2015
COMMERCE
Paper: 205
(Financial Services)
Full Marks: 80
Time: 3 hours
The figures in the margin indicate full marks for the questions
1. (a) Discuss the role and responsibility of the Merchant Bankers during the pre-issue and post-issue period of corporate securities. (13)
-> Merchant bankers regulations, 1992 defines ‘merchant banker’ as any person who is engaged in the business of issue management either by making arrangements regarding selling, buying, or subscribing to securities or acting as manager, consultant, adviser, or rendering corporate advisory service in relation to such issue management. A merchant banker provides various services such as Promotional activities, Credit syndication, Project counseling, and Portfolio management, etc. However, one of the primary functions of the merchant banker is issue management, be it IPO, FPO, or right issue. The purpose of this article is to practically analyze the role of a merchant banker in IPO management right from due diligence aspect to allotment/refund of the securities while also discussing applicable provision of SEBI (ICDR) Regulations, 2018 and relevant notifications or circulars by SEBI.
The Roles and obligation of the merchant banker can be classified into three groups-
- Pre-issue role
- Post issue role
· Operational guidelines prescribed by SEBI
Pre-issue role of Merchant Banker in IPO Management
The pre-issue stage is the stage before issuing the securities to the subs. The pre-issue role and obligation of the merchant banker generally involve activities such as due diligence, requisite fee, submission of documents, the appointment of intermediaries, underwriting, etc. Some of the major activities done by the merchant banker in relation to IPO management at this stage are-
Due Diligence of the issuer–
Regulation 24 of SEBI (ICDR) Regulation, 2018 mandate that lead manager shall exercise due diligence and satisfy themselves about all aspects of the issue including the veracity and adequacy of disclosure in the draft offer document and the offer document which means merchant banker shall ensure that the framework provided by the SEBI shall be complied with and implemented in draft offer documents. A checklist that may be useful for conducting pre-issue due diligence is-
· Check whether the issuer fulfills the eligibility criteria relating to a minimum tangible asset, Net worth, and average operating profit limited mentioned in regulation 6 of ICDR Regulations
· Check whether the issuer is not ineligible to make an IPO under regulation 5 of ICDR Regulations.
· Check whether the issuer satisfies the general conditions for IPO mentioned in Regulation 7 of ICDR regulation
· Check whether the issuer has made all the material disclosure in draft offer documents and verifying the content of offer documents
· Check whether the minimum promoter contribution requirement mentioned in Regulation 14 is fulfilled
Merchant banker is obligated to submit a due diligence certificate along with a Draft offer document to SEBI.
Appointment of intermediaries-
Regulation 23 of the ICDR Regulation imposes the duty to appoint merchant bankers and other intermediaries with merchant banker consultation on the issuer. However, practically it is the merchant who gets the issuer in touch with other intermediaries. This regulation also imposes an obligation on the merchant banker to assess the capability and independence of the intermediaries. As per ICDR Regulation, some of the intermediaries involved in an IPO are-
- Merchant banker
- Underwriters
- Banker to the issue
- Registrar to the issue
- Compliance officer
- Depositories
· Monitoring agency if issue size exceeds 100 crore
Filling draft offer document with requisite document
In accordance with Regulation 25 of the ICDR Regulation and other applicable guidelines, the lead manager along with a draft offer letter shall file the following documents with SEBI-
· Due diligence certificate as per schedule V
· Memorandum of Understanding entered between the issuer and the merchant banker
· In case a public or rights issue is managed by more than one merchant banker the rights, obligations, and responsibilities of each merchant banker shall be demarcated as specified in Schedule II.
· Details of Promoter of the issuer and list of the promoter group
· an undertaking to the Board by the issuer to the effect that transactions in securities by the `promoter’ the ‘promoter group’ and the immediate relatives of the `promoters during the period between the date of filing the offer documents with the Registrar of Companies or Stock Exchange as the case may be and the date of closure of the issue shall be reported to the Stock exchanges concerned within 24 hours of the transaction(s).
Making public the offer document and advertisement of the issue
As per regulation 26 of ICDR merchant banker should ensure that draft offer letter is available for the public on SEBI and stock exchange website for at least 21 days from the date of filling. A public announcement is also needed to be made within 2 days of the filling of the offer document in an English and Hindi national newspaper inviting the public to give their comments to the SEBI. A pre-issue advertisement is also required to be made as per regulation 43 after registering the prospectus with ROC containing the disclosure specified in part A of Schedule X. After 21 days of filing the draft offer document, the merchant banker shall file a statement showing the complaints received by the public and highlights of the proposed amendments to SEBI.
Setting up mandatory collection center and authorized collection agents
As per regulation 23 read with schedule XII, a merchant banker needs to ensure that the issuer designates a collection center in Mumbai,Kolkata, Delhi,Chennai, and at such place where the recognized stock exchange is located. The issuer company can also appoint authorized collection agents in consultation with the Lead Merchant Banker subject to necessary disclosures including the names and addresses of such agents made in the offer document.
Calculating requisite fee and ensuring legal compliances
It is the duty of the merchant banker to calculate the required fee needed to be paid with the draft offer document mentioned in Schedule III and ensure that the issue complies with all the relevant legal compliance
Post-issue role of Merchant Banker in IPO Management
The post-issue obligation is the stage after the securities are issued to the subscribers. The major post-issue obligations relate to association with allotment procedure, post-issue monitoring reports, redressal of investor grievances and coordination with intermediaries, etc. This includes-
Allotment procedure and basis of allotment
Merchant banker along with MD of the recognized stock exchange and registrar of the issue is responsible to ensure that the basis of allotment is finalized in a fair and proper manner in accordance with Regulation 49 of ICDR Regulations. The allotment of such shares should be in such a way that the minimum allotment would be equal to the minimum application size as determined and disclosed in the offer document.
Post issue monitoring report
The merchant banker in case of IPO shall submit a post-issue monitoring report on the 3rd day from the date of closure of the subscription of the issue.
Post-issue advertisement
Regulation 51 of ICDR regulation impose a duty on merchant banker to ensure that a post-issue advertisement giving details relating to subscription, the basis of allotment, value, and percentage of all applicants, date of filing of listing application, etc is released within ten days from the date of various activities in at least one nationwide English and Hindi newspaper.
Redressal of investor’s grievance
The Post -issue Lead Merchant Banker shall actively associate himself with post-issue activities namely, allotment, refund and dispatch and shall regularly monitor redressal of investor grievances arising therefrom.
Coordination with intermediaries
It includes coordinating with various agencies connected with the post-issue activity such as registrar to issue, bankers to the issue, bankers to the issue, self-certified banks, and underwriter.
