Meaning, Features, Functions, Players or Dealers. Mechanism of Issuing Instruments in Capital Market

2. Meaning
 Capital market is a market where long term funds are lent and
borrowed.
 It refers to all the facilities and the financial institutional
arrangements for borrowing and lending term funds ( i.e., medium
and long term funds).
 It is market, not for dealing in capital goods, but for dealing in long
term securities which have a long maturity or indefinite maturity.

3.  Such long term funds are used for investment purposes.
 The capital market, like any other market, is composed of those
who demand long term funds (i.e., borrowers) and those who
supply such long term funds (i.e., lenders).
 The demand for long term funds comes from private sector
manufacturing industries and Agriculture and from the
Government, largely for the purpose of economic development.

4. On the other hand, the supply of long term funds comes largely
from individual savers, corporate savings, banks, insurance
companies like LIC and GIC, specialised financial institutions .
Thus Capital market is the market for financial assets which have
long indefinite maturity. Capital market offers an ideal source of
external finance. Capital market forms an important core in a
country's financial system too.

5. Definitions of Capital Market:
Goldsmith has defined thus: “ The capital market of a modern
economy has two basic functions: First the allocation of
savings among users and investors : Second, the facilitation of
the transfer of existing assets, tangible and intangible, among
individuals economic units”

6. Objective of Capital Market
 Deals In Long Term Investment
 Bring Together Borrowers And Lender
 Regulated By Government
 Provides Liquidity
 Includes Primary Market And Secondary Market

7. Deals In Long Term Investment
Capital market is a market for trading of long term securities. It
provides long term investment avenues to the investors.
Borrowers can raise fund for a long period from the capital
market.
Here borrowing and lending is for a period which is more than
one year. Long term financial instruments like shares, bonds,
and debentures are traded in the capital market.

8. Bring Together Borrowers And Lender
It acts as mediators between the borrowers and lenders of money. It
links the person having surplus funds with the one who is the
deficit of money.
Capital market directs people having savings to different productive
investment avenues. This help in providing long term funds to
borrowers by attracting large investments from peoples.

9. Regulated By Government
Capital market works as per the regulation of government. There
is a body named SEBI set up by the government who looks and
regulate the functioning of the capital market.
SEBI (Securities Exchange Board of India) controls and monitors
the functioning of capital markets to protect the interest of its
investors. It aims at avoiding any speculative and malpractices
in the capital market.

10. Provides Liquidity
Capital market is a highly liquid market as the instruments traded
in the capital market are easily convertible into cash. Investors
can whenever they require can converts their investments into
cash by selling their instruments over the market.
It provides an all-time market for the peoples looking for
investments and one looking for borrowing money.

11. Includes Primary Market And Secondary Market
Capital market includes two markets within it: Primary market
and secondary market. Primary market is a market concerned
with the issue of new securities. Here securities are issued for
the first time. Secondary market is a market for old and existing
securities. Securities already traded in the primary market are
issued in the secondary market.

12. CHARACTERISTICS OF CAPITAL MARKET
 Securities market
 Participants
 Location
 Price determination

13. Securities market:
The securities that are dealt with in a capital market are
such as shares, debentures, gilt-edged securities, bonds
etc. therefore the capital market is also called the
securities market.

14. 2. Participants
 There are many participants or players in the capital market. They
constitute individuals and a plethora of institutions which provide a
wide variety of services of access to capital. Such capital is either
directly supplied or arranged through financial intermediaries.
 Financial intermediaries like investment companies, pension funds,
insurance companies etc.
 Non financial business enterprises
 Ultimate economic units like Government and house holds.

15. 3. Location
 It is interesting to note that the capital market is not confined to a
particular place or location, though it is true that parts of the market
are concentrated in certain well known centres like stock
exchanges.
 Infact, the capital market exists all over the economy, wherever
those who demands capital and those who supply capital get
together and do business.

16. Price Determination:
The prices of securities that are deal with in the capital market are
determined through the general laws of the demand and supply.

