Unit 3

Introduction:

Finance is the lifeblood of business. Every business need money. If the business does not get enough
financial facilities to meet its needs, it becomes difficult to run the business efficiently. Financial
needs of business are mainly short term and long term. Short-term financial needs are working
capital needs. Its requirement is usually for a maximum period of one year. A long-term financing
requirement becomes necessary for business fixed assets. Such requirements are for a period of
more than one year. Such requirements are mostly met by ordinary shares, preference shares,
debentures, loans from financial institutions etc. In this chapter we will learn about Ordinary (Equity)
Shares, Preference Shares and Debentures etc.

2. Source of Guarantee (Guarantee Fund):

As an important source of financing most companies raise the mood by issuing securities in the
money market. Security is an indispensable source of finance for building permanent capital.
Companies raise capital by issuing securities such as shares, debentures etc.

Source of Guarantee (Guarantee Fund):

Funds raised through securities like shares, debentures are called collateral sources (guarantee
funds. It is also known as corporate collateral. Through this type of source, the company's

The child plays a major role in the decision-making area.

Salient features of a security source: (1) It is a long-term source of finance.

(2) Also known as corporate security.

(3) Mutual funds include shares and debentures. (4) Plays a major role in determining the capital of
the company.

(5) Payment of money is very limited.

(6) is a major part of the total investment of the company.

A share is a small part of a company's capital. A company raises its capital from a number of
investors, each of whom issues a certificate of a certain value, each called a share certificate,
representing the amount they have invested. The small units into which a company divides its capital
are each called a 'share'. The holder of such shares is called shareholder. If we look at the definition
of share,

According to India's Companies Act, 2013, a share means "part of the share capital of a company,
including 'stock'".

Justice Farewell said in a case judgment that “the object of determining, firstly, the liability and
secondly, the interest of the shareholders in the company, is the pecuniary interest of the
shareholders.” Put simply, a company divides its capital into smaller parts and this to each part

The features of the share are as follows:

(1) Shares are part of the capital of a company.

(2) For a shareholder, shares are his movable property.

(3) Subject to the provisions of the articles of association of the company, it may be substituted.

(4) A share certificate is issued to the shareholder.

(5) Each share is numbered.

(6) Dividends (part of the company's profits) are received on the shares.

(7) A share represents a shareholder's interest in a company in the form of money. (8) There are
different types of shares. E.g., equity share, preference share etc.

(9) It determines the liability and rights of the shareholders towards the company. D. E.g., liability to
pay due instalments on shares and right to attend meetings, vote, appoint proxies etc.
2.1 Types of Shares:

Companies can issue three types of shares: (1) Preference Shares, (2) Ordinary Shares and (3)
Deferred Shares. However, public companies can issue only two types of shares. Share types and sub-
types in diagram form below

3. Ordinary or Equity Share (Meaning):

Ordinary or equity shares are the backbone of the company's capital structure. Ordinary
shareholders are the real owners of the business and bear the risks of the business. After the
preference dividend is paid, the amount is carried to the reserve and then the profit is received by
the ordinary- shareholders. So they bear the real risk of the business. That is why they must be given
severance pay in company meetings."

The money invested in ordinary shares is a permanent investment and the question of return does
not arise except on dissolution. If the returns on ordinary shares are reasonable considering the
business risk, the shareholders buy such shares, if the capital market is booming, investors are willing
to buy such shares, but if there is a recession, it is very difficult to sell these shares, but in normal
times, attracting investors to buy these shares So show them that the company will be able to
compensate them fairly. An ongoing company has to point out its past success and potential in the
prospectus. In these circumstances, the success of an advertisement depends to some extent on how
past information and future possibilities are presented. One of the pitfalls with a new company is
that investors have no idea how much it will return. He should be convinced through advertisement
that he can get more return on his investment than bank interest. Of course, investors 5

They should not expect such returns from the year itself, but after three-four years they should be
sure that they will get the expected returns. This assurance is given to them under the following
circumstances:

(1) There is sufficient demand in the market for the good or service that the company intends to
produce, (2) There is a limited number of niches in the field or there is sufficient scope for the
company's fan success despite competitors. (3) The directors of the company and other persons
associated with it are reputable and honest. Some of them have this type of voiding disorder.

3.1 Advantages of Ordinary Shares (Company wise):

The advantages of ordinary shares in terms of the company can be stated as follows:

(1) Exemption from compensation burden: It is mandatory for the company to pay dividend on
ordinary shares and not to pay dividend if there is a temporary downturn in Jayani's business and
non-profit. If not, compensation has to be paid. Also, even when profits are made, it is at the
discretion of the directors whether to pay dividends or not. Thus, these shares free the company
from the burden of paying a fixed return and act as a kind of hedge when the company is in dire
straits.

(2) Permanent capital: When money is raised through ordinary shares, the company keeps that
money forever. They are never refundable during the lifetime of the company. The money has to be
returned only when the company is dissolved. While the company has to return the debenture
money in the long run.

(3) Exemption from encumbrance: The company does not have to mortgage any property or give any
security to raise money by issuing ordinary shares. As a result, the assets of the company remain free
from encumbrances and more money can be obtained against those assets if required.

(4) Creditworthiness: Higher the ownership capital, higher the financial viability of the company.
Creditors are more willing to lend money to a company with more equity shares, as equity share
capital provides protection to creditors. Such equity capital can be used to return money to creditors
if the company is in trouble.

(5) Ease of raising capital: Good companies can earn good profits by issuing shares at a premium
during boom times. Also, such shares sell quickly in boom times, no underwriting arrangements are
required, and the company can easily raise capital. Thus, money can be raised at low cost.

(6) Wide distribution : As such shares are generally low in value, capital can be raised on a large scale
by attracting many individuals in the society - pooling their savings. Also, as many small investors buy
shares, few managers can even maintain their control over the company, since small shareholders
rarely take an interest in - or attend to - the management of the company.

(7) Strong capital structure : Through equity shares, the capital structure of the company becomes
strong and sound, as it provides permanent capital to the company and only on its basis the
company can borrow more money.
* 3.2 Disadvantages of Ordinary Shares (Company wise):

Some of the disadvantages of raising capital through ordinary shares are as follows:

(1) Interference with management: If ordinary shares are issued, the shareholders must be given the
right to vote in the general meeting of the company. Sometimes, this leads to individuals forming a
group to permanently control the management of the company. A group management by proxy war
between two rival groups in the management of the National Rayon Corporation

The example of being possessed is significant. Thus issuing more and more ordinary shares creates
interference in management.

(2) Trading in Equity : If the company issues only ordinary shares, the benefits of trading in equity
cannot be obtained by the company. (When a company raises some capital by issuing debentures or
preference shares, it is called trading on equity or trading on equity. By doing this, a higher rate of
dividend can be paid on equity shares.) Profits from issuing debentures or preference shares at low
interest rates The company loses.

(3) Concentration of Assets: When the company issues additional shares in future, as per company
law, it has to be offered as right shares to the existing equity shareholders of the company. This leads
to concentration of wealth in the hands of a few individuals.

(4) Overcapitalization : In case of excessive enthusiasm, if the company has initially issued too many
ordinary shares, a situation of overcapitalization arises. It may not be adequately compensated and
ordinary share capital may not be refunded. This affects the reputation and creditworthiness of the
company.

(5) Encouragement of speculation : In boom times company wastes most of its profits in paying high
dividends. So during recession the company cannot pay good dividends and speculation is
encouraged.

(e) Excessive cost: When a new company or a financially weak company issues equity shares,
investors do not come forward to buy its shares. So he has to underwrite his shares, paying a
commission on the same. Thus the cost of issuing shares is higher.

3.3 Advantages of Ordinary Shares (from the point of view of the shareholder):
(1) High Dividend : Despite the risk in this type of shares, there is a good earning opportunity for the
investors. When the company makes good profit, they get very high rate of dividend, which is not
possible in other types of shares. Preference shares get fixed dividend and debentures also get fixed
interest.

