study material 7 day khalsa college (1)

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Capital Market

INDEX

Sr. No. Chapter Page No.

1.Indian Financial System 1 - 4

2.Primary Market 4 - 19

3.IPO & Book Building 19 65

4.Depositories & Depository Participants 66 85

5.Market Index ( Indices ) 86 112

6.Secondary Market Trading , Clearing & Settlement 113 129

7.Risk Management 130 142

8.Securities & Exchange Board of India ( SEBI ) 143 - 147

9Financial Analysis and Valuation of Stocks 148-174

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Stock Market

Overview Indian Capital Market

The function of the financial market is to facilitate the transfer of funds from surplus

sectors (lenders) to deficit sectors (borrowers). Normally, households have investible

funds or savings, which they lend to borrowers in the corporate and public sectors whose

requirement of funds far exceeds their savings. A financial market consists of investors or

buyers of securities, borrowers or sellers of securities, intermediaries and regulatory

bodies. Financial market does not refer to a physical location. Formal trading rules,

relationships and communication networks for originating and trading financial securities

link the participants in the market.

INDIAN FINANCIAL SYSTEM

The financial system is one of the most important inventions of modern society. The

phenomenon of imbalance of in the distribution of capital or funds exists in every

economic system. There are areas or people with surplus funds and there are those with a

deficit. A financial system functions as an intermediary and facilitates the flow of funds

from the areas of surplus to the areas of deficit. A financial system is a composition of

various institutions, market, regulations and laws, practices, money managers, analyst,

transactions and claims and liabilities.

The function performed by a financial system:

1) The Savings Function

2) Liquidity Function

3) Payment Function

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4) Risk Function

5) Policy Function

Financial markets

A financial market can be defined as the market in which financial assets are created or

transferred. Financial assets represent a claim to the payment of a sum of money

sometime in the future and/or periodic payment in the form of interest or dividend.

Financial markets are sometimes classified as primary and secondary markets. But, more

often financial markets are classified as money market and capital markets. The

distinction between the two markets is based on the differences in the period of maturity

of the financial assets issued in these markets. Money market deals with all transaction in

short term instruments (with a period of maturity of one year or less like treasury bills,

bills of exchange, etc). Whereas capital market deals with transaction related to long term

instruments (with a period of maturity of above one year like corporate debentures,

government bonds, etc) and stock (equity and preference shares).

Money Market

One of the important functions of a well-developed money market is to channel savings

into short-term productive investments like working capital. Call money market, treasury

bills market and markets for commercial paper and certificate of deposits are some of the

examples of a money market

Call Money Market

The call money market forms a part of the national money market, where day-to-day

surplus funds, mostly of the banks are traded. The call money loans are of very short term

in nature and the maturity period of theses loans vary from 1 to 15 days. The money that

is lent for one day in this market is known as call money and if exceeds one day but

less than 15 days, is referred as notice money. In this market, any amount could be lent or

borrowed at a convenient interest rate, which is acceptable to both borrower and lender.

This loan are considered as highly liquid, as they are repayable on demand at the option

of either the lender or the borrower.

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Commercial papers

Commercial Paper are short term, unsecured promissory notes issued at a discount to face

value by well known companies that are financial strong and carry high credit rating.

They are sold directly by the issuers to investor, or else placed by borrowers through

agents like merchant banks and security houses. The flexible maturities at which they can

be issued are one of the main attractions for borrowers and investors since issues can be

adapted to the needs of both. The Commercial Paper market has the advantage of giving

highly rated corporate borrowers cheaper funds than they could obtain from the banks

while still providing institutional investor with higher interest earnings than they could

obtain from the banking system the issue of Commercial Paper imparts a degree of

financial stability to the system as the issuing company has an incentive to remainfinancially strong.

Certificates of deposits

With a view to further widen the range of money market instruments and to give

investors greater flexibility in the deployment of the short term surplus funds, RBI

permitted banks to issue Certificates of Deposits. Certificates of Deposits the defined as

short term deposit by way of usance promissory notes having a short maturity of not lessthan three months and not more than one year. They are bank deposits which are

transferable to one party to the other they are different from conventional time deposits

due to their free negotiability. Due this negotiable nature they are also known as

negotiable certificates of deposits.

Money market mutual funds

MMMF are mutual funds that invest primarily in money market instruments of very high

quality and of very short maturity commercial banks, RBI and public financial

institutions can set it either directly or through their existing mutual funds subsidiaries.

The schemes offered by MMMF can either be open ended or close ended. In case of

open-ended schemes the units are available on continuous basis and the MMMF would

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be willing to repurchase the units, while a close ended scheme is available for

subscription for a limited period and is redeemed at maturity

PRIMARY MARKET

The capital market consists of primary and secondary markets. The primary market

deals with the issue of new instruments by the corporate sector such as equity shares,

preference shares and debt instruments. Central and State governments, various public

sector industrial units (PSUs), statutory and other authorities such as state electricity

boards and port trusts also issue bonds/debt instruments. The primary market in whichpublic issue of securities is made through a prospectus is a retail market and there is no

physical location. Offer for subscription to securities is made to investing community.

The secondary market or stock exchange is a market for trading and settlement of

securities that have already been issued. The investors holding securities sell securities

through registered brokers/sub-brokers of the stock exchange. Investors who are desirous

of buying securities purchase securities through registered brokers/sub-brokers of the

stock exchange. It may have a physical location like a stock exchange or a trading floor.

Since 1995, trading in securities is screen-based and Internet-based trading has also made

an appearance in India.

The secondary market consists of 23 stock exchanges including the National Stock

Exchange, Over-the-Counter Exchange of India (OTCEI) and Inter Connected Stock

Exchange of India Ltd. The secondary market provides a trading place for the securities

already issued, to be bought and sold. It also provides liquidity to the initial buyers in the

primary market to reoffer the securities to any interested buyer at any price, if mutually

accepted. An active secondary market actually promotes the growth of the primary

market and capital formation because investors in the primary market are assured of a

continuous market and they can liquidate their investments.

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Major players of primary market: There are several major players in the primary

market. These include the merchant bankers, mutual funds, financial institutions, foreign

institutional investors (FIIs) and individual investors. In the secondary market, there are

the stock brokers (who are members of the stock exchanges), the mutual funds, financial

institutions, foreign institutional investors (FIIs), and individual investors. Registrars and

Transfer Agents, Custodians and Depositories are capital market intermediaries that

provide important infrastructure services for both primary and secondary markets.

Market regulation: It is important to ensure smooth working of capital market, as it is

the arena where the players in the economic growth of the country. Various laws have

been passed from time to time to meet this objective. The financial market in India was

highly segmented until the initiation of reforms in 1992-93 on account of a variety of

regulations and administered prices including barriers to entry. The reform process was

initiated with the establishment of Securities and Exchange Board of India (SEBI).

The legislative framework before SEBI came into being consisted of three major Acts

governing the capital markets:

1. The Capital Issues Control Act 1947, which restricted access to the securities market

and controlled the pricing of issues.

2. The Companies Act, 1956, which sets out the code of conduct for the corporate sector

in relation to issue, allotment and transfer of securities, and disclosures to be made in

public issues.

3. The Securities Contracts (Regulation) Act, 1956, which regulates transactions in

securities through control over stock exchanges. In addition, a number of other Acts, e.g.,

the Public Debt Act, 1942, the Income Tax Act, 1961, the Banking Regulation Act, 1949,

have substantial bearing on the working of the securities market.

