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Second Year B.Com., LL.B.(Hons.

) Degree Course
Third Semester Study
Material for the Subject


Prepared by Subject
Faculty Dr. T. S. Agilla
Assistant Professor in
Commerce Tamil Nadu
National Law School,
Tiruchirappalli 620
Unit - I


Financial system

Financial system is one system which supplies the necessary financial

inputs for the production of goods and services which in turn promote the
wellbeing and standard of living of the people of a country.

Functions of the financial system

Provision of Liquidity

The major function of the financial system is the provision of money and
monetary assets for the production of goods and services. There should
not be any shortage of money for productive ventures.


In financial language the money and monetary assets are referred to as


The term liquidity refers to cash or money and other assets which can be
converted into cash readily without loss.

Hence all activities in a financial system are related to liquidity-either

provision of liquidity or trading in liquidity.

Monopoly power to R.B.I for issuing coins and currency notes

In India the R.B.I has been vested with the monopoly power of issuing
coins and currency notes commercial banks can also create cash
(deposit) in the form of credit creation and other financial institutions also
deal in monetary assets.

RBI is the leader of the financial system and hence it has to control the
money supply and creation of credit by banks and regulate all the financial
institutions in the country. RBI develops sound financial system.

It has to develop a sound financial system by strengthening the institutional

structure and by promoting savings and investment in the country.

2.Mobilisation of savings

Another important activity of the financial system is to mobilizesavings and

channelize them into productive activities.[For example Banks mobilize
savings and from customers and provide loans to industries for carry out
production]. Attractive incentives to be given to mobilize savings. Financial
system should offer appropriate incentives to attract savings and make them
available for productive venture.The financial system facilitates the
transformation of saving into investment and consumption.

Features of financial system

Financial system provides an ideal linkage between depositors and

investors, thus encouraging both savings and investment.

Financial system facilitates expansion of financial markets over space

and time.

Promotes efficient allocation of financial resources for socially desirable

and economically productive purposes.

Financial system influences both the quality and the pace of economic

Financial concepts

An understanding of the financial system requires and understanding of the

following concepts.

1.Financial Assets

2.Financial Intermediaries

3.Financial Market

4.Financial Rates of Return

5.Financial Instruments.

Financial Assets:

In each financial transaction there should be a creation or transfer of financial

asset. Hence the basic product of any financial system is the financial asset. A
financial asset is a tangible asset whose value is derived from a contractual
claim such as bank deposits bonds and stocks.

A Financial asset is one which is used for production or consumption or

for further creation of assets. [Financial assets are usually more liquid
than other tangible assets such as commodities or real estate.]

For instance, A buys equity shares and these shares are financial assets
since they earn income in future.

The capital amount (is raised) gathered by way of issuing shares will be
utilized for production work.

Distinction between the financial assets and physical assets .

Financial asset is one which is used for production or consumption or for

further creation of asset or income physical assets are not useful for
further production of goods or for earning income.For example, X
purchases land and building or gold and silver.These are physical assets
since they cannot be used for further production.

Many physical assets are useful for consumption only.

It is interesting to note that the objective of investment decides the nature of the
assets.For instance if a building is bought for residence purpose, it becomes a
physical asset.If the same is bought for hiring it becomes a financial asset.
Classification of Financial Assets.

Financial assets can be classified differently under different

circumstances one such classification is

Marketable Assets

Non- Marketable Assets.

Marketable Assets Marketable Assets are those which can be easily

transferred from one person to another without much hindrance
Examples shares issued by companies, Government Security bonds of
public sector undertaking etc.

Non Marketable Assets - On the other hand if the assets cannot be transferred
easily, they come under this category.Examples-Bank Deposits, Provident Funds
Pension fund, National savings certificate Insurance policy etc.

Another Classification of Financial Assets.

Money or cash assets

Debt Assets

Stock Assets

Money or cash assets- In India all coins and currency notes are issued by the
R.B.I and the Ministry of Finance Government of India [Cash assets include
anything you own such as savings, shares, stocks, loan to other].Commercial
banks can also create money by means of creating credit. When loans are

sanctioned liquid cash is not granted Instead of that an account is opened in the
borrowers name and a deposit is created .It is also a kind of money asset.

2.Debt Asset. Debt asset is issued by a variety of organizations for the purpose of
raising their debt capital.Debt capital is a fixed repayment schedule with regard to
interest and principal.Different ways of raising debt capital is as follows issue of
debentures, raising of term loans, working capital advance etc..

3.Stock Assets.- Stock is issued by business organizations for the

purpose of raising their fixed capital.

There are two types of stock namely



Equity- Equity shareholders are the real owners of the business and they enjoy
the fruits of ownership and at the same time bears the risks as well.

Preference Share holders- Preference share holders gets a fixed rate of

dividend ( as in the case of debt assets) and at the same time they retain
some characteristics of equity.

Financial Intermediaries

The term intermediaries includes all kinds of organizations which intermediate

and facilitate financial transactions of both individuals and corporate
customers.It refers to all kinds of financial institutions and investing institution
which facilitate financial transactions in financial markets.
They may be classified into two:

Capital Markets Intermediaries

Money Market Intermediaries.

Capital Market Intermediaries: These intermediaries provide long term

funds to individuals and corporate customers they consist of term landing

institutions like financial corporations and investing institutions like
development Banks, Insurance, UTI, Companies [LIC and GIC],
Agriculture financing institutions, Government P.F, NSC, IRBI, Exim Bank,
NBI Company.

Money Market Intermediaries :Money market intermediaries supply only

short term funds to individuals and corporate customers they consist of
commercial banks, co-operative banks etc. Example RBI, Commercial
Banks, Co-Op Banks, P.O savings, Government Treasury Bills.


Financial Markets in India

There is no specific place or location to indicate a financial market

whenever a financial transaction takes place it is deemed to have taken
place in the financial market.

For instance issue of equity shares, granting of loan by term lending

institutions, deposit of money in to a bank, purchase of debenture sale of
shares and so on .

Financial Markets

Financial markets can be referred to as those centers and arrangements

which facilitate buying and selling of financial assets, claims and services.
We find the existence of a specific place or location for a financial market
as in the case of stock exchange.

Classification of Financial Markets

The classification of financial markets in India are classified as follows :

1. Unorganized Markets

In these unorganized markets there are a number of money lenders,
indigenous bankers, traders (who lend and collect deposits from the
public) private finance companies (Indigenous bankers are private firms
or individuals who operate as banks and receive deposits and give
loans), Chit funds etc whose activities are not controlled by the RBI.

The RBI has already taken some steps to bring private finance
companies and chit funds under its strict control by issuing Non
banking financial companies Reserve Bank Direction 1998.
2). Organised Markets

In the organized markets there are standardized rules and regulations

governing their financial dealings. There is also a high degree of
institutionalization and Instrumentalisation. These markets are subject to
strict supervision and control by the RBI or other regulatory bodies.

These organized markets can be further classified into two

Capital Market

Money Market

1.Capital Market The capital market is a market for financial assets

which have a long maturity generally it deals with long term securities
which have a maturity period of above one year.

Capital Market may be further divided in to three namely

Industrial Securities Market

Government Securities Market

Long Term Loans Market

I . Industrial Securities Market

It is market for industrial securities namely (i) Equity shares or ordinary

shares (ii) Preference shares (iii) Debentures or bonds.

It is a market where industrial concerns raise their capital or debt by

issuing appropriate instruments .It can be further divided in to two they
are. 1.Primary market

2. Secondary market

1. Primary Market : Primary market is a market for new issues or new

financial claims. Hence it is called new issue market. The primary market
deals with those securities which are to the public for the first time. There
are three way by which a company may raise capital in a primary market

Public Issue

Right Issue

Private Placement.

Public Issue - The most common method of raising capital by new

companies is trough sale of securities to the public it is called public issue.

Rights Issue - When an existing company wants to raise additional

capital, securities are first offered to the existing of share holders on a pre-
emptive basis [Relating to the purchase of goods or shares by one person
or party before the opportunity is offered to others].It is called rights issue.

Private Placement - Private placement is a way of selling securities

privately to a small groups of investors.

2.Secondary Market - Secondary market is a market for secondary

sale of securities. Securities which have already passed through the
new issue market are traded in this market. Generally such securities
are quoted in the stock exchange and it provides a continuous and
regular market for buying and selling of securities. This market consists
of all stock exchange recognized by the government of India.

II) Government Securities Market:

It is otherwise called Gilt- Edged Securities[High grade bonds issued by

Government for firm]. It is a market where Government securities are
traded. In India there are many kinds of GovernmentSecurities short
term and long term.Long term securities are traded in this market while
short term securities are traded in the money market.

Securities issued by the central Government, State Government., Semi-

Government authorities like City Corporations, Port trusts etc. State

Electricity Boards, all India and State level institutions and public sector
enterprises are dealt in this market.

The role of brokers in marketing these securities is practically limited and

the major participant in this market is commercial banks.

The secondary market for these securities is very narrow since most of the
investors tend to retain these securities until maturity. Example -stock
certificates, promissory notes, Bearer bond.

III) Long Term Loans Market:

Development banks and commercial banks play a significant role in this

market by supplying long term loans to corporate customers.

Long term loans market may further be classified into

Term Loans Market

Mortgage Market

Financial Guarantees Market

Term Loans Market

Many industrial financing institutions have been created by the

Government. both at the national level and regional levels to supply long
term and medium term loans to corporate customers. Industrial financing
is done by developmentbanks. Institutions like IDBI, IFCI, ICICI and other
state financial corporations come under this category. These institutions
meet the growing and varied long term financial requirement of industries
by supplying long term loans.They also help in identifying investment
opportunities, encourage new entrepreneurs and support modernization

2. Mortgages market:

The mortgages market refers to those centers which supply mortgage loan
mainly to individual customers. A mortgage loan is a loan against the security of
immovable property.LIC & HUDC [Housing and urban development corporation]
play a dominant role in financing residential projects.
Financial Guarantees market:

A guarantee market is a centre where finance is provided against the guarantee

of a reputed person in the financial circle.Guarantee is a contract to discharge
the liability of a third party in case of his default. If the borrower fails to repay the
loan, the liability falls on the shoulders of the guarantor. The guarantor must be
known to both the borrower and the lender.


Money market is a market for dealing with financial assets and securities
which have a maturity period of up to one year.It is a market for purely
short term funds.

The money market may be out divided into four. They are:

Call Money Market

Commercial Bills Market

Treasury bills Market

Short term loan Market

1)Call Money Market- The call money market is a market extremely short
period loans say one day to fourteen days, so it is highly liquid. Call money
market is for inter-bank lending and borrowing. The loans are repayable on
demand at the option of either the lender or the borrower.

In India call money markets are associated with the presence of stock
exchange and hence they are located in major industrial towns.The Special
feature of this market is that the interest rate varies from day today and even
from hour to hour and centre to centre.[Bill of exchange or trade bill is an
instrument containing an unconditional order signed by the maker, directing a
certain person to pay a sum of money to the bearer of the instrument]. It is
very sensitive to changes in demand and supply of call loans.

Commercial Bills Market - It is a market for bill of Exchange arising out of

genuine trade transactions. In case of credit sale the seller may draw a bill of
exchange on the buyer. The buyer accepts such a bill promising to pay at a
later date specified in the bill. The seller need not wait until the due date of
the bill. Instead he can get immediate payment by discounting the bill.The
commercial banks play a significant role in this market.

Treasury Bills Market - It is a market for treasury bills which have short
term maturity. A treasury bill is a promissory note or a finance bill issued
by the government. [They were issued for 91 days but now they there
are issuance for 182 and 364days]. It is highly liquid because its
repayment is guaranteed by the Government.[These treasury bills are
floated through auction and conducted by RBI]. It is an important
instrument for short term borrowing of the Government [RBI as the
leader and controller of money market buys and sells treasury bills].

Two Types of Treasury Bills :

1.Ordinary or Regular-Ordinary treasury bills are used to the public

bank and other financial institutions with a view of raising resources for
the Central Government to meet its short term financial needs.

2. Adhoc Treasury Bills - Adhoc treasury bills are issued in favour of
the RBI only. Adhocs are not marketable in India but holders of these
bills can sell them back to RBI.

4) Short-Term Loan Market- It is a market where short loans are given

to corporate customers for meeting their working capital requirements.
Commercial banks play a significance roll in this market.

Commercial banks provide short term loans in form of cash credit and
overdraft over graft facility is mainly given to business people whereas
cash credit is given to industrialists. Over draft is given in the current
account itself. Cash credit is for a period of one year and it is
sanctioned in a separate account.

Foreign Exchange Market-The term foreign exchange refers to the process of

converting home currencies into foreign currencies. According to Paul Einzing,
Foreign exchange is the system or process of converting one national currency
into another and of transferring money from one country to another.

The market where foreign exchange transactions take place called a

foreign exchange market. It consists of number of dealers and banks and
brokers engaged in the business of buying and selling foreign exchange.

The foreign exchange business are controlled by the foreign exchange

regulation act (FERA).

Financial Rates of Return :

Investments in financial assets like equities in capital market fetches

more return than investments in Gold(physical). The return on
government securities and bonds are comparatively less than on the
corporate securities due to lower risk. The Government and RBI
determines the interest rates on Government securities.

The interests rates are administered and controlled. The interest rate
structure for bank deposits and bank credit is determined by the RBI.

Financial Instruments Financial instruments refers to those

documents which represents financial claims on assets.

Financial assets refers to a claim at repayment of a certain sum of

money at the end of a period together within interest or dividend.

Financial instruments may be categorized into :

1.Money Market Instruments.

2. Capital Market Instruments.

1. Money Market Instruments.

Money market instruments which deals in the money market are of short
term nature .Their maturity period varies between 14 and 364 days.

Examples are Treasury or short term financial bills - Issued by the Government
they are highly liquid and risk free as they are guaranteed by the Government.

Bills of exchange or trade bills - It is an instrument in writing of containing and

unconditioned orders signed by the maker directing a certain person/bank to pay
sum of money to a third party mentioned in the bill at a future date.

Finance Bills - These bills are payable immediately after the expiry of
time period mentioned in the bill.

Commercial Papers(CPs)

Short term promissory notes with a fixed maturity. It is issued by

corporates belonging to Financial or non-finance organization.

Certificate of Deposits (CDs)

CDS or short term deposits by way of issuance promissory notes

payable on fixed data and having short term maturity not less than 3
months and not more than 1 year .

Capital Market Instruments

Capital market is a place where long term funds required by business

enterprises are provided. Various types of securities are dealt with in the
capital market.The commonly traded securities of the capital market.

Ordinary shares or equity shares

Preferable Shares

No Par Stock

Unit - I

Financial Services


Financial services constitute an important component of the financial system.

Financial services through the network of elements such as financial
institutions,financial markets such as markets and financial instruments serves the
need of individuals, institutions and corporate.Through these elements that the
functioning of the financial systems is facilitated

.financial services are regarded as the fourth element of the financial system.

Financial Services Concept

Services that are offered by financial companies denotes financial

services. Financial companies include both asset management
companies and liabilities of management companies.

Asset management companies include leasing companies, mutual funds,

merchant bankers and issue/portfolio managers. Liability management
companies comprise of the bill discounting and acceptance houses.

Financial Services- Objectives/Functions

Following are the objectives of financial services that are generally offered
to financial companies.

Fund Raising - Financial Services help to raise the required funds from a
host of investors, individuals, institutions and corporate for this purpose,
various instruments of finance are used.

Funds Deployment - In array of financial services are available in financial
markets which help the players to ensure an effective deployment of the
funds raised.Financial services assist in the decision making regarding the
financial mix. Services such as bill discounting of factoring of debtors, parking
of short term funds in the money market, credit rating e-commerce and
securitization of debts are provided by financial services firms in order to
ensure efficient management of funds.

Specialized Services - The financial services sectors provides specialized

services such as credit rating, venture capital financial lease of financing.
factoring, mutual funds, merchants banking, stock lending, depository, credit
cards, housing finance, book building, etc.. besides banking and insurance.
Institutions and Agencies such as stock exchanges, specialized and general
financial institutions, non-banking finance companies, subsidiaries of financial
institutions, banks and insurance.

Regulation -There are agencies that are involved in the regulation of the financial
service activities. In India, agencies such as the Securities and Exchange Board of
India (SEBI), Reserve Bank of India (RBI) and the department of banking and
Insurance of the Government of India through many legislations regulate the
functions of the financial services institutions. E

Economic growth - Financial services contributing to spending of up the

process of economic growth and development this takes place through the
mobilization of the savings of a cross section of the people for the purpose
of channeling them in to productive investments.

It is to be noted that a number of developed and developing countries
which have a highly efficient financial market, have witnessed a greater
rate of savings and investments.

1. Leasing Companies

Companies that undertake leasing is known as lease financing

2. Mutual funds

Mutual funds are trusts that pool the savings of innumerable small investors
for the purpose of making investment in various financial instruments capital
market and money marketto provide reasonable return

3. Merchant Bankers

A set of financial institutions that are engaged in providing specialist

services which generally include the acceptance of bill of exchange,
corporate finance, portfolio MG--- and other banking services are
known as Merchant Bankers.

4.Port Folio Management.

Making decisions relating investments of the cash resources of a corporate

enterprise in marketable securities by deciding the quantum timing and type of
security to be bought is known as portfolio management.


Financial Services are characterized by the following :

Intangibility - The basic characteristics of financial services are tangible in

nature .for financial services to be successfully created and marketed the

institutions providing them must gain good and confidence of its clients.
Quality and innovativeness of services are the focal points for building
credibility and gaining the trusts of the clients.

Customer Orientation - The institutions proving the financial services
study the needs of the customers in detail based on the results of the
study they come out with innovative financial strategies that give due
regard to costs, liquidity and maturity considerations for various financial
products this way financial services are customer orientated.

Inseparability - The functions of producing and supplying financial

services have to be carried out simultaneously their calls for a perfect
understanding between the financial services firms and their clients.

Perishability - Financial services have to be created and delivered to

target clients they cannot be stored. They have to be supplied according
to the requirements of customers.

Hence it is imperative that the providers of financial services ensure a

match between demand and supply.

5.Dynamism - The financial services must be dynamic they have to be

constantly redefined and refined on the basis of socio-economic
changes occurring in the economic such as disposable income, standard
living level of education are

Financial services institutions must be proactive in nature, and evolve

new services by visualizing the expectations of the market.

Various Financial Services

The financial services may be classified in to two groups

Fund or Asset - based financial services Fee- based financial services

Fund or Asset based financial services

Lease Financing

Hire Purchase Finance and consumer credit Factoring and forfaiting

Bills discounting housing finance

Insurance services

Venture capital financing

Fee based Advisory Services

The emerging financial services sector in India also provide fee-based

advisor services to corporate enterprises.

These services include the mgt. either by making arrangement regarding

selling, buying or subscribing to securities and they render corporate
advisory services in relation to such issue mgt.

The institutions or persons engaged in such activities are merchant

bankers, stock brokers, credit rating agencies etc.

Constituents of the Financial Services Sector

The financial services sector constitutes the following elements.

1. Government The Central Government is the most important

constituent of the financial services sector. It has wide powers under
various acts to regulate the sector.

2. Regulatory Agencies- In India, SEBI and Reserve Bank of India act

as the regulatory agencies in the sector.

3.Financial Institutions- Various financial institutions also play an

important role in the sector.

4. Other Constituents- The financial services sector has the following three

major elements:

Instruments- These include public issue of shares, debentures, fixed
deposit certificates etc.

Market Players- Banks, financial institutions, mutual funds, stock

exchanges, merchant bankers, portfolio managers, stock brokers, non-
banking financial institutions, financial consultants etc..are included.

Specialized financial institutions

1.These institutions include the Credit Rating Information Services of India

Ltd (CRISIL). It was promoted jointly by ICICI other shareholders such as
Asian development and UTI in 1987 LIC, SBI, HDFC and GIC.

2.The Information and Investment Credit Rating Association (IICR).

Promoted by IFCI Ltd, which capital and other shareholders holds 26% of
the shares SBI, UTI, PNB, LIC, GIC, Exim Bank are important credit
Rating agencies.

The Discount and Finance House of India Ltd (DFHIL). Recent

Development of money market for widening and deepening of the market
where banks and financial institutions are participants.

The stock Holding Corporation of India Ltd (SHCIL). It helps investors to

buy and sell securities in the secondary market.

The Over-the-Counter Exchange of India (OTCEI) is a Over the counter

market is a place where the buyers seek out sellers and sellers seek out
buyers and they arrange term.

Activities of the Financial Services Sector

The financial services sector is involved in two types of activities.

Fund based activities

Non-Fund based activities

Fund-Based Activities

These include underwriting of or investment in shares, debentures or

bonds of new issues, dealing in secondary market, participating in money
market, equipment leasing, hire purchase venture capital. It also
participates in foreign exchange activities.

Non-Fund based Activities

A part from the provision of finance, the customers, both individual and
corporation expect more from financial services sector so it has come forward to
render a large variety of services such as management capital issues, making
arrangements for the placement of capital and debt instruments and
arrangements of funds from financial institutions etc.It also undertakes the
responsibility of getting all government and other clearness.

In addition to the above activities this sector does a large number of other
services to their clients. For example, rendering project advisory services,
plan mergers and acquisitions and guiding in capital restructuring.

Essentials of an Ideal Financial Services Industry:

The customers should have easy access to organized capital or money

markets and financial services industry.

The customers should be able to transact a reasonable qty. of securities at

a shout notice.

The people should be able to invest in a wide range of securities which fit
their return expectations.

There should be access to people for sound financial counseling and

fiduciary services at a competitive price.

Capital borrowers and investors should have easy and timely access to
capital markets.

Corporations should have flexibility in their financial decisions.

Report and findings of credit agency should be made available to

corporations and investors.

There should be efficient allocation of capital whereby the surplus capital

gets allocated to the most desirable investment opportunities to meet the
requirements of public policy.

The Government should be able to implement efficiently the monetary and

fiscal policy initiatives wing the capital markets.

10. The participants in the financial service industry should have the ability
to enter and exit with minimal costs and offer products and services and
offer products and services that the market may need.


Regulation of Financial services

The Indian financial services sector is regulated by


The Reserve Bank of India

The Securities and Exchange Board of India (SEBI).

Government -The Central Government has extensive power to regulate the

financial services sector.It Exercises control by various acts, rules, directives,
guidelines, notifications etc.The issue of capital is regulated by :

The companies Act 1956

The capital Issues (Control) Act 1947

The capital Issues (Exemption) order 1969.

The capital Issue (Application for consent) Rules 1966.

The stock exchanges are regulated by the securities contracts
(Regulation) Act 1956.

The Securities contracts (Regulation) Rules 1957 The notification of stock


Reserve Bank of India

The Reserve Bank of India (RBI) is the apex institution in the Indian Financial
system. It has wide powers to control the money and capital markets. It ensures
the efficient functioning of the financial system by keeping a watch on the
development and disturbances in. It influences the operations of the financial
system through regulation on the banking system.

Securities and Exchange Board of India (SEBI)

The Securities and Exchange Board of India (SEBI) was set up in 1988 as
a non-statutory body. In January 1992, it was made a statutory body. The
objectives of SEBI are to

Protect the interests of the investors in securities.

Promote the development of the Securities market.

Regulate the securities market.

SEBI is authorized to regulate all merchant banks on issues activities and

to regulate mutual funds by issuing guidelines and supervising.SEBI in
consultation with the Government has taken a number of steps to
introduce improved practices and greater transparency in the capital
markets in the interests of the investing public and the healthy
development of the capital market.

Unit - I


Now banks have begun to render many innovative services to their

customers for the sake of providing better convenience to them.

The innovation of credit card is one among the many services provided
by the modern banker.

Origin of credit Card

The forerunner of todays payment card was the shoppers plate which
was introduced in USA in the 1920s. It was an early version of the
modern store card. It could be used in the shops which issued it and
offered shoppers a basic form of credit-buy now pay latter.

In India, the central Bank of India was the first bank to introduce credit card
known as central card in the middle of 1981.The Grindlays Bank was the first
foreign bank in India to make a credit card available to its customers. It has over
280 million card holders across the globe and 28,000 establishments through
India and Nepal that accept the Visa cards.

The Citibank the world largest bank card company with over 30 million card
holders has added another 65,000 members to its Network in India, by taking
over the countrys oldest credit card franchise the Diners club, with the approval
of the Reserve Bank of India.The Bank of India, Bank of Baroda, Dena Bank,
Andhra Bank, Canara Bank, Vijaya Bank and Union Bank of India also have
launched new credit card facility. The State Bank of India introduced a different
type of card known as State Bank Card in 1987.

What is a credit Card?

A credit card is a card made of plastic material, carrying a specimen of the

holders signature and have certain information embossed on it so that when it is
pressed the information on it are recorded on an invoice or other documents.

Credit cards are designed to avoid the use of either cash or cheque and
also to give some measure of credit to the card holders. They can be used
only in those establishments which have agreed to accept them. They may
be used instead of making payment for cash for goods and services.

The credit card organizer makes the payment to the establishments concerned
and once a month sends a statement to the credit card holder for all his
purchases in the previous month.A credit card is referred to as plastic money.

Specimen of a Credit Card

The front side of the card bears the following details :

16 digit card number

Period of validity of the card.

Embossed name of the card holder

Visa / Master Card logo and 3D hologram for card security and to
identify the associated franchise.

The photograph (in case of photo care only)

The signature in case of photo card.

The banks side of the card contains the following details

Usage validity of the card.

A magnetic strip containing coded information for the security of the


The signature panel

Cirrus / plug logo can be used at any ATM which carries logo as that on
the back of the card.

Salient Features of a Credit Card

Use of the Card

The card is the property of the bank and must be surrendered to the
designated office of the bank on demand.

Use of the card to facilitate the purchase of goods or services will be

limited by the individual credit limit.

If the card limit is exceeded the card member shall immediately reduce
the over limit debit balance.

The card should be kept in a safe place.

The card should not be allowed to use by any other individual.

The card member should sign the card immediately upon receipt.

The issue and use of card will be subject to RBIs Regulations in force

Charges on the Card

Voluntary charges

The cost of any purchase of goods.