(2) Share in management: Ordinary shares carry undivided voting rights, i.e. their voice in the
management of the company.

need to stay Ordinary shareholders also have the power to elect the directors of the company. About
a very important matter

The approval is to be obtained by passing a resolution in the meeting of the shareholders, the
management of the company in the annual meeting of the company

And may have questions about administrators. (3) Benefit of right shares: According to company law,
when the company issues additional shares, the existing shareholders of the company have the right
to receive them. Even when progressive companies issue additional shares, the existing shareholders
get the new shares at a much lower price than the market price, which the selling shareholders can
earn a good profit.

(4) Other benefits: Share prices go up when the company prospers, so that investors can make a
good profit if they want to sell the shares or borrow money at its conclusion. In addition, coupons
are given to them for discounting the price of the company's products.

3.4 Disadvantages of Ordinary Shares (from the point of view of the shareholder):

(1) Uncertainty of Dividends: One is not sure how much investment return one will get, because the
dividend

Shareholders have no voice in what the directors decide each year. Also, since the rate of dividend is
not fixed, proper dividend is not received. (2) Capital Risk : The capital is finally returned to the
ordinary shareholders when the company is dissolved. Financial

If the dissolution is due to hardship, the chances are that they rarely get a small return on capital.
Thus their capital is truly risk capital.
(3) Non-voice in management : They have a voice in the management of the business even though
they risk their own money in the business of the company. They cannot participate in the
management of the company in any way other than voting in the general meeting of the company.
Thus, even though they are business owners, they do not have any special rights.

(4) Other Disadvantages: When the company is unable to declare a good dividend, the prices of such
shares fall. So the investors suffer. It also reduces the cost of raising money on shares. Also, such
shares are not liquid, as the company does not return its money except on liquidation.

4. Rights of Ordinary Shareholders:

In a sense, the owners of a company are ordinary shareholders. So there is no need for their
protection, but in fact ownership and management are different. With complete power in the hands
of the managers, there is a high possibility that they will exploit the shareholders. Hence the laws of
almost every country provide for the protection of the interest of equity shareholders

Following are their main rights:

Voting rights : All important decisions of the company cannot be taken without the consent of such
shareholders. They are empowered to exercise their vote to appoint the company's managers
(directors), to amend its memorandum or articles, and to vote to remove managers.

Right against acts beyond the authority of the company: When ordinary shareholders buy shares
they agree to risk their money only for the purpose stated in the memorandum of the company. That
is, they do not know or agree that their money will be used for any work other than the goal stated
in the memorandum. So, if companies do things beyond their authority, any shareholder can
challenge that work in the court.

Right to receive right shares: When a company issues additional ordinary shares, shareholders are
offered those shares in proportion to their outstanding shares. These shares are called right shares or
right shares. By doing so, the existing shareholders retain their rights over the company.

Right of conversion: In a public company, shareholders can easily convert their shares without any
restrictions. Although there is some sort of control over the transfer of shares in a private company,
the transfer cannot be prohibited. Also, since shares can be exchanged easily in the stock market, a
person who does not want to hold the shares can sell the shares immediately.
Right to Management Information : Right to get full information about the management of the
company's business. So once a year they must get information about the business. Also, they can
present their grievances and make necessary suggestions in the Annual General Meeting.

Other Rights : If there is excess profit in the company, the right to share in the excess profit. Besides
this

They are also entitled to share in surplus money on dissolution. Some important rights are
mentioned above, but shareholders can exercise these rights only when they

- To be aware of one's rights. The general experience in this country is that shareholders rarely attend
the annual general meeting of the company. They rarely care about their own interests. However,
shareholders can protect their interests if there are associations of shareholders like the Bombay
Shareholders Association.

5. deferred Share:

Such shares are usually of very low value, but have relatively high voting rights. Usually such shares
are given to the founders of the company as their remuneration either partially paid up or fully paid
up. Such shares are considered speculative, as a small amount of investment carries a lot of voting
power. Also, they get some notes on ordinary shares but not all. They get the dividend last,
preference and ordinary shareholders are given the dividend first. As their right to dividend is
deferred, they are called deferred shares. They are also called founder's shares as they are given to
the founders of the company in return for their services. Rs. 30 price of deferred shares of TISCO at
Rs. 3,200 was reached.

According to Companies Act of India 2013, now limited by shares companies cannot issue such
shares. Only independent private companies can issue such shares. Such shares have been abolished
to eliminate unfairness and speculation in the matter of unequal voting rights and distribution of
dividend on ordinary shares.

(1) Unequal Voting Rights: Such shares are of lower value and yet carry the same voting rights as
ordinary shares of higher value Rs. 10 on one deferred share and one vote of Rs. One ordinary share
of 100 would also carry one vote.

(2) Injustice in Dividends : When deferred shares were issued, the majority of the profits were
distributed among the deferred shareholders by paying a lower dividend on the ordinary shares. In
this way the ordinary shareholders would be treated unfairly.
(3) Speculation: Although these shares are of low value, they get all the profits at the end. Small
fluctuations in profits would lead to large changes in dividends on such shares, which would
encourage speculation.

(Preference Shares)

Shares which are given some special rights in comparison to ordinary shares are called preference
shares. According to the Companies Act of India, the shares on which preference is given in terms of
receiving dividends and in terms of getting back capital in case of dissolution of the company are
called preference shares.

The rate of dividend on these shares is fixed. However, whether or not to give dividend on these
shares is at the discretion of the directors. Even if the profit in Pampa is sufficient, the directors may
decide that no dividend will be paid on the preference shares because the profit is necessary for the
development of the business. Like shares they bear some risk, but they do not fully benefit from the
company's performance. These types of shareholders are entitled to the following rights over
ordinary shares.

(a) In respect of dividends : Before dividends are distributed to ordinary shareholders such
shareholders

(b) Preference shareholders have priority over ordinary shares in the matter of return of capital.
Capital can be returned only when the company is dissolved.

(c) Preference shareholders generally have no right to participate in management. Matters pertaining
to their interest 1 have the right

6.1 Advantages of Preference Shares (Company Point of View) ! |

(1) Attractiveness to Investors: Issuance of this type of shares can attract certain type of minded
investors. Some investors do not want to take too much risk, yet want to get a higher return than
they can get on a debenture. Such investors prefer preference shares. In this way the savings of a
large section of the society can be increased.

(2) Not onerous: Although the rate of interest on such shares is fixed, it is not compulsory to issue a
bond on them. Thus this seed is not fixed as the interest burden of debenture is fixed, so it is a relief
to the company in times of recession or when the company is experiencing financial difficulties.
(3) Advantage of trading on equity : Since the rate of dividend on preference shares is fixed, the
dividend tax on ordinary shares can be increased as the company progresses. In other words, trading
on company equity can be profitable.

(4) Assets exempt from credit : When a company issues preference shares, the company-assets are
not mortgaged as in the case of debentures. Hence the assets remain free to raise money through
debentures in the future, on the contrary when the company does not have enough assets to issue
mortgage debentures, preference shares are used.

(5) Non-interference in management: Preference shares are also useful in maintaining control over
the management of the company. Additional capital can be raised by issuing non-voting preference
shares, which do not interfere with the running of the business. Even if the preference shares are
voted, they cannot have an effective voice in the management as their votes are very small.

(e) Return of capital: If the company issues redeemable preference shares, the company can reduce
the dividend burden by returning the share capital when the company has accumulated sufficient
funds. Thus the capital does not remain on a permanent seed like an ordinary share.

9.2 Disadvantages of Preference Shares (Company Point of View):

Among the reasons why only 10 to 12 percent of the share capital raised by companies in India is
raised through 2com preference shares, the following limitations can be presented:

is (1) Dividend Burden: Due to this type of shares, the company is not required to pay dividends at a
fixed rate. Cumulative preference shares in particular create a permanent dividend burden, as the
outstanding dividend has to be paid only in the future. Rate of Dividend on Preference Shares over
Debentures General

(2) Difficulty in taxation : Dividend interest is allowed as an expense out of profit, whereas
preference dividend is not. So the company has to pay income tax at a higher rate. Due to this,
Preference Shares do not have the same benefits as debentures in relation to trading on equity.