17. TYPES OF CAPITAL MARKET

18.  Primary Market:
The primary market is a new issue market; it solely deals with the
issues of new securities. A place where trading of securities is
done for the first time. The main objective is capital formation
for government, institutions, companies.
It is a market for raising new capital in the form of shares, &
debentures which have been issued for the public for the first
time by new companies.

19. There are three ways by which a new company raises
capital in a primary market:
1. Public issue
2. Right issue
3. Private placement

20.  The common method of raising capital by a new company is
through public issue i.e., through issue of its shares / debentures
to the public for subscription for the first time.
 But if an existing company i.e., an old company wants to raise
additional capital, it will first issue its shares to its existing
shareholders. Such issue is called Right issue.

21.  But if company wants to issue and sell its shares privately to a
few people who are relatives, friends and well wishers of the
company promoters or directors, it is known as private
placement.

23. Functions of Primary Market
 New issue offer : The primary market organises offer of a new
issue which had not been traded on any other exchange earlier.
Due to this reason, it is also called a New Issue Market.
 Underwriting services :Underwriting is an essential aspect
while offering a new issue. An underwriter’s role in a primary
marketplace includes purchasing unsold shares if it cannot
manage to sell the required number of shares to the public. A
financial institution may act as an underwriter, earning a
commission on underwriting.

24.  Distribution of new issue :A new issue is also distributed in
a primary marketing sphere. Such distribution is initiated
with a new prospectus issue. It invites the public at large to
buy a new issue and provides detailed information on the
company, issue, and involved underwriters.

25. Secondary market: secondary market is a market for secondary
sale of existing shares and debentures.
It is a market for existing or old shares and debentures which have
already been issued to the public once and which have already
passed through the primary market in the past.
Such shares and debentures i.e., securities are old ones and are
issued by the existing or old companies and they are mostly
traded in the secondary market or stock exchanges.

26. Generally such securities are quoted in in the Stock Exchange
which provides a continuous and regularly market for buying
and selling of such old securities.
The secondary market consist of all stock exchanges recognized
by the Government of India in the country.
They also regulated under the Securities Contracts (Regulations)
Act1956.

30. BASIS FOR
COMPARISON
PRIMARY MARKET SECONDARY MARKET
Meaning The market place for new
shares is called primary
market.
The place where formerly
issued securities are traded is
known as Secondary Market.
Another name New Issue Market (NIM) After Market
Type of Purchasing Direct Indirect

31. Basis of difference Primary Market Secondary Market
How many times a
security can be sold?
Only once Multiple times
Buying and Selling
between
Company and Investors Investors
Who will gain the
amount on the sale of
shares?
Company Investors
Intermediary Underwriters Brokers
Price Fixed price Fluctuates, depends on
the demand and supply
force

32. IMPORTANCE OF CAPITAL MARKET
Capital market is quite essential for a country for capital
formation and its rapid economic growth.
In the absence of capital market, there would be no capital
formation and no economic growth, resource of the
country would remain idle,

33. 1. Incentives to saving
2. Productive use of savings
3. Increase in productivity and production
4. Various avenues for investors
5. Stability in the values of securities
6. Technological upgradition
7. Inducement to Economic Growth

34. 1. Incentives to Savings: The capital market provides incentives
to saving and facilitates capital formation by offering
attractive rate of interest.
2. Productive use of savings: The capital market serves as an
importance source for productive use of the savings of the
economy. It mobilises the savings of the people for investment
purposes and avoids their wastage in unproductive use.

35. 3. Increase in productivity and production: The capital market
facilitates increases in productivity of the factors of production
and thereby increases in total production and thereby it enhances
the welfare of the society.
4. Various avenues for Investors: The capital market provides
various avenues for investors, particularly the household sectors
investors to invest their savings in such financial assets that are
more productive than physical assets like land and building.

36. 5. Stability in the value of Securities: the capital market promotes
stability in the values of securities representing capital funds.
6.Availability of Funds: Investments are made in Capital Market on
a continuous basis. Both the buyers and sellers interact and trade
their capital and assets through an online platform. Stock
Exchanges like NSE and BSE provide the platform for this and
thus the transactions in the capital market become easy.

