1.

2.
2.1
2.2
3.
3.1
CONTENTS
INVESTMENT BASICS....................................................................................................... 6
What is Investment?...................................................................................................................6
Why should one invest? .............................................................................................................6
When to start Investing?...........................................................................................................6
What care should one take while investing?......................................................................7
What is meant by Interest?......................................................................................................7
What factors determine interest rates?...............................................................................7
What are various options available for investment?......................................................8
What are various Shortterm financial options available for investment?.............8
What are various !ongterm financial o ptions available for investment?.............."
What is meant by a Stock #$change?................................................................................%&
What is an '#(uity)*Share?......................................................................................................%&
What is a '+ebt Instrument)?.................................................................................................%%
What is a +erivative?................................................................................................................%%
What is a ,utual -und?............................................................................................................%%
What is an Inde$?.......................................................................................................................%.
What is a +epository? ...............................................................................................................12
What is +emateriali/ation?.....................................................................................................%.
SECURITIES ...........................................................................................................................13
What is meant by 'Securities)?..............................................................................................%0
What is the function of Securities ,arket?.......................................................................%0
Which are the securities one can invest in?.....................................................................%0
REGULATOR ................................................................................................................................14
Why does Securities ,arket need 1egulators?...............................................................%2
Who regulates the Securities ,arket?................................................................................%2
What is S#3I and what is its role?.......................................................................................%2
PARTICIPANTS ............................................................................................................................15
Who are the participants in the Securities ,arket?......................................................%4
Is it necessary to transact through an intermediary?..................................................%4
What are the segments of Securities ,arket?................................................................%4
PRIMARY MARKET............................................................................................................16
What is the role of the '5rimary ,arket)? .........................................................................16
What is meant by -ace 6alue of a share*debenture? ..................................................16
What do you mean by the term 5remium and +iscount in a Security ,arket?.%6
ISSUE OF SHARES ......................................................................................................................17
Why do companies need to issue shares to the public? .............................................17
What are the different kinds of issues? .............................................................................17
What is meant by Issue price?..............................................................................................%8
What is meant by ,arket 7apitalisation?..........................................................................%8
What is the difference between public issue and private placement?...................%"
What is an Initial 5ublic 8ffer 9I58:?..................................................................................%"
1
3.2
4.
4.1
4.1.1
Who decides the price of an issue? .....................................................................................19
What does 'price discovery through 3ook 3uilding 5rocess) mean?......................%"
What is the main difference between offer of shares through book building and
offer of shares through normal public issue?...................................................................&
What is 7ut8ff 5rice?................................................................................................................&
What is the floor price in case of book building? ...........................................................20
What is a 5rice 3and in a book built I58?.........................................................................&
Who decides the 5rice 3and?..................................................................................................%
What is minimum number of days for which a bid should remain open during
book building?...............................................................................................................................%
7an open outcry system be used for book building?....................................................%
7an the individual investor use the book building facility to make an
application?....................................................................................................................................%
;ow does one know if shares are allotted in an I58*offer for sale ? What is the
timeframe for getting refund if shares not allotted?.....................................................%
;ow long does it take to get the shares listed after issue?........................................%
What is the role of a '1egistrar) to an issue?.....................................................................
+oes <S# provide any facility for I58?................................................................................
What is a 5rospectus?.................................................................................................................
What does '+raft 8ffer document) mean?.........................................................................0
What is an '=bridged 5rospectus)?........................................................................................0
Who prepares the '5rospectus)*'8ffer +ocuments)?.......................................................0
What does one mean by '!ockin)?.......................................................................................2
What is meant by '!isting of Securities)? ..........................................................................24
What is a '!isting =greement)?...............................................................................................2
What does '+elisting of securities) mean? ........................................................................24
What is S#3I)s 1ole in an Issue?...........................................................................................2
+oes it mean that S#3I recommends an issue? ............................................................25
+oes S#3I tag make one)s money safe?............................................................................4
FOREIGN CAPITAL ISSUANCE ..................................................................................................25
7an companies in India raise foreign currency resources?........................................4
What is an =merican +epository 1eceipt?.........................................................................4
What is an =+S? .........................................................................................................................26
What is meant by >lobal +epository 1eceipts?...............................................................6
SECONDARY MARKET.....................................................................................................27
INTRODUCTION ...........................................................................................................................27
What is meant by Secondary market?................................................................................7
What is the role of the Secondary ,arket?.......................................................................7
What is the difference between the 5rimary ,arket and the Secondary ,arket?
...........................................................................................................................................................27
Stock Exchange .........................................................................................................28
What is the role of a Stock #$change in buying and selling shares?......................8
What is +emutualisation of stock e$changes?.................................................................8
;ow is a demutualised e$change different from a mutual e$change?...................8
7urrently are there any demutualised stock e$changes in India?...........................8
4.1.2 Stock Trading ..................................................................................................................29
What is Screen 3ased ?rading?............................................................................................."
What is <#=??..............................................................................................................................."
;ow to place orders with the broker? ................................................................................29
2
4.2
5.
6.
;ow does an investor get access to internet based trading facility?......................"
What is a 7ontract <ote?.........................................................................................................0&
What details are re(uired to be mentioned on the contract note issued by the
stock broker?................................................................................................................................0&
What is the ma$imum brokerage that a broker can charge?...................................0&
Why should one trade on a recogni/ed stock e$change only for buying*selling
shares?............................................................................................................................................
0%
;ow to know if the broker or sub broker is registered?..............................................0%
What precautions must one take before investing in the stock markets?...........0%
What +o)s and +on)ts should an investor bear in mind when investing in the
stock markets?............................................................................................................................0.
PRODUCTS IN THE S ECONDARY MARKETS ..........................................................................34
What are the products dealt in the Secondary ,arkets?............................................02
4.2.1 Equity Investment....................................................................................................36
Why should one invest in e(uities in particular?............................................................06
What has been the average return on #(uities in India? ...........................................36
Which are the factors that influence the price of a stock?.........................................07
What is meant by the terms >rowth Stock * 6alue Stock? .......................................37
;ow can one ac(uire e(uity shares?..................................................................................08
What is 3id and =sk price?.....................................................................................................08
What is a 5ortfolio?....................................................................................................................0"
What is +iversification?............................................................................................................0"
What are the advantages of having a diversified portfolio?......................................0"
4.2.2. Det Investment..........................................................................................................4!
What is a '+ebt Instrument)?.................................................................................................2&
What are the features of debt instruments?....................................................................2&
What is meant by 'Interest) payable by a debenture or a bond?............................2%
What are the Segments in the +ebt ,arket in India? .................................................41
Who are the 5articipants in the +ebt ,arket?................................................................2%
=re bonds rated for their credit (uality? ...........................................................................41
;ow can one ac(uire securities in the debt market?...................................................2%
DERIVATIVES .......................................................................................................................42
What are ?ypes of +erivatives?............................................................................................2.
What is an '8ption 5remium)? ...............................................................................................42
What is '7ommodity #$change)? ..........................................................................................43
What is meant by '7ommodity)?...........................................................................................20
What is 7ommodity derivatives market? ..........................................................................43
What is the difference between 7ommodity and -inancial derivatives?...............20
DEPOSITORY .........................................................................................................................44
;ow is a depository similar to a bank?..............................................................................22
Which are the depositories in India?..................................................................................22
What are the benefits of participation in a depository? ..............................................44
Who is a +epository 5articipant 9+5:?...............................................................................24
+oes one need to keep any minimum balance of securities in his account with
his +5? ............................................................................................................................................45
What is an ISI<?.........................................................................................................................24
What is a 7ustodian?.................................................................................................................24
3
7.
8.
8.1
8.2
8.3
9.
;ow can one convert physical holding into electronic holding i.e. how can one
dematerialise securities?.........................................................................................................26
7an odd lot shares be dematerialised?..............................................................................26
+o dematerialised shares have distinctive numbers?..................................................26
7an electronic holdings be converted into 5hysical certificates?.............................26
7an one dematerialise his debt instruments@ mutual fund units@ government
securities in his demat account?..........................................................................................26
MUTUAL FUNDS...................................................................................................................47
What is the 1egulatory 3ody for ,utual -unds?............................................................27
What are the benefits of investing in ,utual -unds?...................................................27
What is <=6?................................................................................................................................28
What is #ntry*#$it !oad? .........................................................................................................48
=re there any risks involved in investing in ,utual -unds?......................................28
What are the different types of ,utual funds? ...............................................................49
What are the different investment plans that ,utual -unds offer?........................4.
What are the rights that are available to a ,utual -und holder in India?...........4.
What is a -und 8ffer document?..........................................................................................40
What is =ctive -und ,anagement?.....................................................................................40
What is 5assive -und ,anagement?...................................................................................42
What is an #?-?...........................................................................................................................46
MISCELLANEOUS ...............................................................................................................57
CORPORATE ACTIONS ..............................................................................................................57
What are 7orporate =ctions?.................................................................................................47
What is meant by '+ividend) declared by companies?.................................................47
What is meant by +ividend yield?.......................................................................................48
What is a Stock Split?...............................................................................................................48
Why do companies announce Stock Split?.......................................................................4"
What is 3uyback of Shares?...................................................................................................6&
INDEX ............................................................................................................................................60
What is the <ifty inde$?...........................................................................................................6&
CLEARING & S ETTLEMENT AND REDRESSAL.......................................................................61
What is a 7learing 7orporation?...........................................................................................6%
What is 1olling Settlement? ...................................................................................................61
What is 5ayin and 5ayout?..................................................................................................6%
What is an =uction?...................................................................................................................6.
What is a 3ookclosure*1ecord date?................................................................................6.
What is a <o delivery period?...............................................................................................6.
What is an #$dividend date?................................................................................................6.
What is an #$date?..................................................................................................................60
What recourses are available to investor*client for redressing his grievances?60
What is =rbitration?...................................................................................................................60
What is an Investor 5rotection -und?................................................................................60
CONCEPTS & MODES OF ANALYSIS ....................................................................64
What is Simple Interest? .........................................................................................................64
What is 7ompound Interest?.................................................................................................64
What is meant by the ?ime 6alue of ,oney? ..................................................................67
;ow is time value of money computed?...........................................................................7&
4
1.
What is #ffective =nnual return?..........................................................................................7.
;ow to go about systematically analy/ing a company?..............................................70
What is an =nnual 1eport?.....................................................................................................72
Which features of an =nnual 1eport should one read carefully?.............................72
What is a 3alance Sheet and a 5rofit and !oss =ccount Statement? What is the
difference between 3alance Sheet and 5rofit and !oss =ccount Statements of a
company?.......................................................................................................................................7
2
What do these sources of funds represent?.....................................................................77
What is the difference between #(uity shareholders and 5referential
shareholders?...............................................................................................................................78
What is the difference between secured and unsecured loans under !oan
-unds?.............................................................................................................................................
7"
What is meant by application of funds?............................................................................7"
What do the subheadings under the -i$ed =ssets like '>ross block)
'+epreciation)@ '<et 3lock) and 7apitalWork in 5rogress) mean?...........................8&
What are 7urrent !iabilities and 5rovisions and <et 7urrent =ssets in the
balance sheet?.............................................................................................................................8%
;ow is balance sheet summari/ed?....................................................................................8%
What does a 5rofit and !oss =ccount statement consists of?...................................8.
What should one look for in a 5rofit and !oss account?.............................................80
RATIO ANALYSIS .............................................................................................................85
5

1. I!"#$%&#!% B'$()$
*+'% ($ I!"#$%&#!%,
?he money you earn is partly spent and the rest saved for meeting future
e$penses. Instead of keeping the savings idle you may like to use savings in
order to get return on it in the future. ?his is called Invest ment.
*+- $+./01 .!# (!"#$%,
8ne needs to invest toA
earn return on your idle resources
generate a specified sum of money for a specific goal in life
make a provision for an uncertain future
8ne of the important reasons why one needs to invest wisely is to meet the
cost of In"#ation. Inflation is the rate at which the cost of living increases.
?he cost of living is simply what it costs to buy the goods and services you
need to live. Inflation causes money to lose value because it will not buy the
same amount of a good or a service in the future as it does now or did in the
past. -or e$ample@ if there was a 6B inflation rate for the ne$t .& years@ a
1s. %&& purchase today would cost 1s. 0.% in .& years. ?his is why it is
important to consider inflation as a factor in any longterm investment
strategy. 1emember to look at an investmentCs CrealC rate of return@ which is
the return after inflation. ?he aim of investments should be to provide a
return above the inflation rate to ensure that the investment does not
decrease in value. -or e$ample@ if the annual inflation rate is 6B@ then the
investment will need to earn more than 6B to ensure it increases in value.
If the afterta$ return on your investment is less than the inflation rate@ then
your assets have actually decreased in valueD that is@ they wonCt buy as
much today as they did last year.
*+#! %. $%'2% I!"#$%(!3,
?he sooner one starts investing the better. 3y investing early you allow your
investments more time to grow@ whereby the concept of compounding 9as
we shall see later: increases your income@ by accumulating the principal and
6