The amount of any cash advance provided

Any amount chargeable to the card account by virtue of a transaction


Involuntary charges

Any fees charged by the bank as entrance, annual replacement

renewal, handling, late payment and other fees.

The banks finance charges

Commission on specific types of transactions
Any other payment of a charge paid by the bank.

Procedure for Billing and Payment

The billing and payment procedure involve three stages.

Making the purchases

Reimbursements to the establishment Reimbursement to the bank.

(i) At the Time of Purchases- Present the Card

When a person intends to make a purchase form a establishment using

the credit card, he has to present the card to the establishment.

Check the Validity - After that the establishment scrutinizes it and

makes sure that its validity period has not expired.

Compare the signature with card holder - Then the merchant will
compare the signature of the cardholder with the specimen signature.

Takes impression of the Card - The merchant takes the impression of

the card with the help of the imprinter and prepares a charge slip in
triplicate.He retains one copy for records, another copy is given to the
customer and the third copy to the bank for obtaining payment.

For Getting Reimbursements to the Establishment

On receipt of the copy of the charge slip and the summation sheet, the
bank reimburses the amount after deducting its commission.

For Getting Reimbursement to the Bank

The bank prepares a statement every month reflecting the transactions on

the card. The Cardholder has the following two option for settling the
amount due to the bank as per the statement prepared by the bank.

Charge :

If the total amount due as per the latest statement is paid in fullon or before the
payment due date, no finance charges are levied on the account.If the cardholder
maintains a savings current account with the bank he could pay his credit card
through the account. The cardholder can authorize the bank to directly debit his
account.If the cardholder maintains a savings current account with the bank he
could pay his credit card through the account the cardholder can authorize the
bank to directly debit his account.

Privileges of the Credit Cardholders

Global acceptance- As the credit cards are most widely accepted for
making purchase anywhere in the world at any establishment.

Cash Advance- The credit cardholder is allowed to withdraw cash from

designated ATMs using the credit card. But the charges are levied

for this facility for transaction.

Global ATM Access- Within India, the card holders can have any time
cash with draw from the banks ATM in all major cities.

When travelling abroad the cardholder can access cash from any of the
ATM bearing logo VISA/Master Card.

Different types of Credit Cards/ Classification of Credit Cards

The credit card system can provide a wide range of products and services
to the user.Depending on the money of the customer and trade competition
banks issue different types of cards is given below :

Based on Mode of Credit Recovery

1. Revolving Credit Card

A limit is set on the amount of money one can spend on the card for a
particular period. The card holder has to pay a minimus. Percentage of
outstanding credit at the end of a particular period with interest varying from
30 to 36 percent per annum is charged on the outstanding amount.

2. Charge Card

A charge card is not a credit instrument. It is a convenient mode of making

payment. This facility gives a consolidated bill for a specific period an bills are
payable in full on presentation. There is no liability and no limit.

Based on Status of Credit Card

Standard Card- Credit card that are regularly issued by all card issuing
banks are called Standard Cards.It is possible for a card holder to make
purchase without having to pay cash immediately. Some banks issue
standard cards under the brand name classic cards. These cards are
generally issued to salaried people.

Business Card- Business cards also known as Executive cards are issued to
small partnership firms, solicitors firms of chartered accountants, tax
consultants and others, for use by executive on their business trips.

This card enjoys higher credit limits and more privileges than the standard
cards.These cards are issued in the names of the executives of the firms.
Elite- most powerful, rich or talented people within a society.

Gold Card- The gold card offers high value credit for the elite. It offers many
additional benefits and facilities such as higher credit limits more cash
advance limits, etc that are not available with standard or executive cards.

Based on Geographical Validity

Domestic Card- Cards that are valid only in India and Nepal are called
domestic cards. All transactions will be in rupees. These cards are
issued by most of the banks in India.

International Card- Credit Cards that have international validity are

called international cards. They are issued to people who travel abroad
frequently. These cards are honored in every part of the world except
India and Nepal.The cardholder can make purchases in foreign
currencies subject to RBI. Sanction and FEMA rules and regulations.

Based on franchise or tie-up

1. Proprietary cards- Cards that are issued by the bank themselves, without any
tie up are called proprietary cards.A bank issues such cards under its own brand.
Examples include SBI card, can card of Canara bank etc.

2. Master Card- This type of credit card issued under the umbrella of

Master Card International. The issuing bank has to obtain a franchise

from the master card corporation of U.S.A.The franchised cards will be
honored in the Master Card Network.

VISA Card- This is a type of credit card, which can be issued by a bank
having tie-up with VISA International USA. The banks that issue VISA
cards are said to have a franchise of VISA International.

Domestic Tie-Up Card- These are cards issued by a bank having a tie up with
domestic credit card brands such as Cancard and Indcard. For example, Indian
overseas bank has a tie up with Cancard.These banks issue cards to users
through the original banks. However they can have their bank name engrave on
the card.Credit is available on similar lines to the original card.

Based on the Issuer Category:

1.Individual cards- These are the non-corporate cards that are issued to
individuals. Generally all brands to credit cards issue individual cards.

2.Corporate Cards- These are credit cards issued to corporate and business
firms. The executives and top officials of the firm use these cards. The card
bears the name of the firm and the bill are paid by the firm.

Innovative Cards

Credit cards have evolved into a variety of innovative cards such as the

ATM Cards

An ATM cards allows customers to access their accounts at anytime 24 hours

a day, every day of the year through automated teller machines customers can
withdraw cash, transfer funds, find out their account balance and perform other
banking and financial transactions with the help of ATMs.

Debit Card

A debit card like an ATM card directly accesses a customers accounts. The
card directly debits a designated savings Bank Account.

The debit card details are fed through a terminal at the merchant establishment and
the card holder is asked to key in a pin code allotted by the card issuer. On
completion of the transaction the amount is immediately debited in the cardholders
account and transferred to the account of merchant establishment.

Prepaid Cards

Prepaid cards are known as stored value cards, are cards with stored value paid in
advance by the holder. The card issuer and service provider are identical.

They are also limited purpose prepaid cards which can be used for a
limited number of well defined purpose.

Private Label Cards

These cards are uniquely fixed to the retailer issuing the card and can
be used in that retailer stores & bank on the basis of a contract
agreement with the retailer extends credit under this type of card.

Affinity Group Cards

These are credit cards designed for use by a collection of individuals

with some form of common interest or relationship such as professional
alumni,retired persons organizations etc

Smart Cards

A smart card is a credit card sized plastic card with an embedded

computers chip. The chip allows the card to carry a much greater amount
of information than a magnetic card.The telecom industry was perhaps the
pioneer in smart cards, the most prominent being subscriber Identity
Module (SIM) cards in the GSM digital calculator network using special
terminals designed to interact with the embedded chip the card can
perform special functions this is essentially in prepaid card.

Two Types of Smart Cards

1.Memory Card

2.Micro Processor Card

1.Memory Cards- Memory cards are static they store information and
value and are not programmable it is not reloadable phone cards and
other prepaid cards are example.

2. Micro Processor Cards- Micro Processor Cards have internal memory,
have high storage capabilities and the data stored in the chip is dynamic
and reloadable.

Smart cards hold a promising future because they offer multiple advantages
to merchants consumers and banks.

Chip Card- A chip card is a plastic card with an embedded integrated circuit or a
micro chip as opposed to magnetic strips on conventional card. The chip can be used
on existing debit and credit cards as well as on emerging products like store valued
cards, inserting the card is what is called a pin pad effects the transaction and the
value on it reduces accordingly. These cards are reloadable and disposable. The idea
is to do away with the trouble of carrying cash.

Co-branded card- The times card a cobranded card is the first of its kind
form a publishing house in the Asian subcontinent. There is a co-branded
credit card of Times of India Group and Citibank Master Card. The co-
branding concept has caught in the credit card industry the world over
during the last five year.

Credit card operating cycle

Credit PurchaseCard -Holder purchases goods/ services and gives the

credit card.

Credit card processing- Merchant establishment delivers goods after

taking an authenticated credit card and noting the number and taking
signatures on certain forms.

Bill Raising- Merchant establishment raises the bill for the purchase and
sends it to the credit card issuing bank for payment.

Payment- Issuing bank pays the amount to the merchant establishment.

Bill to card holder- Issuing bank raises bill on the credit cardholder and
sends it for payment.
6. Card Payment- Credit cardholder makes the payment to the issuing bank.

Bank card Associations

Two international card Associations

Master Card International

Visa Card International

Are the associations actively involved in the grouping Indian Credit Card
Industry. The two associations are owned by member banks and governed
by separate board of directors.Most banks are members of both the
organizations and therefore issue both types of cards.

Functions of Associations

These associations perform several key functions such as

processing of card holder

Merchant transactions


Setting operations regulations

Conducting research and analysis

Development products and promotion of various types of cards.

Latest information indicates the Master Card International has 23,000 and Visa
Card International has 21,000 member financial institutions around the globe.
American Express is another major play in the global marker.

Validity and Renewal

The cardholder can use the card within the validity period only. A new card is sent
once in every 2 to 3 years before the expiry of the old card.The fees and eligibility
criteria for credit cards vary from bank to bank.The cost of obtaining credit card is
cheaper among the Indian Banks as compared to foreign banks.

Benefits of Credit Cards

Credit cards offer enormous benefits to users and bankers

Benefits to cardholders

Shopping Convenience- Credit cards are convenient to use. They

dispense with the need to carry large amount of cash or issue cheques
shopping is made more comfortable and joyous as purchasing poses no
difficulty. Since cards have wide acceptance.

Credit Facility- Credit cards offer a convenient mode of credit to customers. The
credit card enables the cardholder to avail the credit facility sanctioned by the card
issuing company. The customer can either pay the amount of credit in full or can opt.
for repaying it in flexible monthly installments.

Safety- Credit cards allow for a safe means of conducting transaction.

Credit card holders need not carry large amount of cash, avoiding the risk of

Meticulous Record - Credit Card facilitate meticulous and easy record

keeping. The transactions are printed on a monthly statement that can be
reconciled with the sales receipt issued by merchants. Thus the
accumulated interactions are easily accounted for every month.

Acceptability- Merchant establishments widely accept VISA and Master

Card. This makes it very convenient for holding a credit card.

Benefits to Merchants

Enhanced Sales- The credit card mechanism makes the buying process
convenient and easy. This in turn helps boost up the sales of business
concerns as it increase purchase power.

Easy Validation- The electronic system which is the back bone of credit
card operation, allows for easy verification greatly facilitates sale
transactions by merchants.

3. No Risk As there is no direct contact of the merchant establishment
with collection of payments on credit cards, there is no risk to the merchant
in accepting credit facility.

Benefits to issuer Banks

Source of Income- Credit cards provide an easy way to extend credit to


Market Expansion- Credit cards can be used by banks to increase their market
presence. Example ATM which can be established in a place like supermarket, is
accessible to the consumer directly for financial transactions.

Cross-Selling- Credit cards provide ample opportunity to banks for

additional revenue. This is possible by cross-selling other bank products
and services to its existing and potential cardholder.


Debit Card

It is a plastic card similar to the credit where the expenditure amount is

automatically debited to the corresponding bank account. This amount will
appear in due course on the monthly statement of account.

It is a variant of an ATM card, which helps the customer to make payments

instantaneously for goods and services purchased.


While using a debit card at retail outlets the customer punches in a personal
identification number and the money is immediately debited to the concerned
bank account electronically.Unlike ATM cards, where the facility of cash
withdrawal can be availed only at specified locations in person, the debit card
allows the customer to use the card with case at any location and the money is
deducted directly from a customers bank account electronically.

Steps involved in usage of the debit Card

Customer presents the card for making payment.

Shopkeeper swipes the card on the terminal and keys in the purchase amount.

Customer types in the confidential PIN (personal Identification Number) after

verifying the amount typed on the terminal.

Terminal processes and prints the transaction slip.

Customer verifies the amount and signs on the transaction receipt.

Customer obtains a copy of the transaction receipt and the card after
completion of the transaction.

Unit - I


Smart Card is a plastic card different from a magnetic Stripecard, that is

embedded with a computer microchip and designed with a far greater
memory capacity.

It commands as powerful a computing power as the personal computer.

It has manifold applications, is affordable and is small enough to be carried

around at all times-truly like a computer in ones pocket.


Like other computers, the smart card can be programmed to carry out any
task within its processing power and memory capacity.Following are the
features and practical applications of smart cards.

Data Carrier- Smart cards can be used as a convenient, portable and

secure means of storing information such as medical record equipment
maintenance records, driving license data, and Car maintenance records
as an electronic notepad etc.

Personal Identification- Smart cards serves as a safe medium of identification

of the holder.Important applications in the areas of identification are protection of
computer software, corporate cash management, Gaining physical access to
sports stadium, holiday complexes or hotel facilities. Satellite television is
another emerging opportunity for smart cards.The direct-to-home service would
be a pay television service and the smart card can be programmed to unlock the
television signal.

Financial usage- Smart cards can be used in such transactions replacements for other
instruments of payment etc.Some of the areas of applications are paying for TV,
Telephone/ electricity road tolls, ATM cash vending etc.

It is expected that financial credit cards and debit cards are likely to gradually get
converted to the more useful smart cards in the near future. Smart cards will

help prevent the increasing number of frauds found in the traditional
financial cards.

Types of Smart Cards

The term Smart Cards is often used in a broad sense to include cards with a large
memory an processing power and which are capable of being packaged in the ISO
format.There are three types of smart cards as described below.

Contact Smart Cards- Contact smart cards have microelectronic chips embedded in
the card. These chips have connections to metallic contact pads on the surface of the
card. The contact pads are used for reading and writing card.

Contactless card- A contactless card does not require the use of external contacts
and is used for transferring data between a smart card and a read write device. The
card is able to operate at a distance from the read / write unit.

Super Smart Card- the super smart card incorporates a keyboard and a
liquid crystal display (LCD). It functions more like a stand alone terminal
and does not need a separate read/write unit.

Security Features

A Specialty of smart cards is that they contain a number of security features

which help prevent card-related crimes. Some of the security features of
smart cards are as follows :

a) Physical and Manufacturing Security

The physical and manufacturing security features include deterrents to

reproducing the cards without the approved facilities equipment and expertise.
For instance, Chips for Smart Cards are not publicly available.

b) Personal Identification Security

Personal identification security links the card to its rightful owner. The most
commonly used method for identifying the rightful owner is the PIN (Personal
Identification Number). However various other methods are as follows.

Voice Recognition systems- A computer is used to recognize different

voice in pull by comparing them with the recorded original voice
available in its databanks.

Hand Geometry- This system is based on the unique hand structure of

individuals. Features such as finger length, skin web opacity and radius
of curvature of fingertips are scanned with photoelectric devices and
used by the system for identification.

Retinal pattern verification- In this method, the unique pattern of blood

vessels on the retina of the human eye is used for the purpose of
personal identification. A persons identical is ascertained by scanning
the retina using a low intensity infrared beam.

Vein Recognition- This method like previous one uses the unique vein
structure of the human body to identify individuals.

The vein check system uses a simple infrared scanning and encoding techniques to
locate the number, position and size of subcutaneous vessels.

Visual Recognition-It is possible to digitize the picture of a person and

stored it in the memory of smart cards.

The picture is usually obtained by a scanning video camera, digitized

and then compressed and stored in the smart card.

Communication strategy

The third category of security features offered by the smart card related to


Visual Identification

All cards used with visual identification while communicate with another

Provides integrity and validity of messages. The smart card with its

processing ability, provides integrity of messages and also validates messages.

Privacy is ensured through encryption.

Dynamic signature verification truces the way in which a signature is written

and the dynamic signature tablet automatically verifies the authencity of the

Finger print verification is used to identify the user by electronically

scanning finger print ridges.

Financial Application
Smart cards have potentially wide applications in banking insurance,
wholesale and retail business some of the principal uses of smart cards in
these areas are as follows :

1. Debit and Credit Cards

Smart cards have their wide usage in debit and credit cards. This is account of
the security features built into smart cards. They can ideally be used as a debit or
a credit card because of the protection they extend against fraud.

2. Electronic Cheque

Smart cards can be used during Electronic Funds Transfer at the point of sale
(EFTPOS). At a retailers checkout the card is placed in the reader, where it
automatically goes through the authentication sequences.

Payment authorization with the customer PIN is easily done. The card
holder bank account is automatically debited the retailer account credited
and record of the transactions stored in the card.

3. Electronic Cash

Smart card facilitate loading of funds into a card for use as cash. This
electronic cash can then be used for making purchases without the need for
authorization of a PIN. In such a case, the retailer presents this information
to the bank for his account to be credited.

4. Electronic Token

Smart cards allow the storing of prepaid electronic units of time or electronic
tickets,etc for a specific service or item Magnetic stripe cards are often used with
public telephone parking meters and vending machines.
5. Cash Management services

Smart cards are used by banks for providing corporate cash management
services to major clients. The cards can act as secure keys to the banks
mainframe computers allowing major account holders to view and
automatically transact their accounts.

1. Attributed to development of two products:

The evolution of the smart card is attributed to the development of two

products, the micro computer chip and magnetic stripe card.

2. Contains both processing and Data Storage:

The micro computer chip contains both processing and data storage capacity.

3. Revolutionizing the smart cards:

The advent of embossed metallic and plastic cards introduced by

international card companies such as diners club, etc in 1950s was also
responsible for revolutionizing the smart cards.

4. World Wide Use:

In 1969 magnetic stripes were first added to the embossed cards to ensure
that the cards could be used worldwide.

5. ISO laid Standards:

The International standards covering various aspects of the cards including

dimensions, embossing and location of the magnetic stripe.

6. VISA and MASTERCARDSecurity Features:

Both VISA and MASTER CARD incorporated various other security

features such as holograms, fine background printing and signature
panels to counter the threat of card-related crimes.

Computers and magnetic stripe cards gradually joined hands as

computers began to be increasingly used for card transactions.

7. Conventional plastic card:

In 1944 Roland Moreno, a French journalist patented his idea of putting

a chip inside a conventional plastic card.

8. Granting patent for smart cards:

Dr. KunitakaArimura of Japan was granted a patent for smart cards and today all
smart cards made in Japan have to be licensed by the Arimura Institute.

9. Other Companies:

Various other companies like smart card International, Philips Honey well
bull and GEC started using Intel chips in smart cards.

10. Concept of Super Smart Card:

In Japan and the USA, the smart card was taken a stage further with the
design concept of a small card having a display and keyboard. This
concept came to be known as the super smart card.

11. Standards for smart Cards:

In 1989, the ISO set up a working group to set standard for smart cards.
The standards cover items such as the contact position interface
protocol information content and control.

Unit II



Investment means sacrificing your current resources in return for

certain benefits you expect to receive in the future.

For instance when you purchase the shares of a company, you spend
money today because you expect the shares toappreciate in value and
to pay out a dividend.

Need for Investment:

The most common financial needs that require regular investing are:

Purchasing or construction of a house providing the margin needed to

obtain a housing loan from a bank.

Higher education of children

Marriage of children

Post-retirement regular income

Creating a contingency fund for medical and other emergencies. All of these
needs may arise during the lifetime of any person.
Creating a fund for meeting this needs is essential for living a stress
free life.The quality of your life will improve when you have the
confidence that the money required to meet any major expenditure will
be available when the need arises.
Key Aspects of Investing

Return on Investment- Return on investment is the basic driving force

behind investing and the most importance aspect. The purpose of
investing is to earn the best possible returns.

Time- Time is another key aspect all investments, whether bonds, fixed
deposits, fixed-income instruments or stocks, require a certain period of
time to generate returns.

Risks- Investors must be prepared for the risks. An investment involves

sacrifice in the present which is certain.

The benefits are expected to be received in the future which is

uncertain. This involves risk which is very high in certain investments
such as stocks, equity based mutual funds and so on.

Liquidity- Yet another aspect is liquidity. If you cannot get your money
back easily when you need it most, it will defeat the very purpose of
savings and investment.

The fundamentals are:

Maximizing Returns Minimizing Risk

Ensuring a degree of liquidity

Features of any Investment product

Rate of Return

Risk involved



Tax concessions are the most important features of any investment

products. It has to evaluated.

Various Options available for Investment or Various Investment


All the modes of investment differ from each other in one or more of these
features.These features can also be used to evaluate whether a particular
investment product is suitable for you or fulfills your financial needs.

A critical evolution of various investment alternatives based on these

features is given below.

1. Bank Deposits

These are high on liquidity and convenience. The risk involve is negligible,
the return is also moderate only a few tax concessions are available.

2. Equity shares

The potential for high returns is more because of capital appreciation.

Equity shares rank high on risk, liquidity and convenience. Returns
however are uncertain and subject to market forces.

3. Mutual Funds

High on liquidity and convenience. Good tax concessions available

which differ from scheme to scheme. Returns and risk may vary
according to the scheme.

4. Life Insurance Policies

Tax benefits are high, life insurance policies rank high on convenience,
but the returns are modest. Liquidity and risk are low.

5. Company Deposits

These provide higher returns but are also high on risk. No tax
concessions are available Liquidity and convenience are also low.

6. Bonds and corporate Debentures

Returns and risk are both high with no tax concessions available these
are low on liquidity and convention.

7. Post office Deposit Schemes:

Returns are moderate but risk is low. Various tax concessions are
available but liquidity is low.

8. Gold, Silver, Other Precious Metals:

Potential exists for high returns with good quality. With only a few tax
concessions available, the risk is moderate to high convenience is medico.

9. Real Estate:

High on returns with high risk, but liquidity is low. Tax concessions are
available for self occupies houses convenience is low.


Financing or investment instruments bought and sold in financial markets such

as bonds debentures, notes shares (Stocks) and warrants.

Security- A financing or investment instrument issued by a company or

government agency that denotes an ownership interest and provides
evidence of a debt, a right to share in the earnings of the issuer or a right in
the distribution of a property.

Financial instruments can be also be called financial securities.

Classification of Financial Securities

Financial securities can be classified into:

1. Primary Securities or Direct Securities

These are securities directly issued by the companies Ex. Shares and
debentures issued directly to the public.

2. Secondary Securities

These ate securities or indirect securities issued by some intermediaries to the

ultimate savers. Ex. Unit Trust of India and Mutual Funds.

Issue of Securities- Issue of Securities of Legal entities such as body

corporate and others to the general public for their subscription is known as
public Issue of Securities.

Kinds of Issues

Classification of Issue of Securities:

Public Issues

Rights Issues

Preferential Issue/ Private issue

Public and rights issues involve a detailed procedure.

Private and placements or preferential issues are relatively simple in its

1. Public Issues:

Public issuers can be further classified into initial public offerings and further
public offerings. In Public offering, the issuer makes a offer for new investors
to enter its shareholding family.The issuer company makes detailed
disclosures as per the DIP [Disclosures and Investor protection] guidelines in
its offer document and offers it for subscription.

Types of public issue of securities

Initial public offering (IPO)

Follow on public offering (FPO)

Initial public offering (IPO)

Initial public offering is a kind of public issue of securities, where an unlisted

company makes either a fresh issue of securities or an offer for sale of its
existing securities or both for the first time to the public. This paves way for
listing and trading of the issuer securities.
e-IPO :

A company proposing to issue capital to public through the online system of the
stock exchange for offer of securities can do so by complying with the requirements
under IIA of DIP guidelines. It is known as e-IPO.

Follow on public offering [FPO]:

Follow on public offering is a kind of public issue of securities, where an

already listed company makes an already listed company makes either a
fresh issue of securities to the public or an offer for sale to the public
through an offer document.

Rights Issue (RI) :

Rights Issue is a kind of public issue of securities where a listed company, proposes
to issue fresh securities to its existing shareholders. The rights are normally offered
in a particular rating to the number of securities held prior

to the issue.This route is best suited for companies who would like to raise
capital without diluting stake of its existing shareholder.

3. Preferential Issue (PI):

Preferential issue is an issue of share or of convertible securities by listed

companies to select group of persons under section 81 of the companies
Act 1956 that is neither a rights issue not a public issue. This is a faster
way for a company to raise equity capital.The issuer company has to
comply with the companies Act and the requirement contained in the
chapter pertaining allotment in SEBI (DIP) guidelines.

Unlisted Company

A Company with that is not traded on a stock exchanges very often

unlisted companies are very small and do not trade on a stock exchange
because they do not meet capitalization requirements.

Listed Company

A Listed company means a company which is listed on stock exchange for

public trading. This is also called as quoted company.


Stock market or securities market is a market where securities issued by

companies in the form of shares, bonds and debentures can be bought
and sold freely.

The components of stock market are:

Primary Market

Secondary Market

1. Primary Market

Primary market is a channel for the sale of new securities.

2. Secondary Market

Secondary market provides a platform for sale of the already issued and
listed securities.

Features of primary market

The features are as follows

It is a market for a long term capital where the securities are sold for the
first time. Hence it is also called new issue market (NIM).

Funds are collected and securities are issued directly by the company to
the investors.

3.Primary issues are carried out by the companies for the purpose of
inception and functioning of business.

Benefits of Primary Market.

The benefits are as follows

1.Company need not repay the money raised from the market.

2.Money has to be repaid only in the case of winding up or buy back of shares.

3.There is no financial burden because it does not involve interest

payment if the company earns profit dividend may be paid.

4.Better performance of the company enhances the value for the shareholders.

5. It enables trading and listing of securities at stock exchanges.

6.There is greater transparency in the corporate governance.

7.If the company performs well the image of the company brightens.

Issuers The listed and unlisted issue securities both of these have to
fulfill conditions laid down by the SEBI to issue equity shares.

Issue by Unlisted Company :

According to SEBI Disclosure and investor protection guideline (DIP), an

unlisted company may make an initial public offering only if meets the
following conditions specified by SEBI.

The company has net tangible assets of at least Rs.3 crore in each of the
preceding three full years (of twelve month each) of which not more than
50 percent is held in monetary of assets.

If more than 50 percent of the net of the net tangible assets are held in
monetary assets,the company has to make firm commitments to deploy
such assets monetary assets in its business projects.