Certificate regarding the realization of stock investors and other requirement
The Post-Issue Lead Merchant Banker shall submit within two weeks from the date of allotment, a Certificate to the Board certifying that the stock invests on the basis of which allotment was finalized, has been realized
Operational guidelines prescribed by SEBI
The compliance requirements of merchant banker(s) in relation to operational guidelines cover submission of the draft and final offer documents, instruction on post-obligations, issue of penalty points, and so on. These guidelines can be accessed on the website of SEBI.
Case study related to Role of Merchant Banker in IPO Management
The recent hit public issue of Burger king India limited is a classic example of how a well-managed issue can benefit all the stakeholders. Burger King is India’s fastest growing quick-service restaurant chain which opened up its issue from 2nd December to 4th December 2020. Due to the uncertainties in the market and COVID-19, the role of the merchant became more important than ever. Activities in the secondary market picked up pace after the benchmarks rebounded on the optimism stemming from the fiscal and monetary stimulus announced by the government and central bank, a faster-than-expected pickup in economic activities after lockdown curbs were eased, robust foreign flows, and a potential Covid-19 vaccine. This issue was managed by 4 merchant bankers being Kotak Mahindra Capital limited, CLSA India private limited, Edelweiss Financial services limited, and JM Financial limited. The IPO was getting delayed due to regulatory requirements and then COVID which created uncertainties in the mind of the investors. The company came up with 810 crores rs issue and the issue got fully subscribed within 2 hours and was 156 times oversubscribed. One of the major challenges before the merchant banker to gain the trust of the investors as the risk involved was higher. The key risks were-
· The outbreak of the Covid-19 pandemic
· Real and perceived health concerns arising from food-borne illnesses, health epidemics, food quality, allergic reactions or other negative food-related incidents
· The termination of master franchise and development agreement
· Demand for products may decrease due to changes in consumer preferences and food habits
· Business depends in part on the continued international success and reputation of the Burger King brand globally, and any negative impact on the brand may have an adverse impact
· Deterioration in the performance of, or its relationships with, third-party delivery aggregators
· Inability to identify suitable locations and successfully develop and roll out new restaurants, and expand into new regions.
Even besides all the issues the merchant bankers involved did their pre and post-issue duties diligently. The offer letter of the IPO got accepted by SEBI and the public issue was a hit. This showed how important the role of the merchant banker is and how proper due diligence can be beneficial for everyone.
(b) Discuss in detail about Portfolio Management strategy and procedure followed by Portfolio managers. (13)
-> Portfolio management’s meaning can be explained as the process of managing individuals’ investments so that they maximize their earnings within a given time horizon. Furthermore, such practices ensure that the capital invested by individuals is not exposed to too much market risk.
The entire process is based on the ability to make sound decisions. Typically, such a decision relates to – achieving a profitable investment mix, allocating assets as per risk and financial goals and diversifying resources to combat capital erosion.
Primarily, portfolio management serves as a SWOT analysis of different investment avenues with investors’ goals against their risk appetite. In turn, it helps to generate substantial earnings and protect such earnings against risks.
Objectives of Portfolio Management
The fundamental objective of portfolio management is to help select best investment options as per one’s income, age, and time horizon and risk appetite.
Some of the core objectives of portfolio management are as follows –
- Capital appreciation
- Maximizing returns on investment
· To improve the overall proficiency of the portfolio
- Risk optimization
- Allocating resources optimally
- Ensuring flexibility of portfolio
· Protecting earnings against market risks
Nonetheless, to make the most of portfolio management, investors should opt for a management type that suits their investment pattern.
Types of Portfolio Management
In a broader sense, portfolio management can be classified under 4 major types, namely –
- Active portfolio management
In this type of management, the portfolio manager is mostly concerned with generating maximum returns. Resultantly, they put a significant share of resources in the trading of securities. Typically, they purchase stocks when they are undervalued and sell them off when their value increases.
- Passive portfolio management
This particular type of portfolio management is concerned with a fixed profile that aligns perfectly with the current market trends. The managers are more likely to invest in index funds with slow but steady returns which may seem profitable in the long run.
- Discretionary portfolio management
In this particular management type, the portfolio managers are entrusted with the authority to invest as per their discretion on investors’ behalf. Based on investors’ goals and risk appetite, the manager may choose whichever investment strategy they deem suitable.
- Non-discretionary management
Under this management, the managers provide advice on investment choices. It is up to investors whether to accept the advice or reject it. Financial experts often recommended investors to weigh in the merit of professional portfolio managers’ advice before disregarding them entirely.
There are few things more important and more daunting than creating a long-term investment strategy that can enable an individual to invest with confidence and with clarity about his or her future. Constructing an investment portfolio requires a deliberate and precise portfolio-planning process that follows five essential steps.
Step 1: Assess the Current Situation
Planning for the future requires having a clear understanding of an investor’s current situation in relation to where they want to be. That requires a thorough assessment of current assets, liabilities, cash flow, and investments in light of the investor’s most important goals. Goals need to be clearly defined and quantified so that the assessment can identify any gaps between the current investment strategy and the stated goals. This step needs to include a frank discussion about the investor’s values, beliefs, and priorities, all of which set the course for developing an investment strategy.
Step 2: Establish Investment Objectives
Establishing investment objectives centers on identifying the investor’s risk-return profile. Determining how much risk an investor is willing and able to assume, and how much volatility the investor can withstand, is key to formulating a portfolio strategy that can deliver the required returns with an acceptable level of risk. Once an acceptable risk-return profile is developed, benchmarks can be established for tracking the portfolio’s performance. Tracking the portfolio’s performance against benchmarks allows smaller adjustments to be made along the way.
Step 3: Determine Asset Allocation
Using the risk-return profile, an investor can develop an asset allocation strategy . Selecting from various asset classes and investment options, the investor can allocate assets in a way that achieves optimum diversification while targeting the expected returns. The investor can also assign percentages to various asset classes, including stocks, bonds, cash, and alternative investments, based on an acceptable range of volatility for the portfolio. The asset allocation strategy is based on a snapshot of the investor’s current situation and goals and is usually adjusted as life changes occur.
Step 4: Select Investment Options
Individual investments are selected based on the parameters of the asset allocation strategy. The specific investment type selected depends in large part on the investor’s preference for active or passive management . An actively managed portfolio might include individual stocks and bonds if there are sufficient assets to achieve optimum diversification, which is typically over $1 million in assets. Smaller portfolios can achieve the proper diversification through professionally managed funds, such as mutual funds or exchange-traded funds. An investor might construct a passively managed portfolio with index funds selected from the various asset classes and economic sectors.