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Capital Issues (Control) Act, 1947

The Act had its origin during the Second World War in 1943 when the objective of the

Government was to pre-empt resources to support the War effort. Companies were

required to take the Government's approval for tapping household savings. The Act was

retained with some modifications as a means of controlling the raising of capital by

companies and to ensure that national resources were channeled into proper lines, i.e., for

desirable purposes to serve goals and priorities of the government, and to protect the

interests of investors.

Under the Act, any firm wishing to issue securities had to obtain approval from the

Central Government, which also determined the amount, type and price of the issue. This

Act was repealed and replaced by SEBI Act in 1992.

Securities Contracts (Regulation) Act, 1956

The previously self-regulated stock exchanges were brought under statutory regulation

through the passage of the SC(R)A, which provides for direct and indirect control of

virtually all aspects of securities trading and the running of stock exchanges. This gives

the Central Government regulatory jurisdiction over (a) stock exchanges, through a

process of recognition and continued supervision, (b) contracts in securities, and (c)

listing of securities on stock exchanges. As a condition of recognition, a stock exchange

complies with conditions prescribed by Central Government. Organised trading activity

in securities in an area takes place on a specified recognised stock exchange. The stock

exchanges determine their own listing regulations which have to conform with the

minimum listing criteria set out in the Rules. The regulatory jurisdiction on stock

exchanges was passed over to SEBI on enactment of SEBI Act in 1992 from Central

Government by amending SC(R)Act.

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Companies Act, 1956

Companies Act, 1956 is a comprehensive legislation covering all aspects of company

form of business entity from formation to winding-up. This legislation (amongst other

aspects) deals with issue, allotment and transfer of securities and various aspects relating

to company management. It provides for standards of disclosure in public issues of

capital, particularly in the fields of company management and projects, information about

other listed companies under the same management, and management perception of risk

factors. It also regulates underwriting, the use of premium and discounts on issues, rights

and bonus issues, substantial acquisitions of shares, payment of interest and dividends,

supply of annual report and other information.

This legal and regulatory framework contained many weaknesses. Jurisdiction over the

securities market split among various agencies and the relevant was scattered in a number

of statutes. This resulted in confusion, not only in the minds of the regulated but also

among regulators. It also created inefficiency in the enforcement of the regulations. It

was the Central Government rather than the market that allocated resources from the

securities market to competing issuers and determined the terms of allocation. The

allocation was not necessarily based on economic criteria, and as a result the market was

not allocating the resources to the best possible investments, leading to a sub-optimal use

of resources and low allocational efficiency. Informational efficiency was also low

because the provisions of the Companies Act regarding prospectus did not ensure the

supply of necessary, adequate and accurate information, sufficient to enable investors to

make an informed decision. The many formalities associated with the issue process under

various regulations kept the cost of issue quite high. Under the SC(R)A, the secondary

market was fragmented regionally, with each stock exchange a self-regulating

organisation following its own policy of listing, trading and settlement. The listing

agreement did not have the force of law, so that issuers could get away with violations.

The interests of the brokers, who were market players and dominated the governing

boards of stock exchanges, took priority over the interest of investors. The market was

narrow and investors did not have an opportunity to have balanced portfolios.

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The settlement of trades took a long time, because it required physical movement of

securities, and the transfer of securities was very cumbersome under the Companies Act

and SC(R)Act, thus depriving the investor of liquidity. Law expressly forbade options

and futures. These weaknesses were corrected by passing SEBI Act and giving overall

regulatory jurisdiction on capital market to SEBI. SEBI framed regulations and

guidelines to improve efficiency of the market, enhance transparency, check unfair trade

practices and ensure international standards in market practices necessitated by the large

entry of foreign financial institutions.

Securities and Exchange Board of India

With the objectives of improving market efficiency, enhancing transparency, checking

unfair trade practices and bringing the Indian market up to international standards, a

package of reforms consisting of measures to liberalise, regulate and develop the

securities market was introduced during the 1990s. This has changed corporate securities

market beyond recognition in this decade. The practice of allocation of resources among

different competing entities as well as its terms by a central authority was discontinued.

The secondary market overcame the geographical barriers by moving to screen-based

trading. Trades enjoy counterparty guarantee. Physical security certificates have almost

disappeared. The settlement period has shortened to three days. The following paragraphs

discuss the principal reform measures undertaken since 1992.

A major step in the liberalisation process was the repeal of the Capital Issues (Control)

Act, 1947 in May 1992. With this, Government's control over issue of capital, pricing of

the issues, fixing of premia and rates of interest, on debentures, etc., ceased. The office,

which administered the Act, was abolished and the market was allowed to allocate

resources to competing uses and users. Indian companies were allowed access to

international capital market through issue of ADRs and GDRs. However, to ensure

effective regulation of the market, SEBI Act, 1992 was enacted to empower SEBI with

statutory powers for (a) protecting the interests of investors in securities, (b) promoting

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the development of the securities market, and (c) regulating the securities market. Its

regulatory jurisdiction extends over corporates in the issuance of capital and transfer of

securities, in addition to all intermediaries and persons associated with securities market.

SEBI can specify the matters to be disclosed and the standards of disclosure required for

the protection of investors in respect of issues. It can issue directions to all intermediaries

and other persons associated with the securities market in the interest of investors or of

orderly development of the securities market; and can conduct inquiries, audits and

inspection of all concerned and adjudicate offences under the Act. In short, it has been

given necessary autonomy and authority to regulate and develop an orderly securities

market.

There were several statutes regulating different aspects of the securities market and

jurisdiction over the securities market was split among various agencies, whose roles

overlapped and which at times worked at cross-purposes. As a result, there was no

coherent policy direction for market participants to follow and no single supervisory

agency had an overview of the securities business. Enactment of SEBI Act was the first

such attempt towards integrated regulation of the securities market. SEBI was given full

authority and jurisdiction over the securities market under the Act, and was given

concurrent/delegated powers for various provisions under the Companies Act and the

SC(R)A. The Depositories Act, 1996 is also administered by SEBI.

Disclosure and Investor Protection ( DIP ) Norms

A high level committee on capital markets has been set up to ensure co-ordination among

the regulatory agencies in financial markets. In the interest of investors, SEBI issued

Disclosure and Investor Protection (DIP) Guidelines. Issuers are now required to comply

with these Guidelines before accessing the market. The guidelines contain a substantial

body of requirements for issuers/intermediaries. The main objective is to ensure that all

concerned observe high standards of integrity and fair dealing, comply with all the

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requirements with due skill, diligence and care, and disclose the truth, the whole truth and

nothing but the truth. The Guidelines aim to secure fuller disclosure of relevant

information about the issuer and the nature of the securities to be issued so that investor

can take an informed decision. For example, issuers are required to disclose any material

'risk factors' in their prospectus and the justification for the pricing of the securities has to

be given. SEBI has placed a responsibility on the lead managers to give a due diligence

certificate, stating that they have examined the prospectus, that they find it in order and

that it brings out all the facts and does not contain anything wrong or misleading. Though

the requirement of vetting has now been dispensed with, SEBI has raised standards of

disclosures in public issues to enhance the level of investor protection. Improved

disclosures by listed companies: The norms for continued disclosure by listed companies

have also improved the availability of timely information. The information technology

helped in easy dissemination of information about listed companies and market

intermediaries. Equity research and analysis and credit rating has improved the quality of

information. SEBI has recently started a system for Electronic Data Information Filing

and Retrieval System (EDIFAR) to facilitate electronic filing of public domain

information by companies.

Capital Market Intermediaries

There are several institutions, which facilitate the smooth functioning of the securities

market. They enable the issuers of securities to interact with the investors in the primary

as well as the secondary arena.

