3.

Capital Market - Primary

Capital Market - Primary
Study Session 3

LOG 1 : BASICS OF CAPITAL MARKETS (NEED, EVOLUTION AND CONSTITUENTS)

Capital Market is basically a part of financial market where buying and selling of long term
debt or equity takes place.
capital markets helps in diverting the resources from where surplus funds are available
job of SEBI is to protect the interests of investors and guide them to make wise investment
decisions.
Indian Capital Market can be discussed under two categories:
 Indian Capital Market – Before 1990’s
 Indian Capital Market – After 1990’s

1.1 Indian Capital Market 1.2 Indian Capital Market – After

– Before 1990’s 1990’s
Very inactive till 1990 Financial Sector Reforms initiated in India in a
Scope of capital market was big way from 1991 – 1992 onward
limited because of easy availability Incorporation of National Stock Exchange was
of loans happened in 1992.
There are three important Since 1992, SEBI has emerged as an
legislations autonomous and independent statutory body
BSE provided the trading platform with definite mandate such as
under which the secondary market  To protect the interests of investors in
transactions operate under an securities
open outcry system  To promote the development of securities
market, and
 To regulate the securities market

1.3 Functions of the capital 1.4 Major constituents of the

market capital market (Total 14 in
1. To mobilize resources for investments Book)
2. To facilitate buying and selling of SEBI (regulator)
securities Stock exchanges
3. To facilitate the process of efficient Mutual funds
price discovery Financial institutions
4. To facilitate settlement of transactions Investors etc.
in accordance with the predetermined
time schedules.
 3.2 Study Session 3 Capital Market - Primary
Capital Market - Primary

LOS 2 : SEGMENTS OF CAPITAL MARKET

2.1 Primary Market 2.2 Secondary 2.3 Primary Market

Buying and selling of new Market vs. Secondary Market
securities are taken place for Purchase and sale Both approached by the
the first time. of securities which corporates for funding
It is also known as ‘initial are already issued their capital requirements.
public offering’ (IPO). to the public In the primary market, the
There are different types of Secondary involvement of company is
intermediaries operating in markets are called directly in the transaction
this segment of capital stock exchanges In the secondary market,
market by providing a and the over-the- the company has no
variety of services counter market involvement

2.4 The difference between primary market and secondary market

Primary market Secondary market

New securities are issued for the first time Securities which are already issued are traded

Direct involvement of the company Company has virtually no involvement

Deals with new securities, not previously Secondary market is a market for already
available issued securities

Provides additional funds to the issuing Does not provide additional funds
companies

2.5 Similarities between 2.6 Interrelationship between

Primary and Secondary Market Primary Markets and
(a) Listing – Secondary Markets
Primary market – securities are invariably
One, the quantum of trading and the
listed
participation of the investors on stock
Secondary market - carried out only
exchange has a significant bearing on
through the stock exchange platform
the level of activity in the primary market
(b) Control by Stock Exchanges
Second, the dimension of mutual
Through (LODR), Regulations stock
interdependence is based on the fact
exchanges exercise considerable control
that the level of activity in primary
over the new issues as well securities
market has a direct impact on the level
already listed on the stock exchange
of activity in secondary market.
 3.3

Capital Market - Primary

2.7 Participants in the Capital Market
Investors: For a vibrant capital market, the capital market should be able to attract the
savings of investors
Stock Exchange : where securities issued by issuer companies are listed and traded
Depository : Organisation which holds securities of investors in electronic form
Intermediaries : offer various services in relation to the capital markets