Step 5: Monitor, Measure and Rebalance
After implementing a portfolio plan, the management process begins. This includes monitoring the investments and measuring the portfolio’s performance relative to the benchmarks. It is necessary to report investment performance at regular intervals, typically quarterly, and to review the portfolio plan annually. Once a year, the investor’s situation and goals get a review to determine if there have been any significant changes. The portfolio review then determines if the allocation is still on target to track the investor’s risk-reward profile. If it is not, then the portfolio can be rebalanced , selling investments that have reached their targets, and buying investments that offer greater upside potential.
When investing for lifelong goals, the portfolio planning process never stops. As investors move through their life stages, changes may occur, such as job changes, births, divorce, deaths, or shrinking time horizons, which may require adjustments to their goals, risk-reward profiles or asset allocations. As changes occur, or as market or economic conditions dictate, the portfolio planning process begins anew, following each of the five steps to ensure that the right investment strategy is in place.
2. (a) Briefly explain the following: (any one) (5)
1) Listing requirement of stock exchanges.
-> Listing means the admission of securities of a company to trading on a stock exchange. Listing is not compulsory under the Companies Act. It becomes necessary when a public limited company desires to issue shares or debentures to the public. When securities are listed in a stock exchange , the company has to comply with the requirements of the exchange .
Listing requirements
A company which desires to list its shares in a stock exchange has to comply with the following requirements:
1. Permission for listing should have been provided for in the Memorandum of Association and Articles of Association .
2. The company should have issued for public subscription at least the minimum prescribed percentage of its share capital (49 percent).
3. The prospectus should contain necessary information with regard to the opening of subscription list, receipt of share application etc.
4. Allotment of shares should be done in a fair and reasonable manner. In case of over subscription, the basis of allotment should be decided by the company in consultation with the recognized stock exchange where the shares are proposed to be listed.
5. The company must enter into a listing agreement with the stock exchange. The listing agreement contains the terms and conditions of listing. It also contains the disclosures that have to be made by the company on a continuous basis.
3. (a) Discuss the salient features of the SEBI regulations regarding mutual funds. (10)
(b) Discuss about the organizational structure of a mutual fund institution operating in our country. (10)
-> The structure of Mutual Funds in India is a three-tier one that comes with other substantial components. It is not only about varying AMCs or banks creating or floating a variety of mutual fund schemes. However, there are a few other players that play a major role into the mutual fund structure. There are three distinct entities involved in the process – the sponsor (who creates a Mutual Fund), trustees and the asset management company (which oversees the fund management). The structure of Mutual Funds has come into existence due to SEBI (Securities and Exchange Board of India) Mutual Fund Regulations, 1996 that plays the role of a primary watchdog in all of the transactions. Under these regulations, a Mutual Fund is created as a Public Trust. We will look into the structure of Mutual Funds in a detailed manner.
The Structure of Mutual Fund
The Fund Sponsor:-
The Fund Sponsor is the first layer in the three-tier structure of Mutual Funds in India. SEBI regulations say that a fund sponsor is any person or any entity that can set up a Mutual Fund to earn money by fund management. This fund management is done through an associate company which manages the investment of the fund. A sponsor can be seen as the promoter of the associate company. A sponsor has to approach SEBI to seek permission for a setting up a Mutual Fund. However, a sponsor is not allowed to work alone. Once SEBI agrees to the inception, a Public Trust is formed under the Indian Trust Act, 1882 and is registered with SEBI. After the successful creation of the trust, trustees are registered with SEBI and appointed to manage the trust, protect the unit holder’s interest and to comply by the mutual fund regulations of SEBI. Subsequently, an asset management company is created by the sponsor that should be complying with the Companies Act, 1956 to regulate the management of funds.
Considering that sponsor is the primary entity that promotes the mutual fund company and that the mutual funds are going to regulate public money, there are eligibility criteria given by SEBI for the fund sponsor:
· The sponsor must have experience in financial services for a minimum of five years with a positive Net worth for all the previous five years.
· The net worth of the sponsor in the immediate last year has to be greater than the Capital contribution of the AMC.
· The sponsor must show profits in at least three out of five years which includes the last year as well.
· The sponsor must have at least 40% share in the net worth of the asset management company.
As clear as it could be, the role of a sponsor is quite vital and must carry highest amount of credibility. The strict and rigorous norms define that the sponsor must have adequate liquidity as well as faithfulness to return the money of investors in case there is any financial crisis or meltdown.
Thus, any entity that fulfills the above criteria can be termed as a sponsor of the Mutual Fund.
Trust and Trustees
Trust and trustees form the second layer of the structure of Mutual Funds in India. Also known as the protectors of the fund, trustees are generally employed by the fund sponsor. Just as can be comprehended with the name, they have a critical role to play as far as maintaining the investors’ trust and tracking the fund’s growth are concerned. A trust is created by the fund sponsor in favor of the trustees, through a document called a trust Deed. The trust is managed by the trustees and they are answerable to investors. They can be seen as primary guardians of fund and assets. Trustees can be formed by two ways – a Trustee Company or a Board of Trustees. The trustees work to monitor the activities of the Mutual Fund and check its compliance with SEBI (Mutual Fund) regulations. They also monitor the systems, procedures, and overall working of the asset management company. Without the trustees’ approval, AMC cannot float any scheme in the market. The trustees have to report to SEBI every six months about the activities of the AMC. Also, SEBI has established tightened transparency rules to avert any type of conflict of interest between the AMC and the sponsor. Therefore, it is critical for trustees to behave independently and take satisfactory measures to keep the hard-earned money of investors protected. Even trustees have to get registered under SEBI. And furthermore, SEBI regulates their registration by revoking or suspending the registry if any condition is found to be breached.
Asset Management Companies:-
Asset Management Companies are the third layer in the structure of Mutual Funds. Registered under SEBI, it is a type of company that is created under the Companies Act. An AMC is meant to float a variety of mutual fund schemes that are in compliance with the requirements of investors and the nature of a market. The asset management company acts as the fund manager or as an investment manager for the trust. A small fee is paid to the AMC for managing the fund. The AMC is responsible for all the fund-related activities. It initiates various schemes and launches the same. Furthermore, it also creates mutual funds with the sponsor and the trustee and regulates its development. The AMC is bound to manage funds and provide services to the investor. It solicits these services with other elements like brokers, auditors, bankers, registrars, lawyers, etc. and works with them by getting into an agreement together. To ensure that there is no conflict between the AMCs, there are certain restrictions imposed on the business activities of the companies.
Other Components in the Structure of Mutual Funds Custodian
A custodian is one such entity that is responsible for the safekeeping of the securities of the Mutual Fund. Registered under SEBI, they manage the investment account of the Mutual Fund; ensure the delivery and transfer of the securities. Also, custodians allow investors to upgrade their holdings at a specific point of time and assist them in monitoring their investments. They also collect and track the bonus issue, dividends & interests received on the Mutual Fund investment.