Merchant Bankers

Among the important financial intermediaries are the merchant bankers. The services of

merchant bankers have been identified in India with just issue management. It is quite

common to come across reference to merchant banking and financial services as though

they are distinct categories. The services provided by merchant banks depend on their

inclination and resources - technical and financial. Merchant bankers (Category 1) are

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mandated by SEBI to manage public issues (as lead managers) and open offers in take-

overs. These two activities have major implications for the integrity of the market. They

affect investors' interest and, therefore, transparency has to be ensured. These are also

areas where compliance can be monitored and enforced.

Merchant banks are rendering diverse services and functions. These include organizing

and extending finance for investment in projects, assistance in financial management,

acceptance house business, raising Euro-dollar loans and issue of foreign currency bonds.

Different merchant bankers specialize in different services. However, since they are one

of the major intermediaries between the issuers and the investors, their activities are

regulated by:

(1) SEBI (Merchant Bankers) Regulations, 1992.

(2) Guidelines of SEBI and Ministry of Finance.

(3) Companies Act, 1956.

(4) Securities Contracts (Regulation) Act, 1956.

Merchant banking activities, especially those covering issue and underwriting of shares

and debentures, are regulated by the Merchant Bankers Regulations of Securities and

Exchange Board of India (SEBI). SEBI has made the quality of manpower as one of the

criteria for renewal of merchant banking registration. These skills should not be

concentrated in issue management and underwriting alone. The criteria for authorization

take into account several parameters. These include: (a) professional qualification in

finance, law or business management, (b) infrastructure like adequate office space,

equipment and manpower, (c) employment of two persons who have the experience to

conduct the business of merchant bankers, (d) capital adequacy and (e) past track record,

experience, general reputation and fairness in all their transactions.

SEBI authorizes merchant bankers for an initial period of three years, if they have a

minimum net worth of Rs. 5 crore. An initial authorization fee, an annual fee and renewal

fee is collected by SEBI. According to SEBI, all issues should be managed by at least one

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authorized merchant banker functioning as the sole manager or lead manager. The lead

manager should not agree to manage any issue unless his responsibilities relating to the

issue, mainly disclosures, allotment and refund, are clearly defined. A statement

specifying such responsibilities has to be furnished to SEBI. SEBI prescribes the process

of due diligence that a merchant banker has to complete before a prospectus is cleared. It

also insists on submission of all the documents disclosing the details of account and the

clearances obtained from the ROC and other government agencies for tapping peoples'

savings. The responsibilities of lead manager, underwriting obligations, capital adequacy,

due diligence certification, etc., are laid down in detail by SEBI. The objective is to

facilitate the investors to take an informed decision regarding their investments and not

expose them to unknown risks.

Credit Rating Agencies

The 1990s saw the emergence of a number of rating agencies in the Indian market. These

agencies appraise the performance of issuers of debt instruments like bonds or fixed

deposits. The rating of an instrument depends on parameters like business risk, market

position, operating efficiency, adequacy of cash flows, financial risk, financial flexibility,

and management and industry environment. The objective and utility of this exercise is

twofold. From the point of view of the issuer, by assigning a particular grade to an

instrument, the rating agencies enable the issuer to get the best price. Since all financial

markets are based on the principle of risk/reward, the less risky the profile of the issuer of

a debt security, the lower the price at which it can be issued. Thus, for the issuer, a

favourable rating can reduce the cost of borrowed capital. From the viewpoint of the

investor, the grade assigned by the rating agencies depends on the capacity of the issuer

to service the debt. It is based on the past performance as well as an analysis of the

expected cash flows of a company when viewed on the industry parameters as well as

company performance. Hence, the investor can judge for himself whether he wants to

place his savings in a "safe" instrument and get a lower return or he wants to take a risk

and get a higher return. The 1990s saw an increase in activity in the primary debt market.

Under the SEBI guidelines all issuers of debt have to get the instruments rated. They also

have to prominently display the ratings in all that marketing literature and

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advertisements. The rating agencies have thus become an important part of the

institutional framework of the Indian securities market.

R & T Agents - Registrars to Issue

R&T Agents form an important link between the investors and issuers in the securities

market. A company, whose securities are issued and traded in the market, is known as the

Issuer. The R&T Agent is appointed by the Issuer to act on its behalf to service the

investors in respect of all corporate actions like sending out notices and other

communications to the investors as well as dispatch of dividends and other non-cash

benefits. R&T Agents perform an equally important role in the depository system as well.

These are described in detail in the second section of this Workbook.

Stock Brokers

Stockbrokers are the intermediaries who are allowed to trade in securities on the

exchange of which they are members. They buy and sell on their own behalf as well as on

behalf of their clients. Traditionally in India, individuals owned firms providing

brokerage services or they were partnership firms with unlimited liabilities. There were,

therefore, restrictions on the amount of funds they could raise by way of debt. With

increasing volumes in trading as well as in the number of small investors, lack of

adequate capitalization of these firms exposed investors to the risks of these firms going

bust and the investors would have no recourse to recovering their dues.

With the legal changes being effected in the membership rules of stock exchanges as well

as in the capital gains structure for stock-broking firms, a number of brokerage firms

have converted themselves into corporate entities. In fact, NSE encouraged the setting up

of corporate broking members and has today has only 10% of its members who are not

corporate entities.

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Custodians

In the earliest phase of capital market reforms, to get over the problems associated with

paper-based securities, large holding by institutions and banks were sought to be

immobilised. Immobilisation of securities is done by storing or lodging the physical

security certificates with an organisation that acts as a custodian - a securities depository.

All subsequent transactions in such immobilised securities take place through book

entries. The actual owners have the right to withdraw the physical securities from the

custodial agent whenever required by them. In the case of IPO, a jumbo certificate is

issued in the name of the beneficiary owners based on which the depository gives credit

to the account of beneficiary owners. The Stock Holding Corporation of India was set up

to act as a custodian for securities of a large number of banks and institutions who were

mainly in the public sector. Some of the banks and financial institutions also started

providing "Custodial" services to smaller investors for a fee. With the introduction of

dematerialisation of securities there has been a shift in the role and business operations of

Custodians. But they still remain an important intermediary providing services to the

investors who still hold securities in a physical form.

Mutual Funds

Mutual funds are financial intermediaries, which collect the savings of small investors

and invest them in a diversified portfolio of securities to minimise risk and maximise

returns for their participants. Mutual funds have given a major fillip to the capital market

- both primary as well as secondary. The units of mutual funds, in turn, are also tradable

securities. Their price is determined by their net asset value (NAV) which is declared

periodically. The operations of the private mutual funds are regulated by SEBI with

regard to their registration, operations, administration and issue as well as trading. There

are various types of mutual funds, depending on whether they are open ended or close

ended and what their end use of funds is. An open-ended fund provides for easy liquidity

and is a perennial fund, as its very name suggests. A closed-ended fund has a stipulated

maturity period, generally five years. A growth fund has a higher percentage of its corpus

invested in equity than in fixed income securities, hence, the chances of capital

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appreciation (growth) are higher. In Growth Funds, the dividend accrued, if any, is

reinvested in the fund for the capital appreciation of investments made by the investor.

An Income fund on the other hand invests a larger portion of its corpus in fixed income

securities in order to pay out a portion of its earnings to the investor at regular intervals.

A balanced fund invests equally in fixed income and equity in order to earn a minimum

return to the investors. Some mutual funds are limited to a particular industry; others

invest exclusively in certain kinds of short-term instruments like money market or

Government securities. These are called money market funds or liquid funds. To prevent

processes like dividend stripping or to ensure that the funds are available to the managers

for a minimum period so that they can be deployed to at least cover the administrative

costs of the asset management company, mutual funds prescribe an entry load or an exit

load for the investors. If investors want to withdraw their investments earlier than the

stipulated period, an exit load is chargeable. To prevent profligacy, SEBI has prescribed

the maximum that can be charged to the investors by the fund managers.

