Indian Financial System

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  • 1. INDIAN FINANCIAL SYSTEM REGULATARY FRAMEWORK
  • 2. SEBI
    • In 1988 the Securities and Exchange Board of India (SEBI) was established by the Government of India through an executive resolution, and was subsequently upgraded as a fully autonomous body (a statutory Board) in the year 1992 with the passing of the Securities and Exchange Board of India Act (SEBI Act) on 30th January 1992. In place of Government Control, a statutory and autonomous regulatory board with defined responsibilities, to cover both development & regulation of the market, and independent powers have been set up. Paradoxically this is a positive outcome of the Securities Scam of 1990-91. The basic objectives of the Board were identified as:
    • to protect the interests of investors in securities;
    • to promote the development of Securities Market;
    • to regulate the securities market and
    • for matters connected therewith or incidental thereto.
  • 3. Regulations regarding IPO
    • Initial public offering (IPO) , also referred to simply as a "public offering", is when a company issues common stock or shares to the public for the first time. They are often issued by smaller, younger companies seeking capital to expand, but can also be done by large privately-owned companies looking to become publicly traded . In an IPO, the issuer may obtain the assistance of an underwriting firm, which helps it determine what type of security to issue (common or preferred ), best offering price and time to bring it to market.
    • IPOs can be a risky investment . For the individual investor, it is tough to predict what the stock or shares will do on its initial day of trading and in the near future since there is often little historical data with which to analyze the company. Also, most IPOs are of companies going through a transitory growth period, and they are therefore subject to additional uncertainty regarding their future value.
  • 4.
    • An IPO, therefore, allows a company to tap a wide pool of stock market investors to provide it with large volumes of capital for future growth. The company is never required to repay the capital, but instead the new shareholders have a right to future profits distributed by the company and the right to a capital distribution in case of a dissolution. The existing shareholders will see their shareholdings diluted as a proportion of the company's shares. However, they hope that the capital investment will make their shareholdings more valuable in absolute terms.
    • IPOs generally involve one or more investment banks as " underwriters ." The company offering its shares, called the "issuer," enters a contract with a lead underwriter to sell its shares to the public. The underwriter then approaches investors with offers to sell these shares.
  • 5. SEBI Guidelines for IPOs    
    • 1 . IPOs of small companies     Public issue of less than five crores has to be through OTCEI and separate guidelines apply for floating and    listing of these issues.
    • 2. Size of the Public Issue   Issue of shares to general public cannot be less than 25% of the total issue, incase of information technology,   media and telecommunication sectors this stipulation is reduced subject to the conditions that:
    •   Offer to the public is not less than 10% of the securities issued.
    • A minimum number of 20 lakh securities is offered to the public and
    • Size of the net offer to the public is not less than Rs. 30 crores.
    •    3 . Promoter Contribution
    • Promoters should bring in their contribution including premium fully before the issue
    • Minimum Promoters contribution is 20-25% of the public issue.
    • Minimum Lock in period for promoters contribution is five years
    • Minimum lock in period for firm allotments is three years.
  • 6.
    • 4. Collection centers for receiving applications
    • There should be at least 30 mandatory collection centers, which should include invariably the places where stock exchanges have been established.
    • For issues not exceeding Rs.10 crores (including premium, if any), the collection centres shall be situated at:-
    •    o the four metropolitan centres viz. Bombay, Delhi, Calcutta, Madras; and
    • o at all such centres where stock exchanges are located in the region in which the registered office of the company is situated.    
    • 5.Regarding allotment of shares
    • Net Offer to the General Public has to be at least 25% of the Total Issue Size for listing on a Stock exchange.
    • It is mandatory for a company to get its shares listed at the regional stock exchange where the registered office of the issuer is located.
  • 7.
    • In an Issue of more than Rs. 25 crores the issuer is allowed to place the whole issue by book-building
    • Minimum of 50% of the Net offer to the Public has to be reserved for Investors applying for less than 1000 shares.
    • There should be atleast 5 investors for every 1 lakh of equity offered (not applicable to infrastructure companies).
    • Quoting of Permanent Account Number or GIR No. in application for allotment of securities is compulsory where monetary value of Investment is Rs.50,000/- or above.
    • Indian development financial institutions and Mutual Fund can be allotted securities upto 75% of the Issue Amount.
    • A Venture Capital Fund shall not be entitled to get its securities listed on any stock exchange till the expiry of 3 years from the date of issuance of securities.
    • Allotment to categories of FIIs and NRIs/OCBs is upto a maximum of 24%, which can be further extended to 30% by an application to the RBI - supported by a resolution passed in the General Meeting.
  • 8.
    • Other regulations pertaining to IPO
    • Underwriting is not mandatory but 90% subscription is mandatory for each issue of capital to public unless it is disinvestment in which case it is not applicable.
    • If the issue is undersubscribed then the collected amount should be returned back (not valid for disinvestment issues).
