VTU MBA Lecture Notes - 1st Sem, 2nd Sem, 3rd Sem and 4th Sem || Visvesvaraya Technological University
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III Semester MBA
16 MBA FM 302
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Unit 1
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Investment Banking
Introduction
Investment Vs Merchant Banking
Merchant Banking provide a fee based service to companies. Traditionally into underwriting.
Meaning & Definition
Functions of Investment Banks
Types of Investment Banks
Investment /Merchant Banking Services
Issue Management
Role of Merchant banks in Issue management
Issue management: Pre-issue and Post-issue
Pre-issue Management: Steps involved
Preparation of Prospectus
Is an invitation issued to the public to offer for purchase/subscribe shares or debentures of the company
Content of Prospectus:
Intermediaries to the issue
Pre-issue obligations – SEBI Guidelines
Steps involved:
Changing Landscape of Investment Banking
Securities and Exchange Board of India (SEBI)
1. Registration of Merchant bankers
Categories of Merchant Bankers
Capital Adequacy Requirements (CAR)
2. Responsibilities of merchant banker
Responsibilities of lead merchant banker - Lead manager should not agree to manage an issue unless his roles and responsibilities pertaining relating to disclosures, allotment and refund are clearly defined and a copy is submitted to SEBI at least a month prior to opening of the issue.
-No lead merchant banker should agree to manage an issue if the body corporate is an associate of the lead merchant banker.
Underwriting Obligations - Every lead merchant banker must take at least 5 per cent of total underwriting commitment or Rs 25 lakh whichever is less. If it is unable to do so then it must make an arrangement with another merchant banker to the same issue and keep SEBI informed.
Appointment of Compliance officers - Every merchant banker must appoint a compliance officer who will monitor compliance to the Act and other relevant rules and regulations.
- He shall report to SEBI any non-compliance observed and ensure that deficiencies observed by SEBI in draft prospectus do not recur. FirstRanker.com
3.Code of conduct for Merchant bankers
4. Procedure for inspection
5. Procedure for action in case of default
Suspension of registration may be imposed:
Cancellation of registration – Cancellation can be imposed
6. Amendments to SEBI (Merchant bankers) Regulations
SEBI Regulations for Intermediaries
Intermediaries are stock brokers, sub brokers, share transfer agents, bankers, underwriters, portfolio managers, investment advisers and other intermediaries associated with the securities market specified by the SEBI
Regulations
3. Code of Conduct
5. Action in case of Default
Underwriting
Devolvement
Business Model
Add: Investment income ..........
Less: Underwriting Expenses ..........
Profit ...
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In case of book built issue:
1. In case an issuer company makes an issue of 100% of the net offer to the public through 100% book building process:
In case of Fixed price issue
1. A minimum 50% of the net offer of securities to the public shall be made available for allotment to retail individual investors
2. The balance net offer of securities to the public shall be made for allotment to :
Price fixation under underwriting
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Placement of the Issue
III Semester MBA
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Investment Banking and Financial Serv16 MBA FM 302
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Unit 1
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Investment BankingFirstRanker.com
Investment Banking
Introduction
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- Modern banking finds its roots in Italy in the 13th century. World's oldest bank, Monte di Pietà, or Monte Pio was set up in 1472.
- Traditionally banks are either engaged in commercial banking or investment
- In commercial banking the institution collects deposits from clients and gives to businesses and individuals.
- Investment banking is a field of banking that helps companies in acquiring
- Investment banking is a service oriented function that transfers capital from the to those who can use it.
- Investment banking helps the companies in generating funds either by selling in capital market or through venture capital or private equity.
- In India investment bankers are often called as merchant bankers.
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Investment Vs Merchant Banking
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Investment Banking provide both fee based and fund based service to companies are traditionally engaged in trade financing activities.Merchant Banking provide a fee based service to companies. Traditionally into underwriting.
Meaning & Definition
- Investment bank is a financial intermediary that performs a variety of services, underwriting, acting as an intermediary between a securities issuer and the public, facilitating mergers and acquisitions, and acting as a broker and adviser for institutional clients.
- SEBI defines Merchant banker “ any person who is engaged in the business of issue management either by making arrangements regarding selling, buying, or dealing to securities as manager-consultant, advisor or rendering corporate advisory service in relation to such issue management".
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Functions of Investment Banks
- Underwriter - The institution or an agency who undertake to take up shares if subscription from public is not received is known as Underwriter. Even though it is not obligatory they play a significant role in the development of the primary issuing company in consultation with the merchant banker appoints underwriter and announces in the prospectus.