LOS 3 : CAPITAL MARKET INSTRUMENTS

(i) Shares –
Two main types of shares, equity shares and preference shares
Basic Features of Shares
 Profits of companies are sometimes paid in the form of dividends
 Share has its limited liability
 Companies does not require them to pay back the money or make interest payments
 Traded on the cash segment
 Traded at market value on stock exchanges
(ii) Preference Shares –
Carry a preferential right to be paid in case a company goes bankrupt or is liquidated
(iii) Debentures/ Bonds:
It is a “security” because unlike other loans, the debt can be bought and sold in the open
market.
Bond is a long term security
‘Bond indenture” or “deed of trust,” – certificate of purchase and sell of bond
‘Bond indenture” or “deed of trust,” includes the following
 Amount of the Loan
 Rate of Interest
 Schedule or Form of Interest Payments
 Term
 Call Feature (if any)
 Refunding
Yields and its Method of Calculation –
𝑅𝑒𝑑𝑒𝑚𝑝𝑡𝑖𝑜𝑛 𝑉𝑎𝑙𝑢𝑒 𝑃𝑢𝑟𝑐ℎ𝑎𝑠𝑒 𝑃𝑟𝑖𝑐𝑒
𝐶𝑜𝑢𝑝𝑜𝑛 𝑅𝑎𝑡𝑒
𝑃𝑒𝑟𝑖𝑜𝑑 𝑜𝑓 𝐻𝑜𝑙𝑑𝑖𝑛𝑔
𝑌𝑇𝑀
𝑅𝑒𝑑𝑒𝑚𝑝𝑡𝑖𝑜𝑛 𝑉𝑎𝑙𝑢𝑒 𝑃𝑢𝑟𝑐ℎ𝑎𝑠𝑒 𝑉𝑎𝑙𝑢𝑒
Determinants of Bond Prices

(iv) American Depository Receipt (AD₹) -

Negotiable receipt which represents one or more depository shares held by a US custodian
bank
 It is a attractive means of investment for USA issuer for the following reasons
 Provide a means to US investors to trade the non-US company’s shares in US dollars.
 AD₹ facilitate share transfers.
 Does not involve any stamp duty
Listing of such an issue is done on the NYSE or AMEX to enable trading
Specified documents and informations must be provided to NASDAQ
 3.4 Study Session 3 Capital Market - Primary
Capital Market - Primary

(v) Global Depository Receipts (GD₹) -

Negotiable certificates issued by a depository based outside India to non-resident investors
The depository, in turn, issues GDR to investors evidencing their rights as shareholders.
GDR enable investors to trade a dollar denominated instrument on an international stock
exchange
Principal purpose of the GDR is to provide international investors with local settlement
GDR is also issued with warrants attached to them. Warrants give the investors an option
to get it converted into equity at a later date.
(vi) Derivatives –
The instrument has no independent value
Its value varies with the value of the underlying asset.
The contract or the lot size is fixed
Futures
 Agree to buy or sell the underlying security at a 'future' date
 Contract will expire on a pre-specified expiry date
 If you do not wish to hold it till expiry, you can close it mid-way
Options
 Gives the buyer the right to buy/sell the underlying asset at a predetermined price
 There are two types of options — call and put
Investing in F&O needs less capital as you are required to pay only a margin money

LOS 4 : ASPECTS OF PRIMARY MARKET (NEW ISSUE MARKET)

4.1 Different kinds of issue of securities

(a) Public Issue – can be done by Initial Public Offer (IPO) or Further Public Offer (FPO) or
Follow on Offer
(b) Right Issue (RI) - issue of shares or convertible securities is made by an issuer to its existing
shareholders as on a particular date fixed by the issuer
(c) Composite Issue - issue of shares or convertible securities by a listed issuer on public cum-
rights basis
(d) Bonus Issue - makes an issue of shares to its existing shareholders without any
consideration
(e) Private Placement –
(i) Preferential Allotment - listed issuer issues shares or convertible securities, to a
select group of persons
(ii) Qualified Institutions Placement (QIP) - listed issuer issues to Qualified Institutions
Buyers only. listed issuer may make qualified institutions placement if it satisfies the
following conditions
 Special resolution has to be passed
 Equity shares of the same class
 Issuer shall be eligible to make a qualified institutions placement
 Qualified institutions placement shall be managed by merchant banker
 Shall be made at a price not less than the average of the weekly high and low
of the closing prices
 3.5

Capital Market - Primary

 Minimum number of allottees for each placement of eligible securities made
under qualified institutions placement shall not be less than
1) Two, where the issue size is less than or equal to two hundred and fifty
crore rupees
2) Five, where the issue size is greater than two hundred and fifty crore
rupees.
Provided that no single allottee shall be allotted more than 50% of the issue
size.
Tenure of the convertible or exchangeable eligible securities shall not exceed sixty months
from the date of allotment
Shall not make any subsequent qualified institutions placement until the expiry of two weeks
from the date of the prior qualified institutions placement

