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UNIT NO -3: Mutual Funds and Venture Capital Financing:, I-Mutual Funds: [Meaning, objectives, importance and types of mutual funds; mutual funds in, India - structure of mutual funds industry; SEBI Regulations; advantages of mutual funds;], 1.Meaning & Definition: Meaning of Mutual Fund Mutual funds are financial intermediaries,, which collect the savings of investors and invest them in a large and well-diversified portfolio of, securities such as money market instruments, corporate and government bonds and equity shares, of joint stock companies., In other words : A Mutual Fund is a trust that pools the savings of a number of investors who, share a common financial goal. The money thus collected is then invested in capital market, instruments such as shares, debentures and other securities. The income earned through theseI, investments and the capital appreciation realized are shared by its unit holders in proportion to, the number of units owned by them., Definition: According to SEBI (Mutual Funds) Regulations, 1996, a mutual fund is “a fund, established in the form of a trust to raise money through the sale' of units to the public or a, section of the public under one or more schemes for investing in securities including money, market instruments." The flow chart below describes broadly the working of a mutual fund, , Organization of a Mutual Fund & Mutual Fund Operation Flow Char, 2.Objectives(Role), 1.Mobilises Savings, 2.Instrument Of Investing Money, 3.Protection To Small Investors, 4.Tax Benefit, 5.Diversification, 6.Multi - Purpose Service, 7.Boost To Capital Market, 8. Arrival Of Foreign Capital, 9.Savings For Retirement And Education, 3.Scope and Importance:, 1.Return Potential :, 2.Low Costs:, 3.Liquidity:., 4.Transparency:, 5.Flexibility:, 6.Affordability:, 7.Choice of Schemes: 8.Well Regulated:, 9.Net Asset Value (NAV):, 4. Types Of Mutual Funds :1.Geographical Classification :1) Domestic Funds :-They mobilize resources from within the country., 2) Offshore Funds :-They open domestic- capital market to international investors., 2.Classification By Structure :1) Open-Ended Scheme:-. The investors can enter and exit the scheme any time during the life of the fund., 2) Close - Ended Scheme :-These schemes have a fixed maturity period. Investors can invest, directly at the time of initial issue.., 3) Interval Schemes :-These schemes combine the features of open-ended and close-ended schemes., , 3.Classification By Nature :1) Equity Funds :-Equity funds are those funds which invest pre-dominantly in equity shares of, companies. Following are variety of ways in which equity portfolio can be created for, investors :-a) Simple Equity Funds b) Primary Market Funds c) Sectoral Funds, 2) Debt Funds :-Debt funds are those that predominantly invest in debt securities., Debt funds are further classified as follows :a)Gilt Funds :-These funds invest their funds in Securities issued by Government and thus they, do not carry any credit risk.., b) Short Term Plans c)Monthly Income Plans e)Income Funds, 4.Classification By Investment Objectives :1.Balanced Scheme: They divide their investment between equity shares and fixed income earning instruments., 2.Income Schemes :-Their aim is to provide regular and steady income to investors.., 3.Growth Schemes :-They offer higher returns to investors in long run., 4.Money Market Schemes :-Their aim is to provide easy liquidity, preservation of capital and moderate income., 5.Other Schemes :1.Sector Specific Schemes: They invest in specific core sector like energy, telecommunication,, IT, financial services etc. The diversification is less., 2.Tax Saving Schemes: They are designed on the basis of tax policy with special tax incentives to investors., 3.Index Schemes :- Returns from these schemes would be more or less equivalent to those of index., 5.Advantages, 1.Increased diversification: 2.Daily liquidity: 3.Professional investment management:, 4.Service and convenience: . 5.Government oversight 6.Ease of comparison, 7.Ability to participate in investments that may be available only to larger investors: ., 6.Disadvantages:, 1.No Guarantees 2.Fees and commission 3.Taxes4.Management risk. 4.Evaluating Fund:, 5.Fluctuating Returns 6.Diversification. 7.Misleading Advertisements: 8.Cash, Cash and More Cash, 8.Growth on mutual funds in India:, The history of mutual funds can be divided into following phases :1) Phase I (1964-1987) Dominance Of UTI :-UTI was established in 1963. It launched its first, scheme in 1964 called US 64, and it attracted largest number of investors. UTI enjoyed monopoly in mutual, funds upto 1987. It launched more innovative schemes to suit the needs of different investors. By the end of, 1987, UTIs assets under management grew to Rs. 6,700 crore., 2)Phase II (1987-1993) Entry Of Public Sector Funds :-In 1987 government permitted public, sector banks and financial institutions to set up mutual funds. In November 1987, SBI Mutual Fund, launched, which was followed by Canara Bank Mutual Fund, LIC Mutual Fund etc. By 1993 Mutual fund, assets rose to overRs. 47,000 crore. However, UTI continued to be the leader with about 80% market share., 3)Phase III (1993 – 1996) Emergence Of private sector Funds:-In 1993, government allowed, private sector funds including foreign fund management companies to enter the mutual fund industry. This, provided a wide range of choice to investors and more competition to industry. Assets under mutual fund, management rose to about Rs. 86,000 crore by March 1997., 4)Phase IV (1996-2004) SEBI Regulation And Growth :-In 1996 SEBI introduced Mutual Funds, Regulations. The regulations brought about uniform standards in mutual funds industry. Investors interest, were safeguarded by SEBI and government tax benefits to investors in mutual funds. The number of players, increased considerably At the end of March 2004, the assets under management of mutual funds stood at, Rs1,39,615 crore., 5)Phase V (2004 Onwards) Growth And Consolidation:-After 2004 the industry witnessed several, mergers and takeovers. For e.g. : Birla Sun Life took over the scheme of Alliance Mutual Fund. Also, number of foreign players entered Indian mutual funds industry like Fidelity, Franklin, Templeton Mutual, Fund etc. The assets under management of mutual funds was Rs. 4,17,300 crore.

