, ( ii) Acid Test Rat io, ( iii) Tur nov er
Rat ios. I t is based upon t he r elat ionship bet w een cur r ent asset s and cur r ent
liabilit ies.

Current .Assets
(i) Current ratio =
Current .Liabilitie s

The current rat io m easures t he abilit y of t he firm t o m eet it s cur r ent

liabilit ies fr om t he cur r ent asset s. Higher t he cur r ent r at io, gr eat er t he
short - t erm solvency ( i.e. larger is t he am ount of rupees available per rupee
of liabilit y ) .

Quick . Assets
(ii) Acid-test Ratio =
Current .Liabilitie s

Quick asset s ar e defined as cur r ent asset s ex cluding inv ent or ies and pr epaid
ex penses. The acid- t est r at io is a m easur em ent of fir m ’s abilit y t o conver t
it s cur r ent asset s quick ly int o cash in or der t o m eet it s cur r ent liabilit ies.
Gener ally speak ing 1: 1 r at io is consider ed t o be sat isfact or y .

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( iii) Turnover Rat ios:

Tur nov er r at ios m easur e how quick ly cer t ain cur r ent asset s ar e conv er t ed
int o cash or how efficient ly t he asset s ar e em ploy ed by a fir m . The
im por t ant t ur nov er r at ios ar e:

I nvent or y Tur nover Rat io, Debt or s Tur nov er Rat io, Av er age Collect ion
Per iod, Fix ed Asset s Tur nov er and Tot al Asset s Tur nov er

CostofGoodsSold
Inventory Turnover Ratio =
AverageInventory

Wher e, t he cost of goods sold m eans sales m inus gr oss pr ofit . ‘Av er age
I nv ent or y ’ r efer s t o sim ple av er age of openin g and closing inv ent or y . The
inv ent or y t ur nov er r at io t ells t he efficiency of inv ent or y m anagem ent .
Higher t he r at io, m or e t he efficient of inv ent or y m anagem ent .

NetCreditSales
Debtors’ Turnover Ratio =
AverageAccounts Re ceivable( Debtors )

The r at io show s how m any t im es account s r ec eiv able ( debt or s) t ur n ov er

dur ing t he y ear . I f t he figur e for net cr edit sales is not av ailable, t hen net
sales figur e is t o be used. Higher t he debt or s t ur nov er , t he gr eat er t he
efficiency of cr edit m anagem ent .

AverageDebtors
Average Collection Period =
AverageDailyCreditSa les

Aver age Collect ion Per iod r epr esent s t he num ber of days’ w or t h cr edit sales
t hat is lock ed in debt or s ( account s r eceiv able) .

Please not e t hat t he Average Collect ion Period and t he Account s Receiv able
( Debt or s) Tur nov er are relat ed as follows:

365 Days
Average Collection Period =
DebtorsTur nover

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Fixed Asset s t urnover rat io m easures sales per rupee of invest m ent in fixed
asset s. I n ot her w or ds, how efficient ly fix ed asset s ar e em ploy ed. Higher
r at io is pr efer r ed. I t is calculat ed as follow s:

Net.Sales
Fixed Assets turnover ratio =
NetFixedAssets

Tot al Asset s t ur nov er r at io m easur es how efficient ly all t y pes of asset s ar e

em ployed.

Net.Sales
Total Assets turnover ratio =
AverageTotalAssets

( I I ) Le v e r a g e / Ca p it a l st r u ct u r e Ra t ios:

Long t er m financial st r engt h or soundness of a fir m is m easur ed in t er m s of

it s abilit y t o pay int er est r egular ly or r epay pr incipal on due dat es or at t he
t im e of m at urit y. Such long t erm solvency of a firm can be j udged by using
lev er age or capit al st r uct ur e r at ios. Br oadly t here ar e t w o set s of r at ios:
Fir st , t he r at ios based on t he r elat ionship bet w een bor r ow ed funds and
ow ner ’s capit al w hich ar e com put ed fr om t he balance sheet . Som e such
r at ios ar e: Debt t o Equit y and Debt t o Asset r at ios. The second set of r at ios
w hich ar e calculat ed fr om Pr ofit and Loss Account ar e: The int er est cov er age
r at io and debt ser v ice cov er age r at io ar e cov er age r at io t o leverage risk.

( i) Debt - Equit y r at io r eflect s r elat iv e cont r ibut ions of cr edit or s and ow ner s t o
finance t he business.
Total Debt
Debt-Equity ratio =
Total Equity

Th e desirable/ ideal pr opor t ion of t he t w o com ponent s ( high or low r at io)

varies from indust ry t o indust ry.