4.2 Types of Offer Documents

(i) Draft offer document –
 Filed with SEBI for specifying changes, if any, in it, before it is filed with ROC
(ii) Red herring prospectus
 Used in case of a book built public issue
 Contains all the relevant details except that of price or number of shares
(iii) Prospectus
 Offer document in case of a public issue, which has all relevant details
(iv) Letter of offer
 Rights issue of shares or convertible securities and is filed with Stock exchanges
before the issue opens
(v) Abridged prospectus
 Abridged version of offer document
 Issued along with the application form of a public issue.
(vi) Abridged letter of offer
 Abridged version of the letter of offer
(vii) Shelf prospectus
 Enables an issuer to make a series of issues within a period of 1 year
 Without the need of filing a fresh prospectus every time
(viii) Placement document
 For the purpose of Qualified Institutional Placement
 Contains all the relevant and material disclosures
Key disclosure requirements of offer document (Total 13 points in book)
(i) Names and addresses of company, CS, CFO, Auditor etc
(ii) Dates of the opening and closing of the issue, and declaration
(iii) Statement by the Board of Directors
(iv) Details about underwriting of the issue
(v) Authority for the issue and the details of the resolution passed
(vi) Capital structure of the company etc.
 3.6 Study Session 3 Capital Market - Primary
Capital Market - Primary

4.3 Issue Requirements

Entry Norms - different routes available to an issuer for accessing the capital market by way
of a public issue

(i) An unlisted issuer making a Public (ii) A listed issuer making a public
Issue (i.e. IPO) is required to satisfy issue (i.e. FPO) is required to satisfy the
the following provisions following requirements:
Entry Norm I (commonly known as a) If the company has changed its name
“Profitability Route”) - Issuer Company within the last one year, at least 50%
shall meet the following requirements revenue for the preceding 1 year
Net Tangible Assets of at least ₹ 3 crores should be from the activity suggested
in each of the preceding three full years by the new name. Certain other
of which not more than 50% are held in general conditions to be satisfied by the
monetary assets issuer
Minimum of ₹ 15 crores as average pre-  Made an application to one or
tax operating profit in at least three of more stock exchanges to seek an
the immediately preceding five years. in-principle approval for listing of
Net worth of at least ₹ 1 crore in each of its specified securities
the preceding three full years  Entered into an agreement with a
If the company has changed its name depository for dematerialization
within the last one year, at least 50% of specified securities already
revenue for the preceding 1 year should issued
be from the activity suggested by the b) Existing partly paid-up equity shares
new name either fully paid-up or have been
Entry Norm II (Commonly known as forfeited
“QIB Route”) c) Made firm arrangements of finance
Issue shall be through book building through verifiable means towards
route, with at least 75% of net offer to seventy five percent of the stated
the public to be mandatorily allotted to
the Qualified Institutional Buyers (QIBs).

4.4 Minimum Promoter’s contribution and lock‐in

Public issue by an unlisted issuer - contribute not less than 20%
Which should be locked in for a period of 3 years.
 3.7

Capital Market - Primary

4.5 IPO Grading
Issuer may obtain grading for its initial public offer
The IPO Grading so obtained has to be disclosed by the companies going for an IPO
The IPO Grading is generally granted on a five point scale
 IPO grade 1 ‐ Poor fundamentals
 IPO grade 2 ‐ Below‐Average fundamentals
 IPO grade 3 ‐ Average fundamentals
 IPO grade 4 ‐ Above‐average fundamentals
 IPO grade 5 ‐ Strong fundamentals
Purpose of IPO Grading is to make available additional information to the investors
The IPO grading process takes into account the following points:
 Prospects of the industry in which the company operates
 Competitive strengths of the company
 Company’s financial position
To arrive at an IPO Grade, following aspects are looked into by the rating agencies
 Business Prospects and Competitive Position
 Financial Position
 Management Quality
 Corporate Governance Practices, etc.