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At present there are 38 mutual funds in India offering about 3,780 schemes. In 2009 the net resource, mobilisation by mutual funds amounted to Rs. 1,43,775 crores. Out of this 80% of funds are mobilised by, private sector mutual funds., , II- Venture Capital Funds:[Venture Capital Funds – meaning, objectives and significance of, venture capital financing; process and methods of venture capital financing; development of, venture capital in India], 1.Meaning of Venture Capital: Venture capital means funds made available firms and small, for startup businesses with exceptional growth potential. Venture capital is long-term risk capital to finance, high technology projects which involve risk but at the same time has strong potential for growth, Venture capital is money provided by professionals who alongside management invest in young, rapidly, growing companies that have the potential to develop into significant economic contributors., Concept of venture capital: The term „Venture Capital‟ is understood in many ways. In a narrow sense,, if refers to, investment in new and tried enterprises that are lacking a stable record of growth. In a broader, sense, venture capital refers to the commitment of capital as shareholding, for the formulation and setting, up of small firms specializing in new ideas or new technologies. It is not merely an injection of funds into a, new firm, it is a simultaneous input of skill needed to set up the firm, design its marketing strategy and, organized and manage it, , Definition :According to SEBI: The SEBI has defined Venture Capital Fund in its Regulation, 1996 as „a fund established in the form of a company or trust which raises money through loans,, donations, issue of securities or units as the case may be and makes or proposes to make, investments in accordance with the regulations‟., A venture capital company is defined as “a financing institutions which joints an entrepreneur as, a co-promoter in a project and shares the risks and rewards of the enterprise.”, 2.Importance/Advantages of venture capital:, 1.Advantages to Investing Public: The investing public will be able to reduce risk significantly, against unscrupulous management,, 2.Advantages to Promoters : 1.The entrepreneur for the success of public issue is required to, convince tens of underwriters , brokers and thousand of investors but to obtain venture capital, assistance. he will be required to sell his idea to justify the officials of the venture fund., 2.The new entrepreneurs find it very difficult to make underwriting arrangements require a great, deal of effort. Venture fund assistance would eliminate those efforts by leaving entrepreneurs to, concentrate upon bread and butter activities of business., 3. Cost of public issues of equity share often between 10 percent to 15 percent of nominal value, of issue of moderate size, which are often even higher for small issues. when it is new. assistance, from venture fund does not require such expenditure., 3.A developed venture capital institutional set-up reduces the time between a technological, innovation and its commercial exploitation., 4It helps in developing new processes/products in conductive atmosphere, free from the dead, weight of corporate bureaucracy, which helps in exploiting full potential., 5.Venture capital acts as a cushion to support business borrowings, bankers and investors will, not lend money with inadequate margin of equity capital., 6.Once venture capital funds start earning profits , it will very easy for them to raise resources, from primary capital market in the form of equity and debts., 7. The economy with well developed venture capital networks, induces the entry of large number, of techno crafts in industry, help in stabilizing industries and in creating a new set of trained, techno crafts to build and manage medium and large industries, resulting in faster industrial, development., 8. A venture capital firm serves as an intermediary between investor looking for high returns for, their and entrepreneurs in search needed capital for their start ups., 9. It also paves the way for private sector to share the responsibility with public sector., , 10.It injects long term equity finance which provides a solid capital base for future growth., 11.The venture capitalist is a business partner, sharing both the risks and rewards. Venture, capitalists are rewarded by business success and the capital gain., 12.The venture capitalist is able to provide practical advice and assistance to the company based, on past experience with other companies which were in similar situations., 13.The venture capitalist also has a network of contacts in many areas that can add value to the company., 14.Venture capitalists are experienced in the process of preparing a company for an initial public offering, (IPO) of its shares onto the stock exchanges or overseas stock exchange such as NASDAQ., , 15.They can also facilitate a trade sale., 3.Methods of Venture Financing: Venture capital is available in four forms in India :, 1. Equity Participation, 2. Conventional Loan, 3. Conditional Loan, 1.Equity Participation: Venture Capital firms participate in equity through direct purchase of, shares but their stake does not exceed 49% .These shares are retained by them till the assisted, projects making profit. These shares are sole either to the promoter at negotiated price under by, back agreement or the public in the secondary market at a profit., 2. Conventional Loan: Under this form of assistance, a lower fixed rate of interest is charged till, the assisted units become commercially operational, after which the loan carries normal or higher, rate of interest. The loan has to be repaid according to a predetermined schedule of, repayment, as, per, terms, of, loan, agreement., 3. Conditional Loan : Under this form of finance, an interest free loan is provided during the, implementation period but it has to pay royalty on sales. The loan has to be repaid according to, the a