Registrar and Transfer Agents (RTAS)-
RTAs act as an essential link between investors and fund managers. To the fund managers, they serve by keeping them updated with the details of investors. And, to the investors, they serve by delivering the advantages of the fund. Even they are registered under SEBI and execute a variety of tasks and responsibilities. These are the entities that provide services to Mutual Funds. RTAs are more like the operational arm of Mutual Funds. Since the operations of all Mutual Fund companies are similar, it is economical in scale and cost effective for all the 44 AMCs to seek the services of RTAs. CAMS, Karvy, Sundaram, Principal, Templeton, etc are some of the well-known RTAs in India. Their services include
· Processing investors’ application
· Keeping a record of investors’ details
· Sending out account statements to the investors
· Sending out periodic reports
· Processing the payouts of the dividends
· Updating the investor details i.e. adding new members and removing those who have withdrawn from the fund.
Auditor-
Auditors audit and scrutinize record books of accounts and annual reports of various schemes. They are known as the independent watchdogs that have a responsibility of auditing the financials of sponsor, trustees and the AMC. Each AMC hires an independent auditor to analyze the books so as to keep their transparency and integrity intact.
Brokers-
Mainly, the brokers work with a responsibility to attract more investors and to disseminate the funds. AMC uses the services of brokers to buy and sell securities on the stock market. Moreover, brokers have to study the market and foresee the market’s future movement. The AMCs uses research reports and recommendations from many brokers to plan their market moves.
Example of Three-Tiered Fund House Structure:-
Although there are several companies and organizations that are running according to this system, however, one of the major companies is the Aditya Birla Sun Life Mutual Fund. Its structure goes the following way: Sponsor a joint venture between Sun Life (India) AMC Investment Inc. and Aditya Birla Capital Limited that is based in Canada. Trustee Aditya Birla Sun Life Trustee Pvt. Ltd. AMC Aditya Birla Sun Life AMC Limited.
4. (a) What do you mean by Venture Capital? How does it differ from financial provided by Development Banks? (4+6=10)
-> Venture Capital refers to the finance provided by Venture Capitalists, who invest in relatively new, high growth companies or startups that have a potential to grow and develop into highly profitable ventures. It has high-risk and high-return characteristics. Therefore, it acts as an important source of finance for entrepreneurs with new ideas.
Venture Capital is the most suitable form of funding for companies and for businesses having large up-front capital requirements which have no other cheap alternatives.
It is a private or institutional investment made to early start-up companies. Venture Capital is money invested in businesses that are small; or exist only as an initial stage but have huge potential to grow. The people who invest this money are known as venture capitalists.
It is an investment made when a venture capitalist buys shares of a startup company and become a financial partner in the business.
Venture Capital is also stated as a huge capital risk or patient risk capital investment, as it involves the risk of losing the money if the venture doesn’t succeed.
It is the basically the money invested by an outside investor to finance a new, growing or troubled business. The money invested, by capitalists, is in exchange for an equity stake in the business rather than given as a loan.
Importance of Venture Capital
Venture Capital institutions let entrepreneurs convert their knowledge into viable projects with the assistance of such Venture Capital institutions.
· It helps new products with modern technology become commercially feasible.
· It promotes export oriented units to earn more foreign exchange.
· It not only provides the financial institution but also assist in management, technical and others.
· It strengthens the capital market which not only improves the borrowing concern but also creates a situation whereby they can raise their own capital through capital market.
· It promotes modern technology through the process where financial institutions encourage business ventures with new technology.
· Many sick companies get a turn around after getting proper nursing from such Venture Capital institutions.
Features of Venture Capital
High-risk investment: It is highly risky and the chances of failure are much higher as it provides long-term startup capital to high risk-high reward ventures.
High Tech projects : Generally, venture capital investments are made in high tech projects or areas using new technologies as they have higher returns.
Participation in Management : Venture Capitalists act complementary to the entrepreneurs, for better or worse, in making decisions for the direction of the company.
Length of Investment : The investors eventually seek to exit in three to seven years. The process takes several years for having significant returns and also need the talent of venture capitalist and entrepreneurs to reach completion.
Illiquid Investment : It is an investment that is not subject to repayment on demand or a repayment schedule.
Venture capital differs from Development funds as latter means putting up of industries without much consideration of use of new technology or new entrepreneurial venture but having a focus on underdeveloped areas (locations). In majority of cases it is in the form of loan capital and proportion of equity is very thin. Development finance is security oriented and liquidity prone. The criteria for investment are proven track record of company and its promoters, and sufficient cash generation to provide for returns (principal and interest). The development bank safeguards its interest through collateral.
They have no say in working of the enterprise except safeguarding their interest by having a nominee director. They do not play any active role in the enterprise except ensuring flow of information and proper management information system , regular board meetings, adherence to statutory requirements for effective management control where as Venture capitalist remain interested if the overall management of the project o account of high risk involved in the project till its completion, entering into production and making available proper exit route for liquidation of the investment. As against this fixed payments in the form of installment of principal and interest are to be made to development banks.
5. (a) What do you mean by Lease Agreement? Discuss about the contents of the lease agreement. (3+7=10)
-> A lease agreement is an arrangement between two parties – lessor and lessee, by which the lessor allows the lessee the right to use a property owned or managed by the lessor for a specified period of time, in exchange for periodic payment of rentals.
The agreement does not provide ownership rights to the lessee. However, the lessor may grant permission to the lessee to modify or change the property to suit his needs. The lessee is responsible for the condition of the property during the lease period.
Lease agreements may be used for the lease of properties, vehicles, household appliances, construction equipment, and other items.
Contents of a lease agreement
Common contents of a lease agreement include:
· Names of the lessor and lessee or their agents.
- Description of the property.
· Amount of rent and due dates, grace period, late charges.
- Mode of rent payment.
· Methods to terminate the agreement prior to the expiration date and charges if any.
· Amount of security deposit and the account where it is held.
· Utilities furnished by the lessor and, if the lesser charges for such utilities, how the charge will be determined.
· Amenities and facilities on the premises which the lessee is entitled to use such as swimming pool, laundry or security systems.
· Rules and regulations such as pet rules, noise rules and penalty for violation.
· Identification of parking available, including designated parking spaces, if provided.
· How tenant repair requests are handled and procedures for emergency requests.
Terms commonly included in a lease agreement
Duration: Period for which the lease agreement will be in effect.
Rent: The consideration or payment made by the lessee to the lessor in exchange for the property leased out.
Deposits: The amount of deposit required (if any), the purpose of each deposit, and conditions for return or adjustment of deposit at the end of the lease period.
Terms of Use: The purpose for which the property is to be used and terms and conditions regarding use of the property.
Utilities: Which utilities are included in the rent, and which utilities the tenant is responsible for.
Insurance : Whether the lessee is required to ensure the property – this is most often used in commercial rental agreements.