37. 7. Technological Upgradation: The capital market serves as an
important source for technological upgradation in the industrial
sector by utilizing the funds of the public.

40. Better Returns: Capital market provides better returns to the
savers by offering many alternatives in the portfolio investments.
Liquidity: Capital market provides means whereby buyers and
sellers can exchange securities at mutually satisfactory prices.
This provides better liquidity to the securities that are traded.
Facilitation: Capital market facilitates the financing of various
projects & growth of the corporate sector.

41. Macro economic financial balancing: Capital market
mobilises funds from surplus units and transfers such funds to
deficit units through appropriate financial inter mediation.

42. FEATURES OF CAPITAL MARKET
Link between Savers and Investment Opportunities: Capital
market is a crucial link between saving and investment process.
The capital market transfers money from savers to
entrepreneurial borrowers.
Deals in Long Term Investment: Capital market provides funds
for long and medium term. It does not deal with channelising
saving for less than one year.

43. Utilises Intermediaries: Capital market makes use of different
intermediaries such as brokers, underwriters etc. These
intermediaries act as working organs of capital market and are
very important elements of capital market.
Determinant of Capital Formation: The activities of capital
market determine the rate of capital formation in an economy.
Capital market offers attractive opportunities to those who have
surplus funds so that they invest more and more in capital market
and are encouraged to save more for profitable opportunities.

44. Government Rules and Regulations: The capital market operates
freely but under the guidance of government policies.
These markets function within the framework of government rules
and regulations, e.g., stock exchange works under the regulations
of SEBI which is a government body.

45. Capital Market Instruments
 Equity Shares
 Preference Shares
 Debentures
 MF unit, UTI units, Long term securities
 Cumulative convertible preference shares
 Company fixed deposits
 Secured premium notes
 Non voting equity shares

46.  Government Securities
a. Stock Certificates
b. Promissory notes

51. a debenture is a medium- to long-term debt instrument used by
large companies to borrow money, at a fixed rate of interest.

52. Mutual Fund
A mutual fund is an investment vehicle made up of a pool of
moneys collected from many investors for the purpose of
investing in securities such as stocks, bonds, money market
instruments and other assets.
▪ Mutual funds are operated by professional money managers, who
allocate the fund's investments and attempt to produce capital
gains and/or income for the fund's investors.
▪ A mutual fund's portfolio is structured and maintained to match
the investment objectives stated in its prospectus.

55. Unit Trust of India (UTI)
 Unit Trust of India (UTI) is a statutory public sector investment
institution which was set up in February 1964 under the Unit
Trust of India Act, 1963.
 UTI began operations in July 1964. It provides opportunity for
small-savers to invest in areas where their risk is diversified.
 The Unit-holders, if necessary, can sell their units to UTI at the
prices determined by UTI.

56. Cumulative Preference Shares
 A preference share is called cumulative when the outstanding
payment of a dividend is cumulative.
 If a company does not have the financial capability to pay a
dividend to the owners of its preference shares at any point of
time, then it will not pay a dividend to its common shareholders,
as long as the preference shareholders are not paid.
 The dividend amount gets carried on to the next year.

57. Non-voting shares
 Non-voting shares do not give the holder any voting rights in the
company. This means that the holder is entitled to a portion of
the company’s capital, but is not able to take part in its general
meetings.
 Non-voting shares are mostly issued to employees or to family
members of the main shareholders. This class of shares allows
the main shareholders to retain control of the company whilst
multiplying the number of shareholders.

58. Government Securities
Stock Certificate
A stock certificate is a physical piece of paper that represents a
shareholder's ownership in a company. Stock certificates include
information such as the number of shares owned, the date of
purchase, an identification number, usually a corporate seal, and
signatures.

59. Promissory note
 A promissory note is a financial instrument that contains a
written promise by one party (the note's issuer or maker) to pay
another party (the note's payee) a definite sum of money, either
on demand or at a specified future date.
 A promissory note typically contains all the terms pertaining to
the indebtedness, such as the principal amount, interest rate,
maturity date, date and place of issuance, and issuer's signature.