pre determined schedule as soon as the company is able to generate sales and income', 4.VC Investment Process: The venture capital investment process has variances/features that, are context specific and vary from industry, timing and region. However, activities in a venture, capital fund follow a typical sequence. The typical stages in an investment cycle are as below:, The venture capital process, 1) Establish fund • Determine investment objectives, • Raise capital for investment, , 2) Deal flow: • Opportunity creating activities (venture base), • Recognise and Identify entrepreneurial opportunities, , 3) Investment decision: • Screen and evaluate deals, • Select/ deselect deals • Valuate and negotiate structure deals, , 4) Business development / value adding, • Strategy development, , • Active board membership, • Outside expertise, • Other stake holders, management, • Contact and access to info, people, institutions, • Staging and syndicating investment, , 5) Craft and executing exit strategies, • Sale • IPO • Merger • Liquidation • Alliances, , 5.VENTURE CAPITAL FUNDS IN INDIA:VCFs in India can be categorized into following five groups:, 1) Those promoted by the Central Government controlled development finance institutions. For example :, - ICICI Venture Funds Ltd. - IFCI Venture Capital Funds Ltd (IVCF) - SIDBI Venture Capital Ltd (SVCL), , 2)Those promoted by State Government controlled development finance institutions. For example:, - Punjab Infotech Venture Fund, , - Gujarat Venture Finance Ltd (GVFL) - Kerala Venture Capital Fund Pvt Ltd., , 3) Those promoted by public banks. For example:, - Canbank Venture Capital Fund, - SBI Capital Market Ltd, 4) Those promoted by private sector companies.For example:, - IL&FS Trust Company Ltd - Infinity Venture India Fund, 5)Those established as an overseas venture capital fund.For example:, - Walden International Investment Group - HSBC Private Equity management Mauritius Ltd

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UNIT– 4: DEPOSITORY SERVICES, [ Meaning, objectives and significance of depository services; dematerialization v/s, rematerialization; process of dematerialisation; origin and growth of depository services in India, – NSDL and CDSL –functions; depository participants – functions performed; cost of depository, services.], 1. Meaning of Depository : Depository is an organization or a system where securities/shares, are held in electronic form. A depository is similar to a bank. The bank transfers money without, handling money. A depository transfers securities/ shares without handling securities/share. A, bank facilitates safe keeping of money., In other words: Depository is an organization which holds your securities in electronic (also, known as „book entry‟) form, in the same manner as a bank holds your money. Further, a, depository also transfers your securities without actually handling securities, in the same day as a, bank transfers funds without actually handling cash., Definition: According to section 2(e) of the Depositories Act1996”Depository means a company, formed and registered under the Companies Act, 1956 and which has granted a certificate of, registration under section 12(1A) of the SEBI Act,192”., 2.Objectives of Depository Services:, * Forgery of certificates., * To reduce the paper handling cost in the, * Tearing and mutilation of scripts due to, capital market, reckless handling., * To standardize the Indian settlement practice., * Loss of certificates by postal authorities, * To increase the growth potential of Indian, /registrars / investors, capital market., * Less Liquidity prevalent in the markets with, * To implement an achievable clearing,, poor consumer confidence., settlement, and depository solution which is, * To liberate the Indian securities market from, not expensive to develop and maintain, the paperwork grid., 3.Benefits /Need/Importance of Depository Services:, • Immediate transfer of securities;, • Facilitates pledging and hypothecation of, • No stamp duty on transfer of securities;, your securities, • Elimination of risks associated with physical, • Facility to lock your account if you are abroad, certificates such as bad delivery, fake, • Change in address recorded with DP gets registered with, all companies in which investor holds securities, securities, delays, thefts etc., electronically eliminating the need to correspond with, • Reduction in paperwork involved in transfer, each of them separately;, of securities;, • Transmission of securities is done by DP, • Reduction in transaction cost;, eliminating correspondence with companies;, • No odd lot problem, even one share can be, • Automatic credit into demat account of shares,, traded;, arising out of bonus/split/ consolidation/merger, • No possibility of bad deliveries, •Holding investments in equity and debt instruments, • Nomination facility;, in a single account., • Less brokerage charges., . Origin and growth of depository services in India:, 4., • The first depository was set up way back in 1947 in Germany., • In India it is a relatively new concept introduced in 1996 with the enactment of, 1., Depositories Act 1996, • Their operations are carried out in accordance with regulations made by SEBI ,byelaws and rules of Depositories Act and SEBI A depository system is governed by, the acts- Securities & Exchange Board of India Act 1992, • Depositories in India: Presently there are two Depositories working in India:, , 1.National Securities Depository Limited (NSDL):It was registered by the SEBI on june 7 1996, as India‟s first Depository to facilitate trading and settlement of securities in the demat form. It, is promoted by IDBI, UTI, NSE, 2.Central Depository Services (India) Limited (CSDL):It commenced its operations during, feb 1999 and was promoted by Stock Exchange Mumbai in association with Bank of Baroda,, Bank of India, SBI and HDFC Bank, • At present 10 Stock Exchanges are connected to the Depositories:, 1.NSE 2.The SE , Mumbai 3.Calcutta Stock Exchange 4.Delhi SE 5.Ludhiana SE, 6.Bangalore