Repairs and Maintenance: Party responsible for repairs and maintenance of the property – lessor or lessee.
6. (a) Explain the objectives, scope and limitations of credit rating services. (16)
-> Objectives of Credit rating services:-
For a lender, the importance of credit rating is that it helps determine whether it’s fiscally sound decision to lend money to you. It simplifies this decision by condensing the relevant information into a single score. From the point of view of a borrower, a high score gives access to a higher loan amount more easily, along with flexibility in negotiating loan terms. Moreover, having a high score means that you don’t have to settle and can choose from several beneficial options.
For instance, when you have a score of 750 or more, you can qualify for Bajaj Finserv’s Personal Loan with ease and make use of the Flexi Loan facility . This allows you to borrow from the total loan amount that you’ve been given in parts, when you need funds, and pay interest only on the amount that you use. Moreover, you have the option of servicing the loan through EMIs comprising interest only for the duration of the tenor, and paying the principal at the end of the term.
Once you’re sure of your credit score being apt, you can also expedite loan application. You can check your pre-approved offer for a customised loan deal and get a personal loan in no time at all.
Scope:-
Here is the scope of credit rating:
For The Money Lenders
1. Better Investment Decision: No bank or money lender companies would like to give money to a risky customer. With credit rating, they get an idea about the credit worthiness of an individual or company (who is borrowing the money) and the risk factor attached with them. By evaluating this, they can make a better investment decision.
2. Safety Assured: High credit rating means an assurance about the safety of the money and that it will be paid back with interest on time.
For Borrowers
1. Easy Loan Approval: With high credit rating, you will be seen as low/no risk customer. Therefore, banks will approve your loan application easily.
2. Considerate Rate of Interest: You must be aware of the fact every bank offers loan at a particular range of interest rates. One of the major factors that determine the rate of interest on the loan you take is your credit history. Higher the credit rating, lower will the rate of interest.
Limitations:-
(1) Biased rating and misrepresentations:
In the absence of quality rating, credit rating is a curse for the capital market industry, carrying out detailed analysis of the company, should have no links with the company or the persons interested in the company so that the reports impartial and judicious recommendations for rating committee.
The companies having lower grade rating do not advertise or use the rating while raising funds from the public. In such cases the investor cannot get information about the riskiness of instrument and hence is at loss.
(2) Static study:
Rating is done on the present and the past historic data of the company and this is only a static study. Prediction of the company’s health through rating is momentary and anything can happen after assignment of rating symbols to the company.
Dependence for future results on the rating, therefore defeats the very purpose of risk inductiveness of rating. Many changes take place in economic environment, political situation, government policy framework which directly affects the working of a company.
(3) Concealment of material information:
Rating Company might conceal material information from the investigating team of the credit rating company. In such cases quality of rating suffers and renders the rating unreliable.
(4) Rating is no guarantee for soundness of company:
Rating is done for a particular instrument to assess the credit risk but it should not be construed as a certificate for the matching quality of the company or its management. Independent views should be formed by the user public in general of the rating symbol.
(5) Human bias:
Finding off the investigation team, at times, may suffer with human bias for unavoidable personal weakness of the staff and might affect the rating.
(6) Reflection of temporary adverse conditions:
Time factor affects’ rating, sometimes, misleading conclusions are derived. For example, company in a particular industry might be temporarily in adverse condition but it is given a low rating. This adversely affects the company’s interest.
(7) Down grade:
Once a company has been rated and if it is not able to maintain its working results and performance, credit rating agencies would review the grade and down grade the rating resulting into impairiring the image of the company.
(8) Difference in rating of two agencies:
Rating done by the two different credit rating agencies for the same instrument of the same issuer company in many cases would not be identical. Such differences are likely to occur because of value judgement differences on qualitative aspects of the analysis in tow different agencies.
(b) Write short notes on: (8×2=16)
1) Registration of credit rating institutions.
-> REGISTRATION OF CREDIT RATING AGENCIES:-
Application for grant of certificate [of initial registration]-
(1) Any person proposing to commence any activity as a credit rating agency
on or after the date of commencement of these regulations shall make an
application to the Board for the grant of a certificate of [initial]
registration for the
purpose.
(2) Any person, who was immediately before the said date carrying on any
activity as a credit rating agency, shall make an application to the Board
for the
grant of a certificate within a period of three months from such date:
Provided that the Board may, where it is of the opinion that it is
necessary
to do so, for reasons to be recorded in writing, extend the staid period
upto a
maximum of six months form such date.
(3) An application for the grant of a certificate under sub-regulation (1)
or sub-
regulation (2) shall be made to the Board in Form A of the First Schedule
and
shall be accompanied by a non–refundable application fee, as specified in
Form
A of the second Schedule, to be paid in the manner specified in Part B
thereof.
(4) Any person referred to in sub-regulation who fails to make an
application
for the grant of a certificate within the period specified in that
sub-regulation shall
cease to carry on rating activity.
Promoter of credit rating agency-
The Board shall not consider an application under regulation 3 unless the
applicant is promoted by a person belonging to any of the following
categories,
namely:
(a) a public financial institution, as defined in section 4 A of the
Companies
Act, 1956 (1 of 1956);
(b) a scheduled commercial bank included for the time being in the second
schedule to the Reserve Bank of India Act, 1934 (2 of 1934);
(c) a foreign bank operating in India with the approval of the Reserve Bank
of
India;
(d) a foreign credit rating agency recognized by or under any law for the
time
being in force in the country of its incorporation, having at least five
years
experience in rating securities;
(e) any company or a body corporate, having continuous net worth of
minimum rupees one hundred crores as per its audited annual accounts for
the previous five years prior to filing of the application with the Board
for the grant of certificate under these regulations.
Eligibility criteria-
The Board shall not consider an application for the grant of a certificate
under
regulation 3, unless the applicant satisfies the following conditions,
namely:
(a) the applicant is set up and registered as a company under the Companies
Act, 1956;
(b) the applicant has, in its Memorandum of Association, specified rating
activity as one of its main objects;
(c) the applicant has a minimum net worth of rupees five crores.
Provided that a credit rating agency existing at the commencement
of these regulations, with a net worth of less than rupees five crores,
shall
be deemed to have satisfied this condition, if it increases its net worth
to
the said minimum within a period of three years of such commencement.