4.6 Pricing of an Issue

Pricing of Issues can be freely arrived at by the companies in consultation with the Merchant
Banker
Offer document discloses the parameters on the basis of which the price is arrived at.
Public issue can be segregated into either a fixed price issue or a book built issue
Price is disclosed in the fixed price issue in the draft prospectus

4.7 Intermediaries to the Capital Market

1. Merchant Bankers/Lead 3. Bankers to an Issue–

Managers – They are scheduled banks who carry any one or
Make the entire management more of the following activities
regarding purchase and sale of  Acceptance of application and application
securities monies
Provide corporate advisory  Acceptance of allotment or call monies
services  Refund of application monies
2. Underwriters– Payment of dividend or interest warrants
Ensure that all the regulatory 4. Brokers to an issue–
requirements are complied with. Brokers to an issue acts as an agent to the
Pursues the large institutional investor.
investors Task of brokers is to execute buy or sell orders.
5. Debenture Trustees–
Trustee appointed in respect of any issue of
debentures of a body corporate.
 3.8 Study Session 3 Capital Market - Primary
Capital Market - Primary

6. Registrars to Issue–
Person appointed by a body corporate or any person or group of persons to carry on the
following
 Collecting applications from investors in respect of an issue
 Keeping a proper record of applications and monies received from investors or paid to
the seller of the securities
 Assisting body corporate or person or group of persons in-
 Determining the basis of allotment of securities in consultation with the stock
exchange
 Finalizing of the list of persons entitled to allotment of securities
 Processing and dispatching allotment letters, refund orders or certificates and other
related documents in respect of the issue.
7. Portfolio Managers–
Job of a portfolio manager is to invest in a mutual fund, exchange traded fund or any
suitable investments in securities.

4.8 Steps involved in public issue

1. Board Meeting and Passing a Board Resolution for Public Issue
2. Holding of General Meeting
3. Appointment of Merchant Banker and other intermediaries and entering into MOU with
them
4. Preparation of Draft Prospectus and its approval by Board
5. Filing of prospectus with the SEBI/Registrar of Companies
6. Intimation to Stock Exchange
7. Finalization of collection centers
8. Printing and Distribution of Prospectus and Application Forms
9. Announcement and Advertisement
10. Subscription List
11. Separate Bank Account
12. Minimum Subscription
13. Promoters’ contribution
14. Allotment of Shares
15. Compliance Report
16. Issuance of Share Certificates
 3.9

Capital Market - Primary

4.9 Public Issue of Shares- Book Building Route
Difference between fixed price method and fixed price method of the pricing of public
issue.
Fixed price method Fixed price method

Price at which the securities are offered and 20 % price band is offered by the issuer within
would be allotted is known in advance to the which investors are allowed to bid
investors

Demand for the securities offered is known Demand for the securities offered, and at
only after the closure of the issue various prices

100% advance payment is required to be 10 % advance payment is required to be made

made by the investors by the QIBs

The Flowchart given as under explains the book building process

 3.10 Study Session 3 Capital Market - Primary
Capital Market - Primary

Some interesting facts about the book building process

i. Issuer may mention the floor price or price band in the red herring prospectus
ii. In case of a composite issue, price of a public issue may be different from the price offered
in right issue
iii. Bidding terminal shall contain on-line graphical display of demand and bid prices updated
at periodical intervals, not exceeding thirty minutes.
iv. At the end of each day of the bidding period, the demand including allocation made to
anchor investors shall be shown graphically
v. Investors except ASBA investors may revise their bids
vi. Issuer in consultation with the book running lead manager determines the issue price on
the bid received
vii. On the determination of the price, the number of securities to be offered shall be decided
viii. Once the final price is determined, those bidders whose bids have been successful shall
be entitled for allotment of securities.

4.11 What is a Green 4.12 Anchor Investors

Shoe Option?
Anchor investors are Qualified Institutional Buyers
It is an overallotment (QIB)
mechanism Who purchases shares one day before the IPO
Allocate shares in excess of the opens
shares which have already Why anchor investors are important?
been issued to the public Anchor investors can guide other investors in case
The process of Green Shoe of companies have a complex structure
Option can be explained with Guidelines for Anchor Investors
the help of following example Shall make an application at least ₹ 10 crore in
Company is issuing 100000 IPO
shares, enter into green shoe Issuer can now allot up to 60% of shares reserved
option with one of the for QIBs
stabilizing agents (mostly One-third of the anchor investor portion shall be
underwriters) to the extent of reserved for domestic mutual fund
15% Bidding for anchor investors shall open one day
The promoters would lend before the issue opens
15000 shares for a limited Shall pay the entire application money as margin
period of 30 days money
Allotment would be made to Allocation of shares to anchor investors shall be
the extent of 1,15,000 shares completed on the day of bidding itself
if the market price falls below Price arrived at after the book building issue is
the issue price, the stabilizing higher - anchor investor shall bring in additional
agent may buy shares from the amount.
market to the extent of 15000 Price arrived at after the book building issue is
shares lower - excess amount shall not be refunded to the
if the share prices rises, and the anchor investors
stabilizing agent doesn’t buy Cannot sell their shares for a period of 30 days
shares Merchant bankers or any person related cannot
apply under the anchor investor category
 3.11