- Banker – Banks who are engaged in the function of acceptance of application, application money and refund of money to applicants to whom securities are allotted are called Bankers to an issue
- Broker are concerned with procurement of the subscription to the issue. The brokers of the issue and brokers together form the distribution channel for the issue.
- Registrar carry on the activities such as collecting applications, keeping records of applications, money received and paid, assisting companies in deciding allotment in consultation with stock exchange, finalising allotment list, Processing/dispatching allotment letters, refund orders, certificates etc.
- Debenture trustees – trustees who are appointed to safe guard the interest of debenture holders are called debenture trustees. They have to be registered with SEBI.
- Portfolio Managers – Those who undertake/advise/direct management of securities on behalf of their clients. Portfolio involves entire range of holdings of a person.
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Types of Investment Banks
- Full service Investment banks it operates on a global basis and provides a complete set of services to their clients. These are large investment firms which serve large corporations.
- Regional Investment banks - concentrated in a particular region with specialised geographic knowledge and a variety of product capabilities. These firms are also known as specialty investment banks.
- Boutique Firms – small investment banks organised at a local level that specialise in a particular industry or product. They are independent firms whose focus is on advisory services such as mergers and acquisitions.
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Investment /Merchant Banking Services
- Corporate counselling
- Project counselling
- Loan syndication
- Management of capital issues
- Corporate Advisory services
- Portfolio management
- Advisory services to mergers and takeovers
- Consultancy to sick industrial units
- Leasing
- Foreign currency financing
- Providing venture capital financing
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Issue Management
- Management of issues related to raising funds through various instruments like shares, debentures etc
- Issue management involves planning, managing and procuring of private subscription to the securities and offering securities to existing share holders of the company.
- Section 67 of the Companies Act stipulates that any offer for more than 50 persons is a public issue and has to comply with the Act and SEBI guidelines.
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Role of Merchant banks in Issue management
- Appraisal of projects – is a process of investment review, and evaluation of the project. Includes preparation of a project report, deciding upon the financing pattern and appraising the project report with the financial institutions.
- Designing of capital structure – refers to the composition of its capitalisation. It includes all long term financial resources such as loans, reserves, shares and debentures. Financial structuring includes determining the right debt- equity ratio and framing of appropriate capital structure theory.
- Capital structure instruments include – Equity shares, Preference shares, Retained earnings/ ploughing back of profits, Debentures, Sweat equity shares, Warrants, Secured premium notes (SPNs), Derivatives.
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Issue management: Pre-issue and Post-issue
Pre-issue Management: Steps involved
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- Obtaining SEBI Approval for the issue
- Preparation of the prospectus and approval by SEBI
- Selection of the registrar for the issue, advertising agencies, underwriters, bankers and brokers.
- Arranging issue and publicity campaign
- Pricing the issue
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Preparation of Prospectus
Is an invitation issued to the public to offer for purchase/subscribe shares or debentures of the company
Content of Prospectus:
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- General information about the company
- Capital structure of the company
- Terms of the present issue
- Dates of opening and closing of the issue
- Name, address, functions and remuneration of Directors
- Auditors report with name and address of the auditors
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Intermediaries to the issue
- Merchant Bankers to the issue or book running lead managers (BRLMs)
- Registrar to the issue
- Bankers to the issue
- Underwriters to the issue
- Brokers
- Advertising agencies
- Printers
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- Due Diligence
- Payment of requisite fees
- Submission of documents
- MOU
- Inter-se allocation of responsibilities
- Due Diligence Certificate
- Certificate in case of further issue by Listed companies
- Undertaking
- List of promoters group
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Pre-issue obligations – SEBI Guidelines
- Appointment of Intermediaries
- Merchant bankers
- Co-managers
- Other intermediaries
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- Underwriting
- Offer document made public
- Dispatch of issue material
- No complaints certificate
- Mandatory collection centers
- Authorised collection agents
- Advertisement for rights post-issue
- Appointment of compliance office
- Abridged prospectus
- Agreement with depositories
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Post - issue ManagementSteps involved:
- To verify and confirm that the issue is subscribed to the extent of 90% including underwriters obligation
- To supervise and co-ordinate allotment procedure by the registrar as per Stock Exchange guidelines
- To ensure issue of refund order, allotment letters within the stipulated time limit of 10 weeks after the closure of the subscription
- To report periodically to SEBI about progress in allotment and refunds.