( ii) Debt - Asset Rat io: Tot al debt com pr ises of long t er m debt plus cur r ent
liabilit ies. The t ot al asset s com pr ise of per m anent capit al plus cur r ent
liabilit ies.

Total Debt
Debt-Asset Ratio =
Total Assets

87
The second set or t he cov er age r at ios m easur e t he r elat ionship bet w een
pr oceeds fr om t he oper at ions of t he fir m and t he claim s of out sider s.

Earnings Before Interest and Taxes

(iii) Interest Coverage ratio =
Interest

Higher t he int er est cov er age r at io bet t er is t he fir m ’s abilit y t o m eet it s

int er est bur den. The lender s use t his r at io t o assess debt ser v icing capacit y
of a firm .

( iv ) Debt Ser v ice Cov er age Rat io ( DSCR) is a mor e com pr ehensiv e and apt
t o com put e debt ser v ice capacit y of a fir m . Financial inst it ut ions calculat e
t he av er age DSCR for t he per iod dur ing w hich t he t er m loan for t he pr oj ect
is r epay able. The Debt Ser v ice Cov er age Rat io is defined as follow s:

Pr ofit .after.tax + Depreciation + OtherNoncashExpenditure + Interest .on.term.loan

Interest on Term loan + Re payment of term loan

( I I I ) Pr of it a b ilit y r a t ios:

Pr ofit abilit y and oper at ing/ m anagem ent efficiency of a fir m is j udged m ainly
by t he follow ing pr ofit abilit y r at ios:

Gross Profit
(i) Gross Profit Ratio (%) = * 100
Net Sales

Net Profit
(ii) Net Profit Ratio (%) = * 100
Net Sales

Som e of t he pr ofit abilit y r at ios r elat ed t o inv est m ent s ar e:

Pr ofit.Before.Interest . And .Tax

(iii) Return on Total Assets =
FixedAssets + CurrentAssets

Net ProfitAfterTax
(iv) Return on Capital Employed =
TotalCapital Employed

( Her e, Tot al Capit al Em ployed = Tot al Fixed Asset s + Cur ren t Asset s -
Cur r ent Liabilit ies)

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(v) Return on Shareholders’ Equity

Net Pr ofit After Tax

=
AverageTotal Shareholders ' Equity or NetWorth

( Net w or t h includes Shar eholder s’ equit y capit al plus r eser v es and sur plus)

A com m on ( equit y ) shar eholder has only a r esidual claim on pr ofit s and
asset s of a firm , i.e., only aft er claim s of credit ors and preference
shar eholder s ar e fully m et , t he equit y shar eholder s r eceiv e a dist r ibut ion of
pr ofit s or asset s on liquidat ion. A m easur e of his w ell being is r eflect ed by
r et ur n on equit y . Ther e ar e sev er al ot her m easur es t o calculat e r et ur n on
shar eholder s’ equit y of w hich t he follow ing ar e t he st ock m ar k et r elat ed
rat ios:

( i) Ear nings Per Shar e ( EPS) : EPS m easur es t he pr ofit av ailable t o t he equit y
shar eholder s per shar e, t hat is, t he am ount t hat t hey can get on every share
held. I t is calculat ed by dividing t he pr ofit s available t o t he shar eholder s by
num ber of out st anding shar es. The pr ofit s av ailable t o t he or dinar y
shar eholder s ar e ar r iv ed at as net pr ofit s aft er t ax es m inus pr efer ence
div idend.

I t indicat es t he v alue of equit y in t he m ar k et .

Net Profit. Available.To.The.Shareholder

EPS =
Number of Ordinary Shares Outstanding

(ii) Price-earnings ratios = P/E Ratio = Market Pr ice per Share

EPS

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I llust rat ion:

Ba la n ce Sh e e t of ABC Co. Lt d. a s on M a r ch 3 1 , 2 0 05

( Rs. in Cr or e )

Liabilit ies Am ount Asset s Am o unt

Share Capit al 16.00 Fixed Asset s ( net ) 60.00
( 1,00,00,000 equit y shares
of Rs.10 each)
Reserves & Surplus 22.00 Current Asset s: 23.40
Secured Loans 21.00 Cash & Bank 0.20
Unsecured Loans 25.00 Debtors 11.80
Current Liabilities & Provisions 16.00 I nvent ories 10.60
Pre-paid expenses 0.80
I nvestm ents 16.60
Tot al 100 Tot al 100

Pr of it & Loss Accou n t of ABC Co. Lt d . f or t h e y e a r e n d in g on M a r ch