The company has track record of distributable profits in terms of section

205 of the Companies Act 1956 for at least three out of immediately
preceding of five years.

*In case the company has changed its name within the last one year at least 50
percent of the revenue for the preceding of one full year is earned by the

company from the activity suggested by the new name and the aggregate of
the proposed and all the previous issues made in the same financial year in
forms of size ( offer through offer document + firm allotment + promoters
contribution through the offer document ,does not exceed five times its pre-
issue net worth as per the credited balance sheet of the last financial year.

Issue by Listed Company

A listed company is eligible to make a public issue of equity shares or other

security which may be converted into or exchanged with equity shares at a
later date at a later date if it satisfies the following conditions :

The aggregate of the proposed issue and all the previous issues made in
the same financial year in terms of size (offer through offer document +
firm allotment + promoters contribution through the offer document), the
revenue accounted for by the activity suggested by the new name is not
less than 50 percent of the total revenue in the preceding one full year

Exemption from Eligibility Norms -

Exemption are provided to the following companies subject to certain

conditions :

Banking Companies

Infrastructure Companies Listed Companies


Primary marketsattract a wide spectrum of investors, Different categoriesof

investors buys shares in the primary market.


There may be reservations for retail investors, Non institutional Investors,

Qualified institutional builders (QIBs) employees of the issuing

company, existing shareholders of the issuing company etc.,

Classification of investors :

Investors are broadly categorized as :

Qualified Institutional Buyers Non-Institutional Investors

Retail Investors

Qualified Institutional Buyers (QIB) -

Mutual funds banks financial institutions like LIC and foreign investors, fall under
the category of QIB. Earlier QIB were not required to submit any money along
with their bids and this had led to some manipulative practices.

However SEBI has recently changed the provisions and now QIBs have
to pay margin not the full amount at the time of bidding in the book
building of an issue.

The following are specified as QIBs by the SEBI public financial institutions
defined in the section 4 of the companies Act.

Scheduled Commercial banks

Mutual Funds

Foreign Institutional investors registered wit SEBI

Multilateral and bilateral development financial institutions

Venture capital fund registered with SEBI

Foreign Venture capital investors registered with SEBI

State industrial development corporations

Insurance companies registered with the insurance regulatory and
development Authority (IRDA)

Provident fund with a minimum carpus of Rs.25 crores.

Non-Institutional Investors

Residential Indian individuals HUF companies, corporate bodies,

NRIssocieties and trusts whose application size in terms of value is more
than Rs1 Lakh also come under this category. At least 15 percent of the total
issue has to be reserved for non- institution investors.

Retail Investors- They are defined in terms of the value of the primary issue
applied by them. The value of the applied shares should not exceed Rs.1 lakh.

According to the new guidelines, the inclusion of PAN in application forms

for public/rights issuer has been also made mandatory, irrespective of the
value of application.

Thirty five percent of the issue has to be reserved for them.

Under this category only individuals both resident and NRIs along with
HUFs are allowed to bid.

Companies making public issues can offer a discounted price to retail

individual investor provided that the discount is not more than 10 percent.

Intermediaries in primary market

Intermediaries- The companies take the assistance of many agencies for

accessing the primary market because of the complicated rules and
regulations of the company and the dynamic nature of the capital market.

The intermediaries have to be registered with SEBI and must have a valid
certificate from SEBI to act as intermediaries.

Following are the intermediaries who are involved in the new issue market /

primary market:

Bankers to the Issue Underwriters

Stock brokers and sub-brokers Depositories

Lead Managers- Merchant bankers are appointed to manage the issue

and are called lead managers to the issue. Depending on the size of the
issue a company may appoint more than one merchant Banker. The Pre-
issue and post issue responsibilities of the merchant bankers are properly
structured. The lead managers assist the company right from the
preparation of prospectus, to the listing of securities on stock exchanges.

Under writers- Under writing is an agreement with or without conditions to

subscribe to the securities of a body corporate in the event of non-subscription
by the public.If there is under-subscription(the amount received is less than the
issue size) the underwriter subscribe to the un-subscribed portion. The person
who assures the sum is called an underwriting commission.

A certificate of registration from SEBI has to be obtained by the agencies that

wish to carry out underwriting activities.After the selection of the underwriter the
issuing company enters into an agreement with the underwriter.

The agreements contains the following

The period during which the agreement will remain in force. The amount
of the underwriting obligation.

The maximum period within which the underwriter will have to subscribe
to the offer the companys intimation.

The rate and amount of commission or brokerage chargeable by the

Bankers to the Issue - Banks which accept application forms and money on
behalf of the public are called bankers to the issue. The collected money is
transferred to the escrow accounts as per the provision of the companies Act.

[An escrow account is a designated account in which the funds can be

utilized only for a specified purpose]

The bankers to the issue have to keep the funds in the escrow account
on behalf of the holders.These funds are not available to the company till
the issue is completed and allocation is made commission is paid to the
bankers to the issue.

Registrar to the Issue- The Company appoints the registrars to the issue in
consultation with the lead manager some merchant bankers carry on the
activities of the registrars to an issue as well as of the share transfer agents.

Some carry on the activities of a registrar to an issue or those of a share

transfer agent.Quotations containing the details of the various functions that
they would perform along with the expected charges for the functions are
called for selection. Suitable ones are selected from the applications received.

If the number of applications in a public issue is expected to be large, the

issuer company in consultation with the lead merchant banker can appoint
one or more registrars for the purpose of collecting the application forms at
different centers and forwarding the same to the designated registrar to the
issue, as mentioned in the offer document. The designated registrar is
responsible for all the activities related to issue.

Share Transfer Agents- They maintain the records of the holders of securities of the
company for and on behalf of the company. They also handle all matters related to
transfer and redemption of securities of the company.

Stock-Brokers and Sub-Brokers - Appointing a broker is not compulsory but

approval of the stock exchange is mandatory. The names and address of the
brokers to the issue should be given in the prospectus. The brokers enhance the
sale of issue.The issuing company pays brokerage according to the provisions in
the company Act and guidelines prescribed by the SEBI.

Depositories - They are the intermediaries who hold the securities in

dematerialized form on behalf of the shareholders.They enable transactions of
securities by book entry.The depository system links the issuers, depository
participants, NSDL and clearing corporation houses of the stock exchanges.
Transfers are affected by means of account transfer.


1. To file Draft offer document:

A company making a public issue, or a value of more than Rs.50 lakhs is

required to file a draft offer document with SEBI for its observation.The
company can proceed observations from SEBI.

The validity period of SEBIs observation letter is three months only. i.e. the
company has to open its issue within three months period.

2. SEBI does not recommend any Issue:

SEBI does not recommend any issue nor does it take any responsibility either for the
financial soundness of any scheme or the project for which the issue is

proposed to be made or for the correctness of the statements made or opinion

expressed in the offer document.

Submission of offer document not deemed to be approved: Submission of

offer document to SEBI cannot in any way be deemed or construed that the
same has been cleared or approved by SEBI.

Lead Manager to certify:

The lead manager certifies that the disclosures made in the offer
document are generally adequate and are in conformity with SEBI
guidelines for disclosures and investor protection in force for the time
being. This requirement is to facilitate investors to take an informed
decision for making investment in proposed issue.

5. SEBI does not associate itself with any issue/issuer

SEBI does not associate itself with any issue/issuer and should in no
way be construed as a guarantee for the funds that the investor
proposes to invest through the issue.

6.SEBI guides investors to take action by themselves.

The investors are expected to make an informed decision purely by

themselves based on the contents disclosed in the offer documents.

Investors to study all material facts.

Investors are generally advised to study all the material fact pertaining to the
issue including the risk factors before considering any investment they are
strongly warned against any tips or news through unofficial means.

DIP Guidelines (Disclosure and Investor Protection)

1.The primary issues are governed by SEBI in terms of SEBI (Disclosure

and Investor Protection) Guidelines.

2. SEBI framed its DIP guidelines in 1992. Many amendments have been
carried out in the same in line with the market dynamics and requirements.

3.SEBI issued Securities and Exchange Board of India (Disclosure and

Investorprotection) Guidelines 2000 which is a compilation of all circles
organized in chapter forms.

These guidelines and amendments there on are issued by SEBI India under
Section 11 of the Securities and Exchange Board of India Act 1992.

The DIP provides a comprehensive frame work for issuance by the


Due Diligence - (Examination by head managers)

Due Diligence is the act of lead managers to examine various documents

including those relating to litigation like commercial disputes, patent disputes
,disputes with collaborates and other materials in connection with the finalization
of the offer document pertaining to the said issue.

Due diligence forms the basis of any such examination and the discussions
which the dead manager has with the company its directors and other
officers and other agencies.

3.It also forms an independent verification of the statements concerning the
objects of the issue projected profitability price justification etc

4.The objective of conducting due diligence is to ensure that they are in

compliance with SEBI, the Government and any other competent authority
on this behalf.

5. The merchant bankers are the specialized intermediaries who are

required to do due diligence and ensure that all the requirements of DIP are
compiled with while submitting the draft offer document to SEBI.

6.Any non-compliances on their part attract penal action from SEBI in terms
of SEBI (Merchant Bankers) Regulations.

7.The draft offer document filed by Merchant Bankers is also placed on the
web sites for public comments.

8.Officials of SEBI at various levels examine the compliance with DIP Guide
Lines and ensure that all necessary material information is disclosed in the
draft offer documents.

Central Listing Authority (CLA)

1. The Central Listing Authority (CLA) functions have been detected under
regulations of SEBI, The central Listing Authority Regulations 2008, (CLA
regulations) issued on Aug 21 , 2003.

2.CLA covers processing applications for the letter precedent to listing of

from applicants.

3.To make recommendations to the Board on issues pertaining to the
protection of the interest of the investors in securities and development and
regulation of the securities market including the listing of agreements, listing of
conditions and disclosures to be made in offer documents.

4.To undertake any other functions as may be delegated to it by the Board

from time to time.

5.SEBI as the regulator of the securities market, examines all the policy
matters pertaining to issues and will continue to do so even during the
existence of the CLA.

Documents of issue
Public issue of securities requires certain documents to be drafted and filed
with the SEBI and registrar of companies These documents include
prospectus, abridged prospectus etc..

1) Offer Document

Offer document means prospectus in case of a public issue or offer for sale
and letter of offer in case of a rights issue, which is filed with Registrar of
Companies (ROC) and Stock Exchange.

An offer document covers all the relevant information to help an investor to make
his/her investment decision.SEBI issues press releases every were regarding the
draft offer documents received and observations issued during the period.The
draft offer document are put upon the website under reports.

Document Section

The final offer documents that are filed with SEBI/ROC are also put up for
information under the same section.The hard copy may be obtained from the
office of SEBI located at Mumbai on payment of Rs.100.The final offer

documents that are filed with SEBI/ROC can be down loaded from the
same section of the website.

2) Draft Offer Document

It is the offer document in the draft stage. The draft offer documents are
filed with SEBI, at least 21 days prior to filing of the offer document with
ROC/Stock Exchanges.

3) Red-Herring Prospectus

It is a prospectus which does not have details of either price or number of

shares being offered or the amount of issue. This means that incase price
is not disclosed, the number of shares and the upper and lower price
bands are disclosed.

A Red-Herring prospectus for a Follow-On Public offering can be filed

with the ROC without the price band and the issuer, in such a case will
notify the floor price or a price band by way of advertisement one day
prior to the opening of the issue.

4) Abridged prospectus

Abridged prospectus means the memorandum as prescribed in Form 2A

under sub-section (3) of section 56 of the Companies Act 1956. It contains
all the salient features of prospectus. It accompanies the application form
of public issues.

Lock-in Shares

The term Lock-in indicates a freeze on the shares SEBI (DIP) guidelines
have promoters mainly to ensure that the promoters or main persons who
are controlling the comp shall continue to hold some minimum percentage
in the company after the public issue.
The requirements are detailed in Chapter IV of DIP guidelines depositors
& investors.

Structure of offer Document

The offer Document contains several sections wherein loads of

information is planted by the issuer as part of mandatory compliance.

Following are the features of the structure of the offer document :

1. Cover Page

The cover page of the offer document covers full contact details of the
Issuer Company, least managers and registrar the nature, number price
and amount of instrument (securities) offered and issue size and the
particulars regarding listing.Other details such as credit rating, risks in
relation to the first issue etc. are disclosed if applicable.

2. Risk Factors

The issuers management gives its view on the internal and external risks
faced by the company. The company also makes a note on the forward
looking statement.This information is disclosed in the initial pages of the
document and it is also clearly disclosed in the abridged prospectus.

It is generally advised that the investors should go through all the risk
factors of the company before making an investment decision.

3. Introduction

The introduction covers a summary of the industry and business of the

issuer company the offering details in brief. Summary of consolidated
financials operating and other data.

General information about the company the merchant bankers /
syndicate members to the issue, credit rating, debenture trustees (in
case of debt issue) monitoring agency, book building process in brief and
details of under writing agreements are given here.

4. Important details of capital structure

Objectsof the offering, funds requirement funding plan, schedule of

implementation funds deployed and of funds already deployed and of
the balance fund requirement, interim use of funds, basic terms of issue,
basis for issue price, tax benefits etc. are covered.

5. About us

This section presents a review of the details of the business of the

company business strategy, competitive insurance, industry regulation (if
applicable) history and corporate structure, main objects subsidiary details,
management and board of directors, compensation, corporate governance
exchange rates, currency of presentation, dividend policy, management
discussion and analysis of financial condition and results of operations.

6. Financial statements

Financial statement changes in accounting policies in the last three years and
difference between the accounting policies and the Indian Accounting Policies.

7. Legal and Other Information

Outstanding litigations and material developments, litigations involving the

company and its subsidiaries, promoters and group of companies are disclosed.

8. Mandatory disclosures

Under this heading the following information are covered. authority for the
issue prohibition by SEBI, eligibility of the company to enter the capital market,

disclaimer, clause of the stock exchange listing, impersonation, minimum subscription
letters of allotment or refund orders, consents expert opinion, changes in the auditors
in the last three years, expenses of the issue, fees pay at to the lead managers, few
payable to the issue mgt. team, fees payable to the registrars, underwriting
commission, brokerage and selling commission etc.

9. Offer Information

Under this heading, the following information is covered. terms of issue ,

ranking of equity shares, mode of payment of dividend, face value and issue
price, rights of equity shareholder, market lot, nomination facility to investor,
issue procedure, bid form, bidding process escrow mechanism,
announcement of statutory advertisement issuance of confirmation of
allocation note (CAN) payment instruction etc.

10. Other information

This covers description of equity shares and terms of the Articles of

Association, material contracts and documents for inspection declaration
definition and abbreviations.

Procedure for buying shares through IPO issue process

The process of public issue of securities is described below.

1. Obtaining issue information: The information pertaining to primary

issues of securities such as name of the issuer, total issue size the
intermediaries etc can be had from the SEBIs monthly bulletin.A digital
version of the same is available on the SEBI website.

2.Obtaining Application form:The form for applying / bidding of shares is

available with all collection centers, the brokers to the issue and the bankers
to the issue.

3.Collecting offer information:The document is prepared by an
independent specialized agency called merchant Bankers, which is
registered with SEBI. They are required to offer due diligence while
preparing an offer document.The draft offer document submitted to SEBI
is put on the website for public comment.

Demat Account - As per the requirement all the public issues of size in
excess of Rs.10 crores are to be made compulsorily in the demat
mode.Thus if an investor choose to apply for an issue that is being made
in a compulsory demat mode, he has to have a demat account and has
the responsibility to put the correct ID in the bid application forms.

Bidding/Applying - The investors are generally advised to study all the

material facts pertaining to the issue including the risk factors, before
considering any investment they are strongly warned against any tips or
relying on news obtained through official means.

Qualified Institutional Buyers (QIB) - Qualified Institutional buyers

constitute an important segment of investors who bid in a new issue of

QIBs are those institutional investors who are generally perceived to possess
expertise and financial muscle to evaluate and invest in the capital markets.

QIBs means and includes:

1. Public financial institutions as defined in Sec 4 A of the companies Act


2. Scheduled commercial banks

Mutual funds

Foreign institutional investor registered with SEBI.

5. Multilateral and bilateral development financial institutions.

6. Venture capital funds registered with SEBI.

7. Foreign venture capital investors registered with SEBI.

8. State Industrial Development Corporation

Any entities falling under the categories specified above are considered as

QIBs for the purpose of participating in primary issuance process.

7. Issue open

Subscription list for public issues is kept open for atleast three working days
and not more than ten working days. in case of book-built issues, the minimum
and maximum period for which bidding will be open is three to seven working
days extended by three days in case of a revision in the price band.

8. Bid Revision

It is possible for the investor to change or revise the quantity or price in the
bid, using the form for changing/ revising the bid that is available along with
the application form However, the entire process of changing of revising the
bids shall be completed within the date of closure of the issue.

The syndicate member returns the counter foil with the signature, date and
stamp of the syndicate member. The investor can retain this as a sufficient
proof that the bids have been taken into account.Syndicate members are
mainly appointed to collect the entire old forms in a book built issue.

9. Allotment

An investor would get confirmatory allotment note (CAN) / Refund order

within 30 days of the closure of the issue.

In case of book-built issues, the basis of allotment is finalized by the book
running lead managers within two weeks from the date of closure of the issue.

The registrar then ensures that the demat credit or refund as applicable
is completed within 15 days of the closure of the issue.

The listing on the stock exchanges is done within seven days from the
finalization of the issue.


Book-building is a process by which corporate determine the demand

and the price of a proposed issuer of securities through public bidding.

11. Listing

The listing on the stock exchanges is done within seven days from the
finalization of the issue. Ideally, it would be around three weeks after the
closure of the book built issue. In case of fixed price issue, it would be
around 37 days after the closure of the issue.

12. Issue complaints

Most of the issue complaints pertain to non receipt of refund or allotment

or delay in receipt of fund or allotment and payment of interest thereon.
These complaints shall be made to the post- issue lead manager, who in
turn will face up the matter with the registrar to redress the complains.

In case the investor does not receive any reply within a reasonable time,
investor may complain to SEBI, office of investors assistance.

Safety Net - It refers to a scheme of buy-back arrangement of the shares

proposed in any public issue with the objective of protecting the investors in
the event of share prices going down after the issue is made.

Any safety net scheme or buy back arrangement of the shares proposed in
any public issue shall be finalized by an issue company with the lead
merchant banker in advance and disclosed in the prospectus.

Such buy-back or safety net arrangements shall be made available only to

all original individual allottees limited up to a maximum of 1000 shares per
allottee and offer is kept open for a period of six months from the last date of
dispatch of securities.

IPO Grading [Initial public offering]

The securities and exchange Board of India has made IPO grading
mandatory and the new norm has been effective from 1 May 2007.

Grading of IPO is the assessment of the fundamentals of the issuer

concerned on a Relative Grading Scale. [ IPOInitial Public offering- If the
company is a new entrant to the capital market the issuers made by such a
company is called Initial Public Offering]

The IPO grade assigned is the outcome of a detailed evaluation of

qualitative and quantitative factors of the concerned company.It is a
comment on the fundamentals of the company concerned and its growth
prospects from a long-term perspective.

Generally, grades are assigned on a five point scale, where IPO grade 5
indicated the highest grading and IPO Grade 1 indicated the lowest grading
i.e., a higher score indicate stronger fundamentals.IPO grading represents
an independent opinion form an agency that is not connected with the
placement of the issue.IPO grading is a one-time exercise not subject to
subsequent surveillance.

The Grading Process
It involves several steps, these are given below.

The issuer company sends a formal request to the grading agency.

The agency seeks information on the companys existing operations as well

as proposed projects through a questionnaire.

Site visits and discussions with the key operating personnel of the
company concerned are conducted by the rating agency.

Apart from the officials of the company the agency also meets its bankers,
auditors, merchant bankers and appraising authority (if any). If needed the
opinion of independent expert agencies on critical issues like technology
proposed to be used is also obtained.

Analysts of the agency present a detailed grading report to the rating

committee which then assigns the grade. Usually the assignment of grade
takes three to four weeks after all the necessary information has been
provided to ICRA.

The issuer comp. is required to disclose the assigned grade and also
publish it in the red herring prospectus, which is filed with SEBI and other
statutory authorities.

Grading Methodology

The Grading methodology consists of analyzing the

Industry prospectus

Competitive position

Risks and prospectus

Financial performance

5) Management quality

Placement of issues in primary market

The placement of the issues may be through


Offer of sale

Private placement

Book building

Qualified Institutions placement.


In the offer through prospectus subscription from the public is invited

through issue of the prospectus.

Offer of Sale

It means outright sale of shares to intermediaries such as issuing houses

or share brokers instead of offering shares to the public.

Private placement

A private placement is a direct private offering of securities to limited

number of investors.


Is a process adopted in initial public offering for efficient price discovery. The

investors bids the offer wither above or equal to the floor price.

5. Qualified Institutions Placement

SEBI (Disclosure and Investor Protection) guidelines 2000 introduced a
new method of raising funds from the market by companies in the form
of QIP. It is a form of private placement.

It is an attempt by SEBI to encourage Indian companies to raise money

domestically rather than going outside for foreign currency convertible bonds

(FCCBs) and American Depository receipts (ADRs)

Unit - II


Stock market has two components

1. Primary market- It is a channel for the sale of new securities.

2. Secondary market- It provides a platform for sale of the already issued

and listed securities.

It has been defined as a body of individuals whether incorporated or not,

constituted for the purpose of assisting, regulating and controlling of
business of buying, selling and dealing in securities.

Both markets are interdependent and inseparable.

Features of a secondary market

Trading of securities in the secondary market does not provide any funds
to the company.

The investors as well as the speculators trade in securities.

Securities of listed public limited companies are traded on a recognized


Secondary market provides liquidity to the investors.

The market prices in the secondary market reflect the investors

perceptions of a company performance.

Market Segments

The secondary market has the following three segments.

1. Capital Market Segment (CM)

Whole sale Debt Market (WDM)

Futures and options (F and O)

[ Speculation buying shares in the hope of being able to sell them again at
higher price and make profit ]

Capital Market Segments - Where equity share preference shares and

warrants are traded.

Wholesale Debt Market- Where state and central Government. securities, T-bills,
PSU-bonds (public security undertakings), corporate debentures, commercial
papers, certificate of deposits, mutual funds etc. are traded.

Future and options (F and O) - Segment where derivatives based on equity

and indices are traded. Index option, index futures stock options and stock
futures are bought and sold in this segment.

Participants of secondary market

Index is a system by which changes in the value of something and rate at

which it changes can be recorded or interpreted. Participants of the
secondary market mainly consist of

I. Investors

II. Market Intermediaries

III. Regulatory Bodies


The investors can be broadly classified into 1. Retail Investors

2. Institutional Investors
3. Foreign Institutional Investors

1. Retail Investors

They are individual investors with a limited access to funds they invest
their surplus funds in securities to earn returns.

Equity investment is considered to be high risk high return proposal as

compared to other investment instruments like fixed deposits and post
office savings scheme.

High net worth individual [HNI] is used to refer to individuals and families who
are affluent in their wealth holding and consequently have a higher risk profile.

2. Foreign Institutional Investors [FIIs]

They are venture capital funds, pension funds, hedge funds, mutual
funds and other institutions registered outside the country of the financial
market in which they take an investment exposure.

They are allowed to invest in the primary and secondary capital markets
in India through the portfolio investment scheme (PIS).

Under this scheme, FIIs can acquire shares/ debentures of Indian companies
through the stock exchange in India. The ceiling for the overall investment for

FIIs is 24 percent of the paid up capital of the Indian comp.

The number of FIIs registered with the securities and exchange Board of India
has doubled.The Indian capital market has attracted many global majors like
HSBC, Citigroup, crown capital, Fidelity, UBS, ABN Amro, Morgan Stanley.

3. Institutional Investors

Mutual funds, unit Trust, Insurance Companies, banks and other large
institutions which invest their members money in shares and bonds are
known as Institutional Investors.

They have professional analyst and advisors who usually analyse the stock
market trends much better than individual investors.They trade in large
volumes and play a major role in the stock market.

Market Intermediaries

Intermediaries such as

Stock brokers

Depository participants

Banks facilitate the payment of money in share transactions.

Main Market Intermediaries are:

Stock Exchange Members/Brokers


Depository participants

Stock Exchange Members/Brokers

A stock broker is a member of the stock exchange and he is permitted to trade on

the screen- based trading system of the stock exchange.The brokers have to
register with SEBI and should keep a registration certificate.

A Sub-broker is a person who is affiliated to a member of a recognized stock

exchange. He also has to register himself with SEBI.

The trading can be carried out only through the members. the investors
can enter into trade only through a brokers account.

The brokers enters into trade either on his own account or on behalf of
his clients in the stock exchanges.

The members can be :

Individuals Firms

Corporate entities

IDBI, LIC, GIC, UTI, ICICI and subsidiaries of any of the corporations are
members in stock exchanges.

Experience - To become a member, he should have a minimum of two

years experience in any activity related to dealing in securities.

Capital Requirement: The stock exchanges shall have theBase

minimum capital [BMC].

According to the present requirement atleast 50 percent of the base

minimum capital should be in cash or in cash with an approved bank.
The remaining 50 percent can be held by way of approved securities.

Fees: A stock broker has to pay a registration fee of Rs. 5000 for every
financial year. After the expiry of five years from the date of initial registration
as broker, he has to pay Rs. 5000 for a block of five financial years.

The stock exchange also collects transaction charges from its trading members.

Brokerage charges

The trading member can charge the following:

1. Brokerage charge
Penalties arising on a specific default

Service as stipulated

Securities Transaction Tax (STT) as prescribed and paid to stock exchanges.

The maximum brokerage charge is fixed at 2.5 percent of the contract

price inclusive of the amount charged by the sub-broker, it excludes
turnover fees, service and stampduty. The sub-broker should not exceed
1.5 percent of the contract price.STT rates are prescribed by the Central
Government from time to time.