6.3 Advantages of Preference Shares (from the point of view of shareholders):

(1) Safe investment: Investment in this type of shares is safer than ordinary shares. The reason is that
preference shareholders have the first return of their capital when the company is wound up than
ordinary shares. Second, since its dividend rate is fixed, its share price does not fluctuate too much.
(2) Fixed income : The rate of dividend on preference shares is fixed and the dividend is paid at that
rate as it is paid. If no dividend is paid in one year on Cumulative Preference Shares, the previous
dividend is also received in the next year when the profit is made and the dividend is paid.

(3) Dividend Income : The rate of dividend is higher on such shares as compared to debentures and if
they are participating preference shares, they also get an additional share in the prosperity of the
company. Of course, these types of shareholders do not get the benefit that equity shareholders get
in the company's prosperity.

9.4. Disadvantages of preference shares (from the point of view of shareholders):

(1) No voting rights: Preference shareholders have to lose their voting rights in exchange for what
they get. They remain only individuals who provide capital. Of course, there is no restriction on giving
preference shareholders a vote within the company, but managers usually prefer to issue non-voting
preference shares.

(2) No capital gains: The reason why preference shares have not become very popular among
investors is that investors in India are more interested in profiting from fluctuations in the market
price of shares. Whereas the rate of dividend on preference shares is fixed and they generally do not
share in excess profits, the chances of price fluctuation of such shares are very less.

(3) Low return : Preference shareholders are paid dividends at a fixed rate only. They are not given a
share in the excess profits of the company, unless they are participating preference shares. Also,
preference shares do not get dividends when there is less profit or loss, non-cumulative preference
shareholders lose their dividend in such circumstances.

(iv) No other benefits: Against the benefits of a purchaser he has to lose in many respects. They do
not have benefits like bonus shares. They do not get the benefit of right share, they are often
disenfranchised.

7. Debenture (Meaning):

A company borrows money from the public when it needs money for a long period of time, but can
repay the money after a few years. In this way, the company issues a debenture, known as a
debenture, to the money lender. A company accepts its debts through debentures. It mentions the
repayment period of the debenture, its terms, rate of interest, mortgaged properties etc. If we give a
simple definition of Debenture, then a deed is a document showing the obligation of a company to
pay a specified amount after a specified period in exchange for cash or property and to pay interest
at a fixed rate during that period. Debenture holders are not owners of the company, but creditors of
the company. That is why a debenture is called a creditor's security. In America, the term 'bond' is
commonly used for debentures.

7.1 Characteristics of Debenture:

Some of the characteristics of a debenture are as follows:

(1) An express promise is made to the debentures that they will be returned on a certain date.
However, this period can range from a few days or months to several hundred years. For example,
the First Gold 4 percent bond issued by the West Shore Railroad Company of America has a maturity
date of It is in 2361. If on this fixed date

If he does not get the money, the debenture holders can exercise their rights and sue in the court.
The shorter the maturity date, the lower the risk.

(2) The risk of debenture holders is very less than that of equity holders. Debenture holders get
priority over falcon shareholders. And whether shareholders get dividends depends on whether the
company does or not, while debenture holders are mandated to get their compensation and can take
legal action if it is not paid.

(3) From the point of view of income, the return (interest) received by the debenture holders on the
money invested by them is limited. While the compensation to the pump owner is not limited.
Before lending money, the creditor clears the interest rate with the com…

of interest paid on it is liable to income tax, as the amount is deducted from the business account as
pumping expenses.

(5) Return of money: Convenience shares do not have the facility of raising money through
debentures in times of need and of returning mines in times of prosperity, except in redeemable
preference shares, where the company is not burdened with interest for the time being the facility of
Provides flexibility to a company's capital structure.

(4) Low rate of interest : The interest rate expected on debentures is lower than the rate of dividend
expected by shareholders on equity capital, as they get the benefit of safety and regularity of
income. In this way the cost burden on the company remains less.
(5) Advantages of Trading on Equity: As money can be raised at a lower rate of interest through
debentures, the rate of dividend on equity shares can be kept high. Eg, a company has Rs. 1,00,000
capital required and can earn Rs.10,0∞ profit. If the judge raises all this amount by issuing ordinary
shares, he can give 10 percent dividend on the ordinary shares, but instead of doing so, if he pays Rs.
50,000 if 5% debentures are issued on it at Rs. 2,500 must be paid, excluding Rs. 50,000 on a share
capital of Rs. 7,500 as the remaining profit on which 15 percent dividend can be paid.

. 7.3. Disadvantages of Debentures:

MPI companies cannot issue debentures, as there are certain difficulties involved, which are new

as follows:

(1) Risk of liquidation: If the debentures are not repaid on the due date, there is a great risk that they
may also liquidate the company. Of course, the risk is less if the interest amount is not paid on the
due date. As the amount is relatively small relative to the principal, the shorter the repayment period
of the debenture, the higher the risk.

(2) Permanent Burden of Interest : The fixed burden of interest on debentures arises on the company
whether it is profitable or not. So in times of trouble, the company gets into more trouble. While
Preference Shares having fixed dividend also do not have to pay dividend. Even if there is a profit in
the business.

(3) Reduction in creditworthiness: Issuance of debentures leads to reduction in the company's

creditworthiness, as the issue of debentures reduces the borrowing power of the company in the
future. Generally issuing debentures encumbers a company's assets, thereby reducing its
creditworthiness.

(4) Difficulty for some companies : Only a company with almost constant income can risk raising
money through debenture, as it has to pay a fixed dividend on a regular basis. Therefore, a company
which has such uncertainty and frequent changes in it cannot take the risk of raising money through
debentures. Mr. Mead states that no more than 20 percent of a company's revenue should go
toward interest payments. Therefore, the future of the company is in jeopardy if the excess income
goes to interest payments, as a company that relies heavily on external debt may not be able to
provide adequate returns to its shareholders.

(5) A company should consider its market and demand relativity while issuing debentures. A
company that supplies a commodity or has a limited market area has a highly inelastic demand,
while a public utility has a nearly constant demand, so such organizations can raise debenture
money.

(e) While issuing debentures, the company has to encumber its fixed assets, so the ratio of =2 assets
and current assets of the company is also important. Which is the proportion of fixed assets in the
total assets of the company

company with less than 59 does not have the security to issue debentures, so it cannot issue
debentures. Companies dealing in consumer goods are especially of this type.

7.4 Debentures from the point of view of investors:

The usefulness or limitation of debenture can be considered on the mental attitude of the investors.
Debentures generally attract conservative investors, who are risk averse, for the following reasons:

(1) Certainty of income: As interest payment is mandatory on the debenture, the investor will get
regular income. Even if the business is running at a loss. That is why charitable institutions and fixed
income investors prefer to invest in debentures. (2) Security: Since debenture holders are creditors,
even in case of dissolution of the company, they get priority over shareholders.

get money They have the first right over the properties of the company. The debenture money is
usually repaid during the life of the company. They are safe that way too. Also, in terms of income,
security is true! Of course, there are some limitations of debentures against the above-mentioned
benefits from an investor's point of view. Income sure, but rate of return very low. No matter how
much the profit of the company increases, there is no benefit to the debenture holders. On the other
hand, a debenture holder seeking safety of capital will not get any capital gain from the appreciation
of the debenture.

A company can raise money through external and internal sources. A new company cannot raise
internal funds and can only raise money through external sources like, shares, debentures and loans,
but an existing company can draw on internal and external sources of finance for its financial needs.
Internal credit is also an important source of finance; and includes the cost of capital compared to
other sources of finance.

Internal sources of finance can be broadly classified into two categories:

(a) Depreciation Fund (Depreciation Fund)

(b) Retained earnings.