- To ensure listing of securities at the stock exchange
- To attend the investors grievances about the public issue.
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Post-issue obligations - SEBI guidelines- Post-issue monitoring reports
- To be submitted third day from the date of allocation in the book built portion or one day prior to the opening of the fixed price portion whichever is earlier. It is 3days from the date of closure of the issue in other cases.
- Final post-issue report within 78 days from the date of closure of subscription in case of book building and public issue, but 50 days in case of rights issue.
- Redressal of investors grievances
- Co-ordination with intermediaries
- Stock invest
- Underwriters
- Bankers to an issue
- Finalising the basis of allotment
- Dispatch of Share certificate
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Changing Landscape of Investment Banking
- Till 2007 Investment banking business was very profitable
- As a result of the sub-prime mortgage crisis in US investment banks collapsed
- Several acquisitions took place in 2008.
- Impact was felt by the Indian Investment banks.
- Growth rate of Indian economy also slowed down.
- Indian Investment banks were forced to design new strategies for survival.
- Several important trends have emerged:
- Faster growth opportunities for countries.
- To maintain sustained earnings growth, firms pursue a strategy by diversifying and balancing revenue streams.
- Investment banks pursue balance sheet de-risk and diverse funding
- Regulatory compliance and high standards of governance have become an integral part of the business.
- Investment banks were expanding the products and services geographically to create financial supermarkets to the world.
- Investment banks rely on advanced technologies in the front office to enhance speed, high-frequency trading, as well as fast and accurate analytics for client services.
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Securities and Exchange Board of India (SEBI)
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- Established in 1988.
- Upgraded as a statutory board in 1992.
- Securities and Exchange Board of India Act was passed on 30th January, 1992.
- Objectives of SEBI:
- To protect the interest of investors in securities
- To promote the development of the securities market
- To regulate the securities market
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- Functions of SEBI:
- To register and regulate the workings of stock brokers
- To register and regulate the bankers to an issue
- To control and regulate securities market
- To exercise the powers under securities contracts Act
- To regulate the working of mutual funds
- To control fraudulent and unfair trade practices relating to securities
- To control investment business
- To regulate issue of securities
- To regulate takeovers
- To regulate insider-trading in securities.
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SEBI Regulations for Merchant bankers- SEBI regulates capital markets in India.
- SEBI regulations on merchant banking:
- Registration of merchant bankers
- Responsibilities of merchant bankers
- Code of conduct for merchant bankers
- Procedure for inspection
- Procedure for action in case of default
- Amendments to SEBI (Merchant bankers) Regulations
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1. Registration of Merchant bankers
Categories of Merchant Bankers
- Category - I
- Any activity under issue management including preparation of prospectus, determination of financial structure, issue, allotment, refund of subscription
- To act as adviser, consultant, co-manager, underwriter, portfolio manager
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- Category - II
- To act as adviser, consultant, co-manager, underwriter, portfolio manager
- Category - III
- To act as underwriter, adviser, and consultant to an issue
- Category - IV
- To act only as advisor or consultant to an issue.
- Category II, III, IV were abolished through an amendment, dated 13th January, 1997 to the SEBI Merchant Bankers Regulation, 1992. Since then only category I exist.
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Requirement for granting the certificate- Shall be a body corporate other than an NBFC
- Has the necessary infrastructure to effectively discharge its activities
- Should have minimum two experienced employees to conduct business
- Should fulfill the capital adequacy requirement as specified
- His partner, director or principal officer should not be involved in any litigation connected with the securities market which has an adverse bearing on the business of the applicant
- His partner, director or principal officer has not been convicted for any offence or been found guilty of any economic offence
- Should have the professional qualification from an institution recognised by the government in finance, law or management
- Should be a fit and proper person.
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Capital Adequacy Requirements (CAR)
- CAR shall not be less than net worth of the person making the application for grant of registration.
- Net worth not less than Rs Five crores
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- Application must be submitted to SEBI in form A and SEBI will issue certificate of registration in form B. Application fee Rs 5000
- On grant of certificate the applicant shall be liable to pay the fees in accordance with schedule II
- Rs 20,00,000 for initial registration.
- Certificate of initial registration remains valid for 5 years.
- For renewal, apply in form A three months before the expiry of certificate
- Renewal application is to be treated similar as a fresh application
- After the verification of application SEBI will grant certificate in form B
- Applicant is liable to pay the fees of Rs. 9,00,000 for permanent registration
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2. Responsibilities of merchant banker
- Code of conduct - As per schedule III no merchant banker, other than a bank or a public financial institution and primary dealer as per RBI can engage in any activity other than securities market.