2) Depository

A depository is an organization which maintains investors securities in

electronic form. In simple terms a depository is a bank for securities.
National Securities Depository Limited (NSDL)
Central Depository Services (India) Limited (CDSL)

are functioning as depositories in India.NSDL was first set up by NSE

with UTT and IDBI.CSDL is a depository managed by professional and it
was promoted by the Bombay Stock Exchange (BSE) Limited along with
a cross section of several leading Indian and foreign banks.

Function of Depository

The principal function of a depository is to dematerialize the securities

and enable their transactions in book entry form.

Dematerialization of securities occurs when securities issued in physical

form are destroyed and an equivalent number of securities are credited
into the beneficiary owners account.

A depository established under the depositaries act can provide any
service connected with recording of allotment of securities or transfer of
ownership of securities in the recon of a depository.

A depository cannot directly open accounts and provide services to

clients. Any person who is willing to avail the services of the depository
can do so by entering into an agreement with the depository through any
of its depository participants.

3) Depository participants

Agents to depository are called depository participants(DP). They are

intermediaries below the depository and the investors.The relationship
between the DPs and the depository is governed by an agreement made
between the two under the Depositories Act.

In a strictly legal sense, a DP is an entity who is registered with SEBI

under the provisions of the SEBI Act. As per the provisions of this Act, a
DP can offer depositors related services only after obtaining a certificate
of registration from SEBI.SEBI (D and P) regulations 1996 prescribe a
minimum net worth of Rs. 50 lakh for stock brokers, registrars, transfer
agent and non-banking finance companies (NBFCs) for granting them a
certificate of registration to act as DPs.

Benefits of Depository Services

The risk of bad deliveries and loss of certificates in transit are removed.

There is saving in stamp duty.

The cost of courier, notarization and the need for further follow up is

The liquidity of securities due to immediate transfer and registration is

The brokerage charge for trading in dematerialized share is low.

Bonuses and rights are directly credited into the depository account.

Interest charges are lower for loans taken against demat shares as
compared to physical shares.

The limit of loans availed against demat shares is higher than the loans
borrowed against physical shares.It is Rs.20 lakhs per borrower against
the demat shares as collateral, but it is Rs.10 lakh per borrower against
physical shares.

The margin is 25 percent for loans against demat shares. However it is

50 percent for loans against physical shares.

Depository Account Opening

Opening a depository account is just like opening a bank account.

The investors can select any depository participant with whom he is


The investor has to get the account opening form from the DP and fill it up.

He has to sign a DP client agreement.

The agreement specifies the rights and duties of the DP and the demat
account holder.

Client identity proof along with the DP identity proof is given to the
account holder.

To dematerialize the shares, the investors has to obtain the
dematerialization request form [DRI].

The investor has to submit the filled up form along with the share
certificate to Depository Participant.

The Dematerialized shares are credited in the demat account with fifteen days.In
the case of directly purchasing dematerialized shares from the broker, once the
order is executed, the DP receives Securities from the brokers clearing

Bank and Depository - Comparison


Hold funds in an account
Hold Securities in an


Transfers funds between
Transfers securities

accounts on the instruction

between accounts of the

of the account holder.

instruction of the account


Facilitates transfers without
Facilitates transfer without
having to handle money
having to handle securities

Safe Keeping
Facilitates safe keeping of
Facilities safekeeping of


Customer contract
Direct contact
Contact through depository


Demat Services: Financial services relating to DP holding, maintaining
and dealing in securities in electronic form by a financial intermediary
known as depository participant or demat services.

Benefits of Investors:

Faster Investors - Transactions takes place much faster in electronic

trading compared to a 30-60 days settlement cycle that usually takes
place in the case of physical transfer of securities, transfer of shares is
effected within a few days after payment is made.

Elimination of bad deliveries and all risks associated with physical certificate such
as loss, theft, mutilation (deliberately damaged or spoiled, forgery etc.,).

Easy and enhanced liquidity.

No stamp duty on transfer

No postage / courier charges

Faster disbursement of corporate benefits like rights, bonus etc

No delay in transfer of securities

No follow up with the comp. regarding the status of the dispatched


Facility for creating charge on dematerialized shares for granting loans

and advances against shares.

Lower interest on loans against demat shares.

Nomination facility at the time of account opening.

No loss of share certificate in postal transit.

Much faster payment on sale of shares.

No scope for theft/forgery/damage of share certificates.

Minimum handing of paper.

Low transaction cost for purchases and sale of securities compared to

physical mode.

Reduction in paper work.

Need for Demat Services

SEBI has made compulsory trading of shares of all the companies listed
in stock Exchanges in demat form w.e.f 2 January 2002. Hence if an
investor wants to trade in respect of the companies which have
connectivity with NSDL and CSDL, it would require a demat (beneficiary
account) opened with the DP of choice to hold shares in dematerialized
(demat) form and to undertakeScriplus trading.

Services / Functions

Important services of a depository participant are transferring securities

as per the investors instruction without actually handling securities
through electronic mode, maintaining the account balance of securities
bought and sold by the investor from time to time, furnishing the investor
a statement of holding similar to a pas book etc.

Depository in financial services industry provides the following services:

Account Opening For Clients

An investor needs a satisfactory introduction and identification to open a

DEMAT account. An investor has to fill up an agreement with the DP for
opening a Demat account.

The investors (investors are called Beneficial owners in Depository
system) intending to hold securities in electronic form in the Depository
system open an account with a DP of NSDL.

The investor opens account opening form and signs an agreement with
DP. The investor can also open multiple accounts with same DP as also
with different DPs.

The DP will provide the investor a statement of holdings and

transactions. In case the shares are held in joint names then the account
is to be opened in the same order of names.Similarly separate accounts
to be opened for each combination of names.


Holding of securities in physical form is known as materialization

requires securities that are held in paper form whereby buying and
selling transactions in securities can take place only in paper mode.

In materialization securities are heal by the owner itself and the

depository can of course help hold securities in electronic form.


The process of transforming paper form of holding securities into

electronic form is known as dematerialization of securities.

A process by which the physical certificates of an investor are takes back

by the company registrar and actually destroyed and an equivalent number
of securities are credited in the depository account of that investor.

For this purpose the investor just files in Dematerialization request form
available with DP and submits the share certificates along with the above form

legend like(surrendered for Dematerialization should be written on the
face of each certificates before its submission for Dematerialization).

The beneficial owners account will be credited within 15 days and he will
be informed by the DP.

If one wishes to convert the electronic shares back to physical shares at a

later stage it can be done by making an application for rematerialization
through a rematerialization request form (RRF) available with his DP.


The reverse of dematerialization is rematerialization. The process of

converting securities from electronic form to physical form is known as
rematerialization of securities.The investor must fill up a Remat Request
Form (RRF) and give it to the DP. The DP will forward the request to
Depository after verifying that the shareholder has the necessary
balances.Depository inturn will intimate the RTA companies. The RTA
companies will print the certificate and dispatch the same to the investor.

Electronic Trading

Selling of shares held in electronic form is very similar to selling of the

paper form of shares.Instead of signing the transfer deed as seller and
delivering it with share certificates to a broken one gives to the
Depository participant debit instructions for delivering the shares form
the clients account to the chosen brokers account.

The debit instruction is verified for signature and correctness and then acted
upon by the DP broker in the same manner as is received now. For buying
shares in the depository system the client must inform the broker, the Depository
account number (Client ID) along with the Depository Participant ID (DPID) so
that the shares bought by the client are credited into that account.

The payment for the shares in the depository system can be made in the
same way as one pays for the purchase of any physical shares.

Market Trade and Off Market Trade

Trade done and settled through a stock exchange and clearing corporation
is called Market Trade.Trade done in private without the involvement of
stock broker or stock exchange is called Off Market Trade. However DP
helps in delivering the shares against a sell transaction or receiving the
shares for a buy transaction.


Dematerialization is the process of conversion of shares or other securities

held in physical form into electronic form.The investor must approaching DP
for dematerialization. The investor can demat the shares of any company that
has established connectivity with NSDL or CSDL.

Steps in Dematerialization

Demat Request Form - Investor must submit Demat Request Form (DRF)
and share certificate to DP

Checking Securities - DP will check whether securities are available for Demat
Investor must deface the share certificate by stamping surrendered for
dematerialization and DP will punch two holes on the name of the comp and will
draw two parallel lines across the face of the certificate.

Entry of Request - DP enters the demat request in their system to be sent

to Depository. DP dispatches the physical certificates along with the DRF
to Registrar and Transfer Agents (RTA)/ company.

Recording Details- Depository records the details of the Electronic Request in
the system and forward the request to Registrar and Transfer Agent (RTA) or
issuer (i.e., the company whose shares are sought to be dematerialized).

Verification- RTA/Company on receiving the physical documents are in

order, dematerialization of the concerned securities is electronically
confirmed to the depository.

Account crediting - Depository credits the dematerialized securities to

the beneficiary account of the investor and intimates the DP
electronically. The DP issues a statement of transaction to the client.

Company Identification -Once the company is admitted in the depository

system ISI No ( i.e., International securities Identification number)

Dematerialization of shares sent for transfer- Shares sent for transfer

can be dematerialized if the comp is providing simultaneous transfer
cum-Dematerialization scheme.

Simultaneous Transfer -Cum- Dematerialization Scheme

On completion of the process of registration of securities sent for

transfer, the RTA / company will send an option letter to the investor,
providing an option to dematerialize such securities.

The investor may exercise this option by submitting demat request form
together with the option letter to the DP. Then the company or its RTA
would confirm the demat request in the usual manner.

SEBI has made it mandatory for all companies whose shares are traded
compulsorily in demat form in the stock exchanges to offer this facility
and has prescribed the procedure thereof.

Certificate Number for Dematerialized shares

The dematerialized shares are fungible and they do not have any
certificate number or distinctive numbers.

Fungible-Fungible means the dematerialized securities do not have any

distinctive or certificate numbers. It is represented only by the number of
securities. This is called fungible.

Process Time- Dematerialization will normally take about 30 days.

Holding in Both Demat Form and Physical Form

The investor can dematerialize part of his holdings and hold the balance in
physical mode for the same security.

Distinguishing partly paid-up and fully paid-up shares

Partly paid up shares and fully paid up shares are identified by separate
ISINs (International Securities Identification Number). These are also
traded separately at the stock exchanges.

The company issues call notices to the beneficial holders of partly paid up
securities in the electronic form. The details of such beneficial holders will
be provided to the RTA/ Comp by the Depositories.

After the call money realization RTA/ company will electronically convert
the partly paid up shares to fully paid up shares.

Electronic Settlement of Trade-Procedure

I) For selling Dematerialized securities

The Procedure for selling dematerialized securities in stock exchanges is similar to

the procedure for selling physical securities. Instead of delivering physical securities
to the broker, the investor must instruct his / her DP to debit

his/her demat account with the number of securities sold by him and credit

brokers clearing account procedure for selling securities is as follows.

Investors sells securities in any of the stock exchanges linked to

depository through a broker.

Investor gives instruction to DP to debit his account and credit the

brokers account (Clearing member poof).

Before the pay in day, investors broker transfer the securities to clearing

The broker receives payment from the stock exchange (clearing


The investor receives payment from the broker for the sale in the same
manner as that is received for a sale in the physical mode.

For Buying Dematerialized Securities

The procedure for buying dematerialized securities form stock exchanges

is similar to the procedure for buying physical securities. Investor may give
a one-time standing instruction to receive credits into his /her account or
may give separate instruction each time in the prescribed format.

The transactions relating to purchase of Securities are as follows.

Investor purchases securities in any of the stock exchanges connected

to Depository through a broker.

Broker receives payment from Investors.

Broker arranges payment to the clearing corporation.

Broker receives credit of securities in clearing account and credit clients


Investor receives shares in his account.

Regulatory Authorities of Secondary Market

The capital market is regulated by the:

Ministry of Finance

The Securities and Exchange Board of India (SEBI).


In the ministry of Finance, the capital market is regulated by the capital

markets division of the department of economic affairs.

This division is responsible for formulating and development of the

securities markets i.e. share, debt, derivatives as well as protecting of the
interests of the investors. In particular it is responsible for

Institutional reforms in the securities market Building regulatory and market

Strengthening investor protection mechanism

Providing efficient legislative framework for securities markets.

Ministry of Finance administers legislation such as securities and

Exchange Board of India Act 1992 (SEBI Act 1992). Securities contracts
(Regulation). Act 1956 and the Depositories Act 1996.


The SEBI was established under the SEBI Act 1992, as a regulatory authority of
Securities market with the objective to protect the interest of the investors in the
securities market and promote the development of the capital market.

Regulates business in stock exchanges

Supervises the working of stock brokers share transfer agents, merchant

bankers, underwriters, etc.

Prohibits unfair trade practices in the Securities market.

Administers mostly the Acts, rules and regulations related to the securities

The following departments of the SEBI regulate the secondary market :

Market Intermediaries Registration and Supervision Department


This department takes care of the registration of all market intermediaries related
to all segments of the market namely the equity and derivative segments. It also
supervises monitors and inspects all the intermediaries.

Market Regulation Department(MRD)

The main function of this department is to formulate new policies except

relating to derivatives for stock exchanges, their subsidiaries and market
institutions such as clearing and settlement organizations and Depositories.
It also supervises their functioning and operations

Derivatives and New Products Departments (DNPD):

The function of this department is mainly related to the supervision of derivatives

segments of the stock exchanges and introduction of new products to be traded. It
also takes care of the consequent policy changes.

Stock Exchanges
Stock exchanges are the most important segment of the secondary market
where securities are traded.Securities markets are places where securities,
stocks, shares and bonds of all types are bought and sold.

Definition - Stock exchange are organized market places in which stock,
shares and other securities are traded by members of the exchange, acting
as both agents (brokers and principals dealers or traders).

Section 2 (j) of the Securities contracts (Regulation)Act 1956 defines a

stock exchange as: Anybody of individuals whether incorporated or not
constituted for the purpose of assisting regulating (or) controlling the
business of buying, selling or dealing in securities.

Stock exchanges have a physical location where brokers and dealers meet
to execute orders from institutional and individual investors to buy and sell
securities. Here only members are allowed to buy or sell securities. It is a
market for existing not for new issues.

Functions of stock Exchange

The Stock exchanges perform a number of functions useful t both the

investors and the corporations. They carry out the following functions.

Central Trading Place- They provide a central place, where the brokers
and dealers regularly meet and transact business.

Settlement of Transaction- They provide convenient arrangements for

the settlement of transactions.

Continuous market- These are the market for the existing securities.
These are places for the holders of securities to buy and sell their
securities and for those who want to invest their savings. The stock
exchange thus provides liquidity to their investment.

Supply of Long Term Funds- Since the securities can be negotiated and transfer
through stock exchanges, it becomes possible for the companies to raise long term
funds from investors.In the stock exchange, one investor is

substituted by another when a security is transacted. Therefore the

company is assured of long-term availability of funds.

Setting up of Rules and Regulations - Stock exchanges set up rules

and regulations governing the conduct and finance of their members. It
ensures that a reasonable measure of safety is provided to investors and
the transactions take place under competitive conditions.

Evaluation of Securities- Stock exchanges help to evaluate the

securities as they publish the prices of securities regularly in
newspapers. They also enable the holders of securities to know the
worth of their holdings at any time.

Control over Company Management- A Company which wants to get its

shares listed in a stock exchange has to follow the rules framed by the
stock exchange. Through these rules and requirements, the stock
exchanges exercise some control on the mgt. of the company.

Helps capital Formation - Stock Exchange helps capital formation.

The publicity given by the stock exchanges about the different types of
securities and their prices encourage even the disinterested persons to
save and invest in securities.

Facilities Speculation- Stock Exchange provides facilities for speculation

and enables shrewd business man to speculate in the market and make

substantial profits.

10. Directs the flow of savings - A stock exchange directs the flow of
savings of the community between different types of competitive
investments. It also helps to meet the investment needs of entrepreneur.

Stock Exchanges in India

Bombay stock Exchange (BSE) is the oldest stock exchange in India. It is

more than 100 years old. It was first organized as an informal association of
brokers in 1875 and later in 1887 it was formally established in Bombay as a
society known as native share and stock brokers Association.During the
period between the two world wars there was a great boom in the share
market and a number of stock exchanges were established. But they could
not survive long as they were not recognized under the Bombay securities
contracts (control)Act. By 1950s the control on securities trading became a
central subject under the Indian constitution.

The Securities contracts (Regulation)Act was passed in 1956 to control the security
trading in India.There are at present 23 recognized stock exchanges in India
including the over-the-counter Exchange of India(OTCET) and National stock
Exchange (NSE).Some of them are voluntary non- profit marking organizations
while others are companies limited by guarantee.Among the recognized stock
exchanges in India, Bombay, Calcutta, Madras, Delhi and Ahmedabad are the
prominent ones.24 stock exchanges are there in India.

The Stock Exchanges

Originally, the area of operation of each stock exchange was specified at

the time of its recognition. However, at present they are permitted to set up
a terminal anywhere in India. OTCEI, NSE and ICSE were permitted to set
up a terminal anywhere in revolution in the information technology has led
to easy nationwide access. The names of the recognized stock exchanges
of SEBI are given below.

The recognized Stock Exchanges

Ahmedabad Stock Exchange Ltd.

Ludhiana Stock Exchange Ltd.

Bangalore Stock Exchange Ltd.

Madhya Pradesh Stock Exchange Ltd.

Bombay Stock Exchange Ltd.

Madras Stock Exchange Ltd.

Bhubaneswar Stock Exchange Ltd.

MCX Stock Exchange Ltd.

Calcutta Stock
Exchange Association
National Stock Exchange of India Ltd.


Cochin Stock Exchange Ltd.

OTC Exchange of India

Delhi Stock Exchange Ltd.

Pune Stock Exchange Ltd.
Guwahati Stock Exchange Ltd.

Association Ltd.

Stock Exchange of

India Ltd.

Vadodara Stock Exchange Ltd.

Jaipur Stock Exchange Ltd.

As per SEBI report, Mangalore stock Exchange was derecognized in 2006 and
Hyderabad Stock Exchange Ltd., Magadh Stock Exchange Ltd., and
Saurashtra-Kutch Stock Exchange were derecognized in 2007. Coimbatore
Stock Exchange Ltd., has not filed application for renewal of recognition which
expired on 17 September 2006 due to a pending litigation in the Court.
Organisation and management

The organization, management, membership and functioning of stock

exchanges in India are governed by the provisions of the securities
contracts (Regulation) Act 1956.

This act permits only recognised stock exchanges which have to function
under the rules, by laws and regulations approved by the central
Government. At present the stock exchanges in India have one of the
following organizational format.

Voluntary non-profit making association Public limited company

Company limited by guarantee.

A stock exchange is managed by a governing body consisting of

A President

A Vice President

An Executive Director

The elected directors

The public representatives

The nominees of the Government

Major stock exchanges are managed by Executive Directors. He is a full

time employee of the exchange with substantial powers smaller stock
exchanges are managed by secretaries.


The stock exchanges are to be registered by the Government. For

getting recognition an application under the sec 3 of the securities
contracts (Regulation) Act has to be submitted to the Government.


The members and their authorized clerks alone can enter the trading floor
and conduct buying and selling of securities. The eligibility criteria for
membership of a stock exchange are given under Rule 8 of the securities
Contracts (Regulation) Rules 1957.

Trading in Stock Exchange

Online Trading

Online trading means purchase and sale of stocks on the Internet E-

trading facility is offered by all the stock exchanges. Formerly trades took
place in the trading hall. Orders were placed with the stock broker either
verbally (personally or telephonically)or in a written form (fax).

In online trading, the investor accesses a stock brokers website through

internet enabled personal computer and places orders through the brokers
Internet based order routing and trading engine. These orders are first routed to
the stock exchange without manual interference.All the players in the securities
market via stock brokers, stock exchanges, clearing corporation depositories,
DPs, clearing banks, etc. are electronically linked.The order routing to the
exchange takes place in a matter of seconds.Many securities trading agencies
provide online trading facilities to their clients honor.

This provides a higher degree of transparency in transactions. The

investor knows exactly when and at what rate his order was processing.

Procedure for Online Trading

The investor has to register with the online trading portals listed on the

He has to open a bank account with one of the Internet trading portals
banking and depository services partners.

He must be registered I connect user

On placing an order for buying / selling of securities through the listed

online trading portal. He has to click on pay through bank listed on the
online portal which will directed to a log in screen of the investors

Once the details of the login ID and password are entered the investor
has to verify the transaction details and confirm the transactions be
entering his transaction ID and password.

Once his order is executed, an email confirmation regarding the status of

his transaction follows.

Investors account status is updated on a real time basis.

Securities status can be viewed online after the day of settlement.

Types of Orders

Limit order- In the limit order, buy or sell order is placed with a price limit.
For Example if the investors place a buy order of Ranbaxy shares with
the limit price of Rs.450, he puts a cap on purchase price.

In case the current price is higher than the limit price, the order will be
kept pending. It will be executed only when the price hits Rs.450 (or)
below. If the actual price in the market is Rs.447 the order will be
immediately executed.

Market Order- In the market order, the buy and sell orders are executed at
the best price offered in the exchange. For Example, the last quote of
Infosys was Rs.1494 (15 Jan 2008) and the buyer placed a market buy
order. Then the execution was at the best offer price on the exchange
which could be above or below Rs.1494.

Stop Loss Order- These orders are given to limit the loss due to unfavorable
price movement in the market. A particular limit is given for waiting. If the price
falls below the limit, the broker is authorized to sell the shares to prevent loss.
The limit price is also known as trigger price.

Day Trading - It means not holding any stock overnight. This is really
the safest way to do day trading because the trader is not exposed to
the potential losses that can occur overnight when the stock market is
close due to news that can affect the prices of the particular stock.

Any news regarding a particular comp or any macro economic factor

received after the closure of the stock exchange may affect the opening
price of the stock on the next day.

Types of Day Trading

The various types of day trading are as follows.

1. Scalpers

This type of day trading involves rapid and repeated buying and selling
of a large volume of stocks within seconds or minutes. The objective is
to earn a small percentage of profit per share on each transaction while
minimizing the risk.

Momentum Traders

This type of day trading involves identifying the moving patterns of the
stock during the day. It is an attempt to buy such stocks at bottoms and
sell at tops within a day.

Advantages of Day Trading

No Overnight Risk- Since positions are closed prior to the end of the
trading day, news and events that affect the opening prices of the next
trading day do not affect the traders portfolio.
Leverage- (Using borrowed money in order to buy it or pay for it) Day traders
have a greater leverage on their trading capital because of low margin
requirement as their trades are closed in the same market day. This increased
leverage can increase the profits.

Gains from market Movement- Day trading often utilizes short- selling to
take advantages of declining stock prices. The ability to lock in profits even
as markers fall throughout the trading day is extremely useful during the
bear market conditions.

Margin Trading- Trading with borrowed funds or securities scatted margin

trading. It helps the investors to trade over and above.

Classification of Stock Exchange Operators

Operators in a stock exchange may be classified in several defined groups on a

functional basis, they include :



Authorised clerks


The odd lot dealers

The Badliwalas


Commission brokers- A large number of members devote themselves to the

execution of orders received from the non-member customers. They buy and sell
securities for earning commission. They act as agents for their customers and
earn commission for their services.

Jobbers- A jobber is an independent dealer in securities. He buys and sells

securities in his own name. This means that a jobber can deal either

with a broker or with another jobber. He does not work on commission

basis, but for a profit called turn.

Distinction between Broker and Jobber


Buy and sell securities on behalf of

Jobbers buy and sell securities in
their clients only as agents.
their own name.

Deal with non- members

Can deal only with brokers or with

other jobbers

Work for a commission

Work for a profit known as turn.

Only a link between the general

Dealer in their own right.
public and the jobber.

Negotiate terms and conditions of

Quote two prices one to buy and
purchase or sale to safeguard their
another to sell
clients interest.

Their commission is fixed by the

Their profit is fixed by competition.
Floor Broker- Floor Broker is a person who buys and sells shares for other
brokers on the floor of the exchange. He is an individual member who owns his
own seat and receives commission on the orders executed by him. He helps
other brokers when they are busy and get a portion of the brokerage charged by
the commission agent to his customer as compensation. Such brokers are not
found in the Indian stock exchanges.

Remisers - Remisers are agents who secure business from non-members in
return for a commission. They are also called half commission me. They are
sub- brokers. They are only procurers of business and are not allowed to
transact business on the floor of the stock exchange their remuneration.

Taravaniwalas -Taravaniwalas are members of the stock exchange who

transact business on their own behalf. They resemble the jobbers. They
trade in and out of the market for small difference in price thereby providing
the necessary liquidity and continuity of market in securities.

They often act as brokers for the public when they do not have any
business as jobber. This helps them to sell their own securities at
higher prices.

Budliwalas -The Budliwalas are the financiers operating on the securities

market. They advance money by taking delivery of securities on the due
date at the end of the clearing, for those who wish to carry over their
purchases. They also sell securities to the market when it is short of them,
by giving delivery on the due date at the end of the clearing for those who
wishes to carry over their sales.

Authorized clerks- The authorized clerks or assistants are persons authorized

to transact business on behalf of their member- employers. They cannot make
any bargain in their own name. They can sign on behalf of their employers only
when they carry a power of attorney for them.

Various stock exchanges permit their members to employ a certain number of

clerks or assistants to help them in their work. In the madras stock
Exchange, the clerks are called member assistants

Arbitrageur - An Arbitrageur is a specialist in dealing with securities in

different stock exchange centers at the same time. He makes profit from the
differences in prices between the two markets. The success of an
arbitrageur depends on the number of securities simultaneously listed on

different stock exchanges and the availability of fast means of

communication system.

Security Dealers - Security dealers are specialists in buying and selling gilt-
edged securities i.e. securities issued by the central and state Government
and by statutory public bodies such as municipal corporation improvement
trusts and electricity boards. They act as mainly as jobbers and are prepared
to take risks inherent in the ready purchase and sale of

securities to meet current requirements. The gilt edged market is over-

the-counter market.