(a) Depreciation Fund (Depreciation Fund)

Depreciation fund is a major part of the internal sources of funds, which are used to meet the critical
working capital requirements of the business. Depreciation means decrease in value of an asset due
to passing, lapse of time, obsolescence accident. Depreciation is usually changed at a fixed rate every
year against the fixed assets of the company. The purpose of depreciation is the replacement of
assets after the expiration of time. It is a kind of provision of funds, which is tax burden and rate of
company

(1) Retained Profit :

Need to reduce profitability. Meaning: That portion of profit which is not distributed, but is retained
and reinvested in the business is known as retained earnings. Retained earnings internal to finance

is the source. This method of financing is also known as profit reinvestment or ploughing back profits
or self-financing or internal financing.

Such funds belong to common shareholders and increase the total assets of the company. A public
company should withdraw a reasonable amount of profit every year keeping in view the legal
requirements in this regard and its own expansion plans.

which is 'shown under the head Reserves and Surplus'.

(1) Creation : Under this method of, certain proportion of profit is shifted to reserve.

considered as part of the fund.

(2) Shareholder's share of funds : Since the retained profit actually belongs to the shareholders of the
company, it is called the shareholders' share.

can be done to meet the requirements.

(3) Use : Use of retained profits for long term medium term and short term finance

Advantages of using retained profits: Using retained profits as a source of financing

The main advantages are as follows:

(1) No clear expenses : It does not include any clear expenses on flotation expenses (eg printing,
advertisement and distribution of prospectus, brokerage underwriting commission). Hence, it is less
expensive than issuing shares.

(2) More reliable : It is more reliable than external sources, as it depends on one of the external
investors.

No need to depend.

(3) No definite obligation : No definite obligation to pay any dividend on the profits reinvested
therein

No liability involved.

(iv) Does not affect control : Its use does not affect control over the management of the company,
because

Nor is there any addition to the number of shareholders.

(5) No Security : No security of assets is required to offer it.

(6) Increases Debt Raising Capacity : It increases the firm's ability to raise more debt.

(1) This source of funding is available only to for-profit companies.

(2) Concentration of economic power through growth of firms Accumulation of reserves leads to
concentration of economic power.
(3) Involves opportunity cost : It involves opportunity cost. (i.e. the return that the shareholders
would have received if the profits had been distributed) Management sometimes does not consider
these costs when declaring dividends to equity shareholders. Risk of Over-Capitalization – If the
company is without funding requirements for profitable investments for years

(4) If not maintained consistently every year, there is always the danger of over-capitalization.

11. New Financial Instruments :

(1) Securitization of Debt: Securitization of debt is the method of raising money only through the
loan given by a bank or other financial institution. In particular, housing loans are for 10 to 20 years
and the lender's money remains withheld during that term. Now, when more payments are to be
made, the bank does not have the money. In these circumstances, the bank issues securities against
the housing loan that the bank has given and sells them to investors. So the bank raised more money
on the loan it gave itself and it can give more loan out of it. Thus he raised new securities (like
debentures) against the original housing loan. This is called debt securitization. Investors buy the
securities raised against the debt in this way

and they get a housing loan as a conclusion. In other words, “securitization is the conversion of
illiquid assets into securities that convert marketable assets into short-term assets.”

This practice thus started in the USA from 1970 when the Government National Mortgage
Association there started buying and selling securities raised against the conclusion of the mortgage
loan pool. For this, it creates a pool of debts like housing loans, car or truck loans, credit card debts,
trade debts etc. and issues securities like debentures against it, which are of different maturities and
different amounts. is Every investor buys it according to his convenience.

For this, the bank issuing the security has to form a trust. It is through this trust that the bank issues
securities and sells them. This trust has to obtain a rating certificate.

The advantage of this method is that it can convert an illiquid asset (i.e. a loan to be repaid in
instalments over a very long term) into a short-term liquid asset by raising additional funds. Through
the extra money raised in this way, banks can increase profitability by lending more. The advantage
to the investor is that he buys the security against the conclusion

is Also, since most of the securities are credit rated, the safety of the investor increases.

(2) Secured Premium Notes (SPN): With Detachable Warrants (Secured Premium Notes with
Detachable Warrants): SPN is a type of debenture, with which a note (warrant) is attached. These
SPNs are to be returned within a period of five to seven year. Investors are willing to buy these SPNs
because the equity shares of good companies are low for them. Available at a price
There is a short lock-in regarding During which the investor does not get any interest on it. After the
expiry of this period the investor is allowed to return the SPN to the company at its original cost and
the part investor does not get any premium or interest; But if the investor holds that SPN till its
maturity, he gets additional amount on maturity as premium or interest.

(3) Non-Convertible Debentures (NCD) with Detachable Equity Warrant : (Non-Convertible

Debentures with Detachable Equity Warrant) : This security is also similar to SPN mentioned above. It
also carries a warrant to receive equity shares with non-convertible debentures. Investors buy such
non-convertible debentures to get equity shares of good companies at low prices. After the maturity
of the debenture, the company repays its money and the investor has to apply to get the equity
shares of the company on the basis of the attached warrant. If he does not apply, he loses the right
to receive equity shares and the company disposes of those shares as it sees fit.

(4) Zero-Coupon Bonds: A bond on which no interest is paid, but which is sold at a price less than its
face value, is called a zero-coupon bond. Here the company does not have to pay regular interest,
but the investor has to treat the difference between the purchase price and the original price as
interest. This type of bond originated in the USA. Its objective was to give small investors an
opportunity to invest in low-cost securities. A brokerage firm in America called Merrill & Lynch
bought such bonds in large quantities, selling them to investors in smaller quantities at a slightly
higher price. Mahindra & Mahindra Company in India has also used it.

(5) Zero Interest Fully Convertible Debentures: The debentures issued here do not pay any interest
till the fixed term, but on completion of the fixed term, these debentures are automatically
converted into equity shares. The advantage of this type of debenture is that in return the equity
shares of the company are available, which are available at a low price and the price of the
company's shares is high in the market, so investors are motivated to buy such debentures. It does
not earn interest, but when equity shares are earned, they can earn good capital gains by selling
them in the market. When the company issues equity shares, the holders of such debentures are
also reserved for issuing these right shares. Currently, DCM Shriram Consolidated Ltd. in India issued
such debentures.

(6) Deep-discount bond (Deep Discount Bond): Such bonds are of very long duration and their

No interest is paid, but its issue price is kept very low and its notional value

is very high. So the investor gets compound interest. D. Eg Industrial Development Bank of India
(IDBI)

Such deep-discount bonds were issued in March, 1992, at an issue price of Rs. 2,700, but its
philosophy
Price Rs. 1,00,000 and its maturity was 25 years. An investor who invests Rs. 2,700 by giving this
bond

Buy it and keep it for 25 years, at the end of 25 years Rs. 1,00,000 will be received. The corporation
had such a right

That every five years he can return the money of this bond and the investor can also return the bond.
If in 5 years

If the money is returned, the investor will get Rs. 5,700, if returned in 10 years Rs. 12,000 get, 15

Annual return if Rs. 25,000 and returns in 20 years Rs. 50,000 to get. of interest at the time of issue
of these bonds

The rates were very high, but gradually the interest rates in India came down so the Industrial
Development Bank issued all these bonds

(7) Double Option Bonds: Here the bond is divided into two parts. One certificate is for its principal
value and the other certificate is for interest and return premium. Such bonds were issued by the
Industrial Development Bank of India in March, 1992 for a tenure of 10 years. A certificate of Rs.
5,000 was the original cost of the bond, for which the investor paid Rs. 5,000 was to be paid and
another certificate of Rs. 19,500, which was the amount of interest and return premium. Both these
certificates are listed in a recognized stock exchange and the investor can sell one of these
certificates or sell the other certificate or sell both the certificates as required. Thus, since two
options are given in a bond, it is called a two-option bond.

(8) Stock-invest (Stock-invest): When an investor applying for the issued shares of a company does
not want to retain money, he encloses a stock-invest instead of a check or draft with the application.
This stock investment is similar to a bank draft, but its advantage is that no money is deposited in the
company's account until the company approves the shares to the applicant investor, and the
investor's money is not held up in the share application. Once the company approves the shares to
the investor, then the company sends this stock investment given by the bank to the bank and based
on that, the amount of the share application approved to the investor is deposited in the company's
account.