SE 7.Over the counter exchange of India 8.Madras SE 9.Ahmedabad SE, 10.Market trade: trade done settled through a SE and clearing corporation., 5. Depository Participant (DP) : A DP is an agent of the depository through which it interfaces with, the investor and provides depository services Depository Participant (DP) is the representative of the, depository. Depository participant acts as an intermediary between investors and depositories. An investor, has no direct access to the depositories. He has to trade his securities through the depository participant. The, depository participants have an identity number for identification. It has to maintain accounts of securities, of each investor. The depository participant gives intimation about holdings from time to time by sending a, statement of holding or giving a pass-book. If an investor desires the services of depository, he has to open, an account with depository through depository participant., , Functions of Depository Participant, 1.Account Opening :, * Understand the types of account a person can open with a DP, * Define and discuss what is a Beneficiary Account, , *Learn about the documents required while, opening of account, * Clearing Member Account, * Know the procedure for opening a clearing member Acc, * Closure of account* Freezing of account Know the concept of freezing, of account and when is it initiated., *Changes in client details-, , 2.Transmission and Nomination, *Transmission, , of shares- *Nomination of shares*Transmission of Securities-, , 3.Dematerialization, * International Securities Identification Number –, * Explain the Dematerialization Process, *Explain the Rematerialisation process., , 4.Trading and Settlement, * Introduction *Off-Market Transactions *Market Transactions- *Discuss Inter-settlement, transfers., , 5.Pledge and Hypothecation, * Introduction *Procedure for pledge and hypothecation, *Learn the procedure for confirmation of creation of, pledge/hypothecation by pledgee., *Learn the process of closure of a pledge/hypothecation, by pledgor., *Understand the substitution of securities offered in, pledge and the corporate benefits for pledged, hypothecated securities, , 6.Corporate Action, *Learn about corporate actions, *Procedure for Corporate Action *Understand the Rights of lender and rights of the, pledgor and hypothecator.., 7.Public Issues *Public Issues Procedure-Discuss the, Public Issue facility through the depository, , 8.Debt Instruments and Government Securities, *Introduction to Debt Instruments and Government Securities*Certificate of Deposit (CDs) *Commercial Paper-Discuss the dematerialization of, CPs, its settlement and redemption process., *Government Securities, , 9.Warehouse, , Receipts :Discuss how the, Depository Participants provide facility to the, commodity exchanges for settlement of trades, pertaining to warehouse receipts for commodities., , 6.Dematerialization v/s rematerialization; process of dematerialization :, Meaning of Dematerialization is the process by which physical certificates of an investor are, converted to an equivalent number of securities in electronic form and credited to the investor‟s, account with his DP, same as cash is deposited in your Bank Account

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Meaning of Rematerialisation is a process of converting electronic holdings of investor back, into share certificates in paper form. The process of rematerialisation is also carried out through, DP and the process has to be completed within a period of 30 days, Procedure of Dematerialisation of Securities: When an investor opts for depository mode he, has to approach depository participant. The depository participant is the authorized agent of, depository. The investor should surrender his share certificate to the company through depository, participant. On confirmation from the company, the depository participant arranges to credit his, account with equivalent number of shares., Following steps are involved in the procedure of dematerialization :1. Opening client's demat account., 2. Submission of Demat Request and scrip certificate by investor., 3. Forwarding of DRF and scrip certificate to Registrar., 4. Forwarding a copy of DRF to depository, 5. Confirmation of receipt of DRF by Depository, 6. Updating the records by company, 7. Confirmation of dematerialization to the depository, 8. Updating of records by depository, 9. Confirmation by the depository, 10.Updating the records of Depository Participant, 11.Confirmation of dernaterialization, 7.There are two depositories in India at present, 1.NSDL: National Securities Depository limited, 2.CDSL:Central Depository Services (India) Limited, 1.National Securities Depository Limited :In a span of about nine years, investors have switched, over to electronic [demat] settlement and National Securities Depository Limited (NSDL) stands at the, centre of this change. In order to provide quality service to the users of depository, NSDL launched a, certification programme in depository operations in May 1999. This certification is conducted using NCFM, infrastructure created by NSE and is called "NSDL - Depository Operations Module". The programme is, aimed at certifying whether an individual has adequate knowledge of depository operations, to be able to, service investors. Depository Participants are required to appoint at least one person who has qualified in, the certification programme at each of their service centres. This handbook is meant to help the candidates, in their preparation for the certification programme., National Securities Depository Limited is the first depository to be set-up in India. It was incorporated, on December 12, 1995. The Industrial Development Bank of India (IDBI) - the largest development bank in, India, Unit Trust of India (UTI) - the largest Indian mutual fund and the National Stock Exchange (NSE) the largest stock exchange in India, sponsored the setting up of NSDL and subscribed to the initial capital., NSDL commenced operations on November 8, 