Financial Services Management

Introducation

Indian Financial System

 Financial System
Financial system of an economy has a greater
role in the development and growth of the
economy as it provides for the monetary
inputs as well as the desired direction for
the growth of the economy
 Indian Financial System
• It includes
- Financial Markets
- Financial Institutions
- Financial Instruments
- Financial Services
 Financial Markets
• Growth of the financial markets is the barometer
of the growth of a country’s economy
• Two components:
-Money Market
- Capital Market
 Money Market
• It is the market in which liquid funds(cash) as well as
highly liquid securities are traded in for a very shorter
duration or time period.
• Participants: Banks and Financial institution
• Banks deal – to fulfill their CRR and SLR
• Some other corporate houses – insurance companies,
mutual funds, provident fund trusts and non-banking
companies.
• Market control by RBI
 Money Market Instruments
• Call Money Market: Surplus cash of banks and
corporate houses are traded in for a very short
maturity period not exceeding fortnight.
• To fulfil CRR requirements.
• Participants: banks, financial institutions, mutual
funds, corporate houses and other organisations
• Allowing authority RBI- transactions over
telephone
 Money Market Instruments
Cont…
• The charges(interest rate) in call money
market influenced by the demand and
supply
• Features
- Transactions mainly between banks
- High value transactions
-Transactions for a maxium of one fornight
- Banks allowed to participate as provider and user of the funds
- other participants to participate as provider of the funds
 Money Market Instruments
Cont…
• Gilt-edged securities market: market for
government securities
• Issuers – Central government, state government and any
agencies
• Banks and financial institutions trade to fulfil SLR
requirements
• Features:
- Safety
- Marketability
- Liquidity
-RBI as under writer and market maker
- Regulated by RBI
 Money Market Instruments
Cont…
Types of gilt – edged securities
- Dated securities of government
• maturity period –more than one year and carry coupon
rate.
• Authority – RBI through SGL account
- Treasury bills
• Issued by RBI on behalf of central government
• Maturity period not exceeding 364 days
• Two types: Regular and Ad hoc
 Money Market Instruments
Cont…
• Types secondary Market
- Spot transactions
-Forward
- REPO deals
- Double ready forward deals/reverse REPO
 Capital Market
• The market which provides an avenue to companies for
raising capital and also provides for the trading of
outstanding securities.
• Regulated by
– Securities and Contracts Regulation Act
– Companies Act
– Securities & Exchange Board of India
– FEMA
 Capital Market Cont…
• Two Segments:
– Primary Market
– Secondary Market
 Primary Market: the market in which companies find an opportunity to
have a direct interaction with the investors for the purpose of raising
capital
 Mechanisms of raising capital:
 Public Issue: issued by Public Limited company to general public; must get
listed on a recognised stock exchange
 Private Placement: Adopted by public limited as well as private limited
companies.Issuing of securities not by advt. But company approaches
individually to investors. Issuing authority:SEBI
 Capital Market Cont…
• Rights Issue:An existing company issues
shares/debentures to its existing equity shareholders as a
privilege.
• Public issue through book building: shares are issued
through public issue, in which pricing of the shares to be
issued is decided by inviting bids.
 Secondary Market
• It is the market in which outstanding securities of
corporate houses and government are traded in through the
intervention of members of the stock exchange
Investing in Common Stocks
 STOCK
• Introduction
• Types of Stock
• Stock derivatives
• Shareholder
• Application
– Shareholder rights
– Means of financing
• Trading
– Arbitrage trading
– Bankruptcy
– Buying
– Selling
– Stock price fluctuations
 Introduction
• A share of stock represents a share of
ownership in a corporation
• Synonym of stocks is shares
• Types of Stock
– Common Stock
– Preferred Stock
• Convertible preferred stock
• Non-convertible preferred stock
 Stock Derivatives
• Any financial instrument which has a value that is
dependent on the price of the underlying stock
• Derivatives of stocks:
– Stock futures
• Buyer is long: takes on the obligation to buy on the contract
maturity date
• Seller is short: takes on the obligation to sell
– Stock option
• A call option: the right to buy stock in the future at a fixed price
• A put option: the right to sell stock in the future at a fixed price.
• Method of Valuation of Stock options: Black Scholes Model
 shareholder
• A shareholder(stockholder) is an individual or
company that legally owns one or more shares of
stock in a joint stock company.
• Both private and public traded companies have
shareholders.
• Right to vote(election of board of directors), right
to share(distributions of company income), right to
purchase(new shares issued by the company) and
right to a company’s assets(in times of liquidation)
 Application
• Additional capital to invest in new projects
• Decision-making power
• A fraction of profits
• Votes in the election of members of the
board of directors
• Each share constitutes one vote
 Shareholder Rights
• Not to use company’s building, equipment,
material, or other property.
• Right to make company’s policy
• Does not have the responsibility for liabilities
• Equity financing: financing a company through
the sale of stock in a company
• Dept financing: can be done to avoid giving up
of shares of ownerships of the company.
• Unofficial financing: trade financing as a part of
company’s working capital
 Financial Institutions

• It provides the right direction for the growth and development of the
economy.
• These are:
– Regulatory institutions: Basic role is framing the policies
,monitoring the functioning of various participants, provides
various facilities for the smooth functioning of the institutions.