60. What are secured premium notes
 Secured premium notes are nothing but a share warrant which are
only issued by the listed companies after getting the approval
from the central government
 To meet its long term and short term needs of finance, a company
may issue various kinds of securities to raise funds from public.
 A company may decide to issue securities because it needs start
up capital or to repay debts or even to expand.

61.  It may also need an infusion of new management ideas and know-
how. These can be had by a wider ownership base.
 When an investor buys securities commonly referred to as shares
he is enabling the company to carry on its business using the
funds provided with little stress.
 One such financial instrument through which a company can raise
capital is secured premium note. The below articles decode what
are secured premium notes.

62. Mechanism of Issuing
Instruments in Capital
Market
Success of any issue of securities depends mainly upon the issue
mechanism and to some extent, on other factors .
There are 5 important and 3 other minor methods by which new
issues are made

63.  Public issue through Prospectus
 Tender / Book building Method
 Offer for sale Method
 Placement Method
 Right Issue Method
 Bonus Issue Method
 Stock Option Method
 Bought out Deal Method

64. Public Issue through Prospectus:
 Issue of securities by means of prospectus is the most common
method followed by corporate enterprises, to raise capital.
 Under this method, the issuing company itself approaches the
public and offers a fixed number of shares at a stated price.
 Which will be invariably the face value in the case of new
company and which may be sometimes, at a premium price, in
case of an existing company.

65.  An important feature of public issue method is that the public
issue is sometimes underwritten to ensure success in the
subscription of all the shares issued and to avoid any
disappointment in case of failure of the subscription by the
investing public.
 The main document for the issue of securities to the public is the
prospectus under the provision of the Companies Act, 1956.

66.  The prospectus is an invitation to the public to subscribe to the
shares / debentures of a company issuing it.
 The minimum contents of the prospectus are prescribed by the
companies Act.
 The object of issuing the prospectus is to draw the attention &
stimulate the interest of the public & convince them of the
prospectus and benefits available to them, if they invest in the
shares / debentures of the company.

67.  It also provides for both civil and criminal liability for any false
or misleading statements made by the promoters / directors of the
company in the prospectus.
 The SEBI (Securities Exchange Board of India) has also laid
down additional disclosure requirements. The contents of the
prospectus, include the following:
1. Main objects of the company
2. Name and registered office
3. Board of Directors
4. Location of Industry

68. 5. Number & classes of shares
6. Number of redeemable shares
7. Authorised capital, subscribed capital & proposed issue of
capital to public
8. Dates of opening & closing of subscription list
9. Name of brokers, underwriters & others from whom application
forms along with prospectus can be obtained
10. Minimum subscription

69. 11. Name of underwriters, if any, along with a statement that in the
opinion of the directors, the resources of the underwriters are
sufficient to meet the underwriting
12. A statement that the company will make an application to stock
exchanges for quotation of its shares and so on.

70. Weakness:
However, there are some great drawbacks in this method of raising capital.
1. It is a very expensive method as it involves underwriting expense,
brokerage & other administrative expenses such as printing charges,
bank charges, traveling expenses, advertising expenses etc.
2. Since this method is very costly, it is usually followed by large
companies & for large issues & not by small companies & for small
issues.
3. It is also a time consuming procedure as it requires the due compliance
with various formalities before the issue is completed.

71. Advantages
The main advantages of this method is that the issue is carried on
in the full light of publicity coupled with an approach to the
entire investing public.

72. Offer for Sale Method
An Offer for sale is another method by which securities are issued.
Under this method, the issuing company does not offer its shares
directly to the public but it offers through the intermediaries such
as issue house / merchant bankers / investment banks or firms of
the stock brokers.

73. This method is similar to the public issue method in the sense that
the prospectus contains all the prescribed minimum contents and
a fixed quantity of shares are distributed to the applicants in a non
discriminatory manner.[unfair]
Further, the issues under this method are also underwritten to avoid
the possibility of the issue being left in the hands of the issuing
houses.

74. The sale of securities with an offer for sale method is done in two
stages:
In the first stage, the issuing company sells the securities to the
issue houses or firms of stock broker at an agreed fixed price.
In the second stage, the securities, so acquired by the sponsoring
institutions, are resold to the ultimate investors i.e., investing
public. The resale price is higher than the price at which they
were acquired from the issuing company.