Capital Market - Primary

4.13 Private Placement of Shares 4.14 Disinvestment
Process of raising capital directly from Sale of equity shares of PSU’s
institutional investors Purpose
The proposed offer of securities or invitation  To garner funds be utilized for
to subscribe securities needs to be approved development purpose
by the shareholders of the Company by way  Make the loss making PSUs came
of a Special Resolution out of the doldrums
Advantages of Private Placement Primary objectives of the
It bypasses the stringent regulatory disinvestment programme
requirements of a public offering  Raise funds to finance fiscal deficit
Negotiated privately between investors and  Retain control over management
the issuing company  Improve the management of the
They do not have to register with the SEBI PSU
Reduction in the time of issuance and the cost  Broad base equity
of issuance.  Increase the availability of
Gives both parties a degree of flexibility resources for PSUs.

4.15 Right Issue

Selling of securities to the existing shareholders
Proposes to increase its Subscribed Capital
Subject to the following conditions
 Notice specifying the number of shares offered and limiting a time not being less than
fifteen days and not exceeding thirty days
 Offer aforesaid shall be deemed to include a right exercisable by the person unless article
provide
 After the expiry - BOD may dispose them off in such manner which is not dis-
advantageous
 Notice referred to above shall be dispatched through registered post or speed post or
through electronic mode at least three days before
Procedure for allotment of right issue of shares
1. Call a Board meeting and approve right issue
2. Send offer letter to all the existing members
3. Receive acceptance/renunciations/rejection of rights from members
4. Approve allotment by passing a Board Resolution
5. Attach list of allottees in form PAS-3
6. File E-form MGT 14 for issue of Share & PAS 3 to ROC for allotment
7. Make Allotment within 60 days of receiving of Application Money
 3.12 Study Session 3 Capital Market - Primary
Capital Market - Primary

4.16 Exit Offers (Delisting Offers and Strategic Issues)

Signifies a listed company moving out of the listing status on the stock exchanges.
SEBI Regulations provide three different sets of provisions for delisting
 Voluntary delisting - sought by the promoters of a company
 Compulsory delisting - on any ground prescribed in the rules made under section 21A
of the Securities Contracts (Regulation) Act, 1956.
 Special provision for delisting of small companies - not frequently traded

Cannot go for delisting unless a period of three years has elapsed since the listing

4.16.1 Understanding delisting 4.16. 2 Explained: Failure of Vedanta

and the terms associated with it Delisting
What is reverse book building? It had failed to garner the number of shares
required to complete its delisting process from
Public shareholders can tender their the stock market
shares at or above the floor price How does the delisting process work?
Shareholders can do this through an Promoters launch a reverse book building
online bidding system on the stock process in which shareholders can tender
exchanges their shares for purchase by promoters at a
How is exit price discovered? set price
Exit offer price or discovered price is one Lowest price at which the company can
at which the shares tendered take the complete the acquisition of 90% of shares is
holding of the promoter or acquirer to at the discovery price.
least 90% of the paid-up capital. What were the problems in the Vedanta
What's next? delisting?
It announced that it was able to garner
offers for only around 125 crore shares
instead of the 134 crore
If accepted - shareholders must be Foreign shareholders hold shares through a
paid within 10 working days. custodian, but custodians are not allowed to
If rejected - shares offered must be participate in the secondary market
returned within 10 working days. Giving a push to smaller shareholders to
What is a counter-offer? participate in a delisting process that they
If the discovered price is not believe is likely to succeed
acceptable, promoter can make a Were unconfirmed bids the only reason the
counter-offer within two working delisting failed?
days, Key issue according to some experts was the
Counter-offer should be above the discovered price at which Vedanta would be
company’s book value and below the required to acquire a significant portion of
discovered price. shares
Shareholders can withdraw the shares Another expert opined that key issue was
they tendered during the reverse book that while the promoters wanted to delist at
building within 10 working days. a price of around ₹ 160, but the value of the
Counter-offer bidding will remain stock was much higher as it was trading at
open for five days. around ₹ 320