- Maintenance of books of accounts copy of B/S, P&L account, audit report and a statement of financial position. Information to SEBI when such documents are maintained and furnish such documents when required by SEBI
- Submission of half yearly results – furnish to SEBI half yearly unaudited financial results with a view to monitor the capital adequacy of merchant banker
- Appointment of lead merchant bankers - Every issue must have a lead merchant banker. Lead merchant banker must sign an agreement with the company setting out their mutual rights, liabilities and obligations regarding the issue, allotment and refund.
- Restriction on appointment of lead merchant banker - Issue size of less than 50 crore - 2 merchant banker Rs. 50-100 crore - 3.. .Rs 100-200 crore - 4.. .Rs. 200-400 crore - 5......... more than Rs500 crore - 5 or more ........ as agreed by SEBI
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Responsibilities of lead merchant banker - Lead manager should not agree to manage an issue unless his roles and responsibilities pertaining relating to disclosures, allotment and refund are clearly defined and a copy is submitted to SEBI at least a month prior to opening of the issue.
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- In case of more than one lead merchant banker responsibilities must be demarcated.-No lead merchant banker should agree to manage an issue if the body corporate is an associate of the lead merchant banker.
Underwriting Obligations - Every lead merchant banker must take at least 5 per cent of total underwriting commitment or Rs 25 lakh whichever is less. If it is unable to do so then it must make an arrangement with another merchant banker to the same issue and keep SEBI informed.
Appointment of Compliance officers - Every merchant banker must appoint a compliance officer who will monitor compliance to the Act and other relevant rules and regulations.
- He shall report to SEBI any non-compliance observed and ensure that deficiencies observed by SEBI in draft prospectus do not recur. FirstRanker.com
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3.Code of conduct for Merchant bankers
- Regulatory/Statutory compliance
- Confidentiality
- Accurate record keeping
- Conflict of interest
- Ethics in conducting business
- Public Disclosure and Reporting
- Gifts, entertainment and favours etc
- Inside information
- Trade secrets
- Compliance responsibility
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4. Procedure for inspection
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- SEBIs right to inspect - SEBI may appoint one or more persons to inspect books of accounts/records/documents -Purpose of inspection is to ensure proper book keeping, compliance with law, to investigate into complaints, to investigate suo moto (own motion) in investors interest.
- Notice before inspection – SEBI shall give reasonable notice to the merchant banker before inspection. During the course of his inspection the merchant banker is bound to discharge his obligations.
- Submission of reports to SEBI - Inspection authority shall submit the inspection report to SEBI
- Action on inspection report - After consideration of the inspection report SEBI or chairman may take action as deem it fit.
- Appointment of auditors - SEBI may appoint auditors to inspect the books of accounts provided that the auditors have the same powers as inspection authorities.
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5. Procedure for action in case of default
Suspension of registration may be imposed:
- When the merchant banker violates the provisions of the Act
- Fails to furnish information or furnish wrong information
- Doesn't submit periodical information as required by SEBI
- Doesn't co-operate in enquiry conducted by SEBI
- Fails to resolve complaints by investors or fails to give satisfaction to SEBI
- Indulges in price rigging, cornering and manipulation
- Fails to maintain Capital adequacy requirement
- Fails to pay the fees
- Violates conditions of registration
- Fails to carry out his obligation as specified in the regulation
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Cancellation of registration – Cancellation can be imposed
- Indulges in deliberate manipulation or price rigging
- Financial position deteriorates to the extent that SEBI feels that it is not in the interest of the investors.
- Guilty of fraud or convicted in a criminal offence
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- On receipt of the report from enquiry officer SEBI may issue show-cause notice
- Merchant banker shall reply to SEBI within 21 days of receipt of the notice
- SEBI passes order within 30 days
- Every order must be self containing giving reasons for the conclusions imposed.
- SEBI shall send a copy of the order to the merchant banker
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- Merchant banker cease to carry-on any activity from the date of suspension for the period of suspension
- Merchant banker cease to carry-on any activity from the date of cancellation
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- Must be published by SEBI in at least two daily news papers
- Any aggrieved merchant banker may appeal to Securities Appellate Tribunal having jurisdiction in the matter.