    • If the issue size is more than Rs. 500 crores voluntary disclosures should be made regarding the deployment of the funds and an adequate monitoring mechanism to be put in place to ensure compliance.
    • There should not be any outstanding warrants or financial instruments of any other nature, at the time of initial public offer.
    • Codeof advertisement specified by SEBI should be adhered to.
    • Draft prospectus submitted to SEBI should also be submitted simultaneously to all stock exchanges where it is proposed to be listed.
  • 9. Rights Issue
    • rights issue – In finance, new shares offered to existing shareholders to raise new capital. Shareholders receive a discount on the market price while the company benefits from not having the costs of a relaunch of the new issue.
    • “ an offering of common stock to existing shareholders who hold pre-emptive rights that entitle them to buy newly issued shares at a discount from the price at which they will be offered to the public later; "the investment banker who handles a rights offering usually agrees to buy any shares not bought by shareholders"
    • With the issued rights, existing shareholders have the privilege to buy a specified number of new shares from the firm at a specified attractive price within a specified time. A rights issue is offered to all existing shareholders individually and may be rejected, accepted in full or (in a typical rights issue) accepted in part by each shareholder
  • 10.
    • Rights are often transferable, allowing the holder to sell them on the open market. Rights can be renounce able (can be sold separately from the share to other investors during the life of the right) or non-renounce able (shareholders must either take up the rights or let them lapse. Once the rights have lapsed, they no longer exist). To issue rights the financial manager has to consider:
    • Subscription price per new share
    • number of new shares to be sold
    • the value of rights
    • the effect of rights on the value of the current share
    • the effect of rights to existing and new shareholders
    • A right to a share, generally issued on ratio basis (e.g. one-for-three rights issue). Because the company is getting the shareholders' money in exchange for issuing rights, a rights issue is a source of funds for the company issuing it.
  • 11.
    • Rights issues may be underwritten. The role of the underwriter is to guarantee that the funds sought by the company will be raised. The agreement between the underwriter and the company is set out in a formal underwriting agreement. Typical terms of an underwriting require the underwriter to subscribe for any shares offered but not taken up by shareholders. The underwriting agreement will normally enable the underwriter to terminate its obligations in defined circumstances . A sub-underwriter in turn sub-underwrites some or all of the obligations of the main underwriter; the underwriter passes its risk to the sub-underwriter by requiring the sub-underwriter to subscribe for or purchase a portion of the shares for which the underwriter is obliged to subscribe in the event of a shortfall. Underwriters and sub-underwriters may be financial institutions, stock-brokers, major shareholders of the company or other related or unrelated parties. The Panel’s guidance covers both non-underwritten and underwritten rights issues.
    • Example: An investor: Mr. A had 100 shares of company X at a face value of Rs 10 per share and a total investment of Rs 10,000, assuming he purchased the shares at Rs 100 per share. Assuming a 1:1 rights issue at an offer price of Rs 50, Mr. A will have the option to subscribe to additional 100 shares of the company at the offer price. Now, if he exercises his option, he would have to pay an additional Rs 5,000 in order to acquire the shares, thus effectively bringing his average cost of acquisition for the 200 shares to Rs 75 per share.
  • 12. Underwriting
    • The process by which investment bankers raise investment capital from investors on behalf of corporations and governments that are issuing securities (both equity and debt).
    • Underwriting refers to the process that a large financial service provider (bank, insurer, investment house) uses to assess the eligibility of a customer to receive their products (equity capital, insurance, mortgage or credit). The name derives from the Lloyd's of London insurance market. Financial bankers, who would accept some of the risk on a given venture (historically a sea voyage with associated risks of shipwreck ) in exchange for a premium , would change their names under the risk information which was written on a Lloyd's slip created for this purpose.
  • 13.
    • This is a way of placing a newly issued security, such as stocks or bonds, with investors. A syndicate (comes from a french word syndic:which means trade union or care taker of an issue) of banks (the lead managers) underwrite the transaction, which means they have taken on the risk of distributing the securities. Should they not be able to find enough investors, they will have to hold some securities themselves. Underwriters make their income from the price difference between the price they pay the issuer and what they collect from investors or from broker-dealers who buy portions of the offering.
  • 14. Bonus Issue
    • Issue of Bonus shares An offer of free additional shares to existing shareholders. A company may decide to distribute further shares as an alternative to increasing the dividend payout. Bonus shares are issued to the existing shareholders by converting free reserves or share premium account to equity capital without taking any consideration from investors
    • Bonus issue has following major effects. 1. Share capital gets increased according to the bonus issue ratio. 2. Liquidity in the stock increases. 3. Effective Earnings per share, Book Value and other per share values stand reduced. 4. Markets take the action usually as a favorable act. 5. Market price gets adjusted on issue of bonus shares. 6. Accumulated profits get reduced.