%.
..
0.
2.
4.
6.
7.
8.
".
the interest or dividend earned on it@ year after year. ?he three golden rules
for all investors areA
Invest early
Invest regularly
Invest for long term and not short term
*+'% )'2# $+./01 .!# %'4# 5+(0# (!"#$%(!3,
3efore making any investment@ one must ensure toA
obtain written documents e$plaining the investment
read and understand such documents
verify the legitimacy of the investment
find out the costs and benefits associated with the investment
assess the riskreturn profile of the investment
know the li(uidity and safety aspects of the investment
ascertain if it is appropriate for your specific goals
compare these details with other investment opportunities available
e$amine if it fits in with other investments you are considering or you
have already made
%&. deal only through an authorised intermediary
%%. seek all clarifications about the intermediary and the investment
%.. e$plore the options available to you if something were to go wrong@
and then@ if satisfied@ make the investment.
?hese are called the T$e#ve Im%ortant Ste%s to Investing.
*+'% ($ &#'!% 6- I!%#2#$%,
When we borrow money@ we are e$pected to pay for using it E this is known
as Interest. Interest is an amount charged to the borrower for the privilege
of using the lender)s money. Interest is usually calculated as a percentage of
the principal balance 9the amount of money borrowed:. ?he percentage rate
may be fi$ed for the life of the loan@ or it may be variable@ depending on the
terms of the loan.
*+'% 7')%.2$ 1#%#2&(!# (!%#2#$% 2'%#$,
When we talk of interest rates@ there are different types of interest rates
rates that banks offer to their depositors@ rates that they lend to their
borrowers@ the rate at which the >overnment borrows in the
7

3ond*>overnment Securities market@ rates offered to investors in small

savings schemes like <S7@ 55-@ rates at which companies issue fi$ed
deposits etc.
?he factors which govern these interest rates are mostly economy related
and are commonly referred to as macroeconomic factors. Some of these
factors areA
+emand for money
!evel of >overnment borrowings
Supply of money
Inflation rate
?he 1eserve 3ank of India and the >overnment policies which
determine some of the variables mentioned above
*+'% '2# "'2(./$ .8%(.!$ '"'(0'60# 7.2 (!"#$%&#!%,
8ne may invest inA
P+-$()'0 '$$#%$ like real estate@ gold*Fewellery@ commodities etc.
and*or
F(!'!)('0 '$$#%$ such as fi$ed deposits with banks@ small saving
instrume nts with post offices@ insurance*provident*pension fund etc.
or securities market related instruments like shares@ bonds@
debentures etc.
*+'% '2# "'2(./$ S+.2%9%#2& 7(!'!)('0 .8%(.!$ '"'(0'60# 7.2
(!"#$%&#!%,
3roadly speaking@ savings bank account@ money market*li(uid funds and
fi$ed deposits with banks may be considered as shortterm financial
investment optionsA
S'"(!3$ B'!4 A))./!% is often the first banking product people
use@ which offers low interest 92B4B p.a.:@ making them only
marginally better than fi$ed deposits.
M.!#- M'24#% .2 L(:/(1 F/!1$ are a speciali/ed form of mutual
funds that invest in e$tremely shortterm fi$ed income instruments
and thereby provide easy li(uidity. Gnlike most mutual funds@ money
market funds are primarily oriented towards protecting your capital
and then@ aim to ma$imise returns. ,oney market funds usually yield
8
better returns than savings accounts@ but lower than bank fi$ed
deposits.
F(;#1 D#8.$(%$ 5(%+ B'!4$ are also referred to as term deposits
and minimum investment period for bank -+s is 0& days. -i$ed
+eposits with banks are for investors with low risk appetite@ and may
be considered for 6%. months investment period as normally
interest on less than 6 months bank -+s is likely to be lower than
money market fund returns.
*+'% '2# "'2(./$ L.!39%#2& 7(!'!)('0 .8%(.!$ '"'(0'60# 7.2
(!"#$%&#!%,
5ost 8ffice Savings Schemes@ 5ublic 5rovident -und@ 7ompany -i$ed
+eposits@ 3onds and +ebentures@ ,utual -unds etc.
P.$% O77()# S'"(!3$< 5ost 8ffice ,onthly Income Scheme is a low
risk saving instrument@ which can be availed through any post office.
It provides an interest rate of 8B per annum@ which is paid monthly.
,inimum amount@ which can be invested@ is 1s. %@&&&* and
additional investment in multiples of %@&&&*. ,a$imum
amount is 1s. 0@&&@&&&* 9if Single: or 1s. 6@&&@&&&* 9if held
Hointly: during a year. It has a maturity period of 6 years. = bonus of
%&B is paid at the time of maturity. 5remature withdrawal is
permitted if deposit is more than one year old. = deduction of 4B is
levied from the principal amount if withdrawn prematurelyD the %&B
bonus is also denied.
P/60() P2."(1#!% F/!1< = long term savings instrument with a
maturity of %4 years and interest payable at 8B per annum
compounded annually. = 55- account can be opened through a
nationali/ed bank at anytime during the year and is open all through
the year for depositing money. ?a$ benefits can be availed for the
amount invested and interest accrued is ta$free. = withdrawal is
permissible every year from the seventh financial year of the date of
opening of the account and the amount of withdrawal will be limited
to 4&B of the balance at credit at the end of the 2th year
immediately preceding the year in which the amount is withdrawn or
at the end of the preceding year whichever is lower the amount of
loan if any.
C.&8'!- F(;#1 D#8.$(%$< ?hese are shortterm 9si$ months: to
mediumterm 9three to five years: borrowings by companies at a
fi$ed rate of interest which is payable monthly@ (uarterly@ semi
9
annually or annually. ?hey can also be cumulative fi$ed deposits
where the entire principal alongwith the interest is paid at the end of
the loan period. ?he rate of interest varies between 6"B per annum
for company -+s. ?he interest received is after deduction of ta$es.
B.!1$< It is a fi$ed income 9debt: instrument issued for a period of
more than one year with the purpose of raising capital. ?he central or
state government@ corporations and similar institutions sell bonds. =
bond is generally a promise to repay the principal along with a fi$ed
rate of interest on a specified date@ called the &aturity Date.
M/%/'0 F/!1$< ?hese are funds operated by an investment company
which raises money from the public and invests in a group of assets
9shares@ debentures etc.:@ in accordance with a stated set of
obFectives. It is a substitute for those who are unable to invest
directly in e(uities or debt because of resource@ time or knowledge
constraints. 3enefits include professional money management@
buying in small amounts and diversification. ,utual fund units are
issued and redeemed by the 'und &anagement (om%any based on
the fundCs net asset value 9<=6:@ which is determined at the end of
each trading session. <=6 is calculated as the value of all the shares
held by the fund@ minus e$penses@ divided by the number of units
issued. ,utual -unds are usually long term investment vehicle
though there some categories of mutual funds@ such as money
market mutual funds which are short term instruments.
*+'% ($ &#'!% 6- ' S%.)4 E;)+'!3#,
?he Securities 7ontract 91egulation: =ct@ %"46 IS71=J defines 'Stock
#$change) as any body of individuals@ whether incorporated or not@
constituted for the purpose of assisting@ regulating or controlling the
business of buying@ selling or dealing in securities. Stock e$change could be
a regional stock e$change whose area of operation*Furisdiction is specified at
the time of its recognition or national e$changes@ which are permitted to
have nationwide trading since inception. <S# was incorporated as a national
stock e$change.
*+'% ($ '! =E:/(%->?S+'2#,
?otal e(uity capital
denominations@ each
e(uity capital of 1s
each. #ach such unit
of a company is divided into e(ual units of small
called a share. -or e$ample@ in a company the total
.@&&@&&@&&& is divided into .&@&&@&&& units of 1s %&
of 1s %& is called a Share. ?hus@ the company then is
10
'
said to have .&@&&@&&& e(uity shares of 1s %& each. ?he holders of such
shares are members of the company and have voting rights.
*+'% ($ ' =D#6% I!$%2/&#!%>,
+ebt instrument represents a contract whereby one party lends money to
another on predetermined terms with regards to rate and periodicity of
interest@ repayment of principal amount by the borrower to the lender.
In the Indian securities markets@ the term 'bond) is used for debt
instruments issued by the 7entral and State governments and public sector
organi/ations and the term deenture) is used for instruments issued by
private corporate sector.
*+'% ($ ' D#2("'%("#,
+erivative is a product whose value is derived from the value of one or more
basic variables@ called underlying. ?he underlying asset can be e(uity@ inde$@
foreign e$change 9fore$:@ commodity or any other asset.
+erivative products initially emerged as hedging devices against fluctuations
in commodity prices and commoditylinked derivatives remained the sole
form of such products for almost three hundred years. ?he financial
derivatives came into spotlight in post%"7& period due to growing instability
in the financial markets. ;owever@ since their emergence@ these products
have become very popular and by %""&s@ they accounted for about two
thirds of total transactions in derivative products.
*+'% ($ ' M/%/'0 F/!1,
= ,utual -und is a body corporate registered with S#3I 9Securities #$change
3oard of India: that pools money from individuals*corporate investors and
invests the same in a variety of different financial instruments or securities
such as e(uity shares@ >overnment securities@ 3onds@ debentures etc.
,utual funds can thus be considered as financial intermediaries in the
investment business that collect funds from the public and invest on behalf
of the investors. ,utual funds issue units to the investors. ?he appreciation
of the portfolio or securities in which the mutual fund has invested the
money leads to an appreciation in the value of the units held by investors.
?he investment obFectives outlined by a ,utual -und in its prospectus are
binding on the ,utual -und scheme. ?he investment obFectives specify the
class of securities a ,utual -und can invest in. ,utual -unds invest in
11
various asset classes like e(uity@ bonds@ debentures@ commercial paper and
government securities. ?he schemes offered by mutual funds vary from fund
to fund. Some are pure e(uity schemesD others are a mi$ of e(uity and
bonds. Investors are also given the option of getting dividends@ which are
declared periodically by the mutual fund@ or to participate only in the capital
appreciation of the scheme.
*+'% ($ '! I!1#;,
=n Inde$ shows how a specified portfolio of share prices are moving in order
to give an indication of market trends. It is a basket of securities and the
average price movement of the basket of securities indicates the inde$
movement@ whether upwards or downwards.
*+'% ($ ' D#8.$(%.2-,
= depository is like a bank wherein the deposits are securities 9vi/. shares@
debentures@ bonds@ government securities@ units etc.: in electronic form.
*+'% ($ D#&'%#2('0(@'%(.!,
+emateriali/ation is the process by which physical certificates of an investor
are converted to an e(uivalent number of securities in electronic form and
credited to the investor)s account with his De%ository *artici%ant 9+5:.
12
t

2. SECURITIES
*+'% ($ &#'!% 6- =S#)/2(%(#$>,
?he definition of 'Securities) as per the Securities 7ontracts 1egulation =ct
9S71=:@ %"46@ includes instruments such as shares@ bonds@ scrips@ stocks or
other marketable securities of similar nature in or of any incorporate
company or body corporate@ government securities@ derivatives of securities@
units of collective investment scheme@ interest and rights in securities@
security receipt or any other instruments so declared by the 7entral
>overnment.
*+'% ($ %+# 7/!)%(.! .7 S#)/2(%(#$ M'24#%,
Securities ,arkets is a place where buyers and sellers of securities can enter
into transactions to purchase and sell shares@ bonds@ debentures etc.
-urther@ it performs an important role of enabling corporates@ entrepreneurs
to raise resources for their companies and business ventures through public
issues. ?ransfer of resources from those having idle resources 9investors: to
others who have a need for them 9corporates: is most efficiently achieved
through the securities market. Stated formally@ securities markets provide
channels for reallocation of savings o investments and entrepreneurship.
Savings are linked to investments by a variety of intermediaries@ through a
range of financial products@ called 'Securities).
*+()+ '2# %+# $#)/2(%(#$ .!# )'! (!"#$% (!,
Shares
>overnment Securities
+erivative products
Gnits of ,utual -unds etc.@ are some of the securities investors in the
securities market can invest in.
13