(d) the applicant has adequate infrastructure, to enable it to provide
rating
services in accordance with the provisions of the Act and these
regulations;
(e) the applicant and the promoters of the applicant, referred to in
regulation 4
have professional competence, financial soundness and general
reputation of fairness and integrity in business transactions, to the
satisfaction of the Board;
(f) neither the applicant, nor its promoter, nor any director of the
applicant or
its promoter, is involved in any legal proceeding connected with the
securities market, which may have an adverse impact on the interests of
the investors;
(g) neither the applicant, nor its promoters, nor any director, of its
promoter
has at any time in the past been convicted of any offence involving moral
turpitude or any economic offence;
(h) the applicant has, in its employment, persons having adequate
professional and other relevant experience to the satisfaction of the
Board;
(i)
Neither the applicant, nor any person directly or indirectly connected with
the applicant has in the past been –
(i) refused by the Board a certificate under these regulations or
(ii) subjected to any proceedings for a contravention of the Act or of any
rules or regulations made under the Act.
Explanation.─ For the purpose of this clause, the expression “directly
or indirectly connected person” means any person who is an associate,
subsidiary, inter-connected or group company of the applicant or a
company under the same management as the applicant.
(j) the applicant, in all other respects, is a fit and proper person for
the grant
of a certificate;
(k) grant of certificate to the applicant is in the interest of investors
and the
securities market.
Application to conform to the requirements-
(ii)
Any application for a certificate, which is not complete in all respects or
does
not conform to the requirement of regulation 5 or instructions specified in
Form A
shall be rejected by the Board:
Provided that, before rejecting any such application, the applicant shall
be
given an opportunity to remove, within thirty days of the date of receipt
of relevant communication, from the Board such objections as may be
indicated by
the Board.
Provided further, that the Board may, on sufficient reason being shown,
extend the time for removal of objections by such further time, not
exceeding
thirty days, as the Board may consider fit to enable the applicant to
remove such
objections.
Furnishing of information, clarification and personal representation-
(iii)
(1) The Board may require the applicant to furnish such further information
or
clarification as the Board may consider necessary, for the purpose of
processing
of the application.
(2) The Board, if it so desires, may ask the applicant or its authorized
representative to appear before the Board, for personal representation in
connection with the grant of a certificate.
Grant of certificate of initial registration-
(iv)
(1) The Board, on being satisfied that the applicant is eligible, shall
grant a
certificate of initial registration in Form B and shall send intimation to
the
applicant.
(2) The certificate of initial registration granted under sub-regulation
(1) shall be
valid for a period of five years from the date of its issue to the
applicant.
(3) The credit rating agency who has already been granted a certificate of
registration by the Board, prior to the commencement of the Securities and
Exchange Board of India (Credit Rating Agencies) (Amendment) Regulations,
2011, and has not completed a period of three years, shall be deemed to
have
been granted a certificate of initial registration for a period of five
years from the
date of its certificate of registration, subject to payment of fee for the
remaining
period of two years, as specified under Part A of Second Schedule, in the
manner prescribed in Part B thereof.
(4) The grant of a certificate of initial registration shall be subject to
payment of
the registration fees.
Grant of certificate of permanent registration-
(1) The credit rating agency who has been granted or deemed to have been
granted a certificate of initial registration under regulation 8, may,
three months
before the expiry of the period of certificate of initial registration,
make an
application for grant of a certificate of permanent registration in Form A.
(2) The credit rating agency who has already been granted a certificate of
registration by the Board and has completed a period of five years, on the
date of
commencement of the Securities and Exchange Board of India (Credit Rating
Agencies) (Amendment) Regulations, 2011, may, three months before the
expiry
of validity of certificate of registration or before, make an application
for grant of a
certificate of permanent registration in Form A.
(3) An application under sub-regulation (1) or sub-regulation (2) shall be
accompanied by non-refundable application fee as specified in the Second
Schedule.
(4) The application for grant of a certificate of permanent registration
shall be
accompanied by details of the changes that have taken place in the
information
that was submitted to the Board while seeking initial registration or
renewal, as
the case may be, and a declaration stating that no changes other than those
as
mentioned in such details have taken place.
(5) The application for permanent registration made under sub-regulation
(1) or
(2) shall be dealt with in the same manner as if it were a fresh
application for
grant of a certificate of initial registration.
(6) The Board, on being satisfied that the applicant is eligible, shall
grant a
certificate of permanent registration in Form B and shall send an
intimation to the
applicant.
(7) On the grant of a certificate of permanent registration the credit
rating agency
shall be liable to pay the fee as specified in the Second Schedule of these
regulations.]
Conditions of certificate-
The certificate granted under regulation 8 12[or 8A] shall be, subject to
the following conditions, namely:
(a) the credit rating agency shall comply with the provisions of the Act,
the
regulations made there under and the guidelines, directives, circulars and
instructions issued by the Board from time to time on the subject of credit
rating.
(b) where any information or particulars furnished to the Board by a
credit rating agency:
(i) is found to be false or misleading in any material particular ; or
(ii) has undergone change subsequently to its furnishing at the time of the
application for a certificate;
the credit rating agency shall forthwith inform the Board in writing
(c) where the credit rating agency proposes 17[change in control], it shall
obtain prior approval of the Board for continuing to act as such after the
change.
Procedure where certificate is not granted
–
(1) If, after considering an application made under regulation 3 or
[regulation 8A] as the case may be, the Board is of the opinion that a
certificate
[of initial or permanent registration should not be granted], as the case
may be,
it may, after giving the applicant a reasonable opportunity of being heard,
reject
the application.
(2) The decision of the Board, not to grant 21[certificate of initial or
permanent
registration, as the case may be,] under sub-regulation (1) shall be
communicated by the Board to the applicant within a period of thirty days
of such
decision, stating the grounds of the decision.
(3) Any applicant aggrieved by the decision of the Board rejecting his
application
under sub-regulation (1) may, within a period of thirty days from the date
of
Receipt by him of the communication referred to in sub-regulation (2) apply
to the
Board in writing for reconsideration of such decision.
(4) Where an application for re-consideration is made under sub-regulation
(3)
the Board shall consider the application and communicate to the applicant
its
decision in writing, as soon as may be.
Effect of refusal to grant certificate-
(1) A credit rating agency whose application for grant of a certificate of
permanent registration has been refused by the Board, on and from the date
of
the receipt of the communication, shall cease to undertake any credit
rating
activity.
(2) An applicant referred to in sub-regulation (2) of regulation 3, whose
application for the grant of a certificate has been rejected by the Board
under
regulation 11, shall, on and from the date of the receipt of the
communication
under sub-regulation (2) of regulation 11, cease to carry on any rating
activity.
(3) If the Board is satisfied that it is in the interest of the investors,
it may permit
the credit rating agency referred to under sub-regulation (1) or (2) to
complete
the rating assignments already entered into by it, during the pendency of
the
application or period of validity of the certificate.
(4) The Board may, in order to protect the interests of investors, issue
directions
with regard to the transfer of records, documents or reports relating to
the
activities of a credit rating agency, whose application for the grant 23[of
a
certificate of permanent registration] has been rejected.