1996., Ownership: NSDL is a public limited company incorporated under the Companies Act, 1956. NSDL had, a paid up equity capital of Rs. 105 crore. The paid up capital has been reduced to Rs. 80 crore since NSDL, has bought back its shares of the face value of Rs. 25 crore in the year 2000. However, its net worth is, above the Rs. 100 crore, as required by SEBI regulations., , The following organizations are shareholders of NSDL as on March 31, 2005., 1. Industrial Development Bank of India 2. National Stock Exchange, 3. State Bank of India, 4. Oriental Bank of Commerce, 5 Dena Bank, 6. Citibank N.A., 7. Standard Chartered Bank, 8. Canara Bank, 9. HDFC Bank Limited, 10. Deutsche Bank A.G., 11. The Hongkong and Shanghai Banking Corporation Limited, 12. Administrator of the Specified Undertaking of the Unit Trust of India - DRF, , Management of NSDL:NSDL is a public limited company managed by a professional Board of, Directors. The day-today operations are conducted by the Chairman & Managing Director, (CMD). To assist the CMD in his functions, the Board appoints an Executive Committee (EC) of, not more than 15 members. The eligibility criteria and period of nomination, etc. are governed by, the Bye-Laws of NSDL in this regard., Bye-Laws of NSDL:Bye-Laws of National Securities Depository Limited have been framed, under powers conferred under section 26 of the Depositories Act, 1996 and approved by, Securities and Exchange Board of India. The Bye-Laws contain fourteen chapters and pertain to, the related areas .Amendments to NSDL Bye-Laws require the approval of the Board of, Directors of NSDL and SEBI., Business Rules of NSDL, Amendments to NSDL Business Rules require the approval of NSDL Executive Committee and, filing of the same with SEBI at least a day before the effective date for the amendments., Functions of NSDL performs the following functions through depository participants :, _ Enables the surrender and withdrawal of securities to and from the depository, (dematerialisation and rematerialisation)., _ Maintains investor holdings in the electronic form., _ Effects settlement of securities traded on the exchanges., _ Carries out settlement of trades not done on the stock exchange (off-market trades)., _ Transfer of securities., _ Pledging/hypothecation of dematerialised securities., _ Electronic credit in public offerings of companies or corporate actions., _ Receipt of non-cash corporate benefits like bonus rights, etc. in electronic form., _ Stock Lending and Borrowing., Services Offered by NSDL, NSDL offers a host of services to the investors through its network of DPs:, _ Maintenance of beneficiary holdings through DPs, _ Dematerialisation, _ Off-market Trades, _ Settlement in dematerialised securities, _ Receipt of allotment in the dematerialised form, _ Distribution of corporate benefits, _ Rematerialisation, _ Pledging and hypothecation facilities, _ Freezing/locking of investor's account, _ Stock lending and borrowing facilities, NSDL offers the following facilities: -, , ion of dematerialized securities against loan;, -cash corporate benefits such as bonus, in electronic form;, he account are not permitted;, , SPEED-e facility. (Please check with your DP for availing the

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2.Central Depositary Securities Limited, A Depository facilitates holding of securities in the electronic form and enables securities, transactions to be processed by book entry by a Depository Participant (DP), who as an agent of, the depository, offers depository services to investors. According to SEBI guidelines, financial, institutions, banks, custodians, stockbrokers, etc. are eligible to act as DPs. The investor who is, known as beneficial owner (BO) has to open a demat account through any DP for, dematerialisation of his holdings and transferring securities., The balances in the investors account recorded and maintained with CDSL can be obtained, through the DP. The DP is required to provide the investor, at regular intervals, a statement of, account which gives the details of the securities holdings and transactions. The depository, system has effectively eliminated paper-based certificates which were prone to be fake, forged,, counterfeit resulting in bad deliveries. CDSL offers an efficient and instantaneous transfer of, securities., CDSL was promoted by Bombay Stock Exchange Limited (BSE) jointly with leading banks such, as State Bank of India, Bank of India, Bank of Baroda, HDFC Bank, Standard Chartered Bank,, Union Bank of India and Centurion Bank., CDSL was set up with the objective of providing convenient, dependable and secure depository, services at affordable cost to all market participants. Some of the important milestones of CDSL, system are:, CDSL received the certificate of commencement of business from SEBI in February, 1999, 1) Honourable Union Finance Minister, Shri Yashwant Sinha flagged off the operations of CDSL, on july 15,1999., 2) Settlement of trades in the demat mode through BOI Shareholding Limited, the clearing house, of BSE, started in july 1999., 3) All leading stock exchanges like the National Stock Exchange, Calcutta Stock Exchange,, Delhi stock Exchange, The Stock Exchange, Ahmedabad, etc have established connectivity with, CDSL., 4) As at the end of Dec 2007, over 5000 issuers have admitted their securities (equities, bonds,, debentures, commercial papers), units of mutual funds, certificate of deposits etc. into the CDSL, system., Shareholders of CDSL, CDSL was promoted by Bombay Stock Exchange Limited (BSE) in association with Bank of, India, Bank of Baroda, State Bank of India and HDFC Bank. BSE has been involved with this, venture right from the inception and has contributed overwhelmingly to the fruition of the, project. The initial capital of the company is Rs.104.50 crores. The list of shareholders with, effect from 11th December, 2008 is as under., A professional Board of Directors with vast and varied experience in capital markets, and banking is at the helm of affairs at CDSL.