10. Odd-Lot Dealers: the standard trading unit for listed stocks is
designated as a round lot which is usually a 100 shares. The odd lot
dealers are members specializing in the execution of orders for blocks of
shares less than 100. They buy odd lots which other members wish to sell
to their customers and sell odd lots which other wish to buy. The prices of
the odd-lot transaction are being determined by the round lot transactions.
The odd lot dealer earns his profit on the difference between the price at
which he buys and sells the securities.

Speculation- Speculation may be defined as buying things in the hope of

selling them late at a higher price, or selling things which the speculator
does not possess, hoping to buy them at a lower price.Speculative
operations are in the nature of futures or forward trading.

Speculation in securities

Stock exchange is the place where the listed securities are marketed.
The people whobuy and sell securities will have different motives
namely investment motive and speculative motive.


There are some persons who buy securities with a view to investing their
money for the purpose of getting an income or selling them for getting
ready cash. Such persons are called genuine Investors.

Speculators: There are some people who buy securities with ahope of selling
them in future at a profit (or) in the expectation of being able to buy them at a profit
in future such dealers in the stock exchange are called speculators.

Difference between Investor and Speculator


An investor cares more for the

A speculator is interested more in the
safety of investment and security
appreciation of his capital and quick
of income.
profits by buying or selling securities.

He seeks income from his

He seeks profit from the purchase and
sale of securities

He takes actual delivery of

He usually does not take delivery of
securities when he buys securities
the securities sold by him.The
by paying for them
investor simply receives or pays the

difference between the purchase price

and sale price as the case may be.

Types of Speculators

In stock exchanges the speculator are identified as some 200 logical

characters such as bulls, bears, stags and lame ducks.

1. Bull - He is a speculator on the stock exchange who anticipate arise in

prices and enters into a contract tp buy the shares at current prices with

the hope of selling them at the future date when the price rise as per his
expectation. If the prices rises, he sells and makes a speculative profit.
The bull is to buy security without taking actual delivery to sell it in the
future when there is a rise in prices. The bull raises the prices in the
stock market of those securities in which he deals.

If the price continues to fall he pays the difference at loss or he may

either close his deal or carry forward the deal to the next settlement
day by paying the contango charge.

Example of bull transaction- if a person asks his broker to buy 1000 shares
at Rs.10 per share for which no immediate payment will be made and if the
price of those shares increases to Rs.16 per share, he will instruct his broker
to sell the shares on this behalf. The transaction may not be real. The profit
made in this transaction is calculated as follows.

Sale price of 1000 shares @ Rs.16 per share = 16,000

Purchase price pf 1000 shares @ Rs.10 per share = 10,000

Profit 6000

This profit of Rs.6,000 only will be paid on the date of settlement and
there will be no delivery of shares.

Bear A bear is an operator who anticipates a fall in prices and

enters into a contract to sell the shares at current prices. With the
hope of buying themback at a future date when the prices fall. If the
price falls as per his expectation the bear will buy back the shares
and thus make a profit.

Lame Duck: A lame duck is a bear speculator. He finds it difficult to

meet his commitments and struggles like a lame duck. This happens

because of the non availability of securities in the market which he has
agreed to sell and at the same time the other party is not willing to
postpone the transaction.

Stag: A stag is a premium hunter. He does not buy and sell securities in the
market. He applies for shares in the new issue market just like a genuine
investor. He expects that the price of shares will soon increase and shares can
be hold for premium stag expects a rise in price.

Constituents of Secondary Markets

National Stock Exchange (NSE)

Over the Counter Exchange of India (OTCEI)

Stock Holding Corporation of India (SHCIL)

1). National Stock Exchange(NSE):

National stock Exchange was established by the IDBI and other all- India
financial institutions in Bombay in Nov 1992 with a paid up equity capital of
Rs.25 crore.

NSE was recognized by the Government in 1993 and its started its
operation in whole sale debt and equity market.

It has become a national market for shares, public sector undertaking bonds,
UTI units, debentures, treasury bills, government securities and call money. It
has no trading floor as in other stock exchanges NSE has a country wide
screen based, online trading system.

Membership -

The National stock exchange has two types of members

Participating Trading members who are allowed to trade only on their
own behalf.

Intermediary Trading members who deal on behalf of their members.

Settlement System - National stock Exchange is the only in India which

has set up a clearing corporation which act as the central counter party
guaranteeing all settlements.

2) .Over the counter Exchange of India (OTCEI):

Over the counter Exchange of India (OTCEI) is the first unlisted security
market in India. It has been incorporated as a company under the companies
Act 1956. It has been promoted by UTI, ICICI, IDBI, IFCI, LIC, GIC, SBI
capital markets Ltd and can bank financial services Ltd.

The OTCEI is a different kind of stock exchange OTC stands for Over the
Counter. Investor can buy and sell securities over the counters of heir local
banks. The OTC markets refers to a way of trading securities through a
network of broker dealers spread over different locations linked with
telephone, Tele-Fax, Faxes and comfort.

The OTCEI is recognized as a stock exchange under section 4 of the

securities contracts (Regulation) Act, 1956.The OTCEI was set up to
meet specific needs of the investors and countries.

Features of OTCEI

OTCEI has no trade rights. It has a network of counters linked by

electronic communication system.

OTCEI operations are fully computerized and there are four components in a
transaction via offer, Acceptance, Settlement and Documentation.

OATCEI has an exclusive list on the OTCEI are not permitted to list on
other exchanges and vice versa

OTCEI methods of pricing securities differ from the other pricing.

OTCEI Market

OTCEI is not lending institution. It does not provide promoter

contribution. The securities of companies are traded on the OTCEI the
investors deal through OTCEI counters.

The OTCEI has two classes such as members and dealers undertake
booking, trading and voluntary market and listed companies may choose one
among them. It has in house control over the transfer of securities.

It intends to offer the investors the option of opening an account with an

affiliated bank. It ensures speedy transactions. The major constituents of
the OTCEI are companies, investors, members and licensed dealers.
The OTCEI is a ring less electronically traded, automated national
market. Trading is being done electronically.The OTCEI will be nonprofit
making and free of income tax liability.

Objectives of OTCEI

The objectives of the OTCEI are :

Create a stock exchange to help companies to raise finance from the

capital market in cost effective manner.

To provide an efficient channel of capital market investment to

strengthen the investor community.

To provide opportunity for small companies to acquire public funds at low


Guideline of OTCEI:

The minimum issued equity share capital of a company for eligible for
listing on the OTCEI is Rs.30 Lakhs. Subject to a minimum of public offer
of equity shares worth of Rs.20 Lakh in face value.

3). Stock Holding Corporation of India LTD (SHCIL):

The stock holding corporation of India Ltd (SHCIL) has been promoted
by IDBI, ICICI, IFCI, UTI, LIC and GIC and its subsidiaries. It is the first
organization to register as a depository participant both with National
Securities Depository Ltd (NSDL) and central Depository services Ltd

The SHCIL is the largest depository participant in the country with more
than 7 lakh account. It has the network of many offices across the
country. It formulates new products that give benefits to investors,
corporate houses and brokers.

The SHCIL provides complete solutions to its institutional clients. Its core
services such as market operations, safe keeping, custody mgt.
corporation action, stock lending, reporting and market updates, etc.
support services like fund transfer and data bank information needs. The
SHCIL is accredited by the RBI for providing services to investments in
Government securities in dematerialized form.



The Indian financial services is witnessing a tremendous growth due to

the economic liberalization measures adopted by the Government of
India. The new developments taking place in the realm has led to the
innovation of financial techniques and new financial instruments.

One such important innovation is Asset securitization.

Definition of Securitization

Asset securitization is the process of separating certain assets from the

balance sheet and using them as collateral for the issuance of securities.

Securities may then be rated and sold based upon the economic quality
of the assets.

A technique where by assets are converted into securities, which are in turn
converted into cash on an ongoing basis, with a view to allow for increasing
turnover of business and profit is known as asset securitisation.

Securitisation may be defined as a method of funding any kind of

receivables (mortgage debts, leased, loans, credit card balances etc).

Illustration Explaining the Securitization

1.Simple Financing In a typical case of simple financing a loan is obtained

to buy a car. This creates a loan obligation and ownership of the car.

2.Asset Securitization The car financed by a financial institution

generates a series of claims in the form of interest and principal value
over a period of time to the lender.

Securitization involves selling this series of cash flow that emanates from
the above dealing by creating pools of securities and selling them for a
certain maturity period.

Meaning of security

Securitization is a process by which the financial relations are converted

into transferable securities.

The word security here means a financial claim which is generally in the form of a
document its essential feature being marketability .To endure marketability the
instrument must have general acceptability as a store of value.

Hence it is generally either rated by credit agencies or secured by

charge over substantial assets.

Further to ensure liquidity the instrument is generally made in

homogenous lots.

Need for Securitization

Financial markets developed in responsible to the need to involve a large

number of investors in the market place.

As the number of investors keeps on increasing the average size of each

investment keeps on diminishing which is a simple rule of the market place
because growing size means involvement of a wider base of investors.

The small investor is not a professional investor and is not in the

business of investments. Hence an instrument is needed which is easy
to understand and is liquid.

The above said needs set the stage for the evolution of financial instruments
which would convert financial claims into liquid,easy to understand and
homogenous products at times carrying certified quality labels(credit

ratings or security )which would be available in small denominations to
suit everyones purse.

Reason for preferring Securitized Financial Instrument

1.Helping small investor Financial claims often involves sizeable sum of

money, clearly outside the reach of the small investor. The initial response
to this was the development of financial intermediation, where by an
intermediary such as bank would pool together the resources of the small
investors and use the same for a larger investment need of the user.

2.Facilitating Liquidity Small investors are typically not in the business

of investments and hence liquidity of investments is most critical for them.
Marketable instruments provides the liquidity of investments.

3.Utility of Instruments- Generally instruments are easily understood

than financial transaction. An instrument is a homogenous, usually made
in a standard form and generally containing standard issuer obligations.
Besides an important part of investor information is the quality and price
of the instrument and both are easier in case of the instruments than in
case of financial transactions.

Special Purpose Vehicle (SPV)

The entity that intermediate between the originator of the receivables

and end-investor is known Special purpose vehicle.

Since securitization involves a transfer of receivables from the originator it

would be inconvenient to transfer such receivables to the investors could keep
changing and security is a marketable security. Therefore it is necessary to
bring is an intermediary that would hold the receivable on the behalf of the end
investor. This entity created solely for the purpose of the transaction is called
Special purpose vehicle(SPV) or Special purpose entity(SPE).

Therefore the originator transfers the assets to SPV which holds the
assets on behalf of investors and issues to the investors its own
securities.For this purpose the SPVis also called the issuer.

Asset Securitisation- Mechanism

Asset securitization works through a special purpose vehicle. The SPV

act as a crucial link in the securitization chain intermediating between the
primary market for the underlying asset and the secondary market for
the asset backed security.

Process of Securitisation

Following are the steps involved in the securitisation process.


Assets are originated by a company and funded on that companys

balance sheet.This company is normally referred to as the originator.

Asset Identification and pooling

The asset to be securitized by the institution is identified, which

comprises of the loans advanced by the institution.The identification of
the assets is done in such a manner as to ensure an optimum mix of
homogenous assets having almost the same maturity.

Security Creation

Securities of uniform maturity are created out of the assets that are
identified. These are then passed on to another institution called Special
purpose vehicle.The SPV is a trust,which like an investment
banker,manage the issue of securities to investors.These securities are
known as pay or pass through certificates.The SPV becomes liable to
the investor for principal repayments and interest recovery.
SPVs Task

The SPV engages itself in the task of enhancing its credibility in order to
make the issue attractive.For this purpose the SPV obtains an insurance
policy to cover the credit losses or arranges a credit facility from a third
party lender to cover delayed payments.

Security Issue

The SPV issues tradable securities to fund the purchase of assets. The
performance of these securities is directly linked to the performance of
the assets and there is no recourse (other than in the event of breach of
contract) back to the originator.

Security purchase

Investor purchase the securities because they are satisfied (normally by

relying upon a rating)that the securities will be paid in full and on time
,from the cash flows available in the asset pool. A considerable amount
of time is spent considering the different likely performance of the asset
pool and the implications of default by borrowers. The proceeds from the
sale of the securities are used to pay the originator.

Receipt of Benefits

The SPV agrees to pay any surplus which arises during its funding of the assets
back to the originator.This means that the originator, for all practical purposes
retains its existing relationship with the borrowers and all the economics of
funding the assets(i.e.the originator continues to administer the portfolio and
continues to receive the economic benefits (profits)of owning the assets)

Rating and Trading

The SSPV gets the securities rated by some reputed credit rating
agencies so as to enhance the marketability of the securitized assets. In
addition,credit rating increases the trading potential of the certificate in a
secondary market, thus augmenting its liquidity potential.


On maturity of the security the investors get a redemption amount from

the issuer along with interest due on the amount.

Securitization Benefits

Benefits to originator

1.Off-balance sheet financing

Securitization offers the advantage of off-balance sheet funding by allowing

for the conversion of an otherwise non-liquid- asset into ready liquidity. This
allows for better balance sheet management.This also enables faster
recovery of funds leading to higher business turnover and profitability.


Credit enhancement helps make the transaction attractive by means of

an investment credit rating for the instrument.Since a variety of factors
are taken into consideration for rating, it would give a boost to investor
confidence in the newly created market of instruments which have
qualitative differences but have been built upon underlying debts.

3.Low costs

Securitization helps reduce the funding cost substantially as compared

to conventional fund rising instruments like bonds, debentures,and
commercial papers.

4..Access to market

Asset securitization enables the originators to access the securities

market at debt ratings higher than their own overall corporate ratings
through the novel technique of credit enhancement and diversification of
risk. For instance the National Stock Exchange has announced that it will
allow listing of securitized assets.This will definitely help to develop an
active secondary market and improve liquidity.

Benefits to investors

a.Multiple new investment instruments for investors to meet their preferences.

Enabling the end investor to look past the issuing entity to the collateral
pool that the issue represents.

Reduction in uncertainty for the investor by minimizing the risk element

through transparency.

Unit -II


A kind of guarantee given by a financial intermediary to take up whole or part

of the issue of securities not subscribed by the public is termed as
underwriting. An institution or an agency that provides this sort of a guarantee
for sale of certain quantum of securities to an issuer is called the Underwriter.

Different Types of Underwriting

1. Firm underwriting

Firm underwriting takes place when the underwriter agrees to take up a

certain specified number of securities,irrespective of the securities being
offered to the public.


Sub-underwriting takes place when the underwriting of securities is

contracted out by the main underwriter to other underwriting intermediaries.

3.Joint underwriting
It refers to a situation of issue of securities being underwritten by two or
more underwriting intermediaries jointly.

4.Syndicate underwriting

Syndicate of underwriters by means of an agreement, underwrites the

issue of securities collectively, it is called syndicate underwriting.

Functions of Underwriting

Adequate funds

Underwriting being a kind of a guarantee for subscription of a guarantee for

subscription of a public issue of securities enables a company to raise the
necessary capital funds. By undertaking to take up the whole issue of the
remaining shares not subscribed by the public, it helps a company to
undertake project investments with the assurance of adequate capital funds.

Expert advice

Underwriters of repute often help the company by providing advice on

matters pertaining to the soundness of the proposed plan etc thus
enabling the companyavoid certain pitfalls. It is therefore possible for an
issuing company to obtain the benefit of expert advice through
underwriting before entering into an agreement.

Enhanced Goodwill

The fact that the issues of securities of a firm are underwritten would
help the firm achieve a successful subscription of securities by the
public.This is because intermediaries of financial integrity and
established reputation usually do the underwriting.Such an activity
therefore helps to enhance the goodwill of the issuing company.

Assurance to investors

Underwriters before underwriting the issue satisfy themselves with the

financial integrity of the company and viability of the plan.The
underwriting firms assure this way the soundness of the
company.Theinvestors are therefore assured of having low risk when
they buy sharesof debentures which have been underwritten by them.

Better Marketing

Underwriters ensure efficient and successful marketing of the securities of a

firm through their networks arrangements with other underwriters and brokers
at national and global level.This promotes a wide geographical dispersion of
securities and facilities tapping of financial resources for the company.

Benefits to Buyers

Underwriters are very useful to the buyers of securities due to their

ability to give expert advice regarding the safety of the investment and
the soundness of companies. The information and the expert opinion
published by them in various newspapers and journal are also helpful.

Price Stability

Underwriters provide stability to the price of securities by purchasing and

selling various securities.This ultimately benefits the stock market.

Underwriting Agencies

The Indian capital market is dominated by several underwriting agencies

such as private firms,banks,financial institutions etc.

Private Agencies

Some of the important private firms that are involved in underwriting business
are M/s.Dalaland Co., M/s.Kothari and Co and M/s.Wright and Co.

Investment Companies

In addition to private agencies a number of investment companies and

trusts are also engaged in the ;underwriting business.These include
Industrial Investment Trusts of Bombay, Birds Investment Ltd., Calcutta,
Devakaran Nanji Investment Co., and Investment Trust of India Ltd.

Commercial Banks

After the nationalization of commercial banks and with the initiation of

reform measures if the beginning of the nineties, banks started taking a
active part in the underwriting business.

Development Finance Institutions

A number of development finance institutions were established allover to spur

development and growth in the industrial,export and agricultural sectors.These
institutions provide direct and indirect financial and other type of
assistance.Among the assistance underwriting constitutes an important
segment.These institutions include LIC,IFCI,ICICI,IDBI,UTI,SFCs.


The financial services intermediary who arranges for the subscription of issue not
being taken by the public or who firmly guarantees a capital issue is called the
underwriter.National financial institutions ,commercial banks,merchant bankers
and members of stock exchanges function as underwriters.

Unit - II


Book Building is a process by which Corporates determine the demand

and price of a proposed issue of securities through public bidding.

Characteristics of Book Building

Tendering process

Book Building involves inviting subscriptions to a public offer of securities,

essentially through a tendering process. Eligible investors are required to place
their bids for their number of shares to be issued and the price at which they are
willing to invest, with the lead manager running the book. At the end of the cut-off
period, the lead manager determines the response to the issue in terms of the
quantum of shares and the highest price at which the demand is sufficient to
match the size of the issue.
Floor Price

Floor price is the minimum price set by the lead manager in consultation
with the issuer. This is the price at which the issue is open for
subscription. Investors are free to place a bid at any price higher than the
floor price.

Price Band

The range of price (The Highest and the lowest price) at which offer for
the subscription of securities is made is known as price band. Investors
are free to bid any price within the Price band.


The Investor can place a bid with the authorized lead manager- merchant banker.
In case of equity shares usually several brokers in the stock exchange are also
authorized by the lead manager. The investor fills up a bid-cum-application form,
which gives a choice to bid upto three optional

prices. The price and demand options submitted by the bidder are treated

as optional demands and are not cumulated.


The lead manager in consultation with the issuer, decides the price at
which the issue will be subscribed and proceeds to allot shares to the
investors who have bid at or above the fixed price. All investors are
allotted shares at the same fixed price. For any allottee, therefore, the
price will be equal to or less than the price bid.


Generally, all investors including, eligible to invest in a particular issue of

securities can participate in the book building process. However, if the
issue is restricted to qualified institutional investors, as in the case of
government securities, then only those eligible can participate.
Unit II



Stock invest is a non negotiable instrument used for subscribing to capital

issues in the primary market.Under this arrangement the money invested in a
public issue,along with the instrument,continues to remain in the account of
the investor and it earns interest till the investor successfully obtains the
allotment.Stock-invest serves as an additional mode of payment by an
investor.Funds of the investor are not locked up when applying for an
issue.Funds are released from the stock-invest account by the bank only in
the event of successful allotment of securities to the subscriber-customer.

To avail the benefit of stock invest the prospective subscriber has to open an
account with a banker,who operates the stock-invest scheme.Banks issue the
facility of stock-invest to the prospective subscriber in the deposit account of
the investor. The issue is made with the banks lien for the amount of stock-
invest issued.The collecting banker gives credit to the account of the company
only on successful allotment of securities.

The scheme of stock-invest serves as a convenient and a safe mode of

making payment while applying for the public issue.Stock-invests are however
,not advantageous to the issuer are no float funds available to them.

Features of Stock-invest

Following are the salient features of stock-invest as operated by banks

Additional Mode

Stock-invest serves as an additional mode of payment of application

money besides the traditional modes such as cash, cheque or draft.

No Locking up of funds

By this mechanism ,making payment for the public issue of securities

does not involve any locking up of the investor funds.This way,the
scheme ensures effective utilization of investor funds.


The instrument was issued in five denominations, with ceiling for drawing upto
Rs.250,Rs.500,Rs.2,500,Rs.5,000 and Rs.10,000.Later on stock-invests came
to be issued with the RBI directives upto a maximum it Rs.50,000.

Interest income

The scheme provided for the benefit of earning interest income for the investors
by allowing the money to remain with bank,which is highly advantageous.


All investor and banks may take part in the scheme and be benefited by
its merits

Release of funds

Funds are released from the stock-invest account by the bank only in the
event of successful allotment of securities to the subscriber customer.


Stock-invest combines the characteristics of a guaranteed cheque and a

letter of authority and is therefore considered as good as cash.


The instrument of stock invest has a validity of 4months from the date
of issue by the bank concerned

Bank Charges

Banks levy a charge to the extent of utilization of the money in the stock
invest account. This is to the tune of Rs.5 for every Rs.1,000.

Modus Operandi

The working mechanism of the stock-invest is outlined below:


The prospective subscriber opens an account with a banker ,who

operates the stock- invest scheme. The account may be a savings bank
account, , current account ,or FD account.


An application requesting the banker to issue the facility of stock-invest for a

certain amount is made out in the prescribed form by the prospective applicant.


Banks issue the facility of stock-invest for a certain amount is made out
in the prescribed form by the prospective applicant.


The prospective investor encloses the stock-invest form with the application
made for securities to companies and deposits the same with the collecting
banker.The investor fills in particulars such as companys name,number
and the value of shares applied for ,etc in stock-invest form.

Collecting Banker

The collecting banker receives the share application forms along with the
stock-invest form.The amount is not credited to the account of the
company making the public issue. The banker gives credit to the account
of the company only on successful allotment of securities.


The company and the Registrar to the issue present to the bank,the
entitlement of the investor in the stock-invest.The banker credits the
account of the issuing company upon the presentation of stock-invest.


The issuing bank intimates the unsuccessful applicants about the non-
allotment of shares . The bank then lifts the lien on the account or males
due payment from the account.This way the stock-invest account is closed.


Following benefits accrue from the scheme of stock-invest to both

investors and issuers alike:

Convenient Mode

Stock-invest offers a convenient mode of making payment for securities

allotted to the investor.The allows the money to go into the companys
account only in the event of allotment.

Safe Mode

Stock-invest offers a safe mode of making payment on successful applicants.

No misuse of funds

The scheme allows for the use of funds of the prospective allottee only
on the successful allotment of securities.There is no locking up of funds
and this prevents possible misuse by the issuer.

Satisfied investor

The scheme of stock-invest works to the total satisfaction of the investor to earn
too,for the period between application for shares and the allotment/refund.

Sources of Funds

The funds that are available in stock-invest are used by the issuing bank
as an ideal source of short-term financing. In fact stock -invest serves as
an additional source of attracting funds needed for business.

Bank Lien

Stock-invest provides the facility of lien on the deposits of the

investor.The instrument provides full protection in respect of the
guarantee given by the bank.

Benefit to issuers and Registrars

The mechanism of stock-invest precludes the necessity of printing of

refund orders as, eligible funds will be credited to their account based
only on the allotment and not otherwise.

Boon to investors

The scheme of stock invest is bound to be highly beneficial to the

investors as it does away with many of the ills afflicting mode of making
payment in respect of securities being subscribes and allotted.

Unit - II


A form of equity financing designed specially for funding high risk and
high reward projects is known as Venture Capital.Venture capital plays
an important role in financing hi-tech projects,besides helping research
and development projects to turn into commercial production.

Venture capital fund activities generally include financing new and rapidly growing
companies that are specially knowledge based,sustainable,up-scalable
companies, purchase of equity securities assisting in the development of new
products or services,adding value to the company through active participation of
higher rewards and having a long term orientation.

A venture capital fund strives to provide entrepreneurs with the support

they need to create up-scalable business with sustainable growth,while
providing their contributions with outstanding returns on investment for
high risks they assume.

Features of venture capital

New ventures

Ventures capital investment is generally made in new enterprises that

use new technology to produce new products in expectations of high
gains or sometimes, spectacular returns.

Continuous Involvement

Venture capitalists continuously involve themselves with the clients

investments either by providing loans or managerial skills of any support.

Mode of Investment

Venture capital is basically a equity financing methods the investment

being made in relatively new companies when it is too early to go to the
capital market to raise funds.In addition financing also takes the form of
loan finance/convertible debt to ensure a running yield on the portfolio of
the venture capitalists.


The basic objective of a venture capitalists is to make a capital gain on

equity investment at the time if exit and regular return on debt financing.It
is a long term investment growth oriented small/medium firms.It is a long
term capital that is injected to enable the business to grow at a rapid
pace mostly from the start up stage.

Hands on Approach

Venture capital institutions take active part in providing value added services
such as providing business skills to investee firms.They do not interfere in the
management of the firms nor do they acquire a majority controlling interest in
the investee firms. The rationale for the extension of hands on management is
that venture capital investments tend to be highly non liquid.

High Risk return ventures

Venture capitalists finance high risk return ventures.Some of the ventures yield
very high return in order to compensate for the heavy risks related to the
ventures.ventures capitalists usually make huge capital gains at the time of exit.

Nature of Firms

Venture capitalists usually finance small and medium sized firms during the
early stages of their development until they are established and are able to
raise finance from the conventional industrial finance market.Many of these
firms are new high technology oriented companies.


Liquidity of venture capital investment depends on the success or

otherwise of the new venture of product. Accordingly there will be higher
liquidity where the new ventures are highly successful.


Seed capital

This is an early stage financing.This stage involves primarily R&D

financing.The European Venture capital Association defines seed capital as
the financing of the initial product development or the capital provided to an

entrepreneur to provide the feasibility of a project and qualify for start up

This stage involves serious risk as there is no guarantee for the success
of the concept,idea,and process pertaining to high technology or
innovation. This stage requires constant infusion of funds in order to
sustain the research and development work and establish the process to
successful adaptation going into the commencement of commercial
production and marketing. Venture financing constitutes financing of
ideas developed by research and development wings of companies or at
university centers.Chances of success in hi-tech projects are meager.