2.1 R#3/0'%.2
*+- 1.#$ S#)/2(%(#$ M'24#% !##1 R#3/0'%.2$,
?he absence of conditions of perfect competition in the securities market
makes the role of the 1egulator e$tremely important. ?he regulator ensures
that the market participants behave in a desired manner so that securities
market continues to be a maFor source of finance for corporate and
government and the interest of investors are protected.
*+. 2#3/0'%#$ %+# S#)/2(%(#$ M'24#%,
?he responsibility for regulating the securities market is shared by
+epartment of #conomic =ffairs 9+#=:@ +epartment of 7ompany =ffairs
9+7=:@ 1eserve 3ank of India 913I: and Securities and #$change 3oard of
India 9S#3I:.
*+'% ($ SEBI '!1 5+'% ($ (%$ 2.0#,
?he Securities and #$change 3oard of India 9S#3I: is the regulatory
authority in India established under Section 0 of S#3I =ct@ %"".. S#3I =ct@
%"". provides for establishment of Securities and #$change 3oard of India
9S#3I: with statutory powers for 9a: protecting the interests of investors in
securities 9b: promoting the development of the securities market and 9c:
regulating the securities market. Its regulatory Furisdiction e$tends over
corporates in the issuance of capital and transfer of securities@ in addition to
all intermediaries and persons associated with securities market. S#3I has
been obligated to perform the aforesaid functions by such measures as it
thinks fit. In particular@ it has powers forA
1egulating the business in stock e$changes and any other securities
markets
1egistering and regulating the working of stock brokers@ subEbrokers
etc.
5romoting and regulating selfregulatory organi/ations
5rohibiting fraudulent and unfair trade practic es
7alling for information from@ undertaking inspection@ conducting
in(uiries and audits of the stock e$changes@ intermediaries@ self E
regulatory organi/ations@ mutual funds and other persons associated
with the securities market.
14
2.2 P'2%()(8'!%$
*+. '2# %+# 8'2%()(8'!%$ (! %+# S#)/2(%(#$ M'24#%,
?he securities market essentially has three categories of participants@
namely@ the issuers of securities@ investors in securities and the
intermediaries@ such as merchant bankers@ brokers etc. While the corporates
and government raise resources from the securities market to meet their
obligations@ it is households that invest their savings in the securities
market.
I$ (% !#)#$$'2- %. %2'!$')% %+2./3+ '! (!%#2&#1('2-,
It is advisable to conduct transactions through an intermediary. -or e$ample
you need to transact through a trading member of a stock e$change if you
intend to buy or sell any security on stock e$changes. Kou need to maintain
an account with a depository if you intend to hold securities in demat form.
Kou need to deposit money with a banker to an issue if you are subscribing
to public issues. Kou get guidance if you are transacting through an
intermediary. 7hose a S#3I registered intermediary@ as he is accountable for
its activities. ?he list of registered intermediaries is available with
e$changes@ industry associations etc.
*+'% '2# %+# $#3&#!%$ .7 S#)/2(%(#$ M'24#%,
?he securities market has two interdependent segmentsA the primary 9new
issues: market and the secondary market. ?he primary market provides the
channel for sale of new securities while the secondary market deals in
securities previously issued.
15
i
3. PRIMARY MARKET
*+'% ($ %+# 2.0# .7 %+# =P2(&'2- M'24#%>,
?he primary market provides the channel for sale of new securities. 5rimary
market provides opportunity to issuers of securitiesD >overnment as well as
corporates@ to raise resources to meet their re(uirements of investment
and*or discharge some obligation.
?hey may issue the securities at face value@ or at a discount*premium and
these securities may take a variety of forms such as e(uity@ debt etc. ?hey
may issue the securities in domestic market and*or international market.
*+'% ($ &#'!% 6- F')# V'0/# .7 ' $+'2#?1#6#!%/2#,
?he nominal or stated amount 9in 1s.: assigned to a security by the issuer.
-or shares@ it is the original cost of the stock shown on the certificateD for
bonds@ it is the amount paid to the holder at maturity. =lso known as par
value or simply par. -or an e(uity share@ the face value s usually a very
small amount 91s. 4@ 1s. %&: and does not have much bearing on the price
of the share@ which may (uote higher in the market@ at 1s. %&& or 1s. %&&&
or any other price. -or a debt security@ face value is the amount repaid to
the investor when the bond matures 9usually@ >overnment securities and
corporate bonds have a face value of 1s. %&&:. ?he price at which the
security trades depends on the fluctuations in the interest rates in the
economy.
*+'% 1. -./ &#'! 6- %+# %#2& P2#&(/& '!1 D($). /!% (! '
S#)/2(%- M'24#%,
Securities are generally issued in denominations of 4@ %& or %&&. ?his is
known as the -ace 6alue or 5ar 6alue of the security as discussed earlier.
When a security is sold above its face value@ it is said to be issued at a
5remium and if it is sold at less than its face value@ then it is said to be
issued at a +iscount.
16
3.1 I$$/# .7 S+'2#$
*+- 1. ).&8'!(#$ !##1 %. ($$/# $+'2#$ %. %+# 8/60(),
,ost companies are usually started privately by their promoter9s:. ;owever@
the promoters) capital and the borrowings from banks and financial
institutions may not be sufficient for setting up or running the business over
a long term. So companies invite the public to contribute towards the e(uity
and issue shares to individual investors. ?he way to invite share capital from
the public is through a +*u#ic Issue). Simply stated@ a public issue is an offer
to the public to subscribe to the share capital of a company. 8nce this is
done@ the company allots shares to the applicants as per the prescribed
rules and regulations laid down by S#3I.
*+'% '2# %+# 1(77#2#!% 4(!1$ .7 ($$/#$,
5rimarily@ issues can be classified as a 5ublic@ 1ights or 5referential issues
9also known as private placements:. While public and rights issues involve a
detailed procedure@ private placements or preferential issues are relatively
simpler. ?he classification of issues is illustrated belowA
I!(%('0 P/60() O77#2(!3 AIPOB is when an unlisted company makes either a
fresh issue of securities or an offer for sale of its e$isting securities or both
for the first time to the public. ?his paves way for listing and trading of the
issuer)s securities.
A 7.00.5 .! 8/60() .77#2(!3 AF/2%+#2 I$$/#B is when an already listed
company makes either a fresh issue of securities to the public or an offer for
sale to the public@ through an offer document.
R(3+%$ I$$/# is when a listed company which proposes to issue fresh
securities to its e$isting shareholders as on a record date. ?he rights are
normally offered in a particular ratio to the number of securities held prior to
the issue. ?his route is best suited for companies who would like to raise
capital without diluting stake of its e$isting shareholders.
A P2#7#2#!%('0 ($$/# is an issue of shares or of convertible securities by
listed companies to a select group of persons under Section 8% of the
7ompanies =ct@ %"46 which is neither a rights issue nor a public issue. ?his
is a faster way for a company to raise e(uity capital. ?he issuer company
has to comply with the 7ompanies =ct and the re(uirements contained in
17
the 7hapter pertaining to preferential allotment in S#3I guidelines which
interalia include pricing@ disclosures in notice etc.
C0'$$(7()'%(.! .7 I$$/#$
I$$/#$
5ublic
Initial 5ublic 8ffering
1ights 5referential
-urther 5ublic 8ffering
-resh Issue 8ffer for Sale -resh Issue 8ffer for Sale
*+'% ($ &#'!% 6- I$$/# 82()#,
?he price at which a companyCs shares are offered initially in the primary
market is called as the Issue price. When they begin to be traded@ the
market price may be above or below the issue price.
*+'% ($ &#'!% 6- M'24#% C'8(%'0($'%(.!,
?he market value of a (uoted company@ which is calculated by multiplying
its current share price 9market price: by the number of shares in issue is
called as market capitali/ation. #.g. 7ompany = has %.& million shares in
issue. ?he current market price is 1s. %&&. ?he market capitalisation of
comp any = is 1s. %.&&& million.
18
*+'% ($ %+# 1(77#2#!)# 6#%5##! 8/60() ($$/# '!1 82("'%#
80')#&#!%,
When an issue is not made to only a select set of people but is open to the
general public and any other investor at large@ it is a public issue. 3ut if the
issue is made to a select set of people@ it is called private placement. =s per
7ompanies =ct@ %"46@ an issue becomes public if it results in allotment to 4&
persons or more. ?his means an issue can be privately placed where an
allotment is made to less than 4& persons.
*+'% ($ '! I!(%('0 P/60() O77#2 AIPOB,
=n Initial 5ublic 8ffer 9I58: is the selling of securities to the public in the
primary market. It is when an unlisted company makes either a fresh issue
of securities or an offer for sale of its e$isting securities or both for the first
time to the public. ?his paves way for listing and trading of the issuer)s
securities. ?he sale of securities can be either through book building or
through normal public issue.
*+. 1#)(1#$ %+# 82()# .7 '! ($$/#,
Indian primary market ushered in an era of free pricing in %"".. -ollowing
this@ the guidelines have provided that the issuer in consultation with
,erchant 3anker shall decide the price. ?here is no price formula stipulated
by S#3I. S#3I does not play any role in price fi$ation. ?he company and
merchant banker are however re(uired to give full disclosures of the
parameters which they had considered while deciding the issue price. ?here
are two types of issues@ one where company and !ead ,erchant 3anker fi$ a
price 9called fi$ed price: and other@ where the company and the !ead
,anager 9!,: stipulate a floor price or a price band and leave it to market
forces to determine the final price 9price discovery through book building
process:.
*+'% 1.#$ =82()# 1($)."#2- %+2./3+ B..4 B/(01(!3 P2.)#$$>
&#'!,
3ook 3uilding is basically a process used in I58s for efficient price discovery.
It is a mechanism where@ during the period for which the I58 is open@ bids
are collected from investors at various prices@ which are above or e(ual to
the floor price. ?he offer price is determined after the bid closing date.
19
*+'% ($ %+# &'(! 1(77#2#!)# 6#%5##! .77#2 .7 $+'2#$ %+2./3+
6..4 6/(01(!3 '!1 .77#2 .7 $+'2#$ %+2./3+ !.2&'0 8/60() ($$/#,
Price at which securities will be allotted is not known in case of offer of
shares through 3ook 3uilding while in case of offer of shares through normal
public issue@ price is known in advance to investor. Gnder 3ook 3uilding@
investors bid for shares at the floor price or above and after the closure of
the book building process the price is determined for allotment of shares.
In case of 3ook 3uilding@ the demand can be known everyday as the book
is being built. 3ut in case of the public issue the demand is known at the
close of the issue.
*+'% ($ C/%9O77 P2()#,
In a 3ook building issue@ the issuer is re(uired to indicate either the price
band or a floor price in the prospectus. ?he actual discovered issue price can
be any price in the price band or any price above the floor price. ?his issue
price is called L7ut8ff 5riceM. ?he issuer and lead manager decides this after
considering the book and the investors) appetite for the stock.
*+'% ($ %+# 70..2 82()# (! )'$# .7 6..4 6/(01(!3,
-loor price is the minimum price at which bids can be made.
*+'% ($ ' P2()# B'!1 (! ' 6..4 6/(0% IPO,
?he prospectus may contain either the floor price for the securities or a price
band within which the investors can bid. ?he spread between the floor and
the cap of the price band shall not be more than .&B. In other words@ it
means that the cap should not be more than %.&B of the floor price. ?he
price band can have a revision and such a revision in the price band shall be
widely disseminated by informing the stock e$changes@ by issuing a press
release and also indicating the change on the relevant website and the
terminals of the trading members participating in the book building process.
In case the price band is revised@ the bidding period shall be e$tended for a
further period of three days@ subFect to the total bidding period not
e$ceeding ten days.
20
*+. 1#)(1#$ %+# P2()# B'!1,
It may be understood that the regulatory mechanism does not play a role in
setting the price for issues. It is up to the company to decide on the price or
the price band@ in consultation with ,erchant 3ankers.
*+'% ($ &(!(&/& !/&6#2 .7 1'-$ 7.2 5+()+ ' 6(1 $+./01
2#&'(! .8#! 1/2(!3 6..4 6/(01(!3,
?he 3ook should remain open for a minimum of 0 days.
C'! .8#! ./%)2- $-$%#& 6# /$#1 7.2 6..4 6/(01(!3,
<o. =s per S#3I@ only electronically linked transparent facility is allowed to
be used in case of book building.
C'! %+# (!1("(1/'0 (!"#$%.2 /$# %+# 6..4 6/(01(!3 7')(0(%- %.
&'4# '! '880()'%(.!,
Kes.
C.5 1.#$ .!# 4!.5 (7 $+'2#$ '2# '00.%%#1 (! '! IPO?.77#2 7.2
$'0#, *+'% ($ %+# %(&#72'&# 7.2 3#%%(!3 2#7/!1 (7 $+'2#$ !.%
'00.%%#1,
=s per S#3I guidelines@ the 3asis of =llotment should be completed with %4
days from the issue close date. =s soon as the basis of allotment is
completed@ within . working days the details of credit to demat account *
allotment advice and despatch of refund order needs to be completed. So an
investor should know in about %4 days time from the closure of issue@
whether shares are allotted to him or not.
C.5 0.!3 1.#$ (% %'4# %. 3#% %+# $+'2#$ 0($%#1 '7%#2 ($$/#,
It would take around 0 weeks after the closure of the book built issue.
21