Depositories

The depositories are an important intermediaries in the securities market that is scrip-less

or moving towards such a state. In India, the Depositories Act defines a depository to

mean "a company formed and registered under the Companies Act, 1956 and which has

been granted a certificate of registration under sub-section (IA) of section 12 of the

Securities and Exchange Board of India Act, 1992." The principal function of a

depository is to dematerialize securities and enable their transactions in book-entry form.

Dematerialisation of securities occurs when securities, issued in physical form, are

destroyed and an equivalent number of securities are credited into the beneficiary owner's

account. In a depository system, the investors stand to gain by way of lower costs and

lower risks of theft or forgery, etc. They also benefit in terms of efficiency of the process.

But the implementation of the system has to be secure and well governed. All the players

have to be conversant with the rules and regulations as well as with the technology for

processing. The intermediaries in this system have to play strictly by the rules. A

depository established under the Depositories Act can provide any service connected with

recording of allotment of securities or transfer of ownership of securities in the record of

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a depository. A depository cannot directly open accounts and provide services to clients.

Any person willing to avail of the services of the depository can do so by entering into an

agreement with the depository through any of its Depository Participants. The services,

functions, rights and obligations of depositories, with special reference to the NSDL are

provided in the second section of this Workbook.

Depository Participants

A Depository Participant (DP) is described as an agent of the depository. They are the

intermediaries between 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 as such with

SEBI under the provisions of the SEBI Act. As per the provisions of this Act, a DP can

offer depository related services only after obtaining a certificate of registration from

SEBI.

SEBI (D&P) Regulations, 1996 prescribe a minimum net worth of Rs. 50 lakh for

stockbrokers, R&T agents and non-banking finance companies (NBFC), for granting

them a certificate of registration to act as DPs. If a stockbroker seeks to act as a DP in

more than one depository, he should comply with the specified net worth criterion

separately for each such depository. No minimum net worth criterion has been prescribed

for other categories of DPs. However, depositories can fix a higher net worth criterion for

their DPs. NSDL requires a minimum net worth of Rs. 100 lakh to be eligible to become

a DP as against Rs. 50 lakh prescribed by SEBI (D&P) Regulations. The role, functions,

responsibilities and business operations of DPs are described in detail in the second

section of this book.

Instruments

The changes in the regulatory framework of the capital market and fiscal policies have

also resulted in newer kinds of financial instruments (securities) being introduced in the

market. Also, a lot of financial innovation by companies who are now permitted to

undertake treasury operations, has resulted in newer kinds of instruments - all of which

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can be traded being introduced. The variations in all these instruments depend on the

tenure, the nature of security, the interest rate, the collateral security offered and the

trading features, etc.

Debentures

These are issued by companies and regulated under the SEBI guidelines of June 11, 1992.

These are issued under a prospectus, which has to be approved by SEBI like in the case

of equity issues. The rights of investors as debenture holders are governed by the

Companies Act, which prohibits the issue of debentures with voting rights. There are a

large variety of debentures that is available. This includes:

participating debentures

Convertible debentures with options

Third party convertible debentures

Debt/equity swaps

Zero coupon convertible notes

Secured premium notes

Zero interest fully convertible debentures

Fully convertible debentures with interest

Partly convertible debentures.

Bonds

Indian DFIs, like IDBI, ICICI, and IFCI, have been raising capital for their operations by

issuing of bonds. These too are available in a large variety. These include:

Income bonds

Tax-free bonds

Capital gains bonds

Deep discount bonds

Infrastructure bonds

Retirement bonds

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In addition to the interest rates and maturity profiles of these instruments, the issuer

institutions have been including a put/call option on especially the very long-dated bonds

like deep discount bonds. Since the tenures of some of these instruments spanned some

20 or 25 years during which the interest rate regimes may undergo a complete change, the

issuer have kept the flexibility to retire the costly debt. This they do by exercising their

option to redeem the securities at pre-determined periods like at the end of five or seven

years. This has been witnessed in number of instruments recently much to the chagrin of

investors who were looking for secure and hassle-free long-dated instruments.

Preference Shares

As the name suggests, owners of preferential shares enjoy a preferential treatment with

regard to corporate actions like dividend. They also have a higher right of repayment in

case of winding up of a company. Preference shares have different features and are

accordingly available as:

Cumulative and non-cumulative

Participating

Cumulative & Redeemable fully convertible to preference shares

Cumulative & Redeemable fully convertible to equity

Preference shares with warrants

Preference shares

Equity Shares

As the name indicates, these represent the proportionate ownership of the company. This

right is expressed in the form of participation in the profits of the company. There has

been some innovation in the way these instruments are issued. Some hybrid securities

like equity shares with detachable warrants are also available.

Government securities

The Central Government or State Governments issue securities periodically for the

purpose of raising loans from the public. There are two types of Government Securities

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Dated Securities and Treasury Bills. Dated Securities have a maturity period of more than

one year. Treasury Bills have a maturity period of less than or up to one year. The Public

Debt Office (PDO) of the Reserve Bank of India performs all functions with regard to the

issue management, settlement of trade, distribution of interest and redemption. Although

only corporate and institutional investors subscribe to government securities, individual

investors are also permitted to subscribe to these securities.

An investor in government securities has the option to have securities issued either in

physical form or in book-entry form (commonly known as Subsidiary General Ledger

form). There are two types of SGL facilities, viz., SGL-1 and SGL-2. In the SGL-1

facility, the account is opened with the RBI directly. There are several restrictions on

opening SGL-1 accounts and only entities, which fulfill all the eligibility criteria, are

permitted to open SGL-1 account. The RBI has permitted banks, registered primary

dealers and certain other entities like NSCCL, SHCIL, and NSDL to provide SGL

facilities to subscribers. A subscriber to government securities who opts for SGL

securities may open an SGL account with RBI or any other approved entity. Investments

made by such approved entity on its own account are held in SGL-1 account, and

investments held on account of other clients are held in SGL-2 account.

INITIAL PUBLIC OFFER

The first public offering of equity shares of a company, which is followed by a listing of

its shares on the stock market, is called the Initial Public Offering (IPO). Most

businesses are privately owned. They do not have outside investors. A few people may be

management or employees and members of their respective families, own all the

outstanding stocks. Such corporations are referred to as "Closely held corporations.

These companies are usually strong but some are nationally recognized names. When a

privately held organization needs additional capital it can borrow cash or sell stocks to

raise needed funds. Often "going public" is the best choice for growing business. Usually

an IPO is a part of business financing strategy. A well-planned and executed business

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setup will have specific goals for growth and revenue accompanied by financing needs

and options to achieve these needs. The Decision to go public (or more precisely the

decision to make an IPO so that the securities of the company are listed on the stock

market and publicly traded) is very important, but not well studied, question in finance. It

is a complex decision, which calls for carefully weighing the benefits against costs.

BENEFITS OF GOING PUBLIC:

The potential advantages that seem to prod companies to go public are as follows:

1) Access to Capital The principal motivation for going public is to have access tolarger capital. A company that does not tap the public financial market may find it

difficult to grow beyond a certain point for want of capital.

2) Respectability Many entrepreneurs believe that they have arrived in some

sense if their company goes public because a public company may command

greater respectability. Competent and ambitious executives would like to work for

growth. Other things being equal, public companies offer greater growth potential

compared to non-public companies. Hence, they can attract superior talent.