Regulatory institutions are:

• Reserve Bank of India: performs the functions under the
power from RBI act, 1934.
– Roles: banker of the government and banker of banks
– Responsibility: control the money supply and credit functions of
the banks
 Financial Institutions Cont..

• Functions:
1. Issue of currency notes: issued by keeping a reserve which
consists of gold, special drawing rights and securities
2. Credit control: i.e. flow of money; announced twice a
year(April and October)
3. Banker of central government
4. Banker of banks:
5. Issue of government securities
6. Open market operations and controlling the flow of
money
7. Regulation of banks and other financial institutions
8. Foreign exchange control
 Financial Institutions Cont..

• Regulatory Institution: SEBI: it is the regulatory body to regulate the activities

in the capital market, under the SEBI Act,1992.: it is the regulatory body to
regulate the activities in the capital market, under the SEBI Act,1992.
• Aim is to bring full disclosure and transparency in the capital market
– Banking institutions: A company or institution which has been set up with
the objective of providing banking services and has the license from RBI
to function as a bank; bridge the gap between savings and investment.
• functions:
• Traditional/core banking: Accepting deposits, lending money
for productive purpose, transfer of money through DD/MT
• Modern Banking: lending for non-productive purposes, ATM
services, credit/debit cards, mutual fund activities, investment
activities.
 Financial Institutions Cont..

• Non banking finance companies (NBFCs): a loan company or an investment

company or a hire purchase finance company or an equipment leasing
company or a mutual benefit finance company.
– types:
• Hire purchase Finance Company: hire purchase is an agreement under
which goods are let on hire and under such agreement the hirer has an
option to purchase those hired goods in accordance with terms of
agreement. .
• Investment Company: a financial company carrying on as its
principal business the acquisition of securities. Licenses by SEBI.
Deal in both primary and secondary market
 Financial Institutions Cont..

• Non Banking Finance Companies;

– Loan Company: provides loan for business or for any other purpose against security
or without security.
– Mutual benefit finance company/Nidhi: and association of persons aimed to do
good by each to other or for the common advantage of the members.
– Equipment leasing company: a contractual arrangement between lessor and lessee.
– Chit fund company/miscellaneous non-banking finance company:
• Development financial institutions: do not accept deposits for the general public in
the form of opening an account, IRBI,IFCI,IDBI,ICICI, HDFCIssuing securities in
the primary market as well as from loan.
• Mutual funds: It is an organisation, which collects small savings from the general
public with the aim to invest the same in securities. Principle is ‘Trusteship’
• To reduce the risk of investment.
• Benefits are: expert knowledge;diversification; low cost of investment; risk sharing
 Financial Instruments(securities)
• Instruments through which a company raises finance
• Equity shares:features:Voting right;no maturity period;claim
on income as well on assets;no fix dividend;;chances for bonus
shares;pre-emptive rights
• Preference Shares: features: fix dividend on face value;fix
maturity period or provision for conversion; no voting right;no
bonus shares
• Types of Preference shares: Redeemable Vs non-redeemable;
Convertible vs. non convertible; praticipating preference
shares
• Debentures:a kind of loan taken by the company from the
general public and carry a coupon rate.
Financial Instruments(securities)
Cont…
• Debenture:Features: type of loan;no voting rights; fix rate
of interest;can be secured or unsecured; provision for
redemption/conversion
• Debenture:Types: Redeemable Vs non-redeemable;
Convertible vs non convertible; Debentures with warrants;
debenture with options; deep discount debentures/zero
coupon bonds
• Mechanism of issuing securities: Public issue;Rights issue;
private placement; Public issue through book building; buy
out deals
 Financial Services
• Lease financing: A contractual arrangement between lessor and lessee.
Could be oral or written. Lessee cannot get final ownership
• Types: Finance lease; Operating lease; Sale and lease back; Cross-
border lease; Dry Vs Wet lease
• Finance Lease:lease term is equal to or more than 75% of the life of
the asset
– Present value of lease rental is equal to or more than 90% of the value of
the asset
– Non cancellable; dry lease; no upgradation or exchange;
– Ex.: land and house
• Operating Lease:
 Financial Services