*+'% ($ %+# 2.0# .7 ' =R#3($%2'2> %. '! ($$/#,

?he 1egistrar finali/es the list of eligible allottees after deleting the invalid
applications and ensures that the corporate action for crediting of shares to
the demat accounts of the applicants is done and the dispatch of refund
orders to those applicable are sent. ?he !ead ,anager coordinates with the
1egistrar to ensure follow up so that that the flow of applications from
collecting bank branches@ processing of the applications and other matters
till the basis of allotment is finali/ed@ dispatch security certificates and
refund orders completed and securities listed.
D.#$ NSE 82."(1# '!- 7')(0(%- 7.2 IPO,
Kes. <S#)s electronic trading network spans across the country providing
access to investors in remote areas. <S# decided to offer this infrastructure
for conducting online I58s through the 3ook 3uilding process. <S# operates
a fully automated screen based bidding system called <#=? I58 that enables
trading members to enter bids directly from their offices through a
sophisticated telecommunication network.
3ook 3uilding through the <S# system offers several advantagesA
?he <S# system offers a nation wide bidding facility in securities
It provide a fair@ efficient N transparent method for collecting bids
using the latest electronic trading systems
7osts involved in the issue are far less than those in a normal I58
?he system reduces the time taken for completion of the issue
process
?he I58 market timings are from %&.&& a.m. to 0.&& p.m. 8n the last day of
the I58@ the session timings can be further e$tended on specific re(uest by
the 3ook 1unning !ead ,anager.
*+'% ($ ' P2.$8#)%/$,
= large number of new companies float public issues. While a large number
of these companies are genuine@ (uite a few may want to e$ploit the
investors. ?herefore@ it is very important that an investor before applying for
any issue identifies future potential of a company. = part of the guidelines
issued by S#3I 9Securities and #$change 3oard of India: is the disclosure of
22
information to the public. ?his disclosure includes information like the reason
for raising the money@ the way money is proposed to be spent@ the return
e$pected on the money etc. ?his information is in the form of '5rospectus )
which also includes information regarding the si/e of the issue@ the current
status of the company@ its e(uity capital@ its current and past performance@
the promoters@ the proFect@ cost of the proFect@ means of financing@ product
and capacity etc. It also contains lot of mandatory information regarding
under$riting and statutory compliances. ?his helps investors to evaluate
short term and long term prospects of the company.
*+'% 1.#$ =D2'7% O77#2 1.)/&#!%> &#'!,
'8ffer document) means *ros%ectus in case of a public issue or offer for sale
and ,etter o" -""er in case of a rights issue which is filed with the 1egistrar
of 7ompanies 9187: and Stock #$changes 9S#s:. =n offer document covers
all the relevant information to help an investor to make his*her investment
decision.
'+raft 8ffer document) means the offer document in draft stage. ?he draft
offer documents are filed with S#3I@ atleast .% days prior to the filing of the
8ffer +ocument with 187*S#s. S#3I may specify changes@ if any@ in the
draft 8ffer +ocument and the issuer or the lead merchant banker shall carry
out such changes in the draft offer document before filing the 8ffer
+ocument with 187*S#s. ?he +raft 8ffer +ocument is available on the S#3I
website for public comments for a period of .% days from the filing of the
+raft 8ffer +ocument with S#3I.
*+'% ($ '! =A62(13#1 P2.$8#)%/$>,
'=bridged 5rospectus) is a shorter version of the 5rospectus and contains all
the salient features of a 5rospectus. It accompanies the application form of
public issues.
*+. 82#8'2#$ %+# =P2.$8#)%/$>?=O77#2 D.)/&#!%$>,
>enerally@ the public issues of companies are handled by +&erchant .ankers)
who are responsible for getting the proFect appraised@ finali/ing the cost of
the proFect@ profitability estimates and for preparing of '5rospectus). ?he
'5rospectus) is submitted to S#3I for its approval.
23
*+'% 1.#$ .!# &#'! 6- =L.)49(!>,
'!ockin) indicates a free/e on the sale of shares for a certain period of time.
S#3I guidelines have stipulated lockin re(uirements on shares of promoters
mainly to ensure that the promoters or main persons@ who are controlling
the company@ shall continue to hold some minimum percentage in the
company after the public issue.
*+'% ($ &#'!% 6- =L($%(!3 .7 S#)/2(%(#$>,
!isting means admission of securities of an issuer to trading privileges
9dealings: on a stock e$change through a formal agreement. ?he prime
obFective of admission to dealings on the e$change is to provide li(uidity
and marketability to securities@ as also to provide a mechanism for effective
control and supervision of trading.
*+'% ($ ' =L($%(!3 A32##&#!%>,
=t the time of listing securities of a company on a stock e$change@ the
company is re(uired to enter into a listing agreement with the e$change.
?he listing agreement specifies the terms and conditions of listing and the
disclosures that shall be made by a company on a continuous basis to the
e$change.
*+'% 1.#$ =D#0($%(!3 .7 $#)/2(%(#$> &#'!,
?he term '+elisting of securities) means permanent removal of securities of a
listed company from a stock e$change. =s a conse(uence of delisting@ the
securities of that company would no longer be traded at that stock
e$change.
*+'% ($ SEBI>$ R.0# (! '! I$$/#,
=ny company making a public issue or a listed company making a rights
issue of value of more than 1s 4& lakh is re(uired to file a draft offer
document with S#3I for its observations. ?he company can proceed further
on the issue only after getting observations from S#3I. ?he validity period of
S#3I)s observation letter is three months only i.e. the company has to open
its issue within three months period.
24
D.#$ (% &#'! %+'% SEBI 2#).&&#!1$ '! ($$/#,
S#3I does not recommend any issue nor does take any responsibility either
for the financial soundness of any scheme or the proFect for which the issue
is proposed to be made or for the correctness of the statements made or
opinions e$pressed in the offer document. S#3I mainly scrutini/es the issue
for seeing that ade(uate disclosures are made by the issuing company in the
prospectus or offer document.
D.#$ SEBI %'3 &'4# .!#>$ &.!#- $'7#,
?he investors should make an informed decision purely by themselves based
on the contents disclosed in the offer documents. S#3I does not associate
itself with any issue*issuer and should in no way be construed as a
guarantee for the funds that the investor proposes to invest through the
issue. ;owever@ the investors are generally advised to study all the material
facts pertaining to the issue including the risk factors before considering any
investment. ?hey are strongly warned against relying on any 'tips) or news
through unofficial means.
3.2 F.2#(3! C'8(%'0 I$$/'!)#
C'! ).&8'!(#$ (! I!1(' 2'($# 7.2#(3! )/22#!)- 2#$./2)#$,
Kes. Indian companies are permitted to raise foreign currency resources
through two main sourcesA a: issue of foreign currency convertible bonds
more commonly known as '#uro) issues and b: issue of ordinary shares
through depository receipts namely '>lobal +epository 1eceipts
9>+1s:*=merican +epository 1eceipts 9=+1s:) to foreign investors i.e. to the
institutional investors or individual investors.
*+'% ($ '! A&#2()'! D#8.$(%.2- R#)#(8%,
=n =merican +epositary 1eceipt 9O=+1O: is a physical certificate evidencing
ownership of =merican +epositary Shares 9O=+SsO:. ?he term is often used
to refer to the =+Ss themselves.
25
*+'% ($ '! ADS,
=n =merican +epositary Share 9O=+SO: is a G.S. dollar denominated form of
e(uity ownership in a nonG.S. company. It represents the foreign shares of
the company held on deposit by a custodian bank in the companyCs home
country and carries the corporate and economic rights of the foreign shares@
subFect to the terms specified on the =+1 certificate.
8ne or several =+Ss can be represented by a physical =+1 certificate. ?he
terms =+1 and =+S are often used interchangeably.
=+Ss provide G.S. investors with a convenient way to invest in overseas
securities and to trade nonG.S. securities in the G.S. =+Ss are issued by a
depository bank@ such as H5,organ 7hase 3ank. ?hey are traded in the
same manner as shares in G.S. companies@ on the <ew Kork Stock #$change
9<KS#: and the =merican Stock #$change 9=,#P: or (uoted on NASDAD
and the overthecounter 98?7: market.
=lthough =+Ss are G.S. dollar denominated securities and pay dividends in
G.S. dollars@ they do not eliminate the currency risk associated with an
investment in a nonG.S. company.
*+'% ($ &#'!% 6- E0.6'0 D#8.$(%.2- R#)#(8%$,
>lobal +epository 1eceipts 9>+1s: may be defined as a global finance
vehicle that allows an issuer to raise capital simultaneously in two or
markets through a global offering. >+1s may be used in public or private
markets inside or outside GS. >+1@ a negotiable certificate usually
represents company)s traded e(uity*debt. ?he underlying shares correspond
to the >+1s in a fi$ed ratio say % >+1Q%& shares.
26
4. SECONDARY MARKET
4.1 I!%2.1/)%(.!
*+'% ($ &#'!% 6- S#).!1'2- &'24#%,
Secondary market refers to a market where securities are traded after being
initially offered to the public in the primary market and*or listed on the
Stock #$change. ,aFority of the trading is done in the secondary market.
Secondary market comprises of e(uity markets and the debt markets.
*+'% ($ %+# 2.0# .7 %+# S#).!1'2- M'24#%,
-or the general investor@ the secondary market provides an efficient
platform for trading of his securities. -or the management of the company@
Secondary e(uity markets serve as a monitoring and control conduitRby
facilitating valueenhancing control activities@ enabling implementation of
incentivebased management contracts@ and aggregating information 9via
price discovery: that guides management decisions.
*+'% ($ %+# 1(77#2#!)# 6#%5##! %+# P2(&'2- M'24#% '!1 %+#
S#).!1'2- M'24#%,
In the primary market@ securities are offered to public for subscription for
the purpose of raising capital or fund. Secondary market is an e(uity trading
venue in which already e$isting*preissued securities are traded among
investors. Secondary market could be either auction or dealer market. While
stock e$change is the part of an auction market@ 8verthe7ounter 98?7: is
a part of the dealer market.
27
4.1.1 S%.)4 E;)+'!3#
*+'% ($ %+# 2.0# .7 ' S%.)4 E;)+'!3# (! 6/-(!3 '!1 $#00(!3
$+'2#$,
?he stock e$changes in India@ under the overall supervision of the regulatory
authority@ the Securities and #$change 3oard of India 9S#3I:@ provide a
trading platform@ where buyers and sellers can meet to transact in
securities. ?he trading platform provided by <S# is an electronic one and
there is no need for buyers and sellers to meet at a physical location to
trade. ?hey can trade through the computeri/ed trading screens available
with the <S# trading members or the internet based trading facility provided
by the trading members of <S#.
*+'% ($ D#&/%/'0($'%(.! .7 $%.)4 #;)+'!3#$,
+emutualisation refers to the legal structure of an e$change whereby the
ownership@ the management and the trading rights at the e$change are
segregated from one another.
C.5 ($ ' 1#&/%/'0($#1 #;)+'!3# 1(77#2#!% 72.& ' &/%/'0
#;)+'!3#,
In a mutual e$change@ the three functions of ownership@ management and
trading are concentrated into a single >roup. ;ere@ the broker members of
the e$change are both the owners and the traders on the e$change and
they further manage the e$change as well. ?his at times can lead to conflicts
of interest in decision making. = demutualised e$change@ on the other hand@
has all these three functions clearly segregated@ i.e. the ownership@
management and trading are in separate hands.
C/22#!%0- '2# %+#2# '!- 1#&/%/'0($#1 $%.)4 #;)+'!3#$ (!
I!1(',
7urrently@ two stock e$changes in India@ the <ational Stock #$change 9<S#:
and 8ver the 7ounter #$change of India 98?7#I: are demutualised.
28
4.1.2 S%.)4 T2'1(!3
*+'% ($ S)2##! B'$#1 T2'1(!3,
?he trading on stock e$changes in India used to take place through open
outcry without use of information technology for immediate matching or
recording of trades. ?his was time consuming and inefficient. ?his imposed
limits on trading volumes and effic iency. In order to provide efficiency@
li(uidity and transparency@ <S# introduced a nationwide@ online@ fully
automated screen based trading system 9S3?S: where a member can punch
into the computer the (uantities of a security and the price at which he
would like to transact@ and the transaction is e$ecuted as soon as a
matching sale or buy order from a counter party is found.
*+'% ($ NEAT,
<S# is the first e$change in the world to use satellite communication
technology for trading. Its trading system@ called <ational #$change for
=utomated ?rading 9<#=?:@ is a state oftheart client server based
application. =t the server end all trading information is stored in an in
memory database to achieve minimum response time and ma$imum system
availability for users. It has uptime record of "".7B. -or all trades entered
into <#=? system@ there is uniform response time of less than one second.
C.5 %. 80')# .21#2$ 5(%+ %+# 62.4#2,
Kou may go to the broker)s office or place an order on the phone*internet or
as defined in the &ode# /greement0 which every client needs to enter into
with his or her broker.
C.5 1.#$ '! (!"#$%.2 3#% '))#$$ %. (!%#2!#% 6'$#1 %2'1(!3
7')(0(%-,
?here are many brokers of the <S# who provide internet based trading
facility to their clients. Internet based trading enables an investor to buy*sell
securities through internet which can be accessed from a computer at the
investor)s residence or anywhere else where the client can access the
internet. Investors need to get in touch with an <S# broker providing this
service to avail of internet based trading facility.
29