The investor gets this from the stock-investment bank. In India, based on the recommendation of
SEBI, the government introduced a stock investment scheme. When an investor wants to apply for an
issue, he goes to the bank, fills the required amount in his account and gives it to the stock
investment investors and registers a lien on his account:

(1) Such stock investment only Rs. 250, Rs. 500, Rs. 2,500, Rs. 5,000 and Rs. Available in multiples of
10,000 only. A person can get Rs. Stock-investment of more than 50,000 is not given. This limit does
not apply to mutual funds.

(2) Stock investment is granted only for applying for new shares or debentures of companies. The
applicant states the amount applied for in it.

(3) The company shall write the money on the application of shares to the investor in stock invest
and present it in any branch of the issuing bank and the money shall be deposited in the company's
account like a crossed cheque.

(4) Stock investments are issued only to individual investors and mutual funds and the bank shall
write the name of the company for which they are issued as security before issuing them 7.

(5) The tenure of stock investment is 6 months after its issue. Unutilized stock investment is returned
to the issuing bank.

Unit 4 Loan Disbursement

Loan repayment is an important mode of finance raised by a company. Loan finance is of two types

can be divided into:

(a) Long-term sources

(Loan finance can be raised through the following important institutions.

b) Short term sources

Loan lending institution

As a result of industrial revaluation, the government established country-wide and state-wise
financial industries to provide long-term financial support to industrial concerns in the country.
Financial institutions play a key role in the field of industrial development and they cater to the
financial needs of businesses. IFCI, ICICI, IDBI, SFC, EXIM Bank, ECGC are the famous financial
institutions of the country.

Commercial Banks (Commercial Banks)

Commercial banks (commercial banks) generally offer short-term loans, which are repayable within a
year. The main types of financing of commercial banks are as follows: Short term credit: Commercial
banks offer loans to their customers with or without collateral.

is It is one of the most common and widely used short-term sources of finance, for the company's
operations

Required to meet the capital requirement. It is an easy source of finance, in the form of pledges,
mortgages, hypothecations and discounted and rediscounted bills.

Short Term Loans from Financial Institutions:

Life Insurance Corporation of India, General Insurance Corporation of India and Unit Trust of India
have excellent track records providing short term loans to manufacturing companies.

Eligibility:

A company eligible for such a loan must satisfy the following conditions:

(1) It should have declared an annual dividend of not less than 6% for the last five years. (In some
cases, however, this condition is relaxed if the company has paid at least 10% annual dividend in the
last three years.)

(2) The debt-equity ratio of the company should not exceed 1.5:1,
(3) The current ratio of the company should be at least 1:0.33.

(iv) Average interest cover ratio for the last three years should be at least 2:1.

Feature:

Short term loans offered by financial institutions have the following features:

Two (1) they are fully unsecured loans and are given on the basis of demand promissory notes. (2)
The loan is granted for a period of one year and if the original eligibility criteria are satisfied; Can be
renewed for consecutive years.

(3) After repaying the loan, the company has to wait at least 6 months to get a new loan.

Short Term Loans:

Commercial banks also offer business loans to meet short-term financial needs. When a bank makes
a lump sum payment against some security, it is known as a loan. Loans/Deferrals

-Can be in the following form: cash financing

(a) Cash Credit : Cash credit is an arrangement by which a bank allows its customer to borrow money
up to a certain limit against the security of commodity.

(b) Overdraft : An overdraft is an arrangement with a bank whereby the current account holder is
allowed to withdraw more than the balance to his credit up to a certain limit without any collateral
(securities).

Development banks: development bare...

Development banks were established primarily for the purpose of promoting and developing the
industrial sector in the country. Currently, there are a large number of development banks operating
with multifaceted activities. Development banks are also known as financial institutions or statutory
financial institutions or statutory non-banking institutions.
At present commercial banks provide all types of financial services including development-banking
services and nowadays development banks and specialized financial institutions provide all types of
financial services including cooperative banking services. Diversified and global financial services are
indispensable to commodity economics. Hence, we can classify financial institutions only by
structure.

2. loan

. We may not always have the money we need to do certain things or buy certain things. In such
situations, individuals and businesses/generations/companies/institutions opt to borrow money
from lenders.

does When a lender lends money to a person or firm with a certain guarantee or on the basis of trust
that the recipient will repay the borrowed money with certain additional benefits such as interest
rate, the process is called piranha or loan.

A loan has three components – the principal or amount borrowed, the interest rate and the term or
term for which the loan is taken. Generally most people prefer to borrow money from a bank or a
reliable non-banking financing company (NBFC), as they are bound by government policies and are
trustworthy. Loans are one of the primary financial products (items) offered by any bank or NBFC
(Non-Banking Financial Company).

2.1 Types of Loans:

(a) On the basis of secured credit : on the basis of secured credit

(1) Secured Loan: A secured loan requires the borrower to pledge collateral for the borrowed money.
If the borrower is unable to repay the loan, the bank reserves the right to use the mortgage collateral
to recover the outstanding payment. Interest rates for such loans are much lower as compared to
unsecured loans. Unsecured

(2) Unsecured Loans : Unsecured loans are those which do not require any collateral for
disbursement of the loan. Banks analyse past relationships with borrowers, credit scores, and other
factors to determine whether a loan should be granted. The interest rates for such loans can be high,
as there is no way to recover the loan amount if the borrower defaults on the loan.
(b) Based on Purpose :

(1) Education Loans: Education Loans 1 are financing instruments that help the borrower to pursue
education. The loan can be for any course, graduation degree, postgraduate degree or any other
diploma/certification course from a reputed institute/university. You must have an admission letter
provided by the institution to avail the loan. These loans are available for domestic and international
courses.

Whenever there is liquidity

(2) Personal Loan : Whenever there is a problem you can go for a personal loan. The purpose of
taking a personal loan is to pay off old debt, go on a vacation, fund a house/car downpayment and

It could be anything from a medical emergency to buying furniture or gadgets. Personal loans are
given based on the applicant's past relationship with the lender and the credit ster.

(3) vehicle loan for purchase of two-wheeler and core-wheeler vehicles, Further four wheeler can be
new or used vehicle. Depending on the vehicle's on-road traffic, the loan amount may be capped at
the time the borrower is willing to purchase a new or used vehicle with a downpayment, as loans
rarely provide 100% repayment. The vehicle remains the property of the borrower until full payment
is made.

(4) Home loan : Home loan is dedicated to obtaining funds for purchase of house/flat, construction
of house, renovation repair of existing house or purchase of plot for construction of house/flat. In
this case, the title will remain with the lender and will be transferred to the titleholder after the
payment is completed.

Based on Mortgage property

(1) Gold Loans: Pana financiers and lenders offer cash when the borrower pledges physical gold.

Puts, it can be jewellery or gold bars/coins. The lender weighs the gold and the purity and others

Calculates and credits the offered amount based on multiple checks of items. The loan must be
repaid in monthly instalments so that the loan can be settled by the end of the tenure and the gold
can be retrieved by the borrower. If the borrower fails to make timely payments, the lender reserves
the right to seize the gold to recover losses. Cardin Assets
(2) Loans against assets : Similar to pledging gold, individuals and businesses pledge property,
insurance policies, fixed deposit certificates, mutual funds, shares, bonds and other assets to borrow
money. Based on the value of the assets pledged, the lender gives the loan with some margin in
hand.

The borrower needs to make the repayments on time so that he/she can get the mortgaged property
at the end of the tenure. By failing to do so, the lender can sell the assets to recover the default.

2.2 Loan Features and Benefits:

1. Different types of loans are classified based on different factors.

2. You can choose the type of loan you want to take based on your need and eligibility.

3. The lender has the final authority to decide the loan amount based on several factors like your
ability to repay, income and others.

