NATIONAL LAW SCHOOL OF INDIA UNIVERITY BANGALORE II YEAR ANNUAL EXAMINATION (JUNE) 2012 PAPER I- INVESTMENT LAW

Suggested Answers
Q. 1) Discuss the regulations governing debt securities the bond market;Compare bonds with bond funds? A:

Government Bond Market Provides a risk-free yield curve Liquid, deep, and broad-based market necessary to facilitate optimal government borrowing

Corporate Bond market Providing corporate sector a financing avenue complementary to bank finance Promote financial stability

Debt market: - A key source of capital for corporates is to tap the savings of investor population. It can be in the form of equity or debt. Debt guaranties a fixed rate of return normally above the bank rate. Retail investors, foreign institutional investors, financial institutions, mutual funds Govt etc. are players in the debt market. The debt can be raised in the form of different instruments like debentures, fixed deposits, commercial papers etc. See Page vii of reading material. The subject is covered in chapter IV of reading material. There is a comprehensive coverage under the following headings (a) law (b) market sub-group (c) Rating (d) other requirements for issue and listing (e) participants and products. SEBI has from time to time reapplied the requirements to be complied by issuers. The debt market in India is yet to develop to its full potential. The NSE has a separate segment to deal with debt instruments. The money market investments are also referred to therein. The debt market is regulated by two important legislations SEBI (issue and listing of debt securities), regulations 2008. Also in respect of securitized debt instruments.

Bond funds: mutual funds also issue securities with underlying debt instrument. Q.2) Discuss government policy on FII flows to India as stated in SEBI FII regulations and the impact of flows on the capital market price; what are participatory notes? A: Foreign Institution Investors Regulations issued by SEBI regulates inflow of money by FIIs. Refer 226/231 of reading material. The size of funds brought in byFIIs who represent a large number of foreign high net worth investors is very large running into billions and hence (1) contributes to the liquidity (2) demand (3) better monitoring of corporate governance (4) Analysts opinion being published (5)A linkage with ADR/GDR of Indian companies in foreign stock exchange for arbitrage operations. FII is the single largest investor. The investments by FIIs are being liberalized from time to time both in the equity and debt market and those nonresidents who are either not eligible to invest in India or who do not want to disclose their identity find the FII route as convenient. Participatory notes are like contract notes. These are issued by FIIs to entities those who want to invest in the Indian stock market but do not want to register themselves with the SEBI. FIIs registered with the SEBI and their sub-accounts can issue, deal, or hold P-Notes. The underlying security against these notes would be listed or proposed-to-be-listed securities on any Indian stock exchange. FIIs issue these notes to investors abroad with details of scripts that can be bought and expected returns over specific periods of time. If the client agrees, they deposit the funds with the overseas branch of the FII. Then, the Indian arm of the FII proceeds with the transaction, buying the scripts in the Indian market and settling it on its own account. The details of the ultimate investor are not revealed at all in the Indian market or to the SEBI.

Foreign Institutional Investor (FII) Investment in to be listed debt securities

SEBI has allowed FIIs to invest in to be listed debt securities. Accordingly, it has been decided that SEBI registered FIIs/ sub- accounts of FIIs can now invest in primary issues of NonConvertible\\ Debentures (NCDs) / bonds only if listing of such bonds/ NCDs is committed to be done within 15 days of such investment. In case the NCDs / bonds issued to the SEBI registered FIIs / sub-accounts of FIIs, are not listed within 15 days of issuance to the SEBI registered FIIs/sub- accounts of FIIs, for any reason, then the FII/sub- account of FII shall immediately dispose of these bonds/ NCDs either by way of sale to a third party or to the issuer and the terms of offer to FIIs / sub accounts should contain a clause that the issuer of such debt securities shall immediately redeem / buyback the said securities from the FIIs/ sub- accounts of FIIs in such an eventuality.