*+'% ($ ' C.!%2')% N.%#,

7ontract <ote is a confirmation of trades done on a particular day on behalf
of the client by a trading member. It imposes a legally enforceable
relationship between the client and the trading member with respect to
purchase*sale and settlement of trades. It also helps to settle
disputes*claims between the investor and the trading member. It is a
prere(uisite for filing a complaint or arbitration proceeding against the
trading member in case of a dispute. = valid contract note should be in the
prescribed form@ contain the details of trades@ stamped with re(uisite value
and duly signed by the authori/ed signatory. 7ontract notes are kept in
duplicate@ the trading member and the client should keep one copy each.
=fter verifying the details contained therein@ the client keeps one copy and
returns the second copy to the trading member duly acknowledged by him.
*+'% 1#%'(0$ '2# 2#:/(2#1 %. 6# &#!%(.!#1 .! %+# ).!%2')%
!.%# ($$/#1 6- %+# $%.)4 62.4#2,
= broker has to issue a contract note to clients for all transactions in the
form specified by the stock e$change. ?he contract note interalia should
have followingA
<ame@ address and S#3I 1egistration number of the ,ember broker.
<ame of partner*proprietor*=uthorised Signatory.
+ealing 8ffice =ddress*?el. <o.*-a$ no.@ 7ode number of the member
given by the #$change.
7ontract number@ date of issue of contract note@ settlement number
and time period for settlement.
7onstituent 97lient: name*7ode <umber.
8rder number and order time corresponding to the trades.
?rade number and ?rade time.
Suantity and kind of Security bought*sold by the client.
3rokerage and 5urchase*Sale rate.
Service ta$ rates@ Securities ?ransaction ?a$ and any other charges
levied by the broker.
=ppropriate stamps have to be affi$ed on the contract note or it is
mentioned that the consolidated stamp duty is paid.
Signature of the Stock broker*=uthori/ed Signatory.
*+'% ($ %+# &';(&/& 62.4#2'3# %+'% ' 62.4#2 )'! )+'23#,
?he ma$imum brokerage that can be charged by a broker from his clients as
commission cannot be more than ..4B of the value mentioned in the
respective purchase or sale note.
30

l
*+- $+./01 .!# %2'1# .! ' 2#).3!(@#1 $%.)4 #;)+'!3# .!0- 7.2
6/-(!3?$#00(!3 $+'2#$,
=n investor does not get any protection if he trades outside a stock
e$change. ?rading at the e$change offers investors the best prices
prevailing at the time in the market@ lack of any counterparty risk which is
assumed by the c#earing cor%oration0 access to investor grievance and
redressal mechanism of stock e$changes@ protection upto a prescribed limit@
from the Investor 5rotection -und etc.
C.5 %. 4!.5 (7 %+# 62.4#2 .2 $/6 62.4#2 ($ 2#3($%#2#1,
8ne can confirm it by verifying the registration certificate issued by S#3I. =
brokerCs registration number begins with the letters 'I<3) and that of a sub
broker with the letters 'I<S).
*+'% 82#)'/%(.!$ &/$% .!# %'4# 6#7.2# (!"#$%(!3 (! %+# $%.)4
&'24#%$,
;ere are some useful pointers to bear in mind before you invest in the
marketsA
,ake sure your broker is registered with S#3I and the e$changes and
do not deal with unregistered intermediaries.
#nsure that you receive contract notes for all your transactions from
your broker within one working day of e$ecution of the trades.
=ll investments carry risk of some kind. Investors should always
know the risk that they are taking and invest in a manner that
matches their risk tolerance.
+o not be misled by market rumours@ uring advertisement or 'hot
tips) of the day.
?ake informed decisions by studying the fundamentals of the
company. -ind out the business the company is into@ its future
prospects@ (uality of management@ past track record etc Sources of
knowing about a company are through annual reports@ economic
maga/ines@ databases available with vendors or your financial
advisor.
31

If your financial advisor or broker advises you to invest in a company

you have never heard of@ be cautious. Spend some time checking out
about the company before investing.
+o not be attracted by announcements of fantastic results*news
reports@ about a company. +o your own research before investing in
any stock.
+o not be attracted to stocks based on what an internet website
promotes@ unless you have done ade(uate study of the company.
Investing in very low priced stocks or what are known as penny
stocks does not guarantee high returns.
3e cautious about stocks which show a sudden spurt in price or
trading activity.
=ny advise or tip that claims that there are huge returns e$pected@
especially for acting (uickly@ may be risky and may to lead to losing
some@ most@ or all of your money.
*+'% D.>$ '!1 D.!>%$ $+./01 '! (!"#$%.2 6#'2 (! &(!1 5+#!
(!"#$%(!3 (! %+# $%.)4 &'24#%$,
#nsure that the intermediary 9broker*subbroker: has a valid S#3I
registration certificate.
#nter into an agreement with your broker*subbroker setting out
terms and conditions clearly.
#nsure that you give all your details in the 'Tnow Kour 7lient) form.
#nsure that you read carefully and understand the contents of the
'1isk +isclosure +ocument) and then acknowledge it.
Insist on a contract note issued by your broker only@ for trades done
each day.
#nsure that you receive the contract note from your broker within .2
hours of the transaction.
#nsure that the contract note contains details such as the broker)s
name@ trade time and number@ transaction price@ brokerage@ service
ta$@ securities transaction ta$ etc. and is signed by the =uthorised
Signatory of the broker.
?o cross check genuineness of the transactions@ log in to the <S#
website 9www.nseindia.com: and go to the trade verification facility
e$tended by <S# at www.nseindia.com*content*e(uities*
e(Utrdverify.htm.
32

Issue account payee che(ues*demand drafts in the name of your

broker only@ as it appears on the contract note*S#3I registration
certificate of the broker.
While delivering shares to your broker to meet your obligations@
ensure that the delivery instructions are made only to the designated
account of your broker only.
Insist on periodical statement of accounts of funds and securities
from your broker. 7ross check and reconcile your accounts promptly
and in case of any discrepancies bring it to the attention of your
broker immediately.
5lease ensure that you receive payments*deliveries from your broker@
for the transactions entered by you@ within one working day of the
payout date.
#nsure that you do not undertake deals on behalf of others or trade
on your own name and then issue che(ues from a family members )*
friends) bank accounts.
Similarly@ the +emat delivery instruction slip should be from your
own +emat account@ not from any other family members)*friends)
accounts.
+o not sign blank delivery instruction slip9s: while meeting security
payin obligation.
<o intermediary in the market can accept deposit assuring fi$ed
returns. ;ence do not give your money as deposit against assurances
of returns.
'5ortfolio ,anagement Services) could be offered only by
intermediaries having specific approval of S#3I for 5,S. ;ence@ do
not part your funds to unauthori/ed persons for 5ortfolio
,anagement.
+elivery Instruction Slip is a very valuable document. +o not leave
signed blank delivery instruction slip with anyone. While meeting pay
in obligation make sure that correct I+ of authorised intermediary is
filled in the +elivery Instruction -orm.
3e cautious while taking funding form authorised intermediaries as
these transactions are not covered under Settlement >uarantee
mechanisms of the e$change.
Insist on e$ecution of all orders under uni(ue client code allotted to
you. +o not accept trades e$ecuted under some other client code to
your account.
When you are authorising someone through '5ower of =ttorney) for
operation of your +5 account@ make sure thatA
your authori/atio n is in favour of registered
intermediary only.
authorisation is only for limited purpose of debits and
credits arising out of valid transactions e$ecuted
through that intermediary only.
33

you verify +5 statement periodically say every month*

fortnight to ensure that no unauthorised transactions
have taken place in your account.
authori/ation given by you has been properly used for
the purpose for which authori/ation has been given.
in case you find wrong entries please report in writing
to the authori/ed intermediary.
+on)t accept unsigned*duplicate contract note.
+on)t accept contract note signed by any unauthorised person.
+on)t delay payment*deliveries of securities to broker.
In the event of any discrepancies*disputes@ please bring them to the
notice of the broker immediately in writing 9acknowledged by the
broker: and ensure their prompt rectification.
In case of subbroker disputes@ inform the main broker in writing
about the dispute at the earliest and in any case not later than 6
months.
If your broker*subbroker does not resolve your complaints within a
reasonable period 9say within %4 days:@ please bring it to the
attention of the 'Investor >rievances 7ell) of the <S#.
While lodging a complaint with the 'Investor >rievances 7ell) of the
<S#@ it is very important that you submit copies of all relevant
documents like contract notes@ proof of payments*delivery of shares
etc. alongwith the complaint. 1emember@ in the absence of sufficient
documents@ resolution of complaints becomes difficult.
-amiliarise yourself with the rules@ regulations and circulars issued by
stock e$changes*S#3I before carrying out any transaction.
4.2 P2.1/)%$ (! %+# S#).!1'2- M'24#%$
*+'% '2# %+# 82.1/)%$ 1#'0% (! %+# S#).!1'2- M'24#%$,
-ollowing are the main financial products*instruments dealt in the Secondary
market which may be divided broadly into Shares and 3ondsA
S+'2#$<
Equity Shares1 =n e(uity share@ commonly referred to as ordinary
share@ represents the form of fractional ownership in a business
venture.
2ights Issue3 2ights Shares1 ?he issue of new securities to e$isting
shareholders at a ratio to those already held@ at a price. -or e.g. a
34
.A0 rights issue at 1s. %.4@ would entitle a shareholder to receive .
shares for every 0 shares held at a price of 1s. %.4 per share.
.onus Shares1 Shares issued by the companies to their shareholders
free of cost based on the number of shares the shareholder owns.
*re"erence shares1 8wners of these kind of shares are entitled to a
fi$ed dividend or dividend calculated at a fi$ed rate to be paid
regularly before dividend can be paid in respect of e(uity share. ?hey
also enFoy priority over the e(uity shareholders in payment of
surplus. 3ut in the event of li(uidation@ their claims rank below the
claims of the company)s creditors@ bondholders*debenture holders.
(umu#ative *re"erence Shares1 = type of preference shares on which
dividend accumulates if remained unpaid. =ll arrears of preference
dividend have to be paid out before paying dividend on e(uity
shares.
(umu#ative (onverti#e *re"erence Shares1 = type of preference
shares where the dividend payable on the same accumulates@ if not
paid. =fter a specified date@ these shares will be converted into
e(uity capital of the company.
B.!1< is a negotiable certificate evidencing indebtedness. It is normally
unsecured. = debt security is generally issued by a company@ municipality or
government agency. = bond investor lends money to the issuer and in
e$change@ the issuer promises to repay the loan amount on a specified
maturity date. ?he issuer usually pays the bond holder periodic interest
payments over the life of the loan. ?he various types of 3onds are as
followsA
4ero (ou%on .ond1 3ond issued at a discount and repaid at a face
value. <o periodic interest is paid. ?he difference between the issue
price and redemption price represents the return to the holder. ?he
buyer of these bonds receives only one payment@ at the maturity of
the bond.
(onverti#e .ond1 = bond giving the investor the option to convert
the bond into e(uity at a fi$ed conversion price.
Treasury .i##s1 Shortterm 9up to one year: bearer discount security
issued by government as a means of financing their cash
re(uirements.
35
a:
b:

4.2.1 E:/(%- I!"#$%&#!%

*+- $+./01 .!# (!"#$% (! #:/(%(#$ (! 8'2%()/0'2,
When you buy a share of a company you become a shareholder in that
company. Shares are also known as #(uities. #(uities have the potential to
increase in value over time. It also provides your portfolio with the growth
necessary to reach your long term investment goals. 1esearch studies have
proved that the e(uities have outperformed most other forms of
investments in the long term. ?his may be illustrated with the help of
following e$amplesA
8ver a %4 year period between %""& to .&&4@ <ifty has given an
annualised return of %7B.
,r. 1aFu invests in <ifty on Hanuary %@ .&&& 9inde$ value %4".."&:.
?he <ifty value as of end +ecember .&&4 was .806.44. ;olding this
investment over this period Han .&&& to +ec .&&4 he gets a return of
78.&7B. Investment in shares of 8<>7 !td for the same period
gave a return of 264.86B@ S3I 0&%.%7B and 1eliance .8%.2.B.
?herefore@
#(uities are considered the most challenging and the rewarding@
when compared to other investment options.
1esearch studies have proved that investme nts in some shares with
a longer tenure of investment have yielded far superior returns than
any other investment.
;owever@ this does not mean all e(uity investments would guarantee similar
high returns. #(uities are high risk investments. 8ne needs to study them
carefully before investing.
*+'% +'$ 6##! %+# '"#2'3# 2#%/2! .! E:/(%(#$ (! I!1(',
Since %""& till date@ Indian stock market has returned about %7B to
investors on an average in terms of increase in share prices or capital
appreciation annually. 3esides that on average stocks have paid %.4B
dividend annually. Dividend is a percentage of the face value of a share that
a company returns to its shareholders from its annual profits. 7ompared to
36
most other forms of investments@ investing in e(uity shares offers the
highest rate of return@ if invested over a longer duration.
*+()+ '2# %+# 7')%.2$ %+'% (!70/#!)# %+# 82()# .7 ' $%.)4,
3roadly there are two factorsA 9%: stock specific and 9.: market specific. ?he
stockspecific factor is related to people)s e$pectations about the company@
its future earnings capacity@ financial health and management@ level of
technology and marketing skills.
?he market specific factor is influenced by the investor)s sentiment towards
the stock market as a whole. ?his factor depends on the environment rather
than the performance of any particular company. #vents favourable to an
economy@ political or regulatory environment like high economic growth@
friendly budget@ stable government etc. can fuel euphoria in the investors@
resulting in a boom in the market. 8n the other hand@ unfavourable events
like war@ economic crisis@ communal riots@ minority government etc. depress
the market irrespective of certain companies performing well. ;owever@ the
effect of marketspecific factor is generally shortterm. +espite ups and
downs@ price of a stock in the long run gets stabili/ed based on the stock
specific factors. ?herefore@ a prudent advice to all investors is to analyse and
invest and not speculate in shares.
*+'% ($ &#'!% 6- %+# %#2&$ E2.5%+ S%.)4 ? V'0/# S%.)4,
E2.5%+ S%.)4$ <
In the investment world we come across terms such as >rowth stocks@ 6alue
stocks etc. 7ompanies whose potential for growth in sales and earnings are
e$cellent@ are growing faster than other companies in the market or other
stocks in the same industry are called the >rowth Stocks. ?hese companies
usually pay little or no dividends and instead prefer to reinvest their profits
in their business for further e$pansions.
V'0/# S%.)4$<
?he task here is to look for stocks that have been overlooked by other
investors and which may have a 'hidden value). ?hese companies may have
been beaten down in price because of some bad event@ or may be in an
industry thatCs not fancied by most investors. ;owever@ even a company
that has seen its stock price decline still has assets to its name buildings@
real estate@ inventories@ subsidiaries@ and so on. ,any of these assets still
have value@ yet that value may not be reflected in the stockCs price. 6alue
37
investors look to buy stocks that are undervalued@ and then hold those
stocks until the rest of the market reali/es the real value of the companyCs
assets. ?he value investors tend to purchase a companyCs stock usually
based on relationships between the current market price of the company
and certain business fundamentals. ?hey like 5*# ratio being below a certain
absolute limitD dividend yields above a certain absolute limitD ?otal sales at a
certain level relative to the companyCs market capitali/ation@ or market value
etc.
C.5 )'! .!# '):/(2# #:/(%- $+'2#$,
Kou may subscribe to issues made by corporates in the primary market. In
the primary market@ resources are mobilised by the corporates through fresh
public issues 9I58s: or through private placements. =lternately@ you may
purchase shares from the secondary market. ?o buy and sell securities you
should approach a S#3I registered trading member 9broker: of a recogni/ed
stock e$change.
*+'% ($ B(1 '!1 A$4 82()#,
?he '3id) is the buyer)s price. It is this price that you need to know when you
have to sell a stock. 3id is the rate*price at which there is a ready buyer for
the stock@ which you intend to sell.
?he '=sk) 9or offer: is what you need to know when youCre buying i.e. this is
the rate* price at which there is seller ready to sell his stock. ?he seller will
sell his stock if he gets the (uoted L=sk) price.
If an investor looks at a computer screen for a (uote on the stock of say
PKV !td@ it might look something like thisA
B(1 AB/- $(1#B A$4 AS# 00 $(1#B
FFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFFF
D%-. P2()# AR$.B D%-. P2()# AR$.B
UUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUU
%&&&
4&&
44&
.4&&
%0&&
4&..4
4&.%&
4&.&4
4&.&&
2".84
4&.04
4&.2&
4&.4&
4&.44
4&.64
.&&&
%&&&
%4&&
0&&&
%24&
UUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUU
T.%'0 585 895
UUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUUU
38
;ere@ on the lefthand side after the 3id (uantity and price@ whereas on the
right hand side we find the =sk (uantity and prices. ?he best 3uy 93id: order
is the order with the highest price and therefore sits on the first line of the
3id side 9%&&& shares W 1s. 4&..4:. ?he best Sell 9=sk: order is the order
with the lowest sell price 9.&&& shares W 1s. 4&.04:. ?he difference in the
price of the best bid and ask is called as the 3id=sk spread and often is an
indicator of li(uidity in a stock. ?he narrower the difference the more li(uid
or highly traded is the stock.
*+'% ($ ' P.2%7.0(.,
= 5ortfolio is a combination of different investment assets mi$ed and
matched for the purpose of achieving an investorCs goal9s:. Items that are
considered a part of your portfolio can include any asset you ownfrom
shares@ debentures@ bonds@ mutual fund units to items such as gold@ art and
even real estate etc. ;owever@ for most investors a portfolio has come to
signify an investment in financial instruments like shares@ debentures@ fi$ed
deposits@ mutual fund units.
*+'% ($ D("#2$(7()'%(.!,
It is a risk management techni(ue that mi$es a wide variety of investments
within a portfolio. It is designed to minimi/e the impact of any one security
on overall portfolio performance. +iversification is possibly the best way to
reduce the risk in a portfolio.
*+'% '2# %+# '1"'!%'3#$ .7 +'"(!3 ' 1("#2$(7(#1 8.2%7.0(.,
= good investment portfolio is a mi$ of a wide range of asset class. +ifferent
securities perform differently at any point in time@ so with a mi$ of asset
types@ your entire portfolio does not suffer the impact of a decline of any
one security. When your stocks go down@ you may still have the stability of
the bonds in your portfolio. ?here have been all sorts of academic studies
and formulas that demonstrate why diversification is important@ but itCs
really Fust the simple practice of Onot putting all your eggs in one basket.O If
you spread your investments across various types of assets and markets@
youCll reduce the risk of your entire portfolio getting affected by the adverse
returns of any single asset class.
39
4.2.2. D#6% I!"#$%&#!%
*+'% ($ ' =D#6% I!$%2/&#!%>,
+ebt instrument represents a contract whereby one party lends money to
another on predetermined terms with regards to rate and periodicity of
interest@ repayment of principal amount by the borrower to the lender.
In Indian securities markets@ the term 'bond) is used for debt instruments
issued by the 7entral and State governments and public sector organi/ations
and the term 'debenture) is used for instruments issued by private corporate
sector.
*+'% '2# %+# 7#'%/2#$ .7 1#6% (!$%2/&#!%$,
#ach debt instrument has three featuresA ,aturity@ coupon and principal.
&aturity1 ,aturity of a bond refers to the date@ on which the bond
matures@ which is the date on which the borrower has agreed to
repay the principal. Term5to5&aturity refers to the number of years
remaining for the bond to mature. ?he ?ermto,aturity changes
everyday@ from date of issue of the bond until its maturity. ?he term
to maturity of a bond can be calculated on any date@ as the distance
between such a date and the date of maturity. It is also called the
term or the tenure of the bond.
(ou%on1 7oupon refers to the periodic interest payments that are
made by the borrower 9who is also the issuer of the bond: to the
lender 9the subscriber of the bond:. 7oupon rate is the rate at which
interest is paid@ and is usually represented as a percentage of the par
value of a bond.
*rinci%a#1 5rincipal is the amount that has been borrowed@ and is also
called the par value or face value of the bond. ?he coupon is the
product of the principal and the coupon rate.
?he name of the bond itself conveys the key features of a bond. -or
e$ample@ a >S 7>.&&8 %%.2&B bond refers to a 7entral >overnment bond
maturing in the year .&&8 and paying a coupon of %%.2&B. Since 7entral
>overnment bonds have a face value of 1s.%&& and normally pay coupon
semiannually@ this bond will pay 1s. 4.7& as si$ monthly coupon@ until
maturity.
40
*+'% ($ &#'!% 6- =I!%#2#$%> 8'-'60# 6- ' 1#6#!%/2# .2 ' 6.!1,
Interest is the amount paid by the borrower 9the company: to the lender
9the debentureholder: for borrowing the amount for a specific period of
time. ?he interest may be paid annual@ semiannually@ (uarterly or monthly
and is paid usually on the face value 9the value printed on the bond
certificate: of the bond.
*+'% '2# %+# S#3&#!%$ (! %+# D#6% M'24#% (! I!1(',
?here are three main segments in the debt markets in India@ vi/.@ 9%:
>overnment Securities@ 9.: 5ublic Sector Gnits 95SG: bonds@ and 90:
7orporate securities.
?he market for 6overnment Securities comprises the 7entre@ State and
Statesponsored securities. In the recent past@ local bodies such as
municipalities have also begun to tap the debt markets for funds. Some of
the 5SG bonds are ta$ free@ while most bonds including government
securities are not ta$free. 7orporate bond markets comprise of commercial
paper and bonds. ?hese bonds typically are structured to suit the
re(uirements of investors and the issuing corporate@ and include a variety of
tailor made features with respect to interest payments and redemption.
*+. '2# %+# P'2%()(8'!%$ (! %+# D#6% M'24#%,
>iven the large si/e of the trades@ +ebt market is predominantly a wholesale
market@ with dominant institutional investor participation. ?he investors in
the debt markets are mainly banks@ financial institutions@ mutual funds@
provident funds@ insurance companies and corporates.
A2# 6.!1$ 2'%#1 7.2 %+#(2 )2#1(% :/'0(%-,
,ost 3ond*+ebenture issues are rated by specialised credit rating agencies.
7redit rating agencies in India are 71ISI!@ 7=1#@ I71= and -itch. ?he yield
on a bond varies inversely with its credit 9safety: rating. ?he safer the
instrument@ the lower is the rate of interest offered.
C.5 )'! .!# '):/(2# $#)/2(%(#$ (! %+# 1#6% &'24#%,
Kou may subscribe to issues made by the government*corporates in the
primary market. =lternatively@ you may purchase the same from the
secondary market through the stock e$changes.
41
5. DERIVATIVES
*+'% '2# T-8#$ .7 D#2("'%("#$,
F.25'21$< = forward contract is a customi/ed contract between two
entities@ where settlement takes place on a specific date in the future at
today)s preagreed price.
F/%/2#$< = futures contract is an agreement between two parties to buy or
sell an asset at a certain time in the future at a certain price. -utures
contracts are special types of forward contracts in the sense that the former
are standardi/ed e$changetraded contracts@ such as futures of the <ifty
inde$.
O8%(.!$< =n 8ption is a contract which gives the right@ but not an
obligation@ to buy or sell the underlying at a stated date and at a stated
price. While a buyer of an option pays the premium and buys the right to
e$ercise his option@ the writer of an option is the one who receives the
option premium and therefore obliged to sell*buy the asset if the buyer
e$ercises it on him. 8ptions are of two types C'00$ and P/%$ optionsA
'7alls) give the buyer the right but not the obligation to buy a given
(uantity of the underlying asset@ at a given price on or before a given
future date.
'5uts) give the buyer the right@ but not the obligation to sell a given
(uantity of underlying asset at a given price on or before a given
future date.
5resently@ at <S# futures and options are traded on the <ifty@ 7<P I?@ 3=<T
<ifty and %%6 single stocks.
*'22'!%$< 8ptions generally have lives of up to one year. ?he maFority of
options traded on e$changes have ma$imum maturity of nine months.
!onger dated options are called Warrants and are generally traded overthe
counter.
*+'% ($ '! =O8%(.! P2#&(/&>,
=t the time of buying an option contract@ the buyer has to pay premium. ?he
premium is the price for ac(uiring the right to buy or sell. It is price paid by
the option buyer to the option seller for ac(uiring the right to buy or sell.
8ption premiums are always paid upfront.
42
*+'% ($ =C.&&.1(%- E;)+'!3#>,
= 7ommodity #$change is an association@ or a company of any other body
corporate organi/ing futures trading in commodities. In a wider sense@ it is
taken to include any organi/ed market place where trade is routed through
one mechanism@ allowing effective competition among buyers and among
sellers E this would include auctiontype e$changes@ but not wholesale
markets@ where trade is locali/ed@ but effectively takes place through many
nonrelated individual transactions between different permutations of buyers
and sellers.
*+'% ($ &#'!% 6- =C.&&.1(%->,
-71= -orward 7ontracts 91egulation: =ct@ %"4. defines LgoodsM as Levery
kind of movable property other than actionable claims@ money and
securitiesM. -utures) trading is organi/ed in such goods or commodities as
are permitted by the 7entral >overnment. =t present@ all goods and
products of agricultural 9including plantation:@ mineral and fossil origin are
allowed for futures trading under the auspices of the commodity e$changes
recogni/ed under the -71=.
*+'% ($ C.&&.1(%- 1#2("'%("#$ &'24#%,
7ommodity derivatives market trade contracts for which the underlying
asset is commodity. It can be an agricultural commodity like wheat@
soybeans@ rapeseed@ cotton@ etc or precious metals like gold@ silver@ etc.
*+'% ($ %+# 1(77#2#!)# 6#%5##! C.&&.1(%- '!1 F(!'!)('0
1#2("'%("#$,
?he basic concept of a derivative contract remains the same whether the
underlying happens to be a commodity or a financial asset. ;owever there
are some features which are very peculiar to commodity derivative markets.
In the case of financial derivatives@ most of these contracts are cash settled.
#ven in the case of physical settlement@ financial assets are not bulky and
do not need special facility for storage. +ue to the bulky nature of the
underlying assets@ physical settlement in commodity derivatives creates the
need for warehousing. Similarly@ the concept of varying (uality of asset does
not really e$ist as far as financial underlyings are concerned. ;owever in the
case of commodities@ the (uality of the asset underlying a contract can vary
at times.
43