75. In the case of the public issue mechanism, the issuing houses, acting
as agents of the issuing company, receive some fees / commission
based upon the size & complication involved in the supervision
undertaken by them.
But the remuneration of the issuing houses, in the case of the offer
for sale method, is turn out of which they have to meet their
subsidy expenses like underwriting commission, cost of
advertising, cost of prospectus and so on.
But all such expenses are borne by the issuing company itself in the
case of public issue method.

76. Advantages of Offer for Sale Method
1. The offer for sale method enjoys the same advantages as that
the public issue method.
2. Further, it also enjoys another advantages that the issuing
company is saved from the cost and trouble of selling the
shares to the public.

77. Weaknesses
1. The offer for sale method is also expensive like the public issue
method.
2. It also suffers from another serious disadvantages that the
shares are sold to the investing public at a premium . The
difference between what the company receives and the price
paid by the investing public does not become additional fund
for the company but it is pocketed by the issuing houses or
firms of stock brokers.

78. Tender / Book Building Method
The essence of these method is than pricing of the issues is left to
the investors themselves.
The offer document of the issuing company contains all the details
of the issue proposal on the lines of the public issue method
including the minimum or reserve price.
It is left to the investors to quote the number of securities required
and the price at which they wish to acquire.
However, this method is not popular though it is slowly making
wider acceptance.

79. Under the book building method, the quantum and the price of the
securities to be issued will be decided on the basis of the “Bids”
received from the prospective investors by the lead merchant
banker.
Under this method, shares price are determined on the basis of real
demand for the shares at various price levels in the market.
The merchant bankers undertake full responsibility for the issue.
This method is available to all corporate, which are otherwise
eligible for making an issue of capital to the public.

80. Advantages of Book Building Method
1. This method reduces the duration between allotment and
listing.
2. There is no manipulation of prices in this method since the
price is determined on the basis of the bids received.
3. It is possible to get the listing quickly.
4. It is a very reliable allotment procedure.

81. Placement Method:
 Under this method , securities are first acquired by the issue houses
as it is done in the offer for sale method, but these securities are
subsequently offered , not to the public but are placed with the clients
of the issue houses or brokers.
 The clients may be individuals & institutions.
 Thus under this method, the issue houses or brokers purchase, in the
first instance, the securities directly from the company and
afterwards, these issue house or brokers,
 instead of offering these securities acquired by them to the public,
place them with their own clients who are always prepared to
subscribe to any securities issued to them in this way.

82.  Thus, the issue of securities in this method involves two stages:
 In the first stage, shares are acquired by the issue houses /
brokers and in the Second stage, they are transferred to their
investors clients.
 However the issue houses / brokers take the shares at a higher
price than the price paid by them and this difference between the
purchase price and sales price is their ‘turn’ (income) or
remuneration.

83.  An alternative to this method is that the issue houses / brokers
may transfer the shares to their clients in return for a ‘fee’ and
act as agents and not as owners / principals.
 Placement of securities which are not quoted on the stock
exchange is known as ‘private placement’.
 Another important feature of this method is that the placement
letter & other documents may be treated as prospectus / other
document, & the information regarding the issue has to be
published. Under this method underwriting is not required

84. Weakness
 The main weakness of this method is that it may lead to
concentration of shares in a few hands.
 This method deprives the common investors of an opportunity
to subscribe to the issue.

85. Advantages
 It is relatively cheap partley because many of the expenses which
are to be incurred in other methods like public issue and offer for
sale are not required to be incurred here.
 Simple procedure for issue of securities.
 Suitable for small companies.

86. Right Issue Method:
 A rights issue is an offer to existing shareholders to subscribe
for new shares
 When the existing company desires to increase the share capital.
 For this purpose a issue of fresh shares to its existing
shareholders in proportion to the number of shares already held
by them is called rights issue.
 The company has to make offer in the form of a notice or format
a letter of information, specifying the number of shares offered.