3 1 , 2 0 05 :

Part iculars Am ount Part iculars Am ount

Opening Stock 13.00 Sales ( net ) 105.00

Purchases 69.00 Closing Stock 15.00

Wages and Salaries 12.00

Other Mfg. Expenses 10.00

Gross Profit 16.00

Tot al 1 2 0 .0 0 Tot al 1 2 0 .0 0

Adm inist rat ive and Personnel Expenses 1.50 Gross Profit 16.00

Selling and Dist ribut ion Expenses 2.00

Depreciation 2.50

I nt erest 1.00

Net Profit 9.00

Tot al 1 6 .0 0 Tot al 1 6 .0 0
I ncom e Tax 4.00 Net Profit 9.00

Equity Dividend 3.00

Ret ained Earning 2.00
Tot al 9 .0 0 Tot al 9 .0 0

Market price per equit y share = Rs. 20.00

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Cur r e n t Ra t io = Cur r ent Asset s / Cur r ent Liabilit ies
= 23.40/ 16.00 = 1.46

Quick Ra t io = Quick Asset s / Current Liabilit ies

= Cur r ent Asset s- ( invent or y + pr epaid expenses) / Cur r ent Liabilit ies
= [ 23.40- ( 10.60+ 0.8) ] / 16.00 = 12.00/ 16.00 = 0.75

I n v e n t or y Tu r n ov e r Ra t io = Cost of goods sold/ Average I nvent ory

= ( Net Sales- Gr oss Pr ofit ) / [ ( opening st ock + closing st ock ) / 2]
= ( 105- 16) / [ ( 15+ 13) / 2] = 89/ 14 = 6.36

D e bt or s Tu r n ove r Ra t io = Net Sales/ Aver age account r eceivables

( Debt or s)
= 105/ 11.80 = 8.8983

Av e r a g e Colle ct io n p e r io d = 365 days / Debt ors t urnover

= 365 days/ 8.8983 = 41 days

Fix e d Asse t s Tu r n ov e r r a t io = Net Sales / Net Fixed Asset s

= 105/ 60 = 1.75

D e b t t o Eq u it y Ra t io = Debt / Equit y
= ( 21.00+ 25.00) / ( 16.00+ 22.00) = 46/ 38 = 1.21

Gr oss Pr ofit Ra t io = Gross Pr ofit / Net Sales

= 16.00/ 105.00 = 0.15238 or 15.24%

N e t Pr ofit Ra t io = Net Profit / Net Sales

= 9/ 105.00 = 0.0857 or 8.57 %

Re t u r n on Sh a r e h old e r s’ Eq u it y = Net Profit aft er t ax/ Net w ort h

= 5.00/ ( 16.00+ 22.00) = 0.13157 or 13.16%

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Ab b r e v ia t ion s:

§ NS E- Nat ional St ock Exchange of I ndia Lt d.

§ SEBI - Securit ies Exchange Board of I ndia
§ NCFM - NSE’s Cer t ificat ion in Financial Mar k et s
§ NSDL - Nat ional Securit ies Deposit ory Lim it ed
§ CDSL - Cent ral Deposit ory Ser vices ( I ndia) Lim it ed
§ NCDEX - Nat ional Com m odit y and Der ivat ives Exchange Lt d.
§ NSCCL - Nat ional Secur it ies Clear ing Cor por at ion Lt d.
§ FMC – For w ar d Mar k et s Com m ission
§ NYSE- New Yor k St ock Exchange
§ AMEX - Am erican St ock Exchange
§ OTC- Ov er- t h e- Count er Market
§ LM – Lead Man ager
§ I PO- I nit ial Public Offer
§ DP - Deposit or y Par t icipant
§ DRF - Dem at Request For m
§ RRF - Rem at Request For m
§ NAV – Net Asset Value
§ EPS – Earnings Per Share
§ DSCR - Debt Service Coverage Rat io
§ S&P – St andar d & Poor
§ I I SL - I ndia I ndex Ser v ices & Pr oduct s Lt d
§ CRI SI L- Cr edit Rat ing I nfor m at ion Ser v ices of I ndia Lim it ed
§ CARE - Credit Analysis & Research Lim it ed
§ I CRA - I nvest m ent I nfor m at ion and Cr edit Rat ing Agency of I ndia
§ I SC – I nvest or Ser v ice Cell
§ I PF – I nv est or Pr ot ect ion Fund
§ SCRA - Secur it ies Cont r act ( Regulat ion) Act
§ SCRR – Secur it ies Cont r act ( Regulat ion) Rules

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