3) Window of Opportunity As suggested by Jay Ritter and others that there are

periods in which stocks are overpriced. Hence, when a non-public company

recognizes that other companies in its industry are overpriced, it has an incentive

to go public and exploit that opportunity.

4) Benefit of Diversification When a firm goes public those who have investment

in it original owners, investors, managers, and others can cash out of the firm

and build a diversified portfolio.

1) Signals from the Market Stock prices represent useful information to the

managers. Every day, investors render judgments about the prospects of the firms.

Although the market may not be perfect, it provides a useful reality check.

2) Complements Product Marketing: Going public attracts media attention.

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Newspapers and magazines are most likely to focus on public companies on

which information is readily available. This publicity can be harnessed and used

towards marketing the product of the company.

3) Competitive position: Many companies use their increased availability of capitalas a public company to enhance their competitive position. Additional capital

available to a public company permits greater market penetration.

4) Expands Business Relationship: Once a company is public company,

information on that company is readily available. Prospective suppliers,

distributors and partners could easily garner information and forge a relationship

with such company.

5) Ability to take advantage of market price fluctuations: Once public, acompany can take advantage of market price fluctuations to sell stock when the

markets are hot, buy back the stock when the market is cold. This can often be an

effective and low cost way to raise significant capital.

COSTS OF GOING PUBLIC:

A public company (or, more precisely, a listed public company) is not an unmixed

blessing. There are several disadvantages of going public:

1) Adverse Selection Investors, in general, know less than the issuers about the

value of companies that go public. Put differently they are potential victims of

adverse selection. Aware of this trap, they are reluctant to participate in public

issue unless they are significantly under priced. Hence a company making an IPO

typically has to under price its securities in order to stimulate investor interest and

participation.

2) Loss of Flexibility The affairs of a public company are subject to fairly

comprehensive regulations. Hence when a non-public company is transformed

into a public company there is some loss of flexibility.

3) Disclosures A public company is required to disclose a lot of information to

investors and others. Hence it cannot maintain a strict veil of secrecy over its

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expansion plans and product market strategies as its non-public counterpart can

do.

4) Accountability Understandably, the degree of accountability of a public

company is higher. It has to explain a lot to its investors.

1) Public Pressure Because of its greater visibility a public company may be

pressurized to do things that it may not otherwise do.

2) Expense: The cost of going public is substantial both initially and on an ongoing

basis. As for the initial cost the underwriters discount can run as high as 10% or

more of the total offering. Additionally one can incur significant out-of-pocket

expenses. On an ongoing basis, regulatory reporting requirements, stock holders

meetings, investor relations, and other expenses of being public are significant.

FLOW CHART OF IPO FPOCESS

The issue of securities to members of the public through a prospectus involves a fairly

elaborate process, the principal steps of which are briefly described below:

Approval of Board

An approval of the board of directors of the company is required for raising capital

from the public.

Appointment of Lead Managers

The lead manager is a merchant banker who orchestrates the issue in consultation

with the company. The lead manager must be selected carefully.

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Appointment of Other Intermediaries

Several intermediaries facilitate the public issue process. A cop-manager is appointed

to share the work of the lead manager and an advisor to provide counsel. An

underwriter is appointed who agrees to subscribe to a given number of shares in the

event the public does not subscribe to them. The underwriter, in essence, stands

guarantee for public subscription in consideration for the underwriting commission.

Bankers are appointed to collect money on behalf of the company from the

applicants. Brokers are appointed to the issue to facilitate its subscription. Only

members of recognized Stock Exchanges can be appointed as brokers. The number of

brokers appointed has to bear a reasonable relationship to the size of the issue. A

company may, if such a need is felt, appoint a principal broker to coordinate the work

of brokers. Registrars are appointed to the issue to perform a series of tasks from the

time the subscription is closed to the time the allotment is made. They may be

selected on the basis of experience, expertise, credibility, and cost.

Filing of the Prospectus with SEBI

The prospectus or the offer document communicates information about the company

and the proposed security issue to the investing public. All companies seeking to

make a public issue have to file their offer document with SEBI. If SEBI or the public

does not communicate its observations within 21 days from the filing of the offer

document, the company can proceed with its public issue. The prospectus and

application form (along with Articles and Memorandum of Association) must be

forwarded to the concerned stock exchange, where the issue is proposed to be listed,

for approval.

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Filing of the Prospectus with the Registrar of Companies

Once the prospectus is approved by the concerned stock exchange and consents

obtained from the bankers, auditors, legal advisors, registrars, underwriters, and

others, the prospectus, signed by the directors, must be filed with the Registrar ofCompanies, along with requisite documents as required by the Companies Act, 1956.

Filing of Initial Listing Application

Within ten days of filing the prospectus, the initial listing application must be made

to the concerned stock exchanges, along with the initial listing fees.

Promotion of the Issue

The promotional campaign typically commences with the filing of the prospectus

with the Registrar of Companies and ends with the release of the statutory

announcement of the issue. To promote the issue the company holds conferences for

brokers, press and investors. Advertisements are also released in newspapers and

periodicals to generate interest among potential investors.

Statutory Announcement

The statutory announcement of the issue must be made after seeking the approval of

the lead stock exchange. This must be published at least ten days before the opening

of the subscription list.

Collection of Applications

The statutory announcement (as well as the prospectus) specifies when the

subscription would open, when it would close, and the banks where the applications

can be made. During the period the subscription is kept open, the bankers to the issue

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collect application money on behalf of the company and the managers to the issue,

with the help of the registrars to the issue, monitor the situation. Information is

gathered about the number of applications received in various categories, the number

of shares applied for, and the amount received.

Processing of Applications

The applications forms received by the bankers are transmitted to the registrars of the

issue for processing. This mainly involves scrutinizing the applications, coding the

applications, preparing a list of applications with all relevant details.

Establishing the Liability of Underwriters

If the issue is under subscribed, the liability of the underwriters has to be established.

Allotment of Shares

According to SEBI guidelines, one-half of the net public offers have to be reserved

for applications up to 1000 shares and the balance one-half for larger applications.

For each of these segments, the proportionate system of allotment is to be followed.

Listing of the Issue

The detailed listing application should be submitted to the concerned stock exchanges

along with the listing agreement and the listing fee. The allotment formalities should

be completed within 30 days after the subscription list is closed or such extended

period as permitted by the lead stock exchange.

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STAGES OF THE IPO

The IPO process begins with the management making a presentation to the board of

directors, with business plan and financial projections, proposing that the company enter

the public market. If the directors approve the proposal than the following steps are

taken:

1. Pre-Issue

a) Due Diligence

b) Draft offer document to be filed with SEBI.c) Final Offer document to be filed with SEBI.

d) Application for listing with Stock Exchange.

e) Promoters contribution to be brought in prior to the issue.

f) Appointment of Compliance officer.

g) In-principal approval from the Stock Exchange to be obtained and filed

with SEBI.

h) Issue Advertisement.

i) Book-Building and Bidding processes to be followed.

2. Issue

j) Subscription list to be kept open for at least 3 days.

k) Issue to open with in the time prescribed.

3. Post-Issue

l) Monitoring reports to be submitted to SEBI.

m) Final Post issue monitoring reports.

n) Post issue advertisement.

o) Dispatch of share certificates etc. and allotment and listing documents.

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DUE-DILIGENCE

One of the keys to a smooth IPO is a thorough review of your business. This due

diligence process ensures you can back up everything you say in your SEBI registration

statement.

During the due diligence phase, the company, its underwriters, and their attorneys will

focus on the registration statement. This phase will require the company to thoroughly

review its business and to substantiate all claims in the registration statement. For

example, if a company claims that it "will have significant first-mover and time-to-

market advantages as a software-based solution in the Internet postage market," the

company must be able to back up that claim. Indeed, the Securities and Exchange

Commission may ask for such data. This review may also uncover additional information

that needs to be addressed or disclosed.