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UNIT NO -5, Factoring and Credit Rating, 1.Factoring:Meaning, objectives and types of factoring services; cost and benefit analysis of, factoring services; factoring v/s bill discounting; factoring v/s forfeiting; origin and growth of, factoring services in India – public and private sector agencies; RBI Committee, recommendations on factoring;, 1.Factoring:Meaning : Factoring is a financial transaction where a company sells its account, receivables to a third party or a bank at a discount for some immediate money to finance its, urgent cash requirements. Normally every company has a credit policy which provides the byers, some credit period to pay back all the pending dues; these are called account receivables and, termed as asset for the company. Account receivables are non-cash assets but it helps the, companies to withdraw cash from the bank by selling these account receivables and the withdraw, amount can vary between 70 -80% of the total account receivables value., In other words: is a financial transaction in which a business sells its accounts, receivables (i.e., invoices)to a third party (called a factor) at a discount., Definition: The term” factoring” has been defined in various countries in different ways due to, non-availability of any uniform codified law. The study group appointed by International, Institute for the Unification of Private Law (UNIDROIT), Rome during 1988 recommended, in, simple words, the definition of factoring as under: “Factoring means an arrangement between a, factor and his client which includes at least two of the following services to be provided by the, factor:· Finance· Maintenance of accounts· Collection of debts · Protection against credit risks”., 2.Different types of Factoring are as follows:, 1. Full Factoring (Without Recourse Factoring) 2. Recourse Factoring, 3. Maturity Factoring (Collection Factoring), 4. Advance Factoring, 6. Invoice Discounting, 7. Bulk Factoring, 8. Agency Factoring, 4. Domestic and Export Factoring, 5. Limited Factoring, 6. Selected Seller Based Factoring, 7. Selected Buyer Based Factoring, 8. Disclosed and Undisclosed Factoring, 3.FACTORING VS.BILL DISCOUNTING, Factoring, Can be either Recourse on Non recourse, One time notification taken from, customer, Less expensive, Less paperwork, Also provides other services, Only copies of such documents, It is off balance sheet mode, Assignment of debts, , Bill Discounting, Always with Recourse, Each bill to be individually accepted, Expensive source, More paperwork, Facility only on Provision for finance, Submission of original documents requered, It is shown in balance sheet, No assignment of debts, , 4.FACTORING VS FORTAITING, POINTS, , FACTORING, , FORFAITING, , Extent of, Finance, , Usually 75 – 80% of the value of, the invoice, , 100% of Invoice value, , Credit, Worthiness, , Factor does the credit rating in, case of non-recourse factoring, transaction, , The Forfaiting Bank relies on the, creditability of the Avalling Bank., , Services, provided, , Day-to-day administration of, sales and other allied services, , No services are provided, , Recourse, , With or without recourse, , Always without recourse, , Sales, , By Turnover, , By Bills, , Finance, , Short-term finance (90 to 150, days or more), , Long Term Finance (180 days to, 7 years), , 2.Credit Rating – [Meaning, objectives and significance of credit rating; process of credit, rating; origin and growth of credit rating in India –rating agencies established and symbols used, by agencies; advantages and disadvantages;], 1.Meaning: It is a grading service to investors which helps them in reducing their risk. It is a, technique in which relative ranking is provided to different instruments of a company on the, basis of systematic analysis of the strengths and weaknesses of them, Definitions:1 L M Bhole:-It can be defined as an act of assigning values to credit instruments by, estimating or assessing the solvency i.e. the ability of the borrower to repay debt, and expressing, them through pre-determined symbols”, 2.Investment Information and Credit Rating Agency of India Ltd. (ICRA), Rating is a symbolic indicator of the current opinion of the relative capability of, timely servicing of debt and obligations by the corporate entity with reference to the instrument, rated., 3.Credit Rating Information Services of India Ltd. (CRISIL), Rating is current opinion as to the relative safety of timely payment of interest and, principal on a debenture, structured obligation, preference shares, fixed deposits, programme or shot term instruments., 4.Credit Analysis and Research Ltd. (CARE), Credit rating is an opinion on the relative ability and willingness of an issuer to, make timely payment on specific debt or related obligations over the life of the, instrument., 2.Objectives /Significance/Functions of credit rating, The credit rating firms are supposed to do the following functions :, 1. Superior Information: Rating by an independent and professional firm offers a superior and, more reliable source of information on credit risk for three inter related risks:

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(a) It provides unbiased opinion., (b) Due to professional resources, a rating firm has greater ability to assess risks., (c) It has access to lot of information which may not be publicly available., 2. Low Cost Information : A rating firm which gathers, analyses, interprets and summarizes, complex information in a simple and readily understood format for wide public consumption, represents a cost effective arrangement., 3. Basis for a Proper Risk-Return Trade Off : If debt securities are rated professionally and if, such ratings enjoy widespread investor acceptance and confidence, a more rational risk return, trade off would be established in the capital market., 4. Healthy Discipline on Corporate Borrowers : Public exposure has healthy influence over, the management of issuer because of its desire to have a clear image., 5. Formulation of Public Policy Guidelines on Institutional Investment : The public policy, on the kinds of securities that are eligible for inclusion in different kinds of institutional, portfolios can be developed with great confidence if securities are rated professionally by, independent agencies., 3. Credit Rating Process: The steps involved in the credit rating process are as follows, 1.Request by the company for rating, 2. Assigning the work to a team by credit rating agency, 3. Visit and inspection of company by the team, 4. receive initial Information and conducts managerial meetings, 5.Interaction with back-up team and preparation of report, 6. Forwarding of report to senior executive of rating agency, 7. Arriving at a rating after discussions, 8. Forwarding rating to external committee for final decision, 9.Communication rating to company, 4 ORIGIN OF CREDIT RATING, The credit rating concept originated in the USA. In 1860, Henry Vannum started, publishing financial statistics of railroad companies in 1909, Mood‟s Investors Agencies started, rating Railroad giving more thrust to the concept. Since then the importance has grown, extensively in the global market. System of ratings got institutionalized following the Great, Depression. In 1933, the US Controller of Currency enacted a rule that banks could purchase, securities rated only BBB/Baa or above. In 1970, Penn Central, then largest Railroad company, in the world went bankrupt with just under $100 million in outstanding commercial paper. This, forced the investors to ask for rating for commercial paper volume and 99% of the corporate, bond volume are rated in the U.S.A., 5.CREDIT RATING IN INDIA, The environment that prevailed in America when first ratings were assigned, prevails in, many developing countries today. The Indian capital market has witnessed a tremendous growth, in the past few years. Companies are relying on capital markets for financing existing operations, as well as for new projects rather than on institutions. In this process, the average size of, debenture issued by companies, the number of companies issuing debentures and the number of, investors have grow substantially., As the number of companies borrowings directly from capital market increases,, investors find that the company‟s size or name is no longer a sufficient assurance of the timely, payment of interest and principal. Default by large and well known companies recently in, payment of interest on fixed deposits or debentures has reinforced this belief among investors., They felt the need for an independent and credible agency which judges the quality of debt, obligations of different companies‟ and assists individual and institutional investors in making, , investment decisions. In this context, the Credit Rating Information Services of India Limited, was set up in 1987., Following this, Investment Information and Credit Rating Agency of India was, promoted in 1991 and Credit Analysis and Research Limited was floated in 1993. All the three, credit rating agencies have been approved by the Reserve Bank of India., 6 BENEFITS OF CREDIT RATING, The following are the benefits of credit rating :, 1. Low Cost Information ; Credit rating is a source of low cost information to investors. The, collection, processing and analysis of relevant information is done by a specialised agency which, a group of investors can trust., 2. Quick Investment Decision: In the present day complex world ratings enable investors to, take quickest possible decisions based on associated ratings., 3. Sources of Additional Certification : Credit rating agency provides additional certification to, the issue of debt/financial instrument. A highly rated firm can enter the market with great, confidence. Indian experience shows that individual companies that use credit rating, benefit a, great, deal by getting larger amount of money from a wider audience at a lower cost., 4. Increase the Investors Population: A sound credit rating system gives an alternative method, to name recognition as a determining factor in making investment and helps increase the, population of those investing in debt obligations of the company., 5. Forewarns Risks : Credit rating acts as a guide to companies which get a lower rating. It, forewarns the management of the perception of risk in the market and prompts to take steps on, their operating and marketing risks and thereby changes the perception in the market., 6. Encourages Financial Discipline : Rating also encourage discipline among corporate, borrowers to improve their financial structure and performance to obtain better rating for their, debt obligations., 7. Merchant Bankers Job Made Easy : Merchant bankers and brokers will be relieved of the, responsibility of guiding investors as to the risk of a particular investment. Merchant bankers and, brokers, in the absence of objective information, go on the basis of name recognition in guiding, their clients. With the advent of credit rating, what they would be required to do is to bring to the, attention of their clients the ratings of debt obligations., 8. Investors Protection : Hiring of credit agency implies that the management of the company is, ready to show its operations for independent scrutiny. So, the investors who are not provided, with confidential information can have overall assessment based on ratings. A credible and, objective rating agency can provide increased disclosure, better accounting standard and, improved investor protection., 9. Foreign Collaborations made Easy : The foreign collaborators always ask for credit rating, while negotiating with an Indian company. Credit rating enables to identify instantly the relative, credit standing of the company. The importance of credit rating is being increasingly recognized, in the Euro-markets., 10. Benefits the Industry as a Whole: Relatively small and unknown companies use ratings to, instill confidence in investors. Higher rate companies get larger amount of money at a lower, cost. Thus the industry as a whole can benefit from ratings by direct mobilization of savings, from individuals rather than from intermediary lending institutions., 7 TYPES OF RATING, The rating methodology and process discussed earlier is primarily for debt, instruments like debentures, fixed deposits, bonds etc. This type of rating constitutes the major, business of a rating company. But with the passage of time these agencies have started providing, other types of rating such as :