4. A repayment period and interest rate will be associated with each loan.

5. The bank may apply certain fees and charges to each loan.

9. Many lenders offer instant loans that take a few minutes to a few hours to disburse.

7. The interest rate is fixed by the lender based on the guidelines of the Reserve Bank of India.

8. The lender determines the security requirement.

9. In some cases third-party guarantees can be used instead of security. 10. The loan should be
repaid in equal monthly instalments over the pre-determined loan tenure.

11. There may or may not be an option for full/partial prepayment.

12. Some loan types and lenders may charge a prepayment penalty.

At the time of independence in 1947, Indian capital markets were somewhat underdeveloped. The
need for capital was increasing rapidly, even though the sources of capital were scarce. The
commercial banks then in existence were not in a good position to meet the long-term capital
demand in any significant way. In response to this background, the Industrial Finance Corporation of
India (IFCI) was formed on July 1, 1948, by adopting the IFC Act, 1948 and to bridge the supply-
demand gap for capital requirements in the industrial sector.

IFCI stands for Industrial Finance Corporation of India, India's first development finance institution,
established to promote economic growth through infrastructure and industrial development. Since
then, IFCI has contributed significantly to the economy through its unwavering support for initiatives
in manufacturing, infrastructure, services After the liberalization of the Indian economy in 1991, the
Indian capital markets and financial system witnessed significant changes. IFCI's constitution was
converted from a statutory corporation to a company under the Indian Companies Act, 1959, to
facilitate direct raising of funds through the capital markets. Subsequently, in October 1999, the
name of the company was changed to 'IFCI Limited'. Functions:

IFCI Bank's main objective is to provide medium-quick financing to industrial and manufacturing
enterprises. Before giving any loan, it considers many variables.

* They research the importance of the industry in our country's economy, the overall cost of the
project and ultimately, the service performance and administration.

* If the results of the above factors are satisfactory, IFCI will sanction the loan.

* IFCI Bank can also invest in debentures of these companies in the market.

IFCI Bank supports loans to industrial enterprises.

IFCI Bank may choose to underwrite securities when a company issues shares or debentures.

It also guarantees deferred repayment on foreign currency loans from foreign banks.

Affiliate Services and Merchant Banking Division is a separate division. They handle issues including
capital restructuring, loan syndication, mergers and acquisitions.
* IFCI has promoted three subsidiary companies to boost industrial growth : IFCI Financial Services
Ltd., IFCI Insurance & Services Ltd. It is responsible for the management and regulation of these three
companies.

4. State Financial Corporations (SFC):

The State Financial Corporations Act, 1951 was passed which empowered all the states and Union
Govt

State finance to meet the financial assistance requirement of micro, small and medium enterprises to
the regions

-Given power to establish This state financial corporation provides loans to sole proprietorships,
partnership firms as well as private and public limited companies.

At present there are 18 State Financial Corporations in India, out of which 17 have been established
under the State Financial Corporation Act, 1951 and the eighteenth Tamil Nadu Industrial Investment
Corporation Ltd. was formed under the Companies Act,

(2) Write a short note on IFCI Bank.

1949 was done according to Punjab State Financial Corporation, the first financial corporation in the
country was established in 1953.

Micro, small and medium enterprises are of increasing importance in India. They constitute a major
share of rural and semi-urban industries and provide employment opportunities to a large number of
people. The number of people employed in small and medium enterprises is higher, as production is
more labour-intensive than technical capital. Due to the large number of employees required, micro,
small and medium enterprises have a heavy requirement of working capital and also fixed capital for
installing machinery etc. State financial corporations have been set up to meet these needs of small
and medium enterprises and boost the rural economy.

Functions of State Financial Corporations:

State financial corporations are established by the respective state governments with the objective of
helping small and medium enterprises. The main functions of State Financial Corporations are –
(1) Long Term Financial Assistance : Providing long term financial assistance to support small and
medium enterprises is the main function for which State Financial Corporations have been
established. These enterprises can be in the form of sole proprietorships, partnership firms, private
or public companies and the maximum loan tenure is twenty years.

(2) Guarantees for Loans : The State Financial Corporations also provide guarantees for loans taken
for small and medium enterprises from co-operative banks, commercial banks or any other banking
financial institution for a period of up to twenty years.

(3) Acting as an agent of the Government : State financial corporations also act as agents of the State
as well as the Central Government when it comes to the implementation of Government schemes
related to credit to small and medium enterprises. The State Financial Corporation also disburses
loans under various schemes of the Govt.

(4) Underwriting and Subscription : The State Financial Corporation also acts as an underwriter by
underwriting the shares of small and medium public companies. The SFCs also subscribe to
debentures of these small and medium companies, which have a tenor of less than twenty years.

(5) Credit and Guarantees for Purchases : State financial corporations provide deferred payment
guarantees for purchases for industries like machinery, plant or any other fixed expenditure.

5. Industrial Development Bank of India (IDBI):

Industrial Development Bank of India (IDBI) was established on July 1, 1994. This bank was started by
the Government of India as a subsidiary of the Reserve Bank of India.

Objectives:

(1) The main objective of the Industrial Development Bank of India is to provide loans to both private
and public sector undertakings in the commodity sector, manufacturing, mining and services such as
hotels and transport.

(2) This bank gives direct loans to industries.

(3) It also invests directly in industrial shares and underwrites securities.

(4) It guarantees loans obtained by industries in the open market.

(5) It facilitates rebate in trading bills.

(6) It facilitates universal. In 1964, Refinance Corporation was merged with Industrial Bank.

(7) The Bank has established a Development Assistance Fund. This fund is crucial for industries that
fail to get loans. This fund is the main feature of the bank. However, before providing any assistance
from this fund, the bank must take prior permission of the government.

(8) This is the planning of Bank Cash Survey. (9) It provides managerial and unique support to
industries.

6. Unit Trust of India (UTI):

A unit trust is an investment scheme in which funds are pooled together and then invested. The
money that is raised is then consolidated and the investor who is a path to the unit trust is called a
unitholder, who owns a certain number of units. The second party i.e. the manager is responsible for
the day-to-day management of the trust and the investment of the funds. Trustee, governed by Trust
Companies Act, 1967, third party is, and their role is to monitor the manager's performance against
the trust deed

PRIMARY OBJECTIVES : To promote and mobilize small savings from low and middle income
individuals who do not have direct access to the stock exchange, and to provide them with an
opportunity to share in the gains of prosperity resulting from rapid industrialization in India.

Functions:

(1) Pool the savings of relatively small investors.

(2) Channelize these small savings into productive investments

(3) Distribute economies of scale among smaller income groups.

(4) Encourage savings of lower and middle class people.

(5) Sell nits to investors in different parts of the country.

(6) Convert small savings into industrial money

(7) To give investors an opportunity to share the benefits and fruits of industrialization in the country.

8) Provide liquidity to units.

(9) Accept discounts, buy or sell bills of exchange, warehouse receipts, documents of title to goods
etc.

(10) To grant loans and advances to investors.

(11) To provide merchant banking and investment advisory services to investors.

(12) Provide leasing and hire purchase business.

(13) Extending portfolio management services to individuals residing in other countries.

(14) Buying or selling or dealing in foreign currency.

(15) Formulate unit plan or insurance plan in conjunction with GIC.

(16) Invest in any security floated by the RBI or a foreign bank.

IDFC:

Note: IDFC is now known as IDFC FIRST BANK. And since they are not considered among
development banks, they are not discussed here under the head of development banks.

8. Bridge Financing (Bridge Financing):

A bridge loan is typically short-term financing that provides capital to a company to enable it to meet
such a milestone, eg, terminal event, and is typically repaid from the proceeds of such transaction.

For example, if a company closes a large fund within 90 days. may need smaller short-term funds
immediately to reach a larger closing and will use a portion of the proceeds of the larger funds to pay
off the bridge loan.

Generally, the following terms and conditions apply to bridge financing:

(1) Interest : Interest can range from very reasonable to exorbitant levels (4% to 18% per annum).