(5) The Board may, in order to protect the interests of investors, appoint
any
person to take charge of the records, documents or reports relating to the
rating
activities of a credit rating agency referred to in sub-regulation and for
this
purpose also determine the terms and conditions of such appointment.
7. Write explanatory notes on: (any two) (8×2=16)
a) Disadvantages of Foreign Capital inflows.
-> Disadvantages of Foreign Capital inflows are:-
(i) Not Indispensable:
It is, of course, true that inflow of capital and transfer of foreign advanced technology are growth-stimulating factors. But it does not mean that the foreign aid is indispensable. There are instances which show that the growth process can take place even in the absence of foreign capital. That happened in the earlier stages of development of Soviet Union and China.
Bauer did not recognise the foreign capital as absolutely necessary for growth. To quote him, “Foreign aid is plainly neither a generally necessary nor a sufficient condition for emergence from poverty.”
In this connection, Bauer proceeds to say, “……….. if the mainsprings of development are present, material progress will occur even without foreign aid. It is of course true that a country receiving aid benefits in the sense of obtaining cheap or free capital……… , but this in no sense makes foreign aid indispensable for development.” Nurkse although recognised the importance of foreign aid in breaking off the vicious circles of poverty, yet pointed out that there was no substitute for action on the domestic front.
(ii) Wasteful Use of Foreign Capital:
The foreign capital, when easily available or when available free or at the concessional interest rate is likely to be misutilised in the low priority projects engaged in the production of luxury goods or other wasteful products. In the LDC’s, foreign collaborations are sometimes sought to produce non-food consumer articles such as toilet soaps, tooth pastes, cosmetics etc.
There is not only the wastage of foreign capital, when it is utilised in the production of these items, there is also the wastage of indigenous capital that supplements the foreign capital.
(iii) No Increase in Net Investment:
The LDC’s frequently resort to controls on the inflow and use of foreign capital. There are also restrictions on the remittances of profits and repatriation of capital. It results in a reduction in the inflow of capital from abroad. The regime of controls makes the indigenous and foreign enterprises to operate with excess capacity. There is some tendency among both the domestic and foreign investors to shy away from such countries.
On account of the outflow of capital due to exit policy of foreign and indigenous investors coupled with heavy annual debt servicing liabilities, the capital outflow many often exceeds the inflow of capital. This amounts to a net reduction in the inflow of capital or investment in the LDC’s. In addition, an easy availability of foreign capital tends to reduce the domestic tax effort for stepping up investment. Thus the foreign capital may not promote investment. It may rather lead to a net reduction in investment.
(iv) Increase in External Debt Burden:
If the foreign capital is employed for unproductive purposes or for financing consumption, the burden of external debt tends to increase. Except for only a few among the developing countries, there has been a general failure in raising the income-earning capacity through external capital.
(v) Inflationary Conditions:
Foreign aid has moderating effect on inflation. However, the foreign capital and investment may reinforce the inflationary pressures in the LDC’s. It is generally found that foreign capital is used in the developing countries for setting up ambitious capital-intensive projects which have a prolonged gestation period. The increased investment spending and consequent increase in factor incomes, given the less elastic supply function of output, is bound to strengthen the inflationary conditions.
(vi) Balance of Payments Problem:
The LDC’s have low capacity to export which is eroded further because of increasing domestic price trends. A larger flow of aid in the form of commodities, services and capital, at the same time, tends to increase the BOP deficit.
(vii) Alien Growth Models:
Along with the inflow of foreign capital, the foreign economists, financial experts and planners start tendering advice to the LDC’s. They try to apply Western growth models to the conditions of the developing countries. As the conditions in these countries are altogether different from those in Western countries, it is not pragmatic to apply these alien models in the LDC’s. The adoption of inappropriate growth models causes wastage not only of foreign capital but also of indigenous capital and skills.
(viii) Financing of Uneconomic Activities:
It is believed that the foreign assistance can contribute in relieving the shortages of food and raw materials and in promoting the production of exportable goods and import substitutes. But the experience has shown otherwise. The foreign aid, in the form of loans, is frequently used in the financing of uneconomic activities or projects.
(ix) Tied Foreign Capital:
The aid-giving countries impose generally arbitrary and unacceptable conditions upon the recipient countries. For instance, they tie aid to the purchase of capital goods and raw materials from the specified suppliers belonging to these countries. Generally these inputs are supplied at the prices higher than the competitive prices.
The aid-seeking countries have no option other than acceding to unfair conditionality including low real rates of interest, over-valued exchange rate, reduction in export subsidies, reduction in tariffs etc. The conditions that are thrust upon the LDC’s are invariably detrimental to their long-term interests.
(x) Unsuited Technology:
It is true that the foreign capital can bring new technology into the LDC’s. But it has been the experience of these countries that technology offered to them is either obsolete from the standards of the advanced countries or it is not in conformity with their resource endowments. The introduction of capital-intensive and labour-saving technology in the capital-deficient and labour-surplus poor countries causes the serious problems like inflation, unemployment and BOP deficit.
(xi) Adverse Effect on Domestic Saving:
The increased import of consumer goods by way of foreign assistance and greater priority to the production of luxury and semi-luxury goods causes an increase in consumption and consequent decline in domestic saving. A large inflow of foreign capital makes the people and State in LDC’s to make less effort to step up domestic savings. Many often foreign capitals do not supplement but supplants the domestic capital.
A study made by K.B. Griffin and J.L. Enos related to 32 LDC’s showed that 25 percent of the foreign aid only resulted in an increase in investment and imports and 75 percent was used for consumption. It suggested that the foreign aid discouraged domestic saving. Some other empirical studies, however, disputed this contention.
According to them, in certain countries each dollar of aid inflow resulted in more than one dollar worth of saving and investment. In case of other countries, aid inflow had adverse effect on domestic saving and each dollar of aid led to a less than one dollar of investment.
(xii) Political Domination:
The aid-receiving countries have often to face the political pressure from the donor countries. The latter start dictating the economic and political policies for the former. Such policies are invariably against the interests of the LDC’s and serve the vested interests of the donor countries. The LDC’s have the painful experience of foreign subjugation by the Western imperialism. The world has been a witness to arm- twisting by the United States forcing Russia to suspend Cryogenic rocket engine deal with India.
The United States and some other advanced countries imposed sanctions, including denial of loans from multilateral institutions like World Bank and ADB and denial of credit guarantees by U.S. government bodies against India after nuclear explosion by her in May 1998. Similarly pressure has been exerted upon China, Iran, Iraq and several other countries. This has created serious misgivings among the politicians, economists and general masses in poor countries about the desirability of securing foreign aid.
It is true that the reliance on foreign capital has its grave risks and dangers. But at the same time, its benefits to the development process in LDC’s cannot be over-looked. The policies should be made in such a way that foreign capital does not have adverse repercussions upon the developing countries.