6. DEPOSITORY
C.5 ($ ' 1#8.$(%.2- $(&(0'2 %. ' 6'!4,
= +epository can be compared with a bank@ which holds the funds for
depositors. =n analogy between a bank and a depository may be drawn as
followsA
BANK
;olds funds in an account
?ransfers funds between
accounts on the instruction of
the account holder
-acilitates transfers without
having to handle money
-acilitates safekeeping of
DEPOSITORY
;old securities in an account
?ransfers securities between
accounts on the instruction of the
account holder.
-acilitates transfers of ownership
without having to handle securities.
-acilitates safekeeping of shares.
money
*+()+ '2# %+# 1#8.$(%.2(#$ (! I!1(',
?here are two depositories in India which provide demateriali/ation of
securities. ?he <ational Securities +epository !imited 9<S+!: and 7entral
Securities +epository !imited 97S+!:.
*+'% '2# %+# 6#!#7(%$ .7 8'2%()(8'%(.! (! ' 1#8.$(%.2-,
?he benefits of participation in a depository areA
Immediate transfer of securities
<o stamp duty on transfer of securities
#limination of risks associated with physical certificates such as bad
delivery@ fake securities@ etc.
1eduction in paperwork involved in transfer of securities
1eduction in transaction cost
44

a
#ase of nomination facility
7hange in address recorded with +5 gets registered electronically
with all companies in which investor holds securities eliminating the
need to correspond with each of them separately
?ransmission of securities is done directly by the +5 eliminating
correspondence with companies
7onvenient method of consolidation of folios*accounts
;olding investments in e(uity@ debt instruments and >overnment
securities in a single accountD automatic credit into demat account@ of
shares@ arising out of split*consolidation*merger etc.
*+. ($ ' D#8.$(%.2- P'2%()(8'!% ADPB,
?he +epository provides its services to investors through its agents called
depository participants 9+5s:. ?hese agents are appointed by the depository
with the approval of S#3I. =ccording to S#3I regulations@ amongst others@
three categories of entities@ i.e. 3anks@ -inancial Institutions and S#3I
registered trading members can become +5s.
D.#$ .!# !##1 %. 4##8 '!- &(!(&/& 6'0'!)# .7 $#)/2(%(#$ (!
+($ '))./!% 5(%+ +($ DP,
<o. ?he depository has not prescribed any minimum balance. Kou can have
/ero balance in your account.
*+'% ($ '! ISIN,
ISI< 9International Securities Identification <umber: is uni(ue
identification number for a security.
*+'% ($ ' C/$%.1('!,
= 7ustodian is basically an organisation@ which helps register and safeguard
the securities of its clients.
3esides safeguarding securities@ a custodian also keeps track of corporate
actions on behalf of its clientsA
45