• Lease Financing:
– A contractual arrangement provides an enterprises with
the use and control over assets without receiving a title
to them.
– Could be oral and written
– Can be used as long term as well as short term
– Benefits to lessee: Flexibility; better utilisation of own
funds; 100% financing; no risk of obsolescence; no loss
due to decrease in the value of asset
– Benefits to lessor: finds it easy to sell the assets;
increase in revenue; generating revenue through idle
assets
 Financial Services
– Types of leases:
• finance lease: Lease term is equal to or more than 75% of the life of
the asset; present value of the lease rental is equal to or more than 90%
of the value of the asset, non-cancellable, dry lease, ex.
Land and house
• Operating lease: lease agreement for a shorter period of time, have a
provision of cancellation, can be dry or wet; ex.
Office equipment, computers, machinery.
• Sale and lease back: owner of the asset becomes the lessee and the
purchaser becomes the lessor.
• Cross-border lease: more than one country enters the lease agreement
to avail tax benefit. Two types: import lease and international lease
• Dry lease: lessor does not provide for the maintenance and insurance
of the asset
• Wet lease: lessor provides for the maintenance and insurance of the
asset
 Financial Services Contt..
• Leveraged lease or tripartite lease transaction:
– In this lessor arranges for a special loan to finance the asset to be leased
out.
• Hire Purchase:
– It is a transaction to buy an asset in which the purchaser purchases the
asset from the seller with a provision to make the payment in several
installment over a period of time.
– Title/ownership changed after the last installment paid
• Installment payment system:
• Purchaser makes the payment for the asset purchased in several
instalment over a period of time,
• title changed at the time of first payment
 Financial Services Contt..
• Merchant banking:
• a basket of financial services provided by the merchant banker.
• registered with SEBI.
• Services provided are:
• Issue management,
• underwriting,
• broker to the issue,
• project management,
• project consultancy,
• loan syndication,
• portfolio management,
• portfolio consultancy.
 Financial Services Contt..
• Factoring Services:
– In this a seller, called client of factor, of goods, who has sold goods on
credit, assigns (sells) his book debts to an outside agency called as factor.
– Factor charges for the advance amount
– Types:
• Recourse factoring
• Non-recourse Factoring
• Advance Factoring
• Maturity Factoring
• Full Factoring
• Bank Participating Factoring
• Cross-border factoring
• Forfeiting: used in expert business.
 Stock Market

• It is a Secondary market
• Outstanding securities of the corporate houses and government are traded in.
• It is a regulated marketplace, in which listed securities are bought and sold
through the intervention of members (brokers) of stock exchange.
• Should be recognized by central government under section 4 of SCRA 1956
• 23 stock exchanges in India
• History of Stock Maket:
– Bombay Stock Exchange: 1861
– Ahmedabad Stock Exchange: 1894
– Calcutta Stock Exchange : 1908
– Madras Stock Exchange: 1921
– Hyderabad Stock Exchange:
– Delhi Stock Exchange: 1947
 Stock Market Cont…

• Organization of Stock Exchange in India: Voluntary non-profit

making organisation; Privated limited company limited with
guarantee; joint stock company.
• Features of stock Exchange:
– Trading through members/brokers
– Trading in listed securities only
– Open system of quotation
– Completely regulated
– Settlement through the stock exchange
 Stock Market Cont…

Membership Qualification: (Broker)

Criterion Indivitual Company
Net Worth 100 lakh 200 lakh
Initial Security 125 lakh 250-275 lakh
Collateral Secutiry 25 lakh 25 lakh
Annual Subscription 1 lakh 2 lakh

Company Qualification:
Paid up capital 3 crores
Single shareholder Should not hold> 0.5%
Security Deposit 1% of the issue amount
 Stock Market Cont…

• Functions of Stock Exchange

– Enrolment of members
– Make bye-laws of the stock exchange
– Provide for the listing of securities
– Provide facilities for trading of securities
– Provide clearing services
– Publication of information
– Arbitration
– Investor education and investor protection
Members Re0.15 per Rs.1 lakh
Stock Exchange 2.5% of listing fees(quarterly)
Interest earned by the exchange1%
Surplus 5%
 Stock Market Cont…

• Market Mechanism:
– The system of buying and selling the securities/derivatives in the stock
exchange
– Components are investors, brokers, stock exchange officials, clearing
house, bye-laws and rules,
– Sequential Activities are
• Placing an order(market order, limit order, market if touched,spread
order)
• Execution of order(best buy quotation, best selling quotation)
• Reporting
• Confirmation
• Exchange between client and broker
• Clearing function
• Exchange between broker and client
 Stock Market Cont…

• Functional Specialization of brokers:

– Speculator
– Hedger
– Arbitrager
– Floor broker
– Commission broker
– Jobber
– Badliwala
 Stock Market Cont…

• Capital Market Regulator: The task of regulating the activities in the

primary as well as secondary market was with CCI, now replaced by SEBI
• Controller of capital issues (CCI): emphasis on the primary market activities.
 Mutual Fund
• It is an organization which collects the small savings from general public with
the aim to invest the same in securities.
• Benefits provided:
– Expert knowledge
– Diversification
– Low cost of investment
– Risk sharing
• It is a market for equity shares, bonds and other fixed income instruments, real
estate, derivatives, etc.,