Start up financing

The European venture capital association defines start up capital as

capital needed to finance the product development, initial marketing and
the establishment of product facilities.This too falls under the category of
early stage financing.The start up refers tothe stage where a new
activity is launched. The activity may be one emanating from the R&D
stage,or arising from transfer of technology from overseas-based
business.Venture capital finance is provided to projects which have been
selected for commercial production.

Early stage Financing

The European Venture capital association defines early stage finance as finance
provided to companies that have completed development stage and require
further funds to initiate commercial manufacturing and sales.They will not yet be
generating profit. This is the kind of financing required for completed the project.It
is required immediately after the start up stage of a project.The enterprises may
need further investment before completion of the project.

Follow on Financing

The European Venture capital association defines follow on financing or

second round finance as the provision of capital to a firm which has previously
been in receipt of external capital but whose financial needs have
subsequently expanded.Later stage in a project implies that the projects has
passed the test of acceptability and has proved to be successful. Since project
at this stage promises to be attractive in terms of earning potential,it is
considered to be the most attractive stage for venture capital financing.

Expansion Financing

The European Venture Capital Association defines expansion capital or

financing as the finance provided to fund the expansion or growth of a
company which of breaking even or trading at a small profit.Expansion or
development capital will be used to finance increased production
capacity,market or product development and or to provide additional working
capital.This is one of the later stage financing methods whereby finance is
provided by the venture capitalists for adding productioncapacity,once it has
successfully gained a market share and faces increased demand for adding
production capacity,once it has successfully gained a market share and faces
increased demand for the product.

Replacement Financing

A later-stage financing methods also known as money-out deal where by

venture capitalists extend financing for the purchase of the existing
shares from an entrepreneur or their associates in order to reduce their
holdings in the unlisted company is known as replacement financing.

Turnaround Financing

This is the type of financing provided by the venture capitalists in the

event of an enterprises becoming unprofitable after launch of
commercial production.This is provided in the form of a relief package
from the existing venture capital investors and the enterprises is
provided with specialists skills to recover.

Management Buy- outs

The European Venture Capital association of a company defines management

buy outs as the acquisition of a company (or the shares in that company) from
the owners by a team of existing management/ employees.The vending
shareholder may or may not have been actively involved in the day to day
running of the company,the acquiring group are presumed to be actively
involved in the day to day running of the company.Deals pertaining to the
purchase of management holding of an enterprises is called Buy-out deals.

Management Buy In

A management buy in involves bringing in a management team comprising

of outsiders who are strangers to the company as opposed to a buy out
where they are part of the existing team.The European Venture Capital
association defines management buy in as funds provided to enable a
manager or group of managers from outside the company to buy in the
company with the support of venture capital investors.

Mezzanine Finance

The last stage of equity related funding is known mezzanine financing.It

is often the last type of financing supplied to a private company in the
final run upto a trade sale or a public floatation.



The process of assigning a symbol with specific reference to the

instrument being rated that acts as an indicator of the current opinion on
relative capability on the issuer to service its obligation in a timely
fashion is known as credit rating.

Rating are usually expressed with alphabetical or alphanumeric symbols.They

are simple and easily understood which enables the investor to differentiate
between debt instruments on the basis of their underlying credit quality.

The main focus lies in communicating to the investors the relative

ranking of the default loss probability for a given fixed income investment
in comparison with other rated instruments.

According to the Moodys, a rating is an opinion on the future ability and

legal obligation of the issuer to make timely payments of principal and
interest on aspecific fixed income security.The rating measures the
probability that the issuer will default on the security over its which
depending on the instrument may be a matter of days to 30 years or more.


Following are the characteristics features of credit rating


The rating is specific to a debt instrument.It is intended as a grade and an

analysis of the credit risk associated with that particular instrument. Rating is
neither a general purpose evaluation of the issuer,nor an overall assessment of
the credit risk likely to be involved in all the debts contracted by such an entity.


The rating is based on the relative capability and willingness of the issuer
of the instrument toservice debt obligations(both principal and interest) in
accordance with the terms of the contract.


The rating primarily aims at furnishing guidance to investors/creditors in

determining a credit risk associated with a debt instrument /credit obligation.

Not a Recommendation

The rating does not provide any sort of recommendation to buy,hold or

sell an instrument since it does not take into consideration, factors such
market prices, personal risk preferences and other considerations which
may influence an investment decision.


The rating process is based on certain broad parameters of information

supplied by the issuer and also collected from various other sources
including personal interactions with various entities.


The rating furnished by the agency does not provide any guarantee for the
completeness or accuracy of the information on which the rating is based.


While determining the rating grade both quantitative as wellas qualitative

factors are employed. The judgement is qualitative in nature and the role of

quantitative analysis is limited toassist in the making of the best possible
overall judgement.


Credit rating offers the following advantages


1.Information service

The credit system allows for the recognition of risk perception by the
common investor debt instruments and makes the investor familiar with
risk profile of debt instruments.

2.Systematic Risk Evaluation

For the efficient allocation of resources a systematic risk evaluation is an

essential requirement.Rating helps the issuer of a debt instrument to offer every
prospective investor the opportunity to undertake a detailed risk evaluation.

3.Professional competency

A credit rating agency equipped with the required skills ,competence and
credibility,provides a professional service,making it possible to use well-
research and scientifically analyzed opinions regarding the relative
ranking of different debt instruments according to their credit quality.

4.Easy to Understand

Credit ratings are symbolic and are therefore easy to understand.The

rating seeks to establish a link between risk and return.Investors use the
rating to assess the risk level of theinstrument by making a comparison
of the offered rate of return for the particular level of risk with a view to
optimizing the risk-return preference.
5.Low Cost

The rating as provided by a professional credit rating agency is of significance

not just for the individual/small investor but also for an organized institutional
investor. It provides a low cost supplement to their own in house appraisal.

6.Efficient Portfolio Management

Large investors may use the credit rating for portfolio diversification by
information provided by rating agencies, by carefully watching upgrades
and downgrades and altering their portfolio mix by operating agencies by
carefully watching upgrades and downgrades and altering their portfolio
mix by operating in the secondary market.

7.Other benefits

The investor community in general also benefits from the other services offered
by credit rating agencies namely,research in the form of industry reports,
corporate reports, seminars, and open access to the analysis of the agencies.

To Issuers

1.Index of faith

Credit rating acts as an ideal index of faith placed by the market on the
issuers.This eventually also acts as aguide for investment decision.

2.Wider Investor Base

Credit rating offers the advantage of a wider investor base as compared

to unrated securities.Rating arms a large section of investors with
specific skills to analyze every investment opportunity and helps them
make a very considered decision about their investment.

3.Bench Mark

The opinion of a rating agency enjoys a wider investor confidence.This

could enable the issuers of highly rated instruments to access the
market even in adverse market condition.Moreover a credit rating
provides a basis for determining the additional return which is required
by investors as a compensation for the additional risk borned by them.

Credit Rating Agencies

International credit rating agencies

International agencies are Moodys Investor Services, S&P,Duff and

Phelps credit rating company, Japan credit rating agency etc.

Domestic credit rating agencies

Some of the domestic rating agencies include CRISIL,CARE,ICRA etc.


Investment Vs Speculative Grades

Investment and Speculative grades are two terms popularized by

regulators.For instance securities that are rated below BBB (S&P) or
Baa (Moodys) are called non-investment grade, or speculative grade or
junk bonds.Rating agencies however do not recommend or indicate the
rating levels of instruments upto which one should or should not invest.

Continuous Monitoring

Credit rating agencies keep a constant surveillance during the life of the
instrument for any developments until it is fully serviced by the company.In the
absence of any specific development,such reviews are taken up periodically
either quarterly,orannually.In addition a formal and extensive written review is

taken up immediately.The grading is altered on the basis of the changing
debt servicing capability of the issuer.

Grade surveillance

Where any major deviation from the expected trends of the issuers
business occurs or where any event has taken place which may have an
impact on the debt servicing capability of the issuer, which could warrant
a change in the rating, the rating agency put such ratings under grade
surveillance.Gradesurveillance listing may also specify positive or
negative outlooks.

Rating ceiling

While rating an issue outside the issuers country of domicile,international

credit rating agencies impose a ceiling which is equal to the sovereign
rating assigned to the country of domicile.Accordingly rating of an
instrument of any issuer domiciled in that country would be placed above
the sovereign rating of the country of domicile.

Evaluation of Line

Evaluation of bank line policy is an essential component of rating a commercial

paper.However it is not apart of the rating criteria and the rating decision itself
decision itself is not predicted on the strength of the amount of bank lines.

Ownership Considerations

It invariably happens that ownership by a strong enterprises enhances the

credit rating of an entity,unless there exists a barrier separating the activities
of the parent and subsidiary.The important issues that are involved in deciding
the relationship are mutual dependence,legalrelationship,the entitys ability to
influence the business of other.

Grading Process

The process of Equity Grading is mandate from the issuer and involves
the following steps.

Mandate from the issuer

The agency initiates the job of equity analysis and grading on the basis
of instructions received from the issuer.

Assigning Team of Analysis

After obtaining the mandate from the issuer, the agency then proceeds to assign
technical teams to the issuing company in order to begin the analysis process.

Data Analysis

The data collected by the team of analysis is analyzed for inferences. The results
are then benchmarked against general business and financial parameters.


Detailed and personal discussions are held with various managerial personnel. In
addition interactions are also held with bankers and auditors of the company.

Credit Report

On the basis of the discussions and meetings that are held and based on the
data analyzed, a report on the company is prepared. The report is then
presented to the Grading Committee, which in turn assigns the relevant grade.

Grade Communication

The grade assigned by the grading committee is then communicated to the

company.The option of acceptance or non-acceptance rests with the
company.The grade is made public only if the company accepts it. In the event

of non-acceptance the company is given one chance to appeal and the
analysts are provided with fresh inputs and clarifications.




The term consumer finance refers to the activities involved in granting credit to
consumers to enable them possess own goods meant for everyday use.

1.According to Seligman, an authority on consumer finance, the term

consumer credit refers to a transfer of wealth, the payment of which is
deferred on whole or in part to future and is liquidated piecemeal or in
successive fractions under a plan agreed upon at the time of the transfer.

2.Reavis Cox, an authority on economics of consumer credit defines consumer

credit as Business procedure through which the consumers purchase semi-
durables and durables other than real estate in order to obtain from them a series
of payments extending over a period of three months to five years, and obtain
possession of them when only a fraction of the total price has been paid.

Types of consumer Finance

There are several types of credit facility available to consumers.They are

briefly discussed below

Revolving Credit

An ongoing credit arrangement similar to a bank overdraft where by the

financier of a revolving basis, grants credit is called Revolving Credit. The

consumer is entitled to avail credit to the extent sanctioned as the credit
limit. An ideal example of revolving credit is credit cards.

Fixed credit

It is like a term loan whereby the financier provides loan for a fixed period
of time.The credit has to be squared off within a stipulated period.
Examples of fixed credit include monthly instalment loan, hire purchase,etc.

Cash Loan

Under this type of credit banks and financial institutions provide money with
which the consumers buy articles for personal consumption. Here the lender and
the seller are different. The lender does not have the responsibilities of a seller.

Secured Finance

When the credit granted by a financial institutions is secured by a collateral, it

takes the form of secured finance. The collateral is taken by the creditor in
order to satisfy the debt in the event of default by the borrower. The collateral
may be in the form of personal property, real property or liquid assets.

Unsecured Finance

When there is no security offered by the consumer against which money

is granted by financial institution it takes the form of unsecured finance.

Sources of Consumer Finance

The various sources of consumer finance available to people are

discussed below :


The predominant agencies that are involved in the provision of consumer

finance are traders. They include sales finance companies, hire-
purchase and other such financial( non-bank ) institutions.

Commercial Banks

Commercial banks take keen interest in providing, directly or indirectly ,the

finance for consumer durables. Banks lend large sums of money at wholesale
rates to commercial or sales finance companies. Hire purchase concerns and
other such financial intermediaries. Recently banks have also started directly
financing consumers through personal loans, which are meant for purchasing
consumer durable goods. Personal loans are granted without a security.

Credit Card Institutions

Credit card institutions arrange for credit purchase of consumer articles

through the respective banks which issue the credit cards.The credit
card system enables a person to buy goods and services on credit.


Non banking finance companied constitute another important source of

consumer finance. Consumer finance companies also known as small
loan companies, personal finance companies or licensed lenders, are
non-savings institutions whose prime assets constitute sale finance
receivables, personal cash loans to consumers, short and intermediate
term business receivables etc. These finance companies charge
substantially higher rate of interest than the market rates.

Credit Unions

A credit union is an association of people who agree to save their money

together and in turn provide loans to each other relatively lower rates of
interest. These are called cooperative credit societies in India. The first
credit union was started in Germany in the year 1848.These are non-
profit, deposit-taking and low-cost credit institutions.


Middlemen such as dealers of consumer articles also grant credit to

consumers as part of their promotion campaign. In many cases dealers
work in union with banks and finance companies and direct the
consumers to the friendly finance companies. This type of arrangement
helps dealers maintain a close and loyal relationship with customers.


Hire Purchase System


Themodeof acquiring ownership of consumer durables by individuals

and productive assets by manufacturers where by the payment for the
product is conveniently spread over a period of two or three years, is
known as Hire purchase system. Hire purchase serves as a convenient
tool of credit in situations where it is difficult to save in advance to make
the purchase of expensive articles but find it easier to make regular
payment, weekly or monthly after they receive the article.

Characteristics of Hire Purchase System

Following are the characteristics features of hire purchase system

1.Popular Method

Hire purchase is the most popular method used for the sale of expensive
and durable goods on credit.

2.Retention of Right

In a hire purchase the seller sells on credit to buyers the security being
the sellers right to retain property rights on the goods sold.


The Hire purchase is paid in instalments spread over a fixed period.


The property rights in goods sold remains with the seller and the buyer gets
legal ownership of the article only after the payment of the last instalment.


The hire purchase transaction takes place through a formal written

agreement signed by the seller and the buyer. The agreement provides
for the payment of the price in the form of fixed equitable instalments
spread over a specified period of time, the instalments being in the
nature of rental payables on fixed dates.


The buyer is given possession of the goods on payment of the first rental
amount in cash known as the down payment.


When the buyer defaults i.e fails to either pay the specified instalments or
insure the article in accordance with the terms of the contract, the seller has
the right to terminate the hire purchase agreement and take re-possession of
the article. If the agreement is terminated because of default, the hirer or
buyer will have no claim to the amount already paid since that amount is
already paid, since that amount is already treated as rental charges.

8.No Breach of Trust

Under the hire purchase agreement the buyer simply hires the article.
The buyer cannot commit any criminal breach of trust. If the buyer does
so and managers to sell the article the seller can recover the article from
the sub-buyer, since there is no transfer of ownership.

Hire Purchase Agreement

The hire purchase agreement serves as the basis of hire purchase

financing. Following are some of the features of the agreement.

1.Formal agreement

It is a formal agreement between a seller and a buyer under which the

seller agrees to transfer possession of an article to the buyer.


It is a document that sets out the terms and conditions on the basis of
which goods are sold on credit. It also sets out the payment schedule
spread over a fixed future period.


The property ownership right for the goods passes from the seller to the
buyer only when the last instalment is paid and only where the buyer
fulfills all the terms of the agreement.


The seller is the owner of the goods right up to the payment of the last
instalments. Therefore the seller can take possession of the article sold
in the event of failure to pay the instalments.

Advantages of Hire purchase System

1.No immediate cash

Hire purchase finance helps asset creation without having to

immediately part with the cash.

2.Easy possession

The hire purchase financing system helps individuals of limited means to

realize their dreams by facilitating the possession of the article.

3.Economic growth

Hire purchase finance helps the growth of the economy by enhancing,

investment and sales. In addition the mass sale of expensive and durable
goods also contributes to employment generation. It helps mass production
and accelerates industrial development and economic growth.


Hire purchase inculcates /forces the saving habit on the buyer so that it
becomes possible to pay instalments without default.

5.Relief to Buyer

It relieves the buyer of arranging for loans and advances which eventually
involves a financial burden to pay for the asset. It is considered to be
advantageous especially for the small sector farmers and industrialists.

Instalment Credit System


A system of consumer financing where by the payment of the purchase

price is deferred to be paid in reasonable instalments is known as
Instalment credit system.

Features of Instalment System

The instalment system which is a modified hire purchase sale has the
following features.

1.An ordinary sale of goods with easy payment system.

2.The buyer obtains ownership and possession on payment of the first


3.Payment is made through a number of instalments.

4.No possibility of the article sold being returned to the seller since sale
is complete immediately after the execution of the agreement.

5.Seller has no right to recover possession of the goods even if the

buyer commits a default in the payment of outstanding instalments and
there is no question of forfeiture of paid instalments against default. He
is entitled to recover his dues with the help of the court.

Unit - III



According to Meaning of Leasing the Institute of Chartered Accountants of

India, a lease is an agreement whereby the lessor conveys to the lessee, in
return for rent the right to use an asset in consideration of a payment of
periodical rental, under a lease agreement. Lessee is a person who obtains
from the lessor, the right to use the asset for a periodical rental payment for
an agreed period of time.

A financing arrangement that provides a firm with the advantage of using

an asset without owning it, may be termed as Leasing.

Characteristics of Lease

1.The Parties

There are two parties to a lease agreement.They are the lessor and the
lessee.Lessor is a person who conveys to another person (lessee) the right
to use an asset in consideration of a periodical rental payment, under a
lease agreement.Lessee is a person who obtains the right to use from the
lessor for a periodical rental payment for an agreed period of time.

2.The Asset

Leasing is used for financing the use of fixed assets of high value.The asset is
the property to be leased out.It may include an automobile,an aircraft ,plant and
machinery, a building etc.However the ownership of the asset is separated from
the use of the asset.During the period of the lease, the ownership of the asset
rests with the lessor while the use is transferred to the lessee.


The term of the lease is called the lease period.It is the period for which the
lease agreement is in operation.It is illegal to have a lease without a specified
term. However in India, perpetual lease is in operation where the lease period
is for an indefinite period of time. On expiry of the lease period, the asset
reverts to the lessor mentioned in the operating lease.In the case of a financial
lease period is in consonance with the economic life of the asset so that the
lessee is given the advantage of exclusive use throughout its useful period.

Sometimes the lease period may be broken into primary lease period and
secondary lease period.A primary lease period is a period during which the
lessor wants to get back the investment together with interest. As secondary
period comprises the latter part of the lease period where only nominal rentals
are charged in order to keep the lease agreement operational.

4.The Lease Rentals

Lease rentals constitute the consideration payable by the lessee as

specified in the lease transaction. Rentals are determined to cover such
costs as interest on the lessors investment, cost of any repairs and
maintenance that are part of the lease package, depreciation on the
asset and any other service charges in connection with lease.

Types of Lease

Lease is of different types.They are discussed below:

1.FinancialLease A financial lease is a noncancelable in nature.The lease

generally provides for the renewal of the lease on expiry of the lease contract.

Variants of financial lease include full payout lease and true lease.

(i).Full Payout Lease-In this type of lease,the lessor recovers the full value of
the leased asset within the period of the lease rentals and the residual value.

(ii)True Lease- In this type of lease, the typical tax-related benefits such as
investment tax credit,depreciation tax shields etc. are offered to the lessor.

2.Operating Lease An operating lease is any other type of lease

whereby the asset is not fully amortized during the non-cancelable
period of the lease and where the lessor does not rely on the lease
rentals for profits.It is a short-term lease on a period to period
basis,the period of lease being less than the useful life of the asset.

The lease is cancellable at short notice by the lessee.The lessee has the
option of renewing the lease after the expiry of the lease period.It is the
responsibility of the lessor to ensure maintenance,insurance, etc. of the
asset which is chargeable by the lessor. It is a high-risk lease to the
lessor since it could be cancelled at any time.

3.Net Lease- A variant of operating lease is not lease.A type of lease

where the lessor is not concerned with the repairs and maintenance of
the leased asset is known as Net Lease.The only function of thelessor is
to provide financial service.

4.Conveyance-typeLease-Itisa very long tenure lease applicable to immovable

properties.The intention of the lease is toconvey title in property.Such leases are
entered into for periods which may be as long as 99 years or 999 years.

5.Leveraged Lease- When a part or whole of the financial requirement involved

in a lease are arranged with the help of a financier, it takes the form of leveraged
lease.This type of lease is resorted to in cases where the value of the leased
asset is very high.In this type of lease the lessor who is also a financier

involves one more financier who may hold a charge over the leased
asset over and above a part of the lease rentals.

4.Sale and LeaseBack-Under this type of lease the owner of an asset sells it to
the lessor and gets the asset back under theleaseagreement.The ownership of
the asset changes hands from the original owner to thelessor who in turn leases
out the asset,back to the original owner.This paper exchange of title has the effect
of providing immediate free finance to the selling company, the lessee.The
transaction also helps the release of fundstied up in that particular asset.

5.Partial Pay-outLease- It is a type of lease whereby the lessor obtains

full payment of the lease in several leases.This broadly falls under the
category of operating lease.

6.Consumer Leasing-Leasing of consumer durables such as

televisions, refrigerators etc is called consumer leasing.

7.Balloon Lease-A type of lease which has zero residual value at the
end of the lease period is called Balloon Lease.It also means a kind of a
lease where thelease rentals are low at the inception, high during the
mid years and low again during the end of the lease.

8.Close-End Leasing-A leasing arrangement whereby the asset leased

out is reverted to the lessor is known as close-end leasing.It is also
called walk-way lease.

9.Open-end Leasing- A term commonly used in automobile leasing in the USA,it

means a lease agreement where lessee guarantees that lessor will realize a
minimum value from the sale of the asset at the end of the lease period.

Under this arrangement if the assets residual value fetches less price than
agreed,the lessee pays the difference to the lessor. In the same manner where
the assets residual value fetches more than the value agreed the lessor pays the

excess to the lessee.It is so called because the lessee does not know
the actual cost of the asset until it is sold at the end of the lease.

10.Swap Leasing-In swap leasing the lessee is allowed to exchange

equipment leased out whenever the original asset has to be sent to the
lessor for repair or maintenance.

11.Import Leasing-The leasing of imported capital goods is known as

import leasing.It is beneficial to the lessee because arranging any other
source offunding may take a long time, during which the prices of the
importable item as also the rates of exchange may change. Moreover
lenders dont usually finance the import duty which forms a sizable part
of theacquisition of such items.

12.Cross Border Leasing-A type of lease where the lessor in one country
leases out assets to another country is known as cross-border leasing.

13.Double Dip- According to the concept of double dip,it is possible to

have advantage of depreciation tax benefits twice,depending on the
prevelance of differing tax laws in two different countries.

14.Triple Dip-Where the benefit of depreciation tax allownces is

available in three different jurisdiction for a single asset leased out,it is a
case ofTriple dip.Accordingly benefits are available for hire
purchases ,true lease and capital lease.

15.International Leasing- When a leasing company operates in different

countries through its branches it is a case of international leasing.

Unit IV

Mutual Funds

A trust that pools the savings of investor who share a common financial goal is
known as a Mutual Fund.The money thus collected is then invested in financial
market instruments such as shares,debentures and other securities like
government paper.The income earned through these investments and the capital
appreciation realized,are shared by its unit holders in proportion to the number of
units owned by them.Investments in securities are spread over a wide cross
section of industries and sectors,thus allowing risk reduction to take place.

A special type of institution that acts as an investment conduct is called a

Mutual Fund. It is essentially a mechanism of pooling together the savings
of a larger number of investors for collective investments with the objective
of attractive yields and appreciation in their value.Mutual funds are an
important segment of the financial system. It is a non depository financial
intermediary. Mutual are mobilizers of savings,particularly of the small and
house hold sectors, for investment in the stock and money market.

To state in simple words, a mutual funds collects the savings from small
investors, invest them in Government and other corporate securities and
earn income through interest and dividends.

A mutual fund is nothing but a form of collective investment. It is formed by the

number of investors who transfer their surplus funds to a professionally qualified
organization to manage it.To get the surplus funds from investors, the fund
adopts a simple technique.Each fund is divided into a small fraction called

unitsof equal value.Each investor is allocated units in proportion to the size of

his investment.Thus every investor whether big or small will have a stake in
the fund and enjoy the wide portfolio of the investment held by the fund.

Features /Role/Benefits

1.Mobilizing Small Savings

Mutual funds mobilize funds by; selling their own shares,Known as units.To an
investor, a unit in mutual funds means ownership of a proportional share of
securities in the portfolio of a mutual fund.This gives the benefit of
convenience and the satisfaction of owning shares in many industries.Thus,
mutual funds are primarily investment intermediaries to acquire individual
investments and pass on the returns to small fund investors.

2.Investment Avenue

One of the basic characteristics of a mutual fund is that it provides an ideal

avenue for investment forpersons of small means and enables them to earn
a reasonable return with the advantages of relatively better liquidity.It offers
investors a proportionate claim on the portfolio of assets that fluctuate in
value in comparison to the value of the assets that comprise the portfolio.

3.Professional Management

It is possible for the small investors to have the benefit of professional

and expert management of their funds.Mutual funds employ professional
experts who manage the investment portfolios efficiently and profitability.

Investors are relieved of the emotional stress involved in buying or selling

securities since mutual funds take care of this function.With their
professional knowledge and experience, they act scientifically with the right
timing to buy and sell for their clients. Moreover, automatic reinvestment of
dividends and capital gains provides relief to the members of mutual funds.

Expertise in stock selection and timing is made available to investors so
that the invested funds generate returns.

4.Diversified Invesments

Mutual funds have the advantage of diversified investment of funds in

various industry segments across the country.This is advantageous to small
investors who cannot afford having the shares of highly established
corporates because of high market price.Thus mutual funds allow millions
of investors to have investment ina variety of securities of many different
companies.Small investors therefore share the benefits of an efficiently
managed portfolio managed portfolio and are free of the problem of
keeping track of share certificates etc of various companies tax,rules etc.