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a) Equity rating : Rating of equity shares issued in capital market is termed as equity rating., b) Mutual fund rating : Mutual Funds which are popular world over are evaluated by rating, agencies and it is known as mutual fund rating. It facilitate selection of right fund from the, available funds, c) Individual credit rating : Individual credit rating is own objective assessment of, the risk attached to a financial transaction with respect to an individual at a given point of time, based on qualification of parameters influencing credit risk., d) Rating of banks and financial companies : Banks and financing companies are also issuers of, debts like banks issue certificates of deposits (CD)., e) Sovereign rating: In this process economic parameters and economic policies of the country, are under constant observation. Such rating influences the availability of foreign aids from, agencies like World Bank. All rating agencies may not take up such assignment because of lack, of infrastructure and specialists., f) Rating structured obligation ; Structured obligation is a negotiable instrument or security, which is backed by some asset. The main role of a credit rating agency in analyzing an asset, backed security or a structured obligation is to assess the risk of default in meeting the, contractual obligations to the investors., 8.CREDIT RATING AGENCIES IN INDIA, Currently there are four credit rating agencies in India., 1. Credit Rating Information Service Ltd. (CRISIL) : 20 :, 2. Information and Credit Rating Agency of India (ICRA), 3. Credit Analysis and Research (CARE), 4. Duff Phelps Credit Rating Pvt. Ltd. (DCR India), 1. Credit Rating Information Service Ltd. (CRISIL) : On January 1, 1988 the Industrial, Credit and Investment Corporation of India (ICICI) and Unit Trust of India (UTI) joined hands, to float CRISIL, first rating agency in India with an equity base of Rs.4.00 crores. Each of them, holds 18 per cent of the stock. CRISIL became a public limited company in November 1993 and, is presently a quoted company on the Bombay Stock Exchange., Credit Rating Symbols : CRISIL uses the conventional rating symbols used in the USA and, widely accepted in many other countries. The following table shows the investment wise rating, symbols assigned by CRISIL and the meaning of each rating from the angle of safety to the, investors., Debenture Rating, Implications, Fixed Deposit Ratings, Implications, AAA (Triple A, Highest Safety, F-TripleA-(FAAA), Highest Safety, AA (Double A), High Safety, F-Double A-(FAA), High Safety, A, Adequate Safety, F-SingleA(FA), Adequate, Safety, BBB (Triple B), Moderate Safety, F-SingleB(FB), Inadequate, Safety, BB (Double B, Inadequate Safety, F-SingleC(FC), High Risk, B, High Risk, F-SingleD(FD), Default, C, Substantial Risk, D, Default, Short term Instruments, P-1 -Highest Safety, P-2 –High Safety, P-3 – Adequate safety, P-4 – Inadequate safety P-5-Default, , 2. ICRA Ltd: It started operations in 1991. In order to bring international experience and, practices to the Indian capital markets, the ICRA has entered into a MOU with Moody‟s, Investors Service to provide, through its company Financial Programmes Inc (FPI), credit, education, risk management software, credit research and consulting services to banks,, financial/investment institutions, financial services companies and mutual funds in India., Long term instr., Rating, LAAA, LAA+,LAA, LA+,LA, , Implications, , Fixed Deposit Ratings, , Implications, , Highest Safety, High Safety, Adequate Safety, , MAAA, MAA+,MAA, MA+,MA, , LBBB, , Moderate Safety, , MB+.MB, , Highest Safety, High Safety, Adequate, Safety, Inadequate, Safety, Risk Prone, Default, , LBB+,LBB, Inadequate Safety, MC+,MC, LB+,LB, Risk Prone, MD, LC+,LC, Substantial Risk, LD, Default, Short term Instruments, A1+,A1 -Highest Safety, A2+,A2 –High Safety, A3+,A3 – Adequate safety, A4+,A4–Inadequate safety A5-Default, 3. CARE Ltd. : The CARE Ltd. is a credit rating and information services company promoted by, the Industrial Development Bank of India (IDBI) jointly, with financial institutions,, public/private sector banks and private finance companies. It commenced its credit rating, operations in October 1993 and offers a wide range of products and services in the field of credit, information and equity research. Unlike the CRISIL and the ICRA, the CARE is very cautions in, entering new areas of business. Currently, it offers the following services:, CAR-1, Excellent debt management capability, CAR-2, Very good management capability, CAR-3, Good capability in debt management, CAR-4, Barely satisfactory capability for debt management, CAR-5, Poor capability for debt management, 4.FITCH Ratings India Ltd: It is an international rating agency that provides global capital, market investors with the highest quality ratings and research. It entities in 75 countries and has, some 1100 employees in more than 40 local offices worldwide., Debenture, Implications, Fixed Deposit Implications, Rating, Ratings, AAA (ind), Highest Credit Quality, tAAA(Ind), Highest Credit Quality, AA ((ind), High Credit Quality, tAA+(Ind), High Credit Quality, A(ind), Adequate Credit Quality, tA+(Ind), AdequateCredit Quality, BBB (ind), Moderate Credity Quality, tB+(Ind), Spculative, BB (ind), Spculative, tC(Ind), High default risk, B(ind), High Speculative, tD(Ind), Default, C(ind), High default risk, D (ind), Default, Short term Instruments, F1+(Ind)- Highest Credit Quality, F2+(Ind)- Good Credit Quality, F3 (Ind)- Fair Credit Quality, F4(Ind)-Speculative, F5(Ind)-default