6. Amendments to SEBI (Merchant bankers) Regulations
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Amendments dated December 9, 1997- Applicant should be fit and proper person
- Seek separate registration for its underwriting or portfolio management
- Categories like I,II,III,IV are dispensed with
- A merchant banker other than a bank a public financial institution is prohibited from carrying any activities not pertaining to the securities market
- Applicant should be a corporate body other than a non-banking financial company
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- Time provided up to June 30th 1998 sever their activities not pertaining to securities market
- Merchant banker is exempted by Reserve Bank of India regarding capital registration, maintenance of liquid assets, and creation of reserves if he fulfills certain conditions.
- Amendments 2014 – Regarding Registration fees and change of control
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SEBI Regulations for Intermediaries
Intermediaries are stock brokers, sub brokers, share transfer agents, bankers, underwriters, portfolio managers, investment advisers and other intermediaries associated with the securities market specified by the SEBI
Regulations
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1. Registration of intermediaries- Application to act as a intermediary should be made through concerned stock exchange.
- Eligibility of the applicants will be examined and is forwarded along with fee and its recommendations to SEBI within 30days of receipt of application.
- Any change in in the material furnished should be updated by the intermediary within 15days of the occurrence of change.
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- General obligations
- Redressal of investor grievances
- Appointment of compliance officer
- Investment advice
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3. Code of Conduct
- Investor protection
- Disclose of information
- Conflict of interest
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5. Action in case of Default
- Procedure
- Effect of debarment
- Surrender of certificate of registration
- Securities Appellate Tribunal(SAT)
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Underwriting
- SEBI Rules 1993 defines Underwriting as an agreement with or without commitment to subscribe to the securities of a body corporate when the existing shareholders of the body corporate or the public do not subscribe to the securities offered to them.
- Underwriting is similar to Insurance.
- Person who engages in the business of underwriting is called Underwriter.
- Charges for the service rendered is called underwriting commission.
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- Relieves the company from the risk and uncertainty of selling the securities
- Specialised knowledge of the capital market
- Builds up investors confidence in the issue of securities
- Company is assured of the availability of funds
- Helps in raising capital for new enterprises and the expansion of the existing ones
- Facilitates the geographical dispersal of securities
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- Firm Underwriting
- Sub-underwriting
- Joint underwriting
- Syndicate underwriting
- Full underwriting
- Partial underwriting
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Devolvement
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- If an issue is unsubscribed, underwriter is required to subscribe to the remaining shares.
- Underwriter will not hold the shares for too long. He will sell at a loss.
- SEBI publishes guidelines relating to the extent of devolvement.
- The issuer company will communicate the devolvement by a preliminary notice within7 days of closure of issue followed by a final notice with the auditors certificate within 18 days.
- Underwriter shall subscribe subscription within7 days of the final notice
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- The syndicate member shall underwrite all shares allocated to bidders who have bid through them, receive underwriting commission on such bids and devolved shares ,if any.
- If the underwriting is different from bids allocated to bidders then members obligation is restricted to the amount underwritten by him.
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Business Model
- Intention is to collect more in premium and investment income than to pay out in losses, and to offer competitive price which the consumers can afford.
Add: Investment income ..........
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Less: Loss incurred ...........Less: Underwriting Expenses ..........
Profit ...
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AllotmentIn case of book built issue:
1. In case an issuer company makes an issue of 100% of the net offer to the public through 100% book building process:
- Not less than 35% of the net offer to the public shall be available for allotment to retail individual investors.
- Not less than 15% for non-institutional investors
- Not more than 50% for qualified institutional buyers
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In case of Fixed price issue
1. A minimum 50% of the net offer of securities to the public shall be made available for allotment to retail individual investors
2. The balance net offer of securities to the public shall be made for allotment to :
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- Individual investors other than retail individual investors
- Other investors including corporate bodies/institutions irrespective of the number of securities applied for.
Price fixation under underwriting
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- Issuer in consultation with the Merchant Banker will decide the price and SEBI does not play any role.
- An issuer company is allowed to freely price the issue.
- Book building is a process by which demand for the securities proposed to be issued by a body corporate is elicited and built up and the price for the securities is assessed on the basis of the bids obtained for the quantum of securities offered for subscription by the company.
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| Features | Fixed price process | Book building process |
|---|---|---|
| Pricing | Price at which the securities are offered is known in advance to the investors | Not known in advance to the investors. Only an indicative price range is known. |
| Demand | Demand is known only after the closure of the issue | Known every day as the book is built |
| Payment | Made at the time of subscription wherein refund is given after allocation | Payment only after allocation |
Placement of the Issue
- Through Prospectus - invites offers for
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