Q.3) Qualified foreign investors (QFIS) can enter the India capital market; also India investors can now invest in shares of foreign companies abroad. Indicate the regulatory aspects governing such investments? A: In a major policy decision, the Central Government has decided to allow Qualified Foreign Investors (QFIs) to directly invest in Indian equity market in order to widen the class of investors, attract more foreign funds, and reduce market volatility and to deepen the Indian capital market. QFIs have been already permitted to have direct access to Indian Mutual Funds schemes pursuant to the Budget announcement 2011-12. Foreign Capital inflows to India have significantly grown in importance over the years. These flows have been influenced by strong domestic fundamentals and buoyant yields reflecting robust corporate sector performance. In the present arrangement relating to foreign portfolio investments, only FIIs/sub-accounts and NRIs are allowed to directly invest in Indian equity market. In this arrangement, a large number of Qualified Foreign Investors (QFIs), in particular, a large set of diversified individual foreign nationals who are desirous of investing in Indian equity market do not have direct access to Indian equity market. In the absence of availability of direct route, many QFIs find difficulties in investing in Indian equity market. As a first step in this direction, QFIs have been permitted direct access to Indian Mutual Funds schemes pursuant tothe Budget announcement 2011-12. As a next logical step, it has now been decided to allow QFIs to directly invest in Indian equity market in order to widen the class of investors, attract more foreign funds, and reduce market volatility and to deepen the Indian capital market. The QFIs shall include individuals, groups or associations, resident in a foreign country which is compliant with FATF and that is a signatory to IOSCOs multilateral MoU. QFIs do not include FII/sub-accounts. Salient Features of the Scheme: RBI would grant general permission to QFIs for investment under Portfolio Investment The individual and aggregate investment limit for QFIs shall be 5% and 10% respectively of the paid up capital of Indian company. These limits shall be over and above the FII and NRI investment ceilings prescribed under the PIS route for foreign QFIs shall be allowed to invest through SEBI registered Qualified Depository Participant (DP). A QFI shall open only one demat account and a trading account with any of
3

Scheme (PIS) route similar to FIIs.

investment in India.

the qualified DP. The QFI shall make purchase and sale of equities through that DP DP shall ensure that QFIs meet all KYC and other regulatory requirements, as per the relevant regulations issued by SEBI from time to time. QFIs shall remit money through normal banking channel in any permitted currency (freely convertible) directly to the single rupee pool bank account of the DP maintained with a DP shall be responsible for deduction of applicable tax at source out of the redemption proceeds before making redemption payments to QFIs. designated AD category - I bank. Upon receipt of instructions from QFI, DP shall carry out the transactions (purchase/sale of equity). only.

Risk management, margins and taxation on such trades by QFIs may be on lines similar to the facility available to the other investors. The scheme is expected to help increase the depth of the Indian market and in combating volatility besides increasing foreign inflows into the county.

Q.4) What is De-listing of shares? Under what circumstances or for what benefit delisting is done? Analyses the issues with reference to procedure laid down by SEBI and its disadvantages for the investor? A: De-listing of shares is now fully regulated.It could be (1) voluntary for foreign companies in enhancing their holdings by buy back (2) for reasons of default as ordered by SEBI. The process is regulated by SEBI (De-listing of Equity Shares) Regulation 2009.Refer page no: 223of reading material. Q. 5) Write short notes: a) Investors grievance b) Unlisted public companies preferential allotment c) Promoter holding redressal disclosures A: a) Investors grievance redressal: It has two components. 1. Protection against unfair practices,insider trading, misrepresentation in public offer document 2. Individual grievance Processing of investor complaints against listed companies in SEBI Complaints Redress System (SCORES)

The SEBI has issued Circular No.CIR/ MRD/DP/7/2012 dtd13.04.2012 stating that it has commenced processing of investor complaints in a centralized web-based complaints redress system SCORES. All listed companies are required to obtain authentication on SCORES.