(2) Maturity : Bridge debt matures in one to two years.

(3) Conversion : If issued in connection with a terminal event which is a capital transaction, bridge
debt is often convertible into securities issued at the terminal event at the lower of the discount to
the terminal event price or at a fixed price. The conversion may also be at the option of the company
or the investor depending on the transaction. In case of public companies, conversion may be
mandatory if market price and volume milestones are satisfied.
(4) Prepayment : Non-convertible bridge loans offer repayment without premium or penalty,
although sometimes the field protection provisions are triggered, resulting in additional repayments
to the investor. Convertible bridge offerings are generally subject to prepayment by the investor
upon prior written notice with a period sufficient to permit voluntary conversion.

(5) Original Issue Discount : In particular, but not exclusively, in the case of bridge financing
undertaken by private companies, bridge notes may contain provisions requiring original issue
discount. (eg. Repayment of excess of invested and accrued and unpaid interest).

(e) Equity kicker : Bridge notes are often accompanied by equity securities designed to serve as an
additional deal sweetener or “kicker”. These may be in the form of warrants or shares of common or
preferred stock.

8.1 Types of Bridge Financing:

(1) Closed Bridging Loans: Closed bridging loans are available for a specific period (usually a few
months) as agreed by the lender and the borrower. A debt bridging loan is more accessible, as the
lender has a higher level of certainty when it comes to loan repayment.

(2) Open Bridge Loan : There is no fixed date for repayment of open bridge loan. As such, they can be
a desirable option for people who don't know when they will get the funds they need to repay the
loan. Interest rates are high because of the high level of uncertainty surrounding repayment.

(3) First Charge Bridging, Loan : A first margin bridging loan is when the original asset which is used
as collateral has no other encumbrances. As an enforcer, it can claim full ownership of the borrower.
Because the mortgage is paid in full. If there is a default on the bridging loan, the bridging borrower
may own the property.

(4) Second Charge Bridging Loan : Second charge bridging loans are generally for people who need
finance, but have a mortgage on the property used as collateral. In other words, there is already a
first charge on the property.

(5) Debt Bridge Financing (Cat Bridge Financing) : Debt bridge financing is when a business borrows
temporary money to cover short-term expenses. A loan is a loan that combines interest with capital
owed to the borrowing company.

6) Equity Bridge Financing : Understandably, some companies want to avoid high interest debt so
decide to go for equity bridge financing. This is where the venture capital firm provides loans/ capital
in the form of bridge financing to the company so that they can raise equity financing. For example, a
borrower may decide to offer equity ownership to a financing firm in exchange for funding. Investors
base their decision to lend on whether they think the business will be profitable, increasing the value
of their stake in it.

(7) IPO Bridge Financing : When it comes to investment banking, bridge financing is a way for
companies to obtain finance before their initial public offering (IPO). The IPO process can be
expensive, so bridging finance is designed to cover short-term costs. The money raised from the IPO
is used to repay the loan, which is usually provided by an investment bank.

9. Loan Syndication:

Loan syndication is the process of multiple lenders coming together to fund the large loan
requirement of a single borrower. This procedure is necessary when the loan amount is so large that
a single borrower cannot extend it for two reasons. Firstly, it does not have sufficient resources, and
secondly, the risk associated with extending such amounts is too high.

Thus, multiple peer institutions come together – or syndicate – and collectively lend to the borrower.
In most cases, borrowers are large companies or businesses looking to finance large projects.

(1) Pre-mandate stage : The borrower initiates the first stage. In this phase, the borrower approaches
a single lender or invites competing bids from multiple bidders. The borrower needs to mandate the
strategy to get the required debt as per the lead bank. After selecting the lead bank, the evaluation
process begins. The lead bank will take care of the needs of the borrower and prepare the loan
structure for the borrower. A credit proposal will also be developed.

(2) Loan Syndication : In this phase the lender involves the loan and disbursement. The lead bank will
prepare the term sheet, information memorandum and legal documents to sell the loan in the
market.

(3) Post-Closure Stage : This stage includes monitoring by Esco account. Esco Account

It is an account in which borrowers deposit income. Agent's responsibility to prioritize loan

repayment is The agent also needs to ensure that payment to any other parties is kept to date. It is
the agent's duty to manage the administration and management of regular Porsche loan offers.

[9.1 Parties involved in loan syndication:

The parties involved in loan syndication may vary from one deal to another, but generally, it includes
the following participants:

(1) Lead Bank (Arranging Bank): This bank is responsible for arranging the funds according to the
specific conditions decided by the loan parties. They are obliged to acquire other lenders willing to
participate in this loan syndicate and share the financing risks involved. This bank is responsible for
drafting the terms of the agreement and preparing the loan documents with the participating banks.
The terms negotiated between the lead bank and the borrower are documented in the term sheet.
The term sheet includes details like loan amount, repayment schedule, loan tenure, interest rate and
any other loan-related fees. The lead bank holds a large share of the loan and is a participant

(ii) Underwriting Bank : The lead bank will underwrite the unsubscribed portion of the required loan
or any

A separate bank can fund the loan. This underwriting bank will then bear the potential risk. (3)
Participating Bank : All the banks participating in loan syndication are known as Participating Banks.
Participating banks will charge a fee for its operation.

(4) Agent Bank : In syndicated loans the agent bank acts as an intermediary between the borrower
and the lender, as both parties have a contractual obligation. It is the responsibility of the agent bank
to oversee the proper functioning of the loan syndication. In some cases, the agency agreement also
includes some additional obligations. The primary responsibility of the agent bank is to deliver the
loan amount from the participating banks to the borrower and to deliver the principal and interest
amount from the borrower to the participating banks.

. 9.2 Example of Loan Syndication:

For example, Danavi, a company that operates in the automobile industry and is introducing a new
range of cars, needs a loan of Rs.1,000 crore. The Danvi company approaches its bank, in this case
HDFC, to approve a bank loan, but the Danvi company informs the company that it is beyond its risk-
taking capacity to disburse such a large amount. They decide to syndicate the loan and prepare all
the necessary documents for the same. On reaching out to other lenders, several other banks -
Canara, ICICI, 'Bank of India and IDBI - agreed to give the loan collectively. With HDFC as the lead
bank, the loan structure is drawn up, and each bank agrees to provide 20% of the total loan
requirement. This reduces the risk exposure for each lender, and Danvi gets the amount it needs.

The point to be noted here is that there is only one contract between the lender and the borrower.
This means that Danvi Company does not have a separate agreement with each bank, but only with
the lead bank. HDFC's duty as the lead bank (main bank) is to monitor the Esco account, until the
amount is paid
9.3 Types of Loan Syndication ::

There are three types of loan syndication:

(1) Underwritten deal : In an underwritten deal, the lead bank, or arranger, guarantees the entire
loan amount. This effectively means that the manager is responsible for taking any amount that the
other borrowers do not subscribe. It may later try to approach other investors if loan-related
conditions improve. This form of loan syndication is quite common and is taken up by major banks
for two primary reasons - it makes the borrower an attractive candidate to command, and the lender
also receives an attractive payment for taking the guarantee.

(2) Club Deal : In this case, a club of borrowers is formed by the borrower or the lead bank on the
indication of the borrower. Each member of the club advances/ disburses an equal amount which
adds to the total loan and receives an equal share of the fee.

(3) Best Effort Syndication : In Best Effort Syndication, the lead bank acts as usual, but does not
guarantee the loan amount to the borrower. It participates in extending loans to other banks and
leverages market conditions to bring the lender on board. However, despite its best efforts, there
may be situations where the loan remains undersubscribed. In this case, the borrower may be forced
to take a lower amount or cancel the loan itself.

9.4 Advantages of Loan Syndication:

9 Here is a list of the advantages of loan syndication:

(1) It facilitates the borrowing of large sums of money by companies and businesses to finance large
projects.

(2) It reduces the borrower's efforts to manage large sums.

3) Since multiple lenders are involved, the borrower can benefit from a variety of loan terms. It
allows the borrower to enjoy different interest rates and different loan structures.