,aintaining a client)s securities account

7ollecting the benefits or rights accruing to the client in respect of
securities
Teeping the client informed of the actions taken or to be taken by the
issue of securities@ having a bearing on the benefits or rights accruing
to the client.
C.5 )'! .!# ).!"#2% 8+-$()'0 +.01(!3 (!%. #0#)%2.!() +.01(!3
(.#. +.5 )'! .!# 1#&'%#2('0($# $#)/2(%(#$,
In order to dematerialise physical securities one has to fill in a +emat
1e(uest -orm 9+1-: which is available with the +5 and submit the same
along with physical certificates one wishes to dematerialise. Separate +1-
has to be filled for each ISI< number.
C'! .11 0.% $+'2#$ 6# 1#&'%#2('0($#1,
Kes@ odd lot share certificates can also be dematerialised.
D. 1#&'%#2('0($#1 $+'2#$ +'"# 1($%(!)%("# !/&6#2$,
+ematerialised shares do not have any distinctive numbers. ?hese shares
are "ungi#e0 which means that all the holdings of a particular security will
be identical and interchangeable.
C'! #0#)%2.!()
)#2%(7()'%#$,
+.01(!3$ 6# ).!"#2%#1 (!%. P+-$()'0
Kes. ?he process is called 2emateria#isation. If one wishes to get back your
securities in the physical form one has to fill in the 1emat 1e(uest -orm
911-: and re(uest your +5 for rematerialisation of the balances in your
securities account.
C'! .!# 1#&'%#2('0($# +($ 1#6% (!$%2/&#!%$G &/%/'0 7/!1
/!(%$G 3."#2!&#!% $#)/2(%(#$ (! +($ 1#&'% '))./!%,
Kes. Kou can dematerialise and hold all such investments in a single demat
account.
46
7. MUTUAL FUNDS
*+'% ($ %+# R#3/0'%.2- B.1- 7.2 M/%/'0 F/!1$,
Securities #$change 3oard of India 9S#3I: is the regulatory body for all the
mutual funds. =ll the mutual funds must get registered with S#3I.
*+'% '2# %+# 6#!#7(%$ .7 (!"#$%(!3 (! M/%/'0 F/!1$,
?here are several benefits from investing in a ,utual -undA
S&'00 (!"#$%&#!%$< ,utual funds help you to reap the benefit of
returns by a portfolio spread across a wide spectrum of companies
with small investments.
P2.7#$$(.!'0 F/!1 M'!'3#&#!%< 5rofessionals having
considerable e$pertise@ e$perience and resources manage the pool of
money collected by a mutual fund. ?hey thoroughly analyse the
markets and economy to pick good investment opportunities.
S82#'1(!3 R($4< =n investor with limited funds might be able to
invest in only one or two stocks*bonds@ thus increasing his or her
risk. ;owever@ a mutual fund will spread its risk by investing a
number of sound stocks or bonds. = fund normally invests in
companies across a wide range of industries@ so the risk is
diversified.
T2'!$8'2#!)-< ,utual -unds regularly provide investors with
information on the value of their investments. ,utual -unds also
provide complete portfolio disclosure of the investments made by
various schemes and also the proportion invested in each asset type.
C+.()#< ?he large amount of ,utual -unds offer the investor a wide
variety to choose from. =n investor can pick up a scheme depending
upon his risk* return profile.
R#3/0'%(.!$< =ll the mutual funds are registered with S#3I and they
function within the provisions of strict regulation designed to protect
the interests of the investor.
47
*+'% ($ NAV,
<=6 or <et =sset 6alue of the fund is the cumulative market value of the
assets of the fund net of its liabilities. <=6 per unit is simply the net value of
assets divided by the number of units outstanding. 3uying and selling into
funds is done on the basis of <=6related prices.
?he <=6 of a mutual fund are re(uired to be published in newspapers. ?he
<=6 of an open end scheme should be disclosed on a daily basis and the
<=6 of a close end scheme should be disclosed at least on a weekly basis
*+'% ($ E!%2-?E;(% L.'1,
= !oad is a charge@ which the mutual fund may collect on entry and*or e$it
from a fund. = load is levied to cover the upfront cost incurred by the
mutual fund for selling the fund. It also covers one time processing costs.
Some funds do not charge any entry or e$it load. ?hese funds are referred
to as '<o !oad -und). -unds usually charge an entry load ranging between
%.&&B and ..&&B. #$it loads vary between &..4B and ..&&B.
-or e.g. !et us assume an investor invests 1s. %&@&&&* and the current <=6
is 1s.%0*. If the entry load levied is %.&&B@ the price at which the investor
invests is 1s.%0.%0 per unit. ?he investor receives %&&&&*%0.%0 Q 76%.6%26
units. 9<ote that units are allotted to an investor based on the amount
invested and not on the basis of no. of units purchased:.
!et us now assume that the same investor decides to redeem his 76%.6%26
units. !et us also assume that the <=6 is 1s %4* and the e$it load is
&.4&B. ?herefore the redemption price per unit works out to 1s. %2.".4.
?he investor therefore receives 76%.6%26 $ %2.".4 Q 1s.%%067.%&.
A2# %+#2# '!- 2($4$ (!".0"#1 (! (!"#$%(!3 (! M/%/'0 F/!1$,
,utual -unds do not provide assured returns. ?heir returns are linked to
their performance. ?hey invest in shares@ debentures@ bonds etc. =ll these
investments involve an element of risk. ?he unit value may vary depending
upon the performance of the company and if a company defaults in payment
of interest*principal on their debentures*bonds the performance of the fund
may get affected. 3esides incase there is a sudden downturn in an industry
or the government comes up with new a regulation which affects a particular
industry or company the fund can again be adversely affected. =ll these
factors influence the performance of ,utual -unds.
48
Some of the 1isk to whic h ,utual -unds are e$posed to is given belowA
M'24#% 2($4
If the overall stock or bond markets fall on account of overall
economic factors@ the value of stock or bond holdings in the fundCs
portfolio can drop@ thereby impacting the fund performance.
N.!9&'24#% 2($4
3ad news about an individual company can pull down its stock price@
which can negatively affect fund holdings. ?his risk can be reduced
by having a diversified portfolio that consists of a wide variety of
stocks drawn from different industries.
I!%#2#$% 2'%# 2($4
3ond prices and interest rates move in opposite directions. When
interest rates rise@ bond prices fall and this decline in underlying
securities affects the fund negatively.
C2#1(% 2($4
3onds are debt obligations. So when the funds invest in corporate
bonds@ they run the risk of the corporate defaulting on their interest
and principal payment obligations and when that risk crystalli/es@ it
leads to a fall in the value of the bond causing the <=6 of the fund to
take a beating.
*+'% '2# %+# 1(77#2#!% %-8#$ .7 M/%/'0 7/!1$,
M/%/'0 7/!1$ '2# )0'$$(7(#1 (! %+# 7.00.5(!3 &'!!#2<
A'B O! %+# 6'$($ .7 O6H#)%("#
E:/(%- F/!1$? E2.5%+ F/!1$
-unds that invest in e(uity shares are called e(uity funds. ?hey carry
the principal obFective of capital appreciation of the investment over
the medium to longterm. ?hey are best suited for investors who are
seeking capital appreciation. ?here are different types of e(uity funds
such as +iversified funds@ Sector specific funds and Inde$ based
funds.
49
D("#2$(7(#1 7/!1$
?hese funds invest in companies spread across sectors. ?hese
funds are generally meant for riskaverse investors who want
a diversified portfolio across sectors.
S#)%.2 7/!1$
?hese funds invest primarily in e(uity shares of companies in
a particular business sector or industry. ?hese funds are
targeted at investors who are bullish or fancy the prospects of
a particular sector.
I!1#; 7/!1$
?hese funds invest in the same pattern as popular market
indices like SN5 7<P <ifty or 7<P ,idcap .&&. ?he money
collected from the investors is invested only in the stocks@
which represent the inde$. -or e.g. a <ifty inde$ fund will
invest only in the <ifty 4& stocks. ?he obFective of such funds
is not to beat the market but to give a return e(uivalent to
the market returns.
T'; S'"(!3 F/!1$
?hese funds offer ta$ benefits to investors under the Income ?a$ =ct.
8pportunities provided under this scheme are in the form of ta$
rebates under the Income ?a$ act.
D#6%?I!).&# F/!1$
?hese funds invest predominantly in highrated fi$edincome bearing
instruments like bonds@ debentures@ government securities@
commercial paper and other money market instruments. ?hey are
best suited for the medium to longterm investors who are averse to
risk and seek capital preservation. ?hey provide a regular income to
the investor.
L(:/(1 F/!1$?M.!#- M'24#% F/!1$
?hese funds invest in highly li(uid money market instruments. ?he
period of investment could be as short as a day. ?hey provide easy
li(uidity. ?hey have emerged as an alternative for savings and short
term fi$ed deposit accounts with comparatively higher returns. ?hese
funds are ideal for corporates@ institutional investors and business
houses that invest their funds for very short periods.
50
E(0% F/!1$
?hese funds invest in 7entral and State >overnment securities. Since
they are >overnment backed bonds they give a secured return and
also ensure safety of the principal amount. ?hey are best suited for
the medium to longterm investors who are averse to risk.
B'0'!)#1 F/!1$
?hese funds invest both in e(uity shares and fi$edincome bearing
instruments 9debt: in some proportion. ?hey provide a steady return
and reduce the volatility of the fund while providing some upside for
capital appreciation. ?hey are ideal for medium to longterm
investors who are willing to take moderate risks.
6B O! %+# 6'$($ .7 F0#;(6(0(%-
O8#!9#!1#1 F/!1$
?hese funds do not have a fi$ed date of redemption. >enerally they
are open for subscription and redemption throughout the year. ?heir
prices are linked to the daily net asset value 9<=6:. -rom the
investorsC perspective@ they are much more li(uid than closedended
funds.
C0.$#9#!1#1 F/!1$
?hese funds are open initially for entry during the Initial 5ublic
8ffering 9I58: and thereafter closed for entry as well as e$it. ?hese
funds have a fi$ed date of redemption. 8ne of the characteristics of
the closeended schemes is that they are generally traded at a
discount to <=6D but the discount narrows as maturity nears. ?hese
funds are open for subscription only once and can be redeemed only
on the fi$ed date of redemption. ?he units of these funds are listed
on stock e$changes 9with certain e$ceptions:@ are tradable and the
subscribers to the fund would be able to e$it from the fund at any
time through the secondary market.
51
*+'% '2# %+# 1(77#2#!% (!"#$%&#!% 80'!$ %+'% M/%/'0 F/!1$
.77#2,
?he term )investment plans) generally refers to the services that the funds
provide to investors offering different ways to invest or reinvest. ?he
different investment plans are an important consideration in the investment
decision@ because they determine the fle$ibility available to the investor.
Some of the investment plans offered by mutual funds in India areA
E2.5%+ P0'! '!1 D("(1#!1 P0'!
= growth plan is a plan under a scheme wherein the returns from
investments are reinvested and very few income distributions@ if any@
are made. ?he investor thus only reali/es capital appreciation on the
investment. Gnder the dividend plan@ income is distributed from time
to time. ?his plan is ideal to those investors re(uiring regular income.
D("(1#!1 R#(!"#$%&#!% P0'!
+ividend plans of schemes carry an additional option for
reinvestment of income distribution. ?his is referred to as the
dividend reinvestment plan. Gnder this plan@ dividends declared by a
fund are reinvested in the scheme on behalf of the investor@ thus
increasing the number of units held by the investors.
*+'% '2# %+# 2(3+%$ %+'% '2# '"'(0'60# %. ' M/%/'0 F/!1 +.01#2
(! I!1(',
=s per S#3I 1egulations on ,utual -unds@ an investor is entitled toA
%. 1eceive Gnit certificates or statements of accounts confirming
your title within 6 weeks from the date your re(uest for a unit
certificate is received by the ,utual -und.
.. 1eceive information about the investment policies@ investment
obFectives@ financial position and general affairs of the scheme.
0. 1eceive dividend within 2. days of their declaration and receive
the redemption or repurchase proceeds within %& days from the
date of redemption or repurchase.
2. ?he trustees shall be bound to make such disclosures to the unit
holders as are essential in order to keep them informed about any
information@ which may have an adverse bearing on their
investments.
52

4. 74B of the unit holders with the prior approval of S#3I can
terminate the =,7 of the fund.
6. 74B of the unit holders can pass a resolution to windup the
scheme.
7. =n investor can send complaints to S#3I@ who will take up the
matter with the concerned ,utual -unds and follow up with them
till they are resolved.
*+'% ($ ' F/!1 O77#2 1.)/&#!%,
= -und 8ffer document is a document that offers you all the information you
could possibly need about a particular scheme and the fund launching that
scheme. ?hat way@ before you put in your money@ youCre well aware of the
risks etc involved. ?his has to be designed in accordance with the guidelines
stipulated by S#3I and the prospectus must disclose details aboutA
Investment obFectives
1isk factors and special considerations
Summary of e$penses
7onstitution of the fund
>uidelines on how to invest
8rgani/ation and capital structure
?a$ provisions related to transactions
-inancial information
*+'% ($ A)%("# F/!1 M'!'3#&#!%,
When investment decisions of the fund are at the discretion of a fund
manager9s: and he or she decides which company@ instrument or class of
assets the fund should invest in based on research@ analysis@ market news
etc. such a fund is called as an actively managed fund. ?he fund buys and
sells securities actively based on changed perceptions of investment from
time to time. 3ased on the classifications of shares with different
characteristics@ 'active) investment managers construct different portfolio.
?wo basic investment styles prevalent among the mutual funds are >rowth
Investing and 6alue InvestingA
53

E2.5%+ I!"#$%(!3 S%-0#

?he primary obFective of e(uity investment is to obtain
capital appreciation. = growth manager looks for
companies that are e$pected to give above average
earnings growth@ where the manager feels that the
earning prospects and therefore the stock prices in
future will be even higher. Identifying such growth
sectors is the challenge before the growth investment
manager.
V'0/# (!"#$%&#!% S%-0#
= 6alue ,anager looks to buy companies that they
believe are currently undervalued in the market@ but
whose worth they estimate will be recogni/ed in the
market valuations eventually.
*+'% ($ P'$$("# F/!1 M'!'3#&#!%,
When an investor invests in an actively managed mutual fund@ he or she
leaves the decision of investing to the fund manager. ?he fund manager is
the decision maker as to which company or instrument to invest in.
Sometimes such decisions may be right@ rewarding the investor handsomely.
;owever@ chances are that the decisions might go wrong or may not be right
all the time which can lead to substantial losses for the investor. ?here are
mutual funds that offer Inde$ funds whose obFective is to e(ual the return
given by a select market inde$. Such funds follow a passive investment
style. ?hey do not analyse companies@ markets@ economic factors and then
narrow down on stocks to invest in. Instead they prefer to invest in a
portfolio of stocks that reflect a market inde$@ such as the <ifty inde$. ?he
returns generated by the inde$ are the returns given by the fund. <o
attempt is made to try and beat the inde$. 1esearch has shown that most
fund managers are unable to constantly beat the market inde$ year after
year. =lso it is not possible to identify which fund will beat the market inde$.
?herefore@ there is an element of going wrong in selecting a fund to invest
in. ?his has lead to a huge interest in passively managed funds such as
Inde$ -unds where the choice of investments is not left to the discretion of
the fund manager. Inde$ -unds hold a diversified basket of securities which
represents the inde$ while at the same time since there is not much active
turnover of the portfolio the cost of managing the fund also remains low.
?his gives a dual advantage to the investor of having a diversified portfolio
54
while at the same time having low e$penses in fund. ?here are various
passively managed funds in India today some of them areA
5rincipal Inde$ -und@ an inde$ fund scheme on SN5 7<P <ifty
launched by 5rincipal ,utual -und in Huly %""".
G?I <ifty -und launched by Gnit ?rust of India in ,arch .&&&.
-ranklin India Inde$ -und launched by -ranklin ?empleton ,utual
-und in Hune .&&&.
-ranklin India Inde$ ?a$ -und launched by -ranklin ?empleton
,utual -und in -ebruary .&&%.
,agnum Inde$ -und launched by S3I ,utual -und in +ecember
.&&%.
I!N-S Inde$ -und launched by I!N-S ,utual -und in -ebruary .&&..
5rudential I7I7I Inde$ -und launched by 5rudential I7I7I ,utual
-und in -ebruary .&&..
;+-7 Inde$ -und<ifty 5lan launched by ;+-7 ,utual -und in Huly
.&&..
3irla Inde$ -und launched by 3irla Sun !ife ,utual -und in
September .&&..
!I7 Inde$ -und<ifty 5lan launched by !I7 ,utual -und in <ovember
.&&..
?ata Inde$ -und launched by ?ata ?+ Waterhouse ,utual -und in
-ebruary .&&0.
I<> 6ysya <ifty 5lus -und launched by I<> 6ysya ,utual -und in
Hanuary .&&2.
7aninde$ -und launched by 7anbank ,utual -und in September .&&2
55
*+'% ($ '! ETF,
?hink of an e$changetraded fund as a mutual fund that trades like a stock.
Hust like an inde$ fund@ an #?- represents a basket of stocks that reflect an
inde$ such as the <ifty. =n #?-@ however@ isnCt a mutual fundD it trades Fust
like any other company on a stock e$change. Gnlike a mutual fund that has
its netasset value 9<=6: calculated at the end of each trading day@ an #?-Cs
price changes throughout the day@ fluctuating with supply and demand. It is
important to remember that while #?-s attempt to replicate the return on
inde$es@ there is no guarantee that they will do so e$actly.
3y owning an #?-@ you get the diversification of an inde$ fund plus the
fle$ibility of a stock. 3ecause@ #?-s trade like stocks@ you can short sell
them@ buy them on margin and purchase as little as one share. =nother
advantage is that the e$pense ratios of most #?-s are lower than that of the
average mutual fund. When buying and selling #?-s