5.Better Liquidity

Mutual funds have the distinct advantage of offering to its investors the benefit
of better liquidity of investment.There is always a ready market available for
the mutual funds units. In addition there is also an obligation imposed by SEBI
guidelines.Further a high level of liquidity is possible for the fund holders
because of more liquid securities in the mutual fund portfolio.The securities
could be converted into cash at anytime.Moreover mutual fund schemes
provide the advantage of an active secondary market by allowing the units to
be listed and traded thus offering a secondary market for the units

6. Reduced Risk

There is only a minimum risk attached to the principal amount and return for
the investments made in mutual fund schemes. This is usually made possible
by expert supervision, diversification, and liquidity of units. Mutual funds
provide small investors the access to reduced investment risk resulting from

diversification, economies of scale on transaction cost and professional
finance management.

7. Investment Protection

Mutual funds in India are largely by guidelines and legislative provisions put in
place by regulatory agencies such as the SEBI.The Securities Exchange
Commission (SEC) in the USA allows for the provision of safety of
investments. In order to protect the investor interest, it is incumbent on the
part of mutual funds to broadly follow the provisions laid down in this regard.

8. Switching Facility

Mutual funds provide investors with flexible investment opportunities,

whereby it is possible to switch from one scheme to another. This enables
investors to shift from income scheme to growth scheme or vice versa or
from a close ended scheme to an open ended scheme, all at will.

9. Tax-Benefits

An attractive benefit of mutual funds is that the various schemes offered

by them provide tax shelter to the investor. This benefit is available under
the provisions of the Income Tax Act.

10. Low Transactions Cost

The cost of purchase and sale of mutual funds units is relatively lower.
This is due in the large volume ofmoney being handled by mutual funds
in the capital market. The fees payable such as brokerage fee or trading
commission etc. are lower. This obviously enhances the quantum of
distributable income available for investors.

11. Economic Development

Mutual funds make contribution to the development of a countrys economy.

For instance, the efficient functioning of mutual funds contributes ton efficient
financial system. This in turn paves the way for efficient allocation of the
financial resources of the country, thus contributing to the economic
development. This is made possible through the mobilization of more savings
and channelizing them to the productive sectors of the economy.

12. Convenience

Mutual Fund units can be traded easily and with little or no transaction
costs. No brokerage is incurred.

13. Other Benefits

In addition to the above mentioned advantages, mutual funds also offer

the following benefits as compared to a personal portfolio:

Adoption to reinvest dividends

Strong possibility of capital appreciation

Regular returns


Investors have an option of choosing from a wide variety of schemes in a

mutual fund, depending upon their requirements.Following section
presents a detailed classification of mutual funds.

Operational Classification

1.Open-ended scheme When a fund is accepted and liquidated on a

continuous basis by a mutual fund manager, it is called open-ended scheme. The
fund manager buys and sells units constantly on demand by the investors.

Under this scheme the capitalization of the fund will constantly
change,since it is always open for the investors to sell or buy their share
units.The scheme provides an excellent liquidity facility to
investors,although the units of such scheme are not listed.

2.Close-Ended Scheme- When units of a scheme are liquidated (repurchased)

only after the expiry of a specified period it is known as a close-ended
scheme.Under this scheme funds have fixed capitalization and remain as a
corpus with the mutual fund manager.Units of close-ended scheme are to be
quoted and therefore traded in the floors of a stock exchange in the secondary
market.The price is determined on the basis of demand and supply.Therefore
there will be two prices,one is market determined and the other which is NAV-
based.The market price may be either above or below NAV.

3.Interval Scheme-It is a kind of close-ended scheme with a peculiar feature

that it remains open during a particular part of the year for the benefit of
investors,either to off-load their holdings or to undertake purchase of units at
the NAV.Under SEBI (MF) Regulations every mutual fund is free to launch any
or both types of schemes including interval scheme.

3.Return Based Classification

Under this classification fall those mutual fund schemes that are
designed to meet the diverse needs of investors and to earn a good
return.Returns expected are in the form of regular dividends or capital
appreciation or a combination of these two.

1.Income Fund Scheme

This scheme that is tailored to suit the needs of investors who areparticular
about regular returns is known as income fund scheme.The scheme offers the
maximum current income,where by the income earned by units is distributed

periodically .such funds are offered in two forms.Such funds are offered
in two forms.The first scheme earns a target constant income at
relatively low risk,while the second scheme offers the maximum possible
income.This obviously implies that the higher expected return comes
with a higher potential risk of the investment.

2.Growth Fund Scheme

It is a mutual fund scheme that offers the advantage of capital appreciation of

the underlying investment.For such funds investment is made in growth-
oriented securities that are capable ofappreciating in the long run.Growth
funds are also known as nest eggs or long investments.In proportion to such
capital appreciation the amount of risks to be assumed would be far great

3.Conservative Fund Scheme

A scheme that aims at providing a reasonable rate of return,protecting

the value of the investment and achieving capital appreciation,may be
designed as conservative fund scheme.These are also known as middle
of-the- road funds,since such funds offer a blend of
allthesefeatures.Further such funds divide their portfolio in common
stocks and bonds in such a way as to achieve the desired objectives.

Investment-Based Classification

1.Equity Fund Scheme

A kind of mutual fund whose strength is derived from equity based investments
is called equity fund scheme.They carry a high degree of risk.Such funds do well
in periods of favourable capital market trends.A variation of the equity fund
scheme is the Index Fund or Never beat market fund which are involved in
transacting only those scrips which are included in any specific

index E.g the scrips which constitute the BSE-30 or 100 shares National
index.Thesefunds involve low transactions costs.

2.Bond Fund Scheme

It is a type of mutual fund whose strength is derived from bond based

investments. The portfolio of such funds comprises bonds,debenturesetc.This
type of fund carries the advantage of secure and steady income. However,
such funds have little or no chance of capital appreciation and carry low risk. A
variant of this type of fund is called Liquid funds which specializes in investing
in short term money market instruments. This focus on liquidity delivers the
twin features of lower risks and lower returns.

3.Balanced Fund Scheme

A scheme of mutual fund that has a mix of debt and equity in the portfolio
of investments may be referred to as a balanced fund scheme.The
portfolio of such funds will be often shifted between debt and
equity,depending upon the prevailing market trends.

4.Sectoral Fund Scheme

When the managers of mutual funds invest the amount collected from a
wide variety of small investors directly in various specific sectors of the
economy,such funds are called sectoral mutual funds.The specialized
sectors may include gold and silver,realestate,specific industry such as
oil and gas companies,offshore investments.

5.Funds-of-funds scheme

There can also be funds of funds where funds of one mutual fund are invested
in the units of other mutual funds.There are a number of funds that direct

investment into a specified sector of the economy. This makes
diversified and yet intensive investment of funds possible.

6.Leverage-fund scheme

The funds that are created out of investments with not only the amount
mobilized from small savers but also the fund managers who borrow money
from the capital market are known as leverage-fund scheme.This way fund
managers pass on the benefit of leverage to the mutual fund investors.

7.Gilt Funds

These funds seek to generate through investment ingilts.Under this scheme

funds are invested only in central and state Government securities and
repos/reverse repos in such securities, and not in equity or corporate debt
securities.A portion of corpus may be invested in the call money market or RBI
to meet liquidity requirement. This may provide alternative investment for the
call money market.Government securities carry zero credit risk or default risk.


These are also known as growth funds,but they are linked to a specific
index if share prices.It means that funds mobilized under such scheme
are invested principally in the securities of companies whose securities
are included in theindex concerned and in the same weightage. Thus the
funds performance is linked to the growth in the concerned index.

9.Tax Saving Scheme

Certain mutual fund schemes offer tax rebate on investments made in equity
shares, under section 88 of the Income Tax Act 1961.Income may also be
periodically distributed,depending upon surplus.Subscriptions made upto
Rs.10,000 in an assessment year are eligible for tax rebate under Section 88.

10.Other Funds


Where mutual fund managers charge a fee over and above the NAV
from the purchaser.

b. No Load Funds

Where no load-fee is charged because very little effort is made to

promote the sale of the funds unit except through direct advertising.

c.MMMF which is designed to offer tax options

d.Offshore Mutual Funds

also known as regional or country funds where the funds are mobilized
from abroad for deployment in the Indian market.

e.Other funds such as property funds, art funds,commodity funds,energy funds


SEBI ( Mutual Funds) Regulations,1996

The regulations governing the functioning of the mutual funds in India were
introduced by SEBI in December 9,1996.The objectives of these regulations
was to impose regulatory norms for the formation, operation and management
of mutual funds in India.The regulations also lay down the broad guidelines on
investment valuations,investment restrictions,advertisement code and code of
conduct for mutual funds and asset management companies.The salient
features of these regulations are as follows.

SEBIs Regulations to Registration of Mutual Fund

1.Every mutual fund shall be registered with SEBI through an application

to be made by the sponsor in the prescribed proforma,accompanied by a
non refundable application fee of Rs.25,000.

2.Every mutual fund shall pay Rs.25 lakh towards registration fee and
Rs.2,50,000 p.a.as service fees.

3.Regisration will be granted by the Board on fulfillment of conditions

such as thesponsor having a sound track record of five years and a
general reputation of integrity in all business transactions, the net worth
of the immediately preceeding year being more than the capital
contribution of thesponsor in Asset management company and the
sponsor showing profits after providing for depreciation,interest and tax
for three out of the immediately preceding five years.

SEBI Regulations for Constitution and Management of Mutual Fund

I Regulations as to the trust

1.Constitution Amutual fund shall be constituted in the form of a trust

under the provision of Indian Registration Act,1908(u/s 16 of 1908)and
the trust deed containing the provisions laid down by SEBI.

2.Code of conduct-A trustee should be a person of ability ,integrity and

standing and should not have been found guilty of moral turpitude or been
convicted of any economic offense or violation of any securities law.

3.IndependenceAtleast 50 percent of the trustees shall be independent trustees

(who are not associated with an associate,subsidiary or sponsor in any manner).

4.Agreement-The trustees and the AMC with SEBI s prior approval shall
enter into an investment management agreement.
5.Requirement-The trustees shall ensure before the launch of a scheme
that theAMC has its back office,dealing and accounting system in place,
and that key personnel,auditors and registrars are appointed. They also
have to ensure that the compliance manual has been prepared,an internal
control mechanism has been designed and norms have been specified for
the empanelment of brokers and marketing agents.

6.Monitoring- The trustees shall ensure that the AMC has been diligent
in monitoring securities transactions with brokers, and in avoiding undue
concentration of business with any single broker.

7.Managing-The trustees shall ensure that the AMC has been managing
the schemes independently of other activities.They should also take
remedial steps by informing SEBI if the conduct of business of a mutual
fund is not in accordance with SEBI regulations.

8.Consent-In the interests of unit holders the trustees shall obtain the
consent of the unit holders or if a majority of trustees decide to wind up
or prematurely redeem the units or in the event of any change in the
fundamental attributes of any scheme , trustee, fees, expenses payable
or any other change in the fundamental attributes of any scheme,
trustees, fees, expenses payable or any other change which would
modify the scheme or affect the interest of unit holders.

9.Details The trustee shall call for the details of transactions in

securities from the key personnel of the AMC.

II SEBI s Regulations as to Asset Management Company

1.For grant of approval of the AMC it should have a sound track

record,general reputation and fairness in transaction.

2.The sponsor or trustees (if authorized by the trust deed)shall appoint
an AMC with SEBI s approval.

3.The appointment of AMC can be determined by a majority of the

trustees or by 75 percent to the unit holders of the scheme.

4.The directors of the AMC should have adequate professional experience I

finance and related with the sponsor or its subsidiaries or the trustees.

5.Atleast 50 percent if the directors of the Board of Management of the AMC

should not be associated with the sponsor or its subsidiaries or the trustees.

6.The Chairman of the AMC should not be atrustees of any other mutual fund.

7.No AMC shall act as an AMC for any other mutual fund.

SEBIs Regulations to Schemes of Mutual Funds

1.Approval- All the schemes to be launched by the AMC need to be

approved by the trustees,and copies of offer documents of such
schemes are to be filed with SEBI.

2.Disclosure The offer documents shall contain adequate disclosures

so asto enable the investors to make informed decisions.

3.AdvertisementsAdvertisement of schemes should be in confirmity

with the SEBI- prescribed advertisement code.

4.Listing-The listing of close ended schemes is mandatory and every

close ended scheme should be listed in arecognized stock exchange
within 6 months from the closure to susbscription. Listing however is not
mandatory in case the scheme provides for periodic repurchase facilities
to all unit holders and the if the scheme provides for monthly income or
caters to special classes of persons like senior citizens.

5.Redemption-Units of a close ended scheme can be opened for sale or
redemption at apredetermined fixed interval.

6.Subscription open- No scheme other than unit linked scheme can be opened
for subscription for more than 45 days. The AMC shall specify in theoffer
documents the minimum subscription amount it seeks to raise under the scheme
and in case of oversubscription, the extent of subscription it may retain.In such a
case all applicants applying for upto 5000 units shall be given full allotment.

7.Repurchase of close end scheme-The asset management company may at

its option,repurchase or reissue therepurchased units of a close ended
scheme .The units of close ended schemes mentioned above may be open for
sale or redemption at fixed predetermined intervals without listing, if the
maximum and minimum amount of sale or redemption of the units and
theperiodicity of such sale/redemption have been disclosed in theoffer document.

8.Conversion into open- ended schemes The units of close ended schemes
may be converted into open ended scheme, if the offer document of such a
scheme discloses the option and the4period of conversion. Upto January
12,1998, approval by the majority of the unit holders for such a conversion was
required. But now, those unit holders who do not express written consent to the
above shall be allowed to redeem their holdings in fullat NAV based prices.

9.Roll over- A close ended scheme shall be fully redeemed at the end of the
maturity period unless a majority of the unit holders decide for its roll over by
passing a resolution. But the unit holders who do not opt for roll-over shall be
allowed to redeem their holdings in the scheme at NAV based prices.

10.Offering period- Any scheme of a mutual fund shall be open for

subscri0ption for not more than 45 days.

11.Refund- The mutual fund and asset management company shall be
liable torefund the application money to the applicants if the minimum
subscriptions referred to above is not received and incase of over
subscription. The same shall be refunded within 6 weeks from the date
of closure of subscription list or 15 % p.a shall be payable.

12.Transfer of Units Unless otherwise restricted or prohibited under

the scheme a unit certificate shall be freely transferable by act of parties
or by operation of law.

13.Guaranteed returns- Aunit scheme may provide for guaranteed return

only if such returns are fully guaranteed by the sponsor or the Asset
Management Company a statement indicating the name of the persons who
will guarantee thereturn is made in the offer document and the manner in
which theguarantee is to be meant has been stated in the offer document.

Mutual Funds in India

The mutual fund industry in India made its debut with the setting up of
the largest public sector mutual fund in the world namely the Unit Trust
of India (UTI).It was set up in the year 1964 by a special Act of
Parliament. The first unit scheme offered was the US-64.A host of other
fund schemes were subsequently introduced by the UTI.

The basic objective behind the setting up of the Trust was to mobilize
small savings and to allow channelizing of those savings into productive
sectors of the economy so as to accelerate the industrial and economic
development of the country.

The monopoly of the UTI ended in the year 1987 when the Government of India
permitted commercial banks in the public sector to set up subsidiaries operating

astrusts to perform thefunctions of mutual funds by amending the
Banking Regulation Act.

SBI set up the first mutual fund which was followed by Canara
Bank.Later many large financial institutions under government control
also came out with mutual funds subsidiaries.

The government introduced a number of regulatory a number of

regulatory measures through various agencies such as the SEBI, for the
purpose of allowing the growth of the mutual funds industry inan orderly
fashion for the benefit of the investors, especially the small investors.

Managing Mutual Funds in India

The four tier system for managing mutual funds in India is as designed by the


The Sponsor

Any corporate body which initiates the launching of a mutual fund is

referred to as the sponsor.The agency which is expected to have a
sound track record and experience in the relevant field of financial
services for a minimum period of 5 years, ensures complying with the
various formalities required in establishing a mutual fund.

According to SEBI norms the sponsor should have professional

competence, financial soundness and a general reputation for fairness and
integrity in business transactions. There must be a minimum contribution by
the sponsor to the tune of 40 percent of the net worth of the Asset
Management Company. The sponsor appoints trustees, as asset
management company and custodians in compliance with the regulations.

The Trustees

Persons who hold the property of the mutual fund in trust for thebenefit of the unit
holders are called trustees. Trustees look after the mutual fund which is
constituted as a trust under theprovisions of the Indian Trust Act. For this purpose
a company or appointed as a trustee to manage with prior approval from SEBI. A
minimum of 75 percent of the trustees must be independent of the sponsors so
as to ensure fair dealings. The important functions of the Trustees:

1.Keep under its custody allthe property of the mutual fund schemes
administered by the mutual fund.

2.Furnish information to unit holders as well asto about the mutual fund

3.Appoint an asset management company (AMC) for the purpose of

floating the mutual funds schemes.

4.Evolve an investment management agreement to be entered into with AMC.

5.Observe and ensuring that AMC of managing schemes in accordance

with the trust deed.

6.Dismiss the AMC appointed by the Trustees.

7.Supervise the collection of any income due to be paid to the scheme.

8.Are paid compensation for their services in the form of trusteeship fee
as specified in the provisions of the trust deed. Trustees are to present
an annual report to the investors.

The Custodians

An agency that keeps custody of the securities that are bought by the mutual
fund managers under the various schemes is called the custodians. They ensure

safe custody and ready availability of scrips. According to SEBI norms, the
custodian who is so appointed should in no way be associated with the
AMC and cannot act as sponsor or trustee to any mutual fund. A custodian
is supposed to act for a single mutual fund unless otherwise approved by
SEBI. Some of the important functions of thecustodians are:

1.Safe keeping of the securities.

2.Participation in any clearing system on behalf of the client to effect

deliveries of the securities.

3.Collecting income /dividends on the securities depending on the terms

of agreement.

4.Ensuring delivery of scrips only on receipt of payment and payment

only upon receipt of scrips.

5.Carrying out regular reconciliation of assets with accounting records.

Ensuring timely resolution of discrepancies and failures

6.Arranging for proper registration or recording of securities.

Asset Management Company (AMC)

The investment manager of a mutual fund is technically known as the Asset

Management Company and is appointed by thesponsor or the
trustees.TheAMC manages the affairs of the mutual fund.It is responsible for
operating all the schemes of the fund and can act as the AMC of only one
mutual fund.Only activities which are in the nature of management and
advisory services to offshore funds, pension funds, provident funds, venture
capital funds,management of insurance funds, financial consultancy and
exchange of research on commercial basis can be undertaken by the
AMC.With the permission of SEBI it can alsooperate as an underwriter.

Unit Trust of India

The unit trust of India(UTI) was the first government sponsored mutual fund in
the country with social content and government commitment.The Trust was
established in 1964 by a special Act of parliament passed in the year 1963.It
was constituted as afinancial intermediary to mobilize savings through the sale
of units and invest these funds,primarily in corporate securities.UTI followed
the British pattern in which the function of management and trustees is
combined in one body.The special attraction of theschemes that were
launched by the trust was the tax concessions that were launched by the Trust
was the tax concessions that were made available to the unit holders.


The management of the Trust is vested in the Board of Trustees comprising of

eleven trustees headed by a Chairman appointed by the Government.The
Board is responsible for the supervision,direction, and management of UTI,
and has all the necessary powers to carry out its responsibilities.The chairman
heads a senior management team and the executive trustees.It is responsible
for the daily management and administration of Unit Trust of India.

Investment Committee

The day to day management of the investment portfolio is done by an

investment Committee which is assisted by a Research and Analysis
Department. The Investment Committee actively monitors trends and policies
affecting the economy as awhole and the Indian securities market.Details of
the financial results critical ratios and yield of nearly 300 corporations are
maintained online on Unit Trust of India s computer system and some specific
corporations or industries are subject to detailed study from time to time.

Investment Restrictions

The Unit Trust of India is prohibited

1.Investing insecurities having unlimited liability.

2.Investing more than 10 percent of the total assets of the Unit trust of
India scheme in unlisted equities.

3.Investing in securities issued by a unit trust,mutual fund, investment

corporations or other similar investment vehicle.

4.Borrowing unless it is required for clearance transactions.

5.Dealing short or in options.

6.Investing more trust holding more than 5 percent of the total assets of
the scheme of the Trust in the obligations of single equity, provided that
such percentage may be increased upto 10 percent on the condition that
the aggregate of all such obligations on excess of 5 percent does not
exceed 20 percent of the total assets of the scheme of the Trust.

7.Acquiring any security if it amounts to the trust holding more than 10

percent of any class of securities of an issuer.

8.Buying or selling commodities,futures or futures contracts, real estate

or interests in real estate and the securities of corporations which invest
or deal in real estate.

9.Making any loan(other than by theway of call deposits and bills

discounted by, banks,short term borrowings by corporations and variable
rate debentures)or giving any guarantee or granting any security.

10.Making investments for the purpose of exercising legal or

management control.

Reorganization of UTI

Parliament has approved the bifurcation of the unit trust of India into two
companies viz UTII and UTI-II.Under the new arrangement,UTI-Iwould
not be floating any new scheme and the government would meet all
existing commitments. The UTI-IIwould be started as a SEBI regulated
asset managed and market competing scheme.

Government would remain committed to Part-I for UTI social content,it

would allow thesecond part ofUTI to act as mutual fund in competition
with private players under SEBI regulation.

Regulatory Structure of Mutual Funds

The regulatory structure for mutual funds as operating in India is as follows:

1.RBI Guidelines.

2.UTIs Own Guidelines.

3.SEBI(Mutual Fund) Regulations.

A brief description of the provisions and regulatory norms of the above

authorities is given below

RBI Guidelines

Constitution and Management Guidelines

1.Trustees Every mutual fund shall constitute a trust under theIndian

Trust Act and thesponsoring bank should appoint a Board of Trustees to
manage it.The board of trustees should have atleast two outside trustees
i.e those who are not connected with the sponsoring bank are person of
ability and integrity and have proven capacity to deal with problems
relating to investment and investor protection.
The day to day management of the schemes under the fund as may be
delegated by the Board of Trustees should be looked after by a fulltime
executive trustee who not be concurrently discharging any other
responsibility in the concerned bank.

2.Sponsor- The sponsor bank fund contribution to the corpus of the fund should
be a minimum of Rs.2 crores or such higher amount as may be specified by the
RBI.The corpus may be converted at a later date into a subscription to any of the
schemes of the fund with theapproval of the Board of Trustees of the fund.The
sponsor bank should make no additional contribution to the corpus without the
approval of RBI.The sponsor bank should contribute and maintain its stake in
each of the funds scheme equivalent to the amount outstanding.

3.Mutual Fund banks-Banks should obtain RBI s prior approval before

announcing any scheme of a mutual fund,irrespective of whether it is
identical or not to any of the earlier schemes approved by RBI.

Investment Objectives and policies

1.Trust Deed The investment objectives and policies of the mutual

fund should be laid down in the Trust Deed andevery scheme to be
launched by the fund must be in accordance with these broad objectives
and policies,rules, and regulations,framed in connection therewith. While
inviting subscription from the public,the mutual fund should make a clear
statement of investment objectives of the fund and its investment
policies besides the term and conditions of the scheme.

2.Funds Deployment-The subscription amounts collected by mutual funds

are primarily intended to be channeled into capital market instruments like
Government and other Trustees securities,share,debentures of public
limited companies ,bonds of public sector undertakings.

3.Nolending-The mutual funds should not undertake direct or indirect lending,
portfolio fund management,underwriting,billsdiscounting,money market
operations etc which are essentially banking /merchant banking functions.

4.Inter-scheme- Mutual funds may invest in schemes in other money market

instruments,rediscounting of bills or bank deposits for periods not exceeding six
months.The mutual funds also invest their temporary surplus funds in similar
instruments upto not more than 25 percent of their total investable funds.

5.Prohibited avenues- Mutual funds shall not make short sale /purchase
of securities to carry over the transactions from one settlement period tk the
next settlement period.Similiarly no investment shall be made in any other
unit trust, mutual fund or similar collective investment schemes.The funds
should also not invest in shares etc of investment companies.

Prudential Exposure ceiling limits-Mutual funds shall nothold under any

one scheme ,more than 5 percent of issued share capital or debenture
stock of any company.In case more than one scheme is operated by a fund,
such holdings in respect of all its schemes put together,should not exceed
15 percent of the paid up capital or debenture stock of a company.

Pricing The maximum spread between purchase and selling prices of

units/shares of any scheme should not be more than 5 percent.

Income Distrtibution

1.Cost- The total cost of managing any scheme under a fund inclusing
management fees and other administrative costs should be kept3 within
5 percent of the total income of thescheme.

2.Income Distribution-Income distribution by way of dividend or

capitalization of gains should not be made on the basis of revaluation of
the stock holdings or unrealised capital appreciation.
Statement of accounts and disclosures

1.separate accounts- Mutual funds shall maintain separate accounts of

each scheme launched by it segregating the assets under each scheme.

2.Annual Statement- The Board of Trustees of mutual funds shall

prepare an annual statements of accounts for each of theschemes
furnishing details such as statements of assets and liabilities , income
and expenditure accounts duly audited by qualified auditors.

UTI Guidelines

Constitution and Management

1.Trust- The mutual fund shall be constituted as a trust,with the investor

as the beneficiary.The basic structure should consist of 3 elements,viz
the trustees the fund manager and the beneficiary.The trustee could be
the sponsor bank.The mutual fund should qualify to engage in the
business of investment and management of securities.

2.Board of Trustees The management of the mutual fund shall vest in

the Board of Trustees.The board of trustees shall have not less than
members and not more than 10 members.Day to day management shall
be the responsibility of the Board of trustees.

3.Sponsor shall contribute Rs.5crores to thecorpus fund as non

transeferablecapital.The corpus may be used to commence investment
in schemes to be floated by the mutual fund.