Every stock exchange in respect of exchange transaction has a mechanism in-place to redress investorsgrievances. Sec 23 C of SCRA provides penalty for failure to redress.Pursuant/concerns expressed by investors and facilitate early redressal of investor grievances, it has been decided to mandate that stock exchange having nationwide terminals (such as NSE, BSE, MCX-SX and USEIL), functional stock exchange having trading volumes stock exchange entering in to MOUs with other exchanges and stock exchanges intending to recommence trading operations shall continue IGRC(Investor Grievance Redressal Committee) at every investor service center. It is provided that the composition of IGRC shall be as follows: The IGRC shall comprise of a single person for claims up to Rs25 lakh, whereas, for claims above Rs. 25 lakh, the IGRC shall comprise of three persons. The IGRC shall comprise of independent persons with qualification in the area of law, finance, accounts, economics, management and administration and experience in financial service, including securities market. Further the three member committee shall comprise of at least one technical expert for handling complaints related to technology issues (such as internet based trading, etc.). The member of IGRC shall not be associated with a trading member in any manner. 3. SEBI has issued (Investor protection and education fund) Regulations,2009 See page 207 of reading material investor protection fund at NSE. Categories listed in the regulations Investor are affected or likely to be affected by Mis-statement, misrepresentation or omission in connection with the issue. Sale or purchase of securities. Non receipt of securities allotted or refund of application monies paid by them; Non-payment of dividend Default in redemption of securities or non-payment of interest in terms of the offer document. Fraudulent & unfair trade practice or market manipulation Such other market misconduct which in the opinion of the board may be deemed appropriate but does not include any proceeding where the board is a party or where the board has initiated any enforcement action. 4. Lasting agreement- Corporate Governance clause 49 obligation of companies to report on redressal of investment gravidness . 5. SEBI: (Prohibition of insider trading)Regulations 1992 (Prohibition of fraudulent and unfair trade practice)
5

6.

Rating Institutions: all debt instruments must be compulsorily rated this alerts the investor as to the quality of debt instruments. b). Unlisted public companies Because of delegation under companies act SEBI can also regulated essue of shares by unlisted companies UNLISTED PUBLIC COMPANIES (PREFERENTIAL ALLOTMENT) AMENDMENT RULES, 2011 The Unlisted Public Companies (Preferential Allotment) Amendment Rules, 2011 have been notified on 14 December 2011. Some of the important amendments made by the Rules to the Unlisted Companies (Preferential Allotment) Amendment Rules, 2003, include the following: The definition of 'preferential allotment' has been modified to include issue of instruments convertible into shares on a preferential basis under Section 81(1A) of the Companies Act, 1956. Any offer of securities to more that forty-nine persons has been excluded from the definition of 'preferential allotment'. Any offer or invitation of securities not in compliance with Section 81(1A) read with Section 67(3) of the Companies Act, 1956 will be treated as a public offer and the provisions of Securities Contracts (Regulation) Act, 1956 and the Securities and Exchange Board of India Act, 1992 shall apply. All monies payable on subscription of securities will be paid through cheque, demand draft or other Banking channels and not by cash. Any allotment of securities will be completed within sixty days from receipt of application money. If the company is unable to allot the securities within sixty days it shall repay the application money within 15 days thereafter, failing which the company will be required to re-pay the application money with interest chargeable at the rate of 12% per annum. No company offering securities shall release any public advertisement or utilize any media,

Marketing or distribution channels to inform the public about such an offer. c) Promoter holding disclosures Corporate governance report : p221 distribution of shareholding Take over regulation Inside trading regulation List agreement regulation

The annual report should category wise disclose investors indicating promoters holding, if pledged such information. This helps the investors to understand the extent of holdings and how the promoter holdings fluctuate from time to time.
6

Q.6 Describe the role of a merchant banker in the capital market? A: chapter 7 of reading material also seesSEBI (Merchant bankers) Regulation 1992. a) Role in an IPODrafting of offer document. Due diligence Pricing book building other certificates and data for investor decision making. b) Role in buy back of shares and take overs, The merchant banker is an important high net worth intermediary register with SEBI (eg.Banks) and is designed to protect the interest of investors in the capital market at the time of public issue, right issue, buy back, Take over etc. Refer to the detailed regulations and in particular due diligence exercise. Disclosure of track record of the public issues managed by merchant bankersSEBI regulations require that the offer document shall contain adequate disclosures so as to enable investors to take well informed investment decisions. Further, a merchant banker is required to exercise due diligence and satisfy himself about all the aspects of the issue including the veracity and adequacy of disclosures in the offer documents. Hence, it is being necessary for investors to evaluate the post-issue performance of the issue in terms of disclosures made in the offer documents. Accordingly it is now decided, in consultation with the merchant bankers, that they shall disclose the track record of the performance of the public issues managed by them. The track record shall be disclosed for a period of three financial years from the date of listing for each public issue managed by the merchant banker, the format for disclosure of track record is given in the Annexure to this circular. The track record shall be disclosed on the website of the merchant banker and a reference to this effect shall be made in the offer documents of public issues managed in the future. In case more than one merchant banker is associated with a public issue, all merchant bankers who have signed the due diligence certificate, as disclosed in the offer document, shall disclose the track record.