87.  The shareholder are given not less than 15 days from the date
of the offer to accept, which the offers is deemed to have been
declined.
 It means if the existing shareholders refuses the offer, then the
company can issue those shares to outsiders.

88. Advantages
The main advantages of this method is that it constitute the most
economical method of raising fresh capital because it involves
no underwriting and no brokerage costs and the advertising and
administrative etc are quite less.
Disadvantages
The facility of rights issue is available only to the existing
shareholders and not to others.

89. Stock Option Method (SOM) or Employee Stock option Scheme
(ESOPS
Stock option method or employees stock option scheme is a method
of floating securities of a company under which its employees are
encouraged to take up and subscribe to its securities.
It is a voluntary scheme of the company to induce its employees to
become its shareholders by subscribing to its shares and thereby
stay in the company and work with greater interest for the
company's profit and prosperity.(wealth or success)

90. This scheme is very useful to a company whose business activity
as well as its progress and prosperity are predominantly based on
the talent of its employees. This is particularly so in the case of
software industry.
SEBI Guidelines:
A company whose securities are listed on a Stock Exchange can
introduce this scheme of employees stock option. However, this
scheme is subjected to the fulfillment of the following conditions
laid down by SEBI.

91. Approval of SEBI
1. Special Resolution: the issue of ESOPs (Employees Stock
Options Scheme) is subjected to the approval by the
shareholders of the company through special resolution
2. Issue at Discount: issue of securities at a discount to the market
price is regarded as another form of compensation to the
employees & hence, it would be treated as such in the financial
statement of the company, whatever may be quantum of
discount on the price of the options.

92. Maximum Limit: there are no restrictions on the maximum
number of shares to be issued to a single employee. However ,
where a few employees are offered more than one percent
shares, a specified disclosure & approval would be required in
the AGM.

93. Eligibility: this scheme is open to all the permanent employees of
the company as well as to the directors of the company but it is
no open to the promoters & large shareholders of the company.
Directors report: The company's Directors Report should contain
the following disclosures
 Total number of shares under the scheme as approved by the
company's shareholders
 The pricing formula adopted under the scheme.

94. Advantages of Stock Option Method
It is less expensive
Issue procedure is simple
A retirement benefit for employees

95. Bonus Issue Method
Bonus shares are additional shares given to the current
shareholders without any additional cost, based upon the
number of shares that a shareholder owns.
These are company's accumulated earnings which are not given
out in the form of dividends, but are converted into free shares.

96. Bonus Issue Method
Under this method, accumulated profits and reserve are converted
into share capital of the company
Bonus shares are issued to fully paid shares. So shares receives
bonus shares instead of receiving bonus in the form of cash.

97. Advantages of Bonus Shares
 Minimum subscription is not required
 It is economical
 Sources of company is not effected
 Important in long term investment
 Gives positive sign to market

98. Bought out deal
A bought out deal is a method of offering securities to the public
through a sponsor or underwriter (a bank, financial institution,
or an individual).
The securities are listed in one or more stock exchanges within a
time frame mutually agreed upon by the company and the
sponsor.
This option saves the issuing company the costs and time
involved in a public issue.

99.  The cost of holding the shares can be reimbursed (repay) by
the company, or the sponsor can offer the shares to the public
at a premium to earn profits. Terms are agreed upon by the
company
 The Securities and Exchange Board of India mandates that
only private companies can choose this method of issuing
securities.

101. Features
Parties – There are three parties involved in a bought out deal; the
promoters of the company, sponsors & co-sponsors who are
generally merchant bankers and investors
Sale Price – The sale price is finalized through negotiations
between the issuing company & the purchaser which is
influenced by reputation of the promoters
Listing – The listing generally takes place at a time when company
is performing well in terms of profits & liquidity.

102. Advantages
Speedy sale – The bought out deals offer a mechanism for
speedy sale of securities involving lower issuing cost.
Freedom – The bought out deals offer freedom for promoters to
set a realistic price & negotiate the same with the sponsor.
Investor protection – The bought out deals facilitates better
investor protection as the sponsors are rigorously evaluated
and appraised by the promoters before off-loading the issue