4.Approval- UTI should obtain approval for its mutual fund schemes
from the Ministry of finance.

Investment Objectives and Policies

1.Areas of Investment-The mutual fund can engage itself in activities
such as holding or disposing of securities, collecting and discounting
ofbills of exchange,purchasing and selling of participation certificates in
relation to any loan or advances granted by any public financial
institution or scheduled bank,make deposits with companies,formulate
schemes inassociations with LICorGIC.

2.Granting advance Mutual funds can grant advances to corporations

or cooperative societies engaged in industrial activities. under this head
shall not exceed 20 percent of the funds in any scheme.

Investment Limits

Scheme limit- No schemes of a mutual fund should invest more than 5 percent
of its assets on the equity of the company.Investment in a company should not
exceed 15 percent of the securities issued by the company.

Pricing and Income Distribution-

1.Each mutual fund should clearly provide in the offer document,investment

objectives of the scheme and the manner of publication of NAV.

2.Where it is not possible to announce a general policy for the

distribution of income,the mutual fund should give due weightage to
theprincipal objectives and the investment objectives of the scheme.

Account Statement and Disclosures

1.The mutual fund should maintain separate account for each scheme.

2.Books of account should be balanced and closed atleast once each year.

3.Valuation of each scheme should be done atleast once in a year.

4.Accounts should be audited every year.


Factoring and Forfaiting

Factoring Meaning

The word factor is derived from the Latin word facere which means to
make or do or to get things done. Factoring originated in countries like
USA ,UK,France,etc where specialized financial institutions were
established to assist firms in meeting their working capital requirements
by purchasing their receivables.


A financial service whereby an institution called the Factor,undertakes the

task of realizing accounts receivables such as book debts,bills receivables,
and managing sundry debts and sales registers of commercial and trading
firms in the capacity of an agent for a commission is known as Factoring.

Factoring is a fund based financial service,providers resources to finace

factoring receivables besides facilitating the collection of receivables.

C.S.Kalyanasundaram,in his report(1988)submitted to the RBI defines

factoring as a continuing arrangement under which a financing institution
assumes the credit and collection functions for its client,purchase receivables
as they arise ,maintains the sales ledger, attends to other book-keeping duties
relating to such accounts and performs other auxilary functions.

Factoring can also bebroadly defined as an agreement in which receivables

arising out of a sale of goods/services are sold by a firm (client) to the factor (a
financial intermediary),as a result of which the title to the goods/services
represented by the said receivables passes on to the factor.Hence forth the factor

becomes responsible for all credit control,sales accounting and debt
collection from the credit customers.


Under the factoring arrangement the seller does not maintains a credit or
collection department.The job is handed overto a specialized agency called the
Factor.After each sale a copy of the invoice and delivery challan,the agreement
and other related papers are handed over to the factor.The factor in turn receives
payment from the buyer on the due date as agreed, whereby the buyer is
reminded of the due date payment account for collection.The factor remits the
money collected to the seller after deducting and adjusting its own service
charges at the agreed rate.Thereafter the seller closes all transactions with the
factor.The seller passes on the papers to the factor for recovery of the amount.

Characteristics of Factoring

1.The Nature

The nature of the factoring contract is similar to that of abailment

contract.Factoring is a specialized activity where by a firm converts its
receivables into cash by selling them to a factoring organization.The factor
assumes the risk associated with the collection of receivables and in the event
of non-payment by the customers/debtors,bears the risk of a bad debt loss.

2.The Form

Factoring takes the form of a typical invoice factoring since it covers only
those receivables which are not supported by negotiable instruments such
as bills of exchange etc.This is because the firm resorts to the practice of
bill discounting with its bankers in the event of receivables being backed by
bills.Factoring of receivables helps the client do away with the credit
department and the debtors of the firm become the debtors of the factor.

3.The Assignment

Under factoring there is an assignment of debt in favour of the

factor.This is the basic requirement for theworking of a factoring service.

4.Fiduciary Position

The position of the factor is fiduciary in nature since it arises from the
relationship with the client firm.The factor is mainly responsible for better
credit management.

5.Credit Realizations

Factor assist in realization of credit sales.They help in avoiding the risk

of bad debtsloss,which might arise otherwise.

6.Less Dependence

Factors help in reducing the dependence on bank finance towards working

capital.This greatly relieves the firm of the burden of finding financial facility.

7.Recourse Factoring

Factoring may be non-recourse in which case the factor will have no

recourse to the supplier on non-payment from the customer.Factoring
may also be with recourse in which case the factor will have recourse to
the seller in the event of non-payment by the buyers.


A factor works in return for a service charge calculated on the turnover.Factor

pays the net amount after deducting the necessary charges some of which
may be special terms to handle the accounts of certain customers.

Factoring and Off- Balance Sheet Financing

Under factoring arrangements and while making credit sales the invoice
is made in the name of the factor.The clients debts are purchased by the
factor.Hence the finance provided by the factor goes off the balance
sheet and the items appear in the balance sheet only as acontingent
liability in the case of recourse factoring.In case of non-recourse
factoring it does not appear in financial statements of the borrower.

Types of Factoring

1. Domestic factoring

Factoring that arises from transactions relating to domestic sales is

known as Domestic Factoring. Domestic factoring may be of three types
as described below.

1. Disclosed Factoring

In case of disclosed factoring the name of the proposed factor is mentioned

on the face if the invoice made out by the seller of goods. In this type of
factoring the payment has to be made by the buyer directly to the factor
named in the invoice. The arrangement for factoring may take the form of
recourse whereby the supplier may continue to bear the risk of non-
payment by the buyer without passing it in the factor. In case of non-
recourse factoring, factor assumes the risk of bad debt from non-payment.

2. Undisclosed Factoring

Under undisclosed factoring the name of the proposed factor finds no mention on
the invoice made out by the seller of goods. Although the content of all monies
remains with the factor, the entire re4alization of the sales transaction is done in
the name of the seller. This type of factoring is quite popular in the U.K.

3. Discount Factoring

Discount factoring is a process where the factor discounts the invoices to

the seller at a pre agreed credit limit with the institutions providing
finance. Book debts and receivables serves as securities for obtaining
financial accommodation.

2. Export Factoring

When the claims of an exporter are assigned to a banker or any financial

institution and financial assistance is obtained of the strength of export
documents and guaranteed payments it is called export factoring. An
important feature of this type of factoring is that6 the factor bank is located
in the country of the exporter. If the importer does not honour claims,
exporter has to make payment to the factor. The factor bank admits a usual
advance of 50 to 75 percent of the export claims as advance.

3.Cross Border Factoring

Cross Border Factoring involves the claims of an exporter which are

assigned to a banker or any financial institution the importers country and
financial assistance is obtained on the strength to the export documents
and guaranteed payments. They handle exporters overseas sales on credit
terms. Complete protection is provided to the clients (exporters) against
bad debt loss on credit approved sales. The factors take requisite
assistance and avail the facilities provided for export promotion by the
exporting country. When once documentation of complete and goods have
been shipped the factor becomes the sole debtor to the exporter.

4.Full service Factoring

Full- service factoring also known as old line factoring is a type of factoring
whereby the factor has no recourse to the seller in the event of the failure of the

buyers to make prompt payment to their dues to the factor,which might
result from financial inability/ insolvency/bankruptcy of the buyer. It is a
comprehensive form of factoring that combines the features of almost all
factoring services specially those of non-recourse and advance factoring
services, specially those of non-recourse and advance factoring.

5.With Recourse Factoring

The salient features of this type of factoring arrangement are as follows

The factor has recourse to the client firm in the event of the book debts
purchased becoming irrecoverable.

The factor assumes no credit risks associated with the receivables.

If the customer defaults in payment the resulting bad debt loss shall be
met by the firm.

The factor becomes entitled to recover dues from the amount paid in

6. Without Recourse Factoring

The salient features of this type of factoring are as follows

*No right with the factor to have recourse to the client.

*The factor bears the loss arising out of irrecoverable receivables.

*The factor charges higher commission called Del credere commission

as a compensation for the said loss.

*The factor actively involves in the process of grant of credit and the
extension of line of credit to the customers of the client.

7. Advance and Maturity Factoring

The essential features of this type of factoring are as follows

*The factor makes an advance payment in the range of 70 to 80 percent
of the receivables factored ans approved from the client the balance
amount being payable after collecting from customers.

*The factor collects interest on the advance payment from the client.

*The factor considers such conditions as the prevailing short term rate,
the financial standing of their client and the volume of turnover while
determining the rate of interest.

8.Bank participating Factoring

IT is variation of advance and maturity factoring. Under this type of

factoring the factor arranges a part of the advance to the clients through
the banker. The net factor advance will be calculated as follows:

(Factor Advance Percent x Bank Advance percent )

9.Collection/Maturity Factoring

Under this type of factoring, the factor makes no advancement of finance to

the client. The factor makes payment either on the guaranteed payment
date or the date of collection, the guaranteed payment date being fixed
after taking into account the previous ledger experience of the client and
the date of collection being reckoned after the due date of the invoice.

Legal Aspects of Factoring

Factoring Contract Terms and Conditions

The contract entered into between the seller of goods and the factor is called
factoring contract. Such a contract is similar to any of the sale purchase
agreement regulated under the law of contract. All the relevant terms and

conditions on which factor agrees to purchase the debts from seller are specified

in the contract.

Legal Implications of Factoring

The following are the legal implications of the contract entered into between the

factor and the firm(client)

The factor is to carry out the verification of the genuiness of trade

transactions when receivables are presented for financing the genuiness
being verified by checking the invoice and other evidence of delivery.

The factor is to confirm that there is no double financing from any other
source as bank etc.

The factor is to ensure that all payment in respect of factored receivables

are made only to the factor.

Protection under section 130 of the Transfer of Property Act regarding

assignment of book debts of clients.

Advantages of Factoring

Factoring as an innovative financial service commands the following


Cost savings

Factoring allows for the elimination of trade discounts .Besides it also helps in
reduction of administrative cost and burden, facilitating cost savings. There is
also overall savings in cost, expenses and efforts as there is no need for the
client to maintain a special administrative set up to look after credit control.


Another advantage of factoring is that it helps improve the scope of

operating leverage.

Enhanced Return

Factoring is considered attractive to users as it helps enhance return.


Factoring enhances liquidity of the firm by ensuring efficient working

capital management. For instance it helps avoid increased debts in the
case of without recourse factoring. Similarly efficient management of
current assets leads to reduced working capital requirements, besides
helping to minimize bad debt losses.

Credit Discipline

Factoring brings about better credit discipline amongst customers due to

regular realization of dues. This is achieved through effective control of
the sales journal, reduced credit risk, better working capital
management, etc. Factoring indirectly guides the client (seller) to sell
only to customers with good credit standing, thus bringing about credit
discipline. Further factoring allows for investigation of market reputation,
financial standing, business prospects etc of the parties concerned.

Cash Flows

Accelerated cash flows helps the client meet liabilities promptly as and
when they arise.

Credit Certification

The factor acceptance of the clients receivables is amount to credit

certification by the factoring agency.

Prompt Payment

Factoring facilitates prompt payments and credits by providing insurance

against bad debts.

Information Flow

Factoring ensures constant flow of critical information for the purpose of

decision making and follow up. It therefore helps eliminate delays and
wastage of man hours.


Factoring acts as a stimulant to go in for sophisticated infrastructure towards

high level specialization in credit control and sales ledger administration.

Better Linkages

Factoring allows for the promotion to linkages between bankers and

factors. Such arrangement helps better dealings, debt protection,
collection of sales ledgers etc.

Boon to SSI sector

Factoring arrangements work as a boon to the SSI sector which

invariably faces the problem of inadequate working capital. Thus the
client can concentrate on functional areas of the business such as
planning, purchase, production, marketing and finance.

Reduced Risk

Factoring allows for reduction in the uncertainty and risk associated with
the collection cycle,since funds from a factor are an additional source of
finance for the client outside the purview of MPBF.

Export Promotion

Factoring facilities are designed to help exporters avail of financial

assistance on attractive terms, which in turn allows for promotion of export

Limitations of Factoring

Despite the fact that factoring offers an excellent sort of financial

services, in that helps sellers of goods on credit basis to avoid bad debts
and at the same time ensure prompt collection from buyers, it is fraught
with the following drawbacks:

Engaging a factor may be reflective of the inefficiency of the

management of the firms receivables.

Factoring may be redundant if a firm maintains a nation wide network of


Difficulties arising from the financial evaluation of clients.

A competitive cost of factoring has to be determined before taking a

decision about engaging a Factor.

Factoring Players

Factoring starts with credit sales made by the seller and is mainly
concerned with the realization of credit sales. Factoring starts where
credit sales ends. Thus the factor works between the seller and the
buyer and sometimes together with sellers banks too.
The people who take part in factoring services include the following:

Buyer of the goods who has to pay for them on credit terms.

Seller of goods who has to realize credit sales from buyer.

Factor who acts as agent in realizing credit sales from buyer and passes
on the realized sum to the seller after deducting a commission.

Functions of a Factor

The various functions that are performed by a factor are described below:

Maintenance/ administration of sales ledger. Collecting facility of accounts

Financing facility trade debts.

Assumption of credit risk /credit control and credit protection. Provision

of advisory services.

Factoring Indian Scenario

An important development in the Indian factoring services took place with

the RBI setting up a Study Group under the chairmanship of Shri
C.S.Kalyansundaram in January,1988.The study group aimed at examining
the feasibility and mechnism of organizing factoring business in India. The
group submitted its report in January 1989.Various functional formalities,
implications and the importance promoting factoring in the country, with the
participation of banking and non-banking financial intermediaries like
merchant banks etc were examined by the group.

RBI has come out with guidelines designed to regulate the functioning of
the factors in India. Accordingly factoring can be started as an associate
business of a banking company with prior permission from RBI.

Development in India factoring scenario started taking place with the
recommendations of the Kalyansundaram committee on factoring. At
present factoring is undertaken by a limited number of banks on a
smallscale. Banks such as SBI and Canara Bank in addition to certain
institution in the private sector, such as Foremost Factors Limited and
Fairgrowth Factors Limited are involved in the factoring business.



A form of financing of receivables arising from international trade is

known as Forfaiting. Within this arrangement a bank /financial institution
undertakes the purchase of trade bills/promissory notes without recourse
to the seller. Purchase is through discounting of the documents covering
the entire risk of non-payment at the time of collection. All the risk
becomes the full responsibility of the purchaser (forfeiter). Forfaiter pays
cash to the seller after discounting the bills/notes.

Characteristics of Forfaiting

Forfaiting essentially involves non-recourse bill discounting in a modified


It aims at protecting the exporter from any default risk.

3.Under this arrangement ,the bills of exchange or promissory notes accepted by

the importer and co-accepted by a bank in favour of the forfaiting agency are
exchanged for the discounted cash proceeds, without recourse by the exporter.

4. The discount rates are charged as a percentage above the euro

market interest rates.

5.Forfaiting to be successful it is imperative that there exists a successful
secondary market. A forfaiting may not be interested in holding the
discounted bills or notes upto maturity because of liquidity considerations.

6. In the secondary market forfeiters can buy or sell these bills like any
other security. The reputation of the forfaiting agency and the credit
period are important in deciding the cost of forfaiting .

Steps in involved in Forfaiting

1.Commercial contract

Exporter and importer enter into a commercial contract. The contract provides
th basic terms of the arrangement, such as cost of forfaiting, margin to cover
risk, commitment charges, days of grace, fee to compensate the forfeiter for
the loss of interest due to transfer and payment delays ,period of forfeiting
contract, repayment instalment (usually by annually),rate of interest and so on.
The factoring charge depends on such factors as the terms of the note/bill, the
currency in which it is denominated, the credit rating of the availing bank, the
country, risk of the importer etc.

2. Transaction

The exporter sells and delivers the goods to the importer on a deferred
payment basis.

3. Notes Acceptance

The importer accepts a series of promissory notes on favour of the exporter

for payments including interest charges. Such notes are then sent to the
exporter. Bank guarantee in respect of promissory notes /bills is also obtained.

4. Factoring contract

The exporter and the forfaiting agent enter into a forfeiting contract, with
the forfaiter usually being a reputed bank, including the exporters banks.

5. Sale of notes

The exporter sells the notes/bills to the bank (forfaiter) at a discount

without recourse.

6. Payment

The exporter makes payment to the forfeiter for the face value of the bill/note,
less discount. The forfeiter either holds these notes/bills till maturity for payment
by the importers bank or securitizes them in order to sell them as short
term high yielding unsecured paper in the secondary market.


Facilitating a broad range of instruments in use, such as promissory notes,

bills of exchange, acceptance, letter of guarantee, documented receivable
in Balance sheet as pending, and can use own credit lines.

Averting export risk for non-settlement of claims etc., as it provides for a

non-recourse facility.

No risk on account of foreign exchange fluctuations to the exporter for

the period between the insurance and the maturity of the paper.

Exporters need not have to bother or face credit administration and

collection problems.

Provision of finance for counter trade etc.



For transactions with
For transactions with

short term maturity

medium term maturity


Can be either with or
Can be either without

without recourse
recourse only

Risk can be
All risks are assumed by

transferred to seller
the forfeiter
Cost of factoring is
Cost of forfeiting is

usually borne by the

borne by the overseas

buyer (importer)

Covers a whole set
Structuring and costing

of jobs at a pre-
is done on a case to case

determined price.

Extent of financing
Only a certain
Hundred percent

percent of
financed is available

receivables factored

is advanced
Basis of financing
Financing depends
Financing depends on

on the credit
the financial standing of

standing of the
the availing bank


Besides financing, a
It is a pure financing

factor also provides


other services such

as ledger

administration etc.,

Exchange fluctuations
No security against
A forfeiter guards

exchange rate
against exchange rate

fluctuations for a

premium charge

Between seller and
Between exporter and

Unit -V

Merchant Banking

Meaning of Merchant Bankers

A set of financial institution that are engaged in providing specialist

services which generally include the bills of exchange, corporate finance,
portfolio management and other banking services are known as
merchant bankers. It is not necessary for a merchant banker to carry out
all the above mentioned activities. A merchant banker may specialize in
one activity and take up other activities, which may be complementary of
supportive to the specialized activity.

Functions of Merchant Bankers

Merchant banking being a service oriented industry renders the same

services in India as merchant banks in UK and other European
countries. In the U.S, investment bankers cater to the needs of business
enterprises carrying out merchant banking functions Merchant banks in
India carry out the following functions and services.

1.Corporate Counselling 2.Project Counselling 3.Pre-investment studies

4.Capital Restructuring

5.Credit Syndication and project Finance 6.Issue Management and

Underwriting 7.Portfolio Management

8.Working Capital Finance 9.Acceptance credit and Bill Discounting

10.Mergers,Amalgamations and Takeovers 11.Venture Capital

12.Lease Financing 13.Foreign Currency Finance 14.Fixed Deposit

Broking 15.Mutual Funds

16.Relief to Sick Industries 17.Project Appraisal

A brief description of these functions is presented below:

Corporate Counselling

Corporate counselling refers to a set of activities that is undertaken to ensure

efficient running of a corporate enterprise at its maximum potential through
effective management of finance. It aims at rejuvenating old line companies
and ailing units, and guiding existing units in locating areas/activities of growth
and diversification. A merchant banker, as a managerial economist, guides the
client, on aspects of organizational goals, locational factors, organization size
and operational scale ,choice of product and market survey, forecasting for a
product, cost reduction, cost analysis, allocation of resources, investment
decisions, capital management and expenditure control, pricing methods and
marketing strategy.

Project counselling

Project counsellingis a part of corporate counselling and relates to project
finance. It broadly covers the study of the project, offering advisory
assistance on the viability and procedural steps for its implementation.

Pre-investment studies

Activities that are connected with making a detailed feasibility exploration

to evaluate alternative avenues of capital investment in terms of growth
and profit prospects are called pre-investment studies.

Capital Restructuring Services

Activities that are carried out to assist projects in achieving their maximum
potential through effective capital structuring and to suggest various
strategies to widen and restructure the capital base, diversify operations
and implementation schemes for amalgamation, merger or changes in
business status are collectively known as Capital Restructuring services.

Credit Syndication

Activities connected with credit procurement and project financing aimed

at raising Indian and foreign currency loans from banks and financial
institutions, are collectively known as credit syndication.

Issue Management and Underwriting

Issue management and underwriting connotes activities that are

concerned with the management of the public issues of corporate
securities, viz equity shares, preference shares, and debentures or
bonds and aimed at mobilization of money from the capital market.

Portfolio Management

Making decisions relating to the investment of the cash resources of a corporate

enterprise in marketable securities by deciding the quantum ,timing and the type

of security to be bought, is known as portfolio Management. It involves making
the right choice of investment, aimed at obtaining an optimum investment mix,
taking into account factors such as the objectives of the investment, tax
bracket of the investor, need for maximizing yield and capital appreciation etc.

Acceptance Credit and Bill Discounting

Activities relating to the acceptance and the discounting of bills of

exchange, besides the advancement of loans to business concerns on
the strength of such instruments are collectively known as Acceptance
Credit and Bill discounting. Bill accepting and discounting are an integral
part of a developed money market.

Merger and Acquisition

This is a specialized service provided by the merchant banker who

arranges for negotiating acquisitions and mergers by offering expert
valuation regarding the quantum and the nature of consideration and
other related matters. Merchant bankers provide advice on acquisition
proposition after careful examination of all aspects viz. Financial
statements , articles of associations, provisions of companies act, rules
and guidance of trade chambers, the issuing house associations.

Venture Financing

A specially designed capital as a form of equity financing for funding high

risk and high reward projects is known as Venture Capital. Several
private enterprises undertook the financing of high risk and high reward
projects. In India venture capital companies have largely contributed to
the technological and industrial revolution.

A large number of Indian and international companies are engaged a in venture

capital funding for high technology and high risk projects. A number of leading

national development financial institutions such as IFCI, IDBI, and ICICI
are engaged in venture capital financing and have developed a number
of special schemes for this purpose.

Lease Financing

A merchant banking activity where by financial facilities are provided to

companies that undertakes leasing is known as Lease Financing. Leasing
involves letting out assets on lease for a particular time period for use by
the lessee. Leasing provides an important alternative source of financing
capital outlay. Lease financing benefits both lessor and the lessee.

Foreign Currency Financing

The finance provided to fund foreign trade transactions is called Foreign

Currency Finance. The provisions of foreign currency finance takes the
form of export import trade finance, euro currency loans, Indian joint
ventures abroad and foreign collaborations.

Brokering Fixed Deposits

The services rendered by the merchant bankers in this regard are,

computation of the amount that could be raised by a company in the form of
deposits from public and loans from shareholders, Drafting of advertisement
for inviting deposits, Filing a copy of advertisement with the Registrar of
Companies for registration, Drafting and printing of application forms, Making
arrangements for the collection of deposits at the bank branches. Submission
of periodical statements to companies concerned. Making arrangements for
payment of interest amounts. Proper advice to the company on the terms and
conditions of fixed deposits and deciding on the appropriate rate of interest.

Mutual Funds

Institutions and agencies that are engaged in the mobilization of the

savings of innumerable investors for the purpose of channeling them into
productive investments of a wide variety of corporate and other
securities are called Mutual Funds.UTI is the first and the largest mutual
fund in the country. The mutual funds industry has a large number of
players both in the public as well as the private sector Commercial banks
are also making rapid strides in the realm of mutual funds business.

Relief to Sick Industries

Merchant bankers extend the following services as part of providing relief

to sick industries:

*Rejuvenating old lines and ailing units by appraising their technology and
process, assessing their requirements and restructuring their capital base.

*Evolving rehabilitation packages which are acceptable to financial

institutions and banks

*Exploring the possibilities of mergers/amalgamations.

Project Appraisal

The evaluation of industrial projects in terms of alternative variants in

technology, raw materials, productive capacity and location of plant is
known as Project Appraisal.

Regulation of Merchant Banks

At present the merchant banking activities are regulated by the:

Guide lines of SEBI and the Ministry of Finance Companies Act ,1956
Listing guidelines of stock exchanges

Securities Contracts (Regulation) Act,1956.

The merchant banks play an important role in the development of the

Indian capital market. Apart from merchant banking divisions of
commercial banks and financial institutions, a number of private sector
merchant banking companies have entered the field. Until the passing of
the Act, wide powers have been conferred on SEBI and accordingly it
issued various guidelines and rules to regulate the merchant banks from
time to time. The merchant banking activities especially those covering
issue and underwriting of shares and debentures are regulated by the
SEBI (Merchant Bankers) Regulations, 1992.

As per notification of the Ministry of Finance and SEBI the merchant

bankers have to be organized as body corporate. They are to be
compulsorily registered with SEBI to carry out their activities.

SEBI Regulations

The SEBI regulations stipulate that any person or body proposing to

engage in the business of merchant banking would need to comply with
the following terms of authorization by the board:

The merchant banks must have a minimum net worth of Rs.5crores

(with effect from 7February, 1995)

Theauthorization is valid for an initial period of three years.

An initial authorisationfee, an annual fee and a renewal fee are

collected by SEBI.

All issues should be managed by at least one authorized merchant banker

functioning as the sole manager or lead manager. The number of lead
managers is restricted to two for the issues up to Rs.5crore.For issues

exceeding Rs.400 crore, the number could go up to five. Lead merchant banker

is not necessary where the issue does not exceed Rs.50 lakh.

The specific responsibilities of each lead manager must be submitted to

SEBI prior to the issue.

The merchant bankers are expected to exercise due diligence independently.

They should verify the contents of the prospectus and the reasonable of the
views expressed there in and it should be reported to SEBI.

Whateverinformation, documents, returns and reports as may be

prescribed and called for have to be submitted to SEBI.

The merchant bankers have to adhere to SEBI s code of conduct.

The authorisation may be suspended or cancelled for suitable duration

in case of violation of the guidelines.

Inspection by SEBI

SEBI may inspect the books of account, records and documents of merchant


to ensure that the books of account are maintained in the required manner;

to verify that the provisions of the act,rules and regulations are

compiled with and;

(iii)to investigate complaints against the merchant bankers.