The LDC’s should take precaution that the unnecessary economic and political strings to the inflow of aid are not accepted. The care should also be taken that the aid is used according to the accepted plan priority and dissipation of aid in non-priority areas is scrupulously avoided.
c) Investment made by NRIs in India.
-> As an NRI investing in India, your investments need to comply with regulations prescribed by the Foreign Exchange Management Act (FEMA). Your residential status as per FEMA will determine whether you can make your investments as a Resident or NRI.
You will be considered an NRI or a Non-Resident Indian if you are an Indian citizen who has resided in India for less than 182 days [1] during the preceding financial year or if you have gone or stayed out of India for employment, for carrying out a business or vocation. You are also considered to be an NRI if you have gone or remained outside India for any other purpose for an unspecified amount of time. Investments made by such an individual are considered to be NRI investments.
Investment options for NRIs
When it comes to investing in India, NRIs have several lucrative options. Fixed deposits, stocks and bonds, mutual funds and real estate are all excellent investment opportunities for NRIs. Fixed deposits and bonds are relatively less risky, while mutual funds and stocks tend to carry higher risk. If you are looking to buy a home in India, real estate is a great investment option as well. You will need to know the tax benefits of each investment option before you consider it. Moreover, you will need an NRE or NRO account to begin investing in India.
Steps for NRI investments
Each investment option has its procedures and requirements. However, you need to open an NRE (Non-Resident External) or NRO (Non-Resident Ordinary) savings bank account for any investment. An NRE account can be used for parking foreign earnings in India. NRE accounts are exempt from tax, and the principal amount and the interest earned on it, are freely repatriable.
An NRO account is used to park income earned in India through rent, pension, etc. Interest earned on this account is taxable and there is a cap on the principal amount that can be repatriated.
Through these accounts, you can start FDs or buy, sell or manage your real estate investments. However, if you want to invest in mutual funds or the stock market, you need to follow additional steps.
To invest in mutual funds, once your NRE/NRO account is functional, you will have to:
· Submit KYC papers and a copy of your PAN card. In the KYC form, you must mention whether this investment is on a repatriable or non-repatriable basis.
· An NRI can invest in mutual funds through another person by giving that person Power of Attorney (POA). In this case, KYC documents must contain the signature of both the NRI investor and the POA.
To invest in the stock market, NRIs will have to perform a few more steps after opening an NRE/NRO account, which are:
· Open a Portfolio Investment Scheme (PIS) bank account for buying and selling stocks. Transactions made through this account are reported to the RBI.
· Open a Demat and trading account with a SEBI-registered brokerage firm as all transactions can only be done through an Indian stockbroker.
Documents required for NRI investments
This section tells you all about the important NRI investment documents. The KYC form needs to be accompanied by documents like a recent photograph, attested copies of PAN card, passport, overseas residence proof and bank statements. Public notaries can do attestation of documents, a court magistrate or judge as well as authorized officials of overseas branches of commercial banks registered in India. It can also be done by the Indian embassy/consulate general in the country of residence.
Documents needed to open PIS/Demat/trading account include all of the above plus a copy of your Visa and PIS permission letter.
Taxes on NRI investments in India
If your country of residence has signed the Double Taxation Avoidance Treaty (DTAA) with India, you will have to pay tax in only one country. NRO FDs attract taxes in India. Interest earned is charged at a Tax Deducted at Source (TDS) rate of around 30% as per the Income Tax Act 1961. Similarly, rent earned from a real estate property too is taxable. When it comes to equity mutual funds, short-term capital gains are taxed at 15% and per the finance bill of 2018; long-term capital gains exceeding Rs. 1 lakh per annum are taxed at 10%.
Concerning debt funds, short-term capital gains (STCG) is taxable at the rate of 30% for a period, not more than 36 months. If you hold the fund for more than 36 months, you will have to pay 20% tax on the long-term capital gains with indexation benefit. LTCG on non-listed funds will be taxed at the rate of 10% without indexation.
d) External Commercial Borrowing (ECB).
-> ECB, or External Commercial Borrowing as it is known in its extended form, is an instrument that helps Indian firms and organisations raise funds from outside India in foreign currencies. Indian corporates are permitted by the Indian government to raise funds using External Commercial Borrowing in an effort to help the companies expand their current capacity. External Commercial Borrowing can also be used to bring in fresh investments.
The sources similar to ECBs include Foreign Currency Convertible Bonds (FCCBs) and Foreign Currency Exchangeable Bonds (FCEBs). While the main purpose for the issuance of FCCBs is to raise capital, External Commercial Borrowing is applicable to commercial loans that can include securitised instruments, bank loans, suppliers’ credit, buyers’ credit, and bonds that are availed from lenders that are not Indian residents. The minimum maturity of these instruments, on average, is three years.
Benefits of External Commercial Borrowing
The following are some of the main benefits of raising funds using ECB:
· The value of funds is generally lower when borrowed from external sources. For instance, there are economies that have a lower interest rate, and Indian firms and organisations can borrow money at lower interest rates from the Eurozone and the United States as the rates are comparatively low.
· Since the markets are larger when raising funds through ECB, companies can meet larger requirements from international players in comparison with what can be achieved through domestic players.
· External Commercial Borrowing is basically just a way to take a loan. It does not necessarily have to be of equity nature, and therefore the company’s stakes will not be diluted. Borrowers can essentially raise funds without relinquishing control as debtors will not have any voting rights in the company.
· The investor base can be diversified by the borrower.
· ECB offers access to global markets so that borrowers have greater exposure to worldwide opportunities.
· ECB offers benefits to the economy as well. Inflows can be directed into the sector by the government of India, thereby increasing its potential for growth. For instance, a greater percentage of funding through ECB can be allowed by the government for the SME and infrastructure industry. This aids significantly in the overall growth of the country.
· Companies can become increasingly profitable through ECB.
Disadvantages of External Commercial Borrowing
The following are the main disadvantages of raising funds through ECB:
· The company could develop a lax attitude as the funds are available at lower rates. Companies could borrow excessively due to this and it could eventually lead to higher debt on the company’s balance sheet, thereby adversely affecting financial ratios.
· Rating agencies see companies with higher debt on their balance sheets in a negative light, which could lead to a potential downgrade of such companies. Eventually, this could enhance the company’s cost of debt, thereby destroying the image of the company in the market. Furthermore, the shares of the company could also be subject to a decline in market value over a period of time.
· Considering the fact that raising funds through External Commercial Borrowing is done in foreign currencies, the principal as well as the interest will have to be paid in foreign currencies. As such, the company is exposed to risks associated with exchange rates. Hedging costs may have to be incurred by the company, thereby leading the company to incur heavy losses.