Besides inspecting the registration statement, the underwriters and counsel for both

parties will also question company officers and key employees. This will include a

thorough discussion of the company's business and marketing plans, revenue projections,

product development road map, and intellectual property portfolio, with an emphasis on

identifying potential pitfalls. The due diligence team will also speak with third parties,

such as customers, retailers, and suppliers. After all, problems with partners in the supply

and distribution chain can cascade back to the company itself. For example, a financially

troubled customer may tie up a company's inventory in a bankruptcy court proceeding, or

a supplier of a key component may face an extended shutdown as it irons out Y2K-

related problems with its factory automation software.

This attention to detail is required for both brand-new dot.com companies and well-seasoned corporations alike. Even Goldman Sachs, a veteran investment banking firm,

provided this litany of risk factors in its registration statement.

The third leg of the due diligence review involves an audit of company records. Again,

the team will be looking for hidden problems in the company's corporate documents,

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licenses, and material contracts. Finally, the company and its employees should be

sensitive to personal matters that may affect an initial public offering. For example, a

confidential settlement between a senior executive and a plaintiff for a fraud-related case,

even if it had no merits, may affect public perception of the company and its leadership.

Accordingly, a frank discussion with counsel is encouraged.

The due diligence process aspires to achieve the following :

1 To assess the reasonableness of historical and projected earnings of cash flows.

2 To identify key vulnerabilities, risks and opportunities.

3 To gain an intimate understanding of the company and the market in which the

company operates such that the companys management can anticipate and

manage change.

4 To set in motion the planning for the post IPO operations.

It will result in a critical analysis of the control, accounting and reporting systems of the

company and concomitantly a critical appraisal of key personal. It will identify the value

drivers of the company thus enabling the directors to understand where the value is and to

focus there efforts on increasing that value.

Due Diligence spans the entire Public issue process. The steps involved in due diligence

are given below:

1. Decision on Public issue.

2. Business due diligence

3. Legal and Financial Due diligence.

4. Disclosure in prospectus.

5. Marketing to investors

6. Post issue compliance

The following is the list of the key areas which would come under scrutiny and a brief

description of what the due diligence exercise should focus on in each area:

1 The financial Statementsto ensure there accuracy.

2 The AssetsConfirm there value, condition existence and legal title.

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3 The sales strategyanalyzing the policies and procedures in place and assessing

what works and what does not.

4 The marketingwhat is driving the business and is it effective.

5 The industry in which the company operatesunderstands trends and new

technology.

6 The competitionsidentify threats.

7 The systemshow effective are they? Are upgrades required?

8 Legal and corporate and tax issues

9 Company contracts and leaseidentify what the risks and obligations are.

10 Suppliersare they expected to remain around.

CONTENTS OF OFFER DOCUMENT

At the center of the IPO is the prospectus. The prospectus is both a disclosure document

and a marketing document, since it is the only information that the law allows to bedisseminated about the offering. Because the company, its directors and promoters are

liable for any mis-statement or omission of material information in the prospectus,

professionals involved should exercise due diligence in ensuring the accuracy and

adequacy of all the statements contained in the prospectus.

The prospectus is required to contain a detailed description of the business, a description

of management structure, management compensation figures, and a description of

transactions between the corporation and management discussions, operation and

financial conditions, together with information on the procedures, dividend policy and

capitalization. Also a statement of risk factors is essential.

It normally starts with the table of contents, definitions, risk factors, summary of the

issuer and financial data. This is followed by a detailed disclosure under three sections:

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1. Issue Structure

2. Issuer Information

3. General and Statutory Information

1) Issue Structure

a. Capital structure of the company.

b. Objects of the issue.

c. Description of Equity shares and terms of AOA.

d. Build up of the capital

e. Funds requirement.

f. Funding plan.

g. Appraisal.

h. Schedule of implementation.

i. Funds deployed.

j. Sources of financing of funds already deployed.

k. Details of balanced funds deployed

l. Interim use of funds.

m. Details of shareholding of promoters.

n. Basis for issue price

o. Issue procedure

p. Tax benefit

q. Offering information

2) Issuer Information

r. Industry overview

s. Business overview

t. History and corporate structure of the issuer company.

u. Details of business

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v. Business strategy

w. Property

x. Directors and key managerial personnel

y. Shareholders agreement

z. Management

aa. Board of directors

bb. Compensation and interest of directors

cc. Employees

dd. Dividend policy

ee. Financial performance for the last 5 years

ff. Group companies and financial data

gg. Changes in accounting policies in the last three years

hh. Legal and other information

ii. Results of operations as reflected in the financial statements

jj. Outstanding litigation and material development

kk. Government approvals and licensing arrangements

ll. Industry, competition and regulatory environment

mm. Other regulatory and statutory disclosures

3) General and Statutory Information

nn. Description of basis of allotment

oo. Auditors report

pp. Extracts of AOA

qq. List of material contracts and documents

rr. General information

ss. Key industry regulation.

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ELIGIBILITY NORMS FOR COMPANIES ISSUING SECURITIES

Conditions for issue of securities

The companies issuing securities offered through an offer document shall satisfy

following at the time of filing the draft offer document with SEBI and also at the time

of filling the final offer document with the registrar of companies/Designated Stock

Exchange.

Filing of offer document

Public issue:

A draft prospectus is required to be filed with SEBI through an eligible

Merchant banker at least 21 days prior to the filing of prospectus with the Registrar of

Companies (ROCs). However, if, within 21 days from the date of submission of draft

prospectus, SEBI specifies changes, if any, in the draft prospectus (without being

under any obligation to do so), the issuer or the Lead Merchant Banker shall carry

out such changes in the draft prospectus before filing the prospectus with ROCs.

A company shall not make an issue of securities if the company has been

prohibited from accessing the capital market under any order or direction passed by

board.

A company is required to make an application for listening of those securities in

Stock Exchange(s) prior to any public issues of securities.

A company shall make a public issue or an offer for sale of securities,

only after:

(a) The company enters into an agreement with a depository for

dematerialization of securities already issued or proposed to be issued to the

public or existing shareholders; and

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(b) The company gives an option to subscribers/ shareholders/ investors to receive the

security certificates or hold securities dematerialization from with a depository. As per

the requirement, all the public issues of size in excess of Rs. 1 crore, are to made

compulsorily in the demat more. Thus, if an investor chooses 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 DP ID and client ID details in the bid/application forms.

Unlisted Company is required to fulfill the following further

conditions:

An Unlisted Company may take an initial public offering (IPO) of

equity shares or any other security which may be converted into or

exchanged with equity shares at a later date only if it meets all the following

conditions :

The company has net tangible assets of at least Rs. 3 crores

in each of the preceding 3 full years (of 12 months each), of which not

more than 50% is held in monetary assets, if more than 50% of the net

tangible assets are held in monetary assets, the company is required to

make firm commitments to deploy such excess monetary assets in its

business/project

The company has a track record of distributable profits in

terms of Section 205 of the Companies Act, 1956, for at least three (3) out

of immediately preceding five (5) years. For the purpose of calculation

of distributable profits in terms of Section 205 of Companies Act, 1956,

extraordinary items shall not be considered.

The company has a net worth of at least Rs, 1 crore in each

of the preceding 3 full years (of 12 months each)

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In case the company has changed its name within the last one

year, at least 50% of the revenue for the preceding 1 full year is earned by

the company from the activity suggested by the new name, and

The aggregate of the proposed issue and all the previous

issues made in the financial year in terms of size (i.e., offer through offer

document + firm allotment + promoters` contribution through the offer

document ), does not exceed five (5) times its pre-issue net worth as per

the audited balance sheet of the last financial year.