(4) Since bids are made by several lenders, the lead bank helps the borrower to get competitive
interest rates. This also increases the reputation of the borrower, as many lenders are seen as willing
to lend to them.

(5) The lead bank oversees the execution and completion of the loan process, allowing for better and
more efficient management.
9.5 Disadvantages of Loan Syndication:

- The limitations of loan syndication are as follows:

(1) Bringing multiple lenders on board is a time-consuming process, which can delay projects that
require funding.

2 It can be challenging to satisfy each provider's terms and conditions.

(3) If the borrower faces any financial difficulty, it can be challenging to honour the requirements of
all the lenders at the same time.

: Book Building:

SEBI's guidelines define book building as "a process by which the demand for securities proposed to
be issued by a body corporate is elicited and built-up. and the price of such securities is assessed to
determine the price of such securities .issued by notice, circular, advertisement, document or
information memorandum or offer document.!”

Book billing is basically a process used in initial public offering (IPO) for efficient price absorption. It is
a method where through an IPO, bids are collected from investors at various prices, which are above
or equal to the floor price, during the period. The offer price is determined after the bid closing date.

Therefore, book building can be defined as a process used by companies raising capital through initial
public offers (IPOs) to help discover price and demand. It is a method where bids are collected from
investors at various prices during the period when the offer book is open.

is, which is within the price specified by the issuer. As per SEBI guidelines, the issuer company issues
securities to the public through prospectus in the following manner:

A 100% net offer to the public through book building process (75% of net offer through book building
process and 25% fixed price portion through book building at a fixed price) is conducted like a normal
public issue after the book built portion, during which the issue price is determined. comes.) The
concept of book building is relatively new in India. However, it is a common practice in most
developed countries.
Book Building Vs. Fixed Cost Method:

The main difference between the book building method and the fixed price method is that the pre-
issue price is not fixed at the outset. Investors have to bid for shares in a given price range. The issue
price is determined based on the demand and supply of shares.

On the other hand, in fixed price method, the price is fixed at the beginning. Investors cannot choose
the price. They have to buy the shares at the price fixed by the company. In the book building
method, the demand can be known daily during the offer period, but in the fixed price method, the
demand can be known only after the closing of the issue.

10.1 Process of Book Building:

The detailed process of book building is as follows:

(1) Appointment of Investment Banker: The first step begins with the appointment of the Chief
Investment Banker. A major investment banker conducts due diligence. They propose the size of the
capital issue that should be undertaken by the company. Then they also propose a price band for
selling the shares. If the manager agrees with the investment banker's proposals, a prospectus is
issued with the price range as suggested by the investment banker. The lower end of the price range
is known as the floor price while the higher end is known as the ceiling price. The final price at which
the securities are actually offered for sale after the complete book building process is called the cut-
off price.

(2) Collecting bids: Investors in the market are invited to bid for buying shares. They are requested to
bid the number of shares they are willing to buy at different price points. This bid is to be submitted
to the investment bankers along with the application money. It should be noted that he is not an
investment banker who is engaged in crowdfunding. Instead, the lead investment banker may
appoint a sub-agent to bring them into their network specifically to solicit bids from a larger group of
individuals.

(3) Price Discovery : After all the bids are collected by the lead investment bankers, they start the
process of price discovery. The final price is simply a weighted average of all the bids received by the
investment banker. This price is declared as cut-off price. For any matter which has received
considerable publicity and is anticipated by the public. The ceiling price is usually the cut-off price.

(iv) Publicity : In the interest of transparency, stock exchanges across the world require companies to
disclose details of bids received by them. It is the duty of the chief investment banker to run
advertisements detailing the bids received for the purchase of shares for a given period (let's say a
week). Regulators of many markets are also entitled to physically verify bid applications if they wish.
(5) Settlement : Finally, the application amount received from various bidders has to be adjusted and
the shares have to be allotted. For instance, if a bidder bids less than the cut-off price, a call letter
has to be sent to pay the balance. On the other hand, if a bidder bids more than the cut-off, the
process of refund check is required for them. The settlement process ensures that investors are
charged only the cut-off amount (final price) in return for the shares sold to them.

10.2 SEBI Guidelines for Book Building:

An issuer company proposing to issue capital through book building shall follow the following
guidelines : (a) 75% book building process

(1) Book-building option shall be available to all body corporates which are otherwise eligible to
make an issue of capital to the public.

(2) The issue of securities through the book-building process shall be separately identified in the
prospectus / denoted as 'Placement Portion Category'.

(3) Securities available to the public shall be separately referred to as 'net offer to the public'.

(4) Requirement of minimum 25% of securities to be offered to public will also apply. - (5) If the
book-billing option is availed of, underwriting to the extent of the net offer to the public shall be
compulsory.

(e) One of the lead merchant bankers of the issue shall be nominated by the issuing company as the
book runner -- and his name shall be mentioned in the prospectus.

(7) The draft prospectus to be circulated shall indicate the price band in which the securities are
being offered for subscription.

(8) On receipt of the information, the book runner and the issuing company shall determine the price
at which the securities will be offered to the public.

(9) After fixing the issue price within two days, the prospectus shall be filed with the Registrar of
Companies.
(10) The issuer company shall open two separate accounts for collecting the application money, one
for the private placement portion and the other for the public subscription.

(11) To ensure that the securities allotted under the private placement part and the public part are in
all respects the issuing company may have a date of allotment which will be treated as the date of
allotment for the issue of securities through the book billing process.

(12) The book runner and other intermediaries involved in the book building process shall maintain
records of the book building process.

(b) 100% book making process:

Prospectus for 100% book building shall be available to any Issuing Company in the issue of securities
to the public by way of option subject to the following conditions:

(1) Minimum capital to be raised Rs. 25 crore must be.

(2) Reservation or firm allotment to promoters can be made only in accordance with the guidelines
of SEBI.

(3) Allotment may also be made on competitive basis or firm allotment basis to the shareholders of
promoting companies in case of new companies or to shareholders of lien companies in case of
existing companies.

(4) Eligible merchant bankers shall be appointed as lead book runners and their names shall be
mentioned in the draft prospectus to be filed with SEBI.

(5) The lead merchant banker shall act as the lead book runner and other eligible merchant
banker(s), designated by the issuer, shall be designated as co-book runners.

(e) Lead Book Runner shall have the primary responsibility of building the book building.

7) The book runner(s) may appoint intermediaries who are registered with the Board and who are
permitted to act as underwriters as syndicate members.
(8) A draft prospectus containing all disclosures such as price and number of securities to be offered
to the public shall be filed by the lead merchant banker with the Board.

(9) After the issuer company receives final observations on the offer document from the Board, if
any, to advertise in one Hindi national newspaper and one English national daily, with wide
circulation. A regional language newspaper with wide circulation in the place where the registered
office of the issuing company is situated.

(10) The book runner(s) and the issuing company shall decide the issue price on the basis of the bids
received by the syndicate members.

(11) Once the final price (cut-off price) is fixed, all those bidders whose bids are found to be
successful (i.e. at and above the final price or cut-off price) will be entitled to allotment of securities.

(12) A final prospectus containing all disclosures in accordance with these guidelines, including the
price and number of securities proposed to be issued, shall be filed with the Registrar of Companies.

11. Promoter's Contribution:

What is the promoter's contribution to public issue for IPO and FPO?

(1) FPO - Listed Company : The promoters of a listed company hold at least 20% of the proposed
issue or post-issue shares up to a limit of 20% of the post-issue capital. In this the promoter's
participation is done when the issue is passed in public.

(2) IPO - Unlisted Company: In unlisted companies promoters contribute a maximum of 204 in the
post-issue capital. Promoters also help in shareholding which is offered for sale and it should not be
less than 20%. Even in unlisted companies securities which are issued to promoters at a price which
is less than equity and are not eligible for promoter contribution. The contribution of the promoters
is accounted for by the post-issue capital where the promoter contributes through some optional
convertible security and also to the public.