An Unlisted Company not complying with any of the conditions specified

above may take an initial public offering (IPO) of equity shares or any other

security which may be converted into or exchanged with equity shares at a

later date, only if it meets both the conditions(a) and(b) given below :

(a) The issue is made through the bookbuilding process, with at least 50% of the net

offer to the public being allotted to the Qualified Institutional Buyers ( QIBs ),

failing which the full subscription monies shall be refunded.

OR

(a) The project has at least 15 % participation by Financial Institutions /

Scheduled Commercial Banks, of which at least 10% comes from the appraiser(s). In

addition to this, at least 10% of the issue size shall be allotted to QIBs, failing

which the full subscription monies shall be refunded

AND

(b) The minimum post-issue face value capital of the shall be Rs. 10 crores.

OR

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(b) There shall be a compulsory market-making for at least 2 years from the date of

listing of the shares, subject to the following:

Market makers undertake to offer buy and sell quotes for a minimum

depth of 300 shares ;

Market makers undertake to ensure that the bid-ask spread

(difference between quotations for sale and purchase) for their quotes shall not

any time exceed 10%

The inventory of the market makers on each of such stock

exchanges, as on the date of allotment of securities, shall be at least 5% of the

proposed issue of the company.

An unlisted public company shall not make an allotment pursuant to a public

issue or offer for sale of equity shares or any security convertible into equity

shares unless the prospective allot tees are not less than 1000 in number.

OFFER FOR SALE

An offer for sale shall not be made of equity shares of a company or any other

security which may be converted into or exchanged with equity shares of the

company at a later date, unless the conditions laid down with respect to IPO by

unlisted companies are fulfilled.

Offer for sale can also be made if the provisions specified below are compiled at the timeof submission of offer document with the Board:

(a) The issue is made through the bookbuilding process, with at least 50% of the net

offer to the public being allotted to the Qualified Institutional Buyers ( QIBs ),

failing which the full subscription monies shall be refunded.

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OR

(a) The project has at least 15 % participation by Financial Institutions /

Scheduled Commercial Banks, of which at least 10% comes from the appraiser(s). In

addition to this, at least 10% of the issue size shall be allotted to QIBs, failing

which the full subscription monies shall be refunded

AND

(c) The minimum post-issue face value capital of the shall be Rs. 10 crores.

OR

(b) There shall be a compulsory market-making for at least 2 years from the date of

listing of the shares, subject to the following:

Market makers undertake to offer buy and sell quotes for a minimum

depth of 300 shares ;

Market makers undertake to ensure that the bid-ask spread

(difference between quotations for sale and purchase) for their quotes shall notany time exceed 10%

The inventory of the market makers on each of such stock

exchanges, as on the date of allotment of securities, shall be at least 5% of the

proposed issue of the company.

An unlisted public company shall not make an allotment pursuant to a public

issue or offer for sale of equity shares or any security convertible into equity

shares unless the prospective allot tees are not less than 1000 in number.

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MINIMUM LISTING REQUIREMENTS

Permission to use the name of the Exchange in an Issuer Companys

prospectus

The Exchange follows a procedure in terms of which companies desiring to list their

securities offered through public issues are required to obtain its prior permission to use

the name of the Exchange in their prospectus or offer for sale documents before filing

the same with the concerned office of the Registrar of Companies. The Exchange

has since last three years formed a Listing Committee to analyze draft

prospectus/offer documents of the companies in respect of their forthcoming public

issue of securities and decide upon the matter of granting them permission to use the

name of The Stock Exchange, Mumbai in their prospectus/ offer documents. The

committee evaluates the promoters, company, project and several other factors before

taking decision in this regard.

Submission of Letter of Application

As per Section 73 of the companies Act, 1956, a company seeking listing of its

securities on the Exchange is required to submit a Letter of Application to all the

Stock Exchanges where it proposes to have its securities listed before filing the

prospectus with the Registrar of Companies.

Allotment of Letter of Application

As per Listing Agreement, a company is required to complete allotment of securities

offered to the public within 30 days of the date of closure of the subscription list and

approach the Regional Stock Exchange, i.e. Stock Exchange nearest its registered office

for approval of the basis of allotment.

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In case of Book Building issue, Allotment shall be made not later than 15 days from the

closure of the issue failing which interest at the rate of 15% shall be paid to the investors.

Biding Permission

As per Securities and Exchange Board of India Guidelines, the issuer company

should complete the formalities for trading at all the Stock Exchanges where the

securities are to listed within 7 working days of finalization of Basis of Allotment. A

company should scrupulously adhere to the time limit for allotment of all securities and

dispatch of Allotment Letters/ Share certificates and Refund Orders and for

obtaining the listing permissions of all the Exchanges whose names are stated in its

prospectus or offer documents. In the event of listing permission to a company being

denied by any Stock Exchange where it had applied for listing of its securities, it

can not proceed with the allotment of shares. However, the company may file an

appeal before the Securities and Exchange Board of India under Section 22 of the

Securities Contracts (Regulation) Act, 1956.

Requirement of 1% Security

The companies making public/ rights issues are required to deposit 1% of issue

amount with the Regional Stock Exchange before the issue opens. This amount isliable to be forfeited in the event of the company not resolving the complaints of

investors regarding delay in sending refund orders/ share certificates, non payments of

commission to underwriters, brokers etc.

Payment of Listing Fees

All companies listed on the Exchange have to pay Annual Listing Fees by the 30th

April of every financial year to the Exchange as per the schedule of Listing Fees

prescribed from time to time.

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EXEMPTION FROM ELIGIBILITY NORMS

The provisions of eligibility norms shall not apply in the following cases:

i) A banking company including a Local Area Bank ( Private Sector Bank ) set up

under sub-section (c) of Section 5 of the Banking Regulation Act, 1949 and which

has received license from the Reserve Bank of India; or

ii) A corresponding new bank set up under the Banking Companies ( Acquisition andTransfer of Undertaking) Act, 1970 Banking Companies ( Acquisition and transfer of

Undertaking) Act, 1980, State Bank of India Act, 1955 and State Bank of India

(Subsidiary Banks) Act, 1959 (Public Sector Bank);

iii) An infrastructure company:

a) whose project has been appraised by a Public Financial Institution (PFI) or

Infrastructure Development Finance Corporation ( IDFC ) or Infrastructure Leasing

and Financing Services Ltd. ( IL & FS ) or a bank which was earlier a PFI; and

b) not less than 5 % of the project cost is Financed by any of the institution

referred to in sub - clause (a), jointly or severally, irrespective of whether they

appraise the project or not, by way of loan or subscription to equity or a

combination of both ;

iv) Rights issue by a listed company.

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UNDERWRITING

In case the issuer company is making an issue of securities.

A. Under 100% of the net offer to the public.

B. Under 75% of the net offer to the public, it is required to be compulsorily underwritten

by the syndicate members/book runner(s)

The Syndicate members are required to enter into an underwriting agreement with the

Book Runner(s) indicating the number of securities which they would subscribe at thepredetermined price. The Book Runner(s) are then required to enter into an underwriting

agreement with the issuer company.

Selecting the managing underwriter

The underwriter chosen by a company to manage its offering play a critical role in the

success of the IPO. The managing underwriter is actively involved in the preparation of

the companys registration statement as well as managing the marketing and sale of the

companys stock. While many companies select to appoint mare than one managingunderwriter, the potential for differing views and approaches between them is significant

and companies must be prepared to resolve any issues that may arise.

In selecting the managing underwriter, the following factors should be considered:

Industry Experience : The underwriter should have substantial

experience in IPOs in the companys industry and a good familiarity with the

company and its business.

Experienced Analyst : The underwriter should have a well known

analyst in the industry. Having an analyst with a high profile in the relevant sector is

the factor typically accorded great weight by companies contemplating an IPO.

Individual Investment Bankers : The Company should feel free

with the individual investment bankers assigned to the transaction. The right

chemistry between the bankers and management is critical.

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Reputation and Attention : While reputation is important, top tier

underwriters may not give smaller companies as much attention as other underwriters.

On the other hand, those less prominent underwriters may not be able to provide the

resources available to the leading underwriters.

Distribution strength : The potential managing underwriters and the

company should discuss whether the issue should be sold primarily to retail investors

or institutional investors, or both. The underwriters selected should have a substantial

institutional or retail sales force, as required.

Aftermarket Support : The underwriter should have a strong record

of aftermarket price performance for the stock of the companies that it has recently

taken public. A strong performance record indicates how well the underwriter priced

and supported recent transactions.

The company should discuss with potential underwriters and assess critically any

potential conflicts in the representation. Conflicts may result from an underwriters

relationship with competitors or an underwriters relationship with the company aside

from underwriting relationship. It is conceivable that an underwriter who holds an equity

stake in the company that would be counted as underwriters compensation would

forgo the assignment in order to maximize potential profits on the equity stake. If made

after IPO registration statement is filed, however, this decision could cripple an IPO.These and related issues should be thoroughly discussed with each potential underwriter

PRICING BY COMPANIES ISSUING SECURITIES

Indian primary market ushered in an era of free pricing in 1992. Following this,

guidelines have provided that the issuer in consultation with Lead Manager (L.M.) should

decide the price. There is no price formula stipulated by SEBI. SEBI does not play role in

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price fixation. There are two types of issues one where company and LM fix a price

(called fixed price) and other, where the company and LM stipulate a floor price or a

price band and leave it to market forces to determine the final price (price discovery

through book building process)

Fixed price offers are those offers where an issuer company is allowed to freely price the

issue. The basis of issue price is d9sclosed in the offer document where the issue

discloses in detail about the qualitative and quantitative factors justifying the issue price.

The issuer company can mention a price band of 20% (cap in the price band should not

be more than 20% of the floor price) in the Draft offer documents filed with SEBI and

actual price can be determined at a later date before filing of the final offer document

with SEBI/ROCs.

Book Building means a process undertaken by which a demand for the securities

proposed to be issued by a body corporate is elicited and built up and the price for the

securities is assessed on the basis of the bids obtained for the quantum of securities

offered for subscription by the issuer. This method provides an opportunity to the market

to discover price for securities.

Price Band

Issuer company can mention a price band of 20% (cap in the price band should not be

more than 20% of the floor price) in the offer documents filed with the Board and actualprice can be determined at a later date before filing of the offer document with ROCs.

An eligible company shall be free to make public or rights issue of equity shares in any

denomination determined by it in accordance with compliance with the following and

other norms as may be specified by SEBI from time to time:

i. In case of initial public offer by an unlisted company.

a. If the issue price is Rs. 500/- or more, the issuer company shall have a

discretion to fix the face value below Rs. 10/- per share subject to the

condition that the face value shall in no case be less than Rs. 1 per share;

b. If issue price is less that Rs. 500 per share, the face value shall be Rs. 10/-

per share;

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ii. The disclosure about the face value of shares (including the statement about

the issue price being X times of the face value) shall be made in the

advertisement, offer documents and in application forms in identical font size

as that of issue price or price band).

BOOK BUILDING

Initial Public Offering can be made through the fixed price method, Book

building method or a combination of both. Book building refers to the process of

collection of bids from investors, which is based on the price band, with the offer price

being finalized after the Bid/offer closing data. It is a mechanism where, during the

period for which the book for the IPO is open, bids are collected from investors at various

prices, which are above or equal to the floor price. The process aims at tapping both

wholesale and retail investors. The offer/issue price is then determined after the bid

closing date based on certain evaluation criteria.

Every public offer through the book building process has a Book Running Lead

Manager (BRLM), a merchant banker, who manages the issue. Further, an order book,

in which the investors can state the quantity of the stock they are willing to buy, at a price

within the band, is built. Thus the term book-building.

Thus the issuer gets the best possible price for his securities as perceived by the

market or investors. Investors too have a choice and flexibility in terms of having a say in

pricing and a greater certainty of being allotted what they demand.

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The principal parties involved in the Book Building Process are:

Fixed Price Issue Book Built Issue (100:0 model)

Most Preferred Model

Entire issue allotment on a

proportionate basis to retail

investors, non-institutional

investors and QIBs

At least 50% of the Issue

to be allotted to retail investors

(applying for up to an amount of

Rs 50,000)

Balance to be allotted to

non-institutional investors and

QIBs (applying for an amount of

> Rs. 50,000)

Up to 50% allocation on a discretionary

basis to QIBs i.e. Banks, FIIs, Mutual

Funds, VCs etc.

At least 25% offer on a proportionate

basis to non-institutional investors

(bidding for an amount of > Rs.

50,000)

At least 25% offer on a proportionate

basis to retail investors (individuals

bidding for an amount up to Rs.

50,000)

Pros

Lesser number of intermediaries

Wider distribution since no

requirement of electronic

bidding

Operationally simpler

Efficient price discovery could lead to

potential to capture a higher valuation

Larger institutional participation since

bidding by QIBs at 0% margin payment

and discretionary allocation to QIBs

Shorter time gap between

determination of the price band and

closure of the book (15 20 days)

reduces market risk

Cons

Price discovery not as efficient

as book-building since price

band to be decided at SEBI

filing stage

Longer time between

finalization of price & closure of

issue (25 - 30 days)

Very low institutional appetite

since

-QIBs required to pay with

applications.

-Allotment on a proportionate basis

Institutional investors prefer bigger

bites, hence large IPO size a

prerequisite

Need significant institutional demand

since retail participation alone may not

lead to efficient price discovery

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(1) The Company

(2) The Selling Shareholder

(3) The Book Running Lead Managers (BRLMs)

(4) The Syndicate Members, who are intermediaries registered with SEBI and

eligible to act as underwriters, appointed by the BRLMs.

(5) The Registrar to the office.

In case the issuer chooses to issue securities through the book building route then as per

SEBI guidelines, and Issuer Company can issue securities in the following manner:

100% of the net offer to the public through the book building route.

75% of the net offer to the public through the book building process and 25%

through the fixed price portion

Under the 90% scheme, this percentage would be 90 and 10 respectively

COMPARISON BETWEEN METHODS OF ISSUE

COMPARISON ACCORDING TO FEATURES

Feature Fixed Price Process Book Building Process

Pricing Price at which the securities areoffered/allotted is known in advanceto the investor

Price at which securities will beoffered/allotted is not known inadvance to the investor. Only anindicative price range is known

Demand Demand for the securities offered isknown only after the closure of theissue.

Demand for the securitiesoffered can be known everydayas the book is built

Payment Payment if made at the time ofsubscription wherein refund is givenafter allocation

Payment only after allocation.

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THE BOOK BUILDING PROCESS

The Issuer who is planning an IPO nominates a lead merchant banker as a book

runner. The Issuer specifies the number of securities to be issued and the price band for

orders.

The Issuer also appoints syndicate members with whom orders can be placed by

the investors.

Investors place their order with syndicate members who input the orders into the

electronic book. This process is called bidding and is similar to open auction.

A Book should remain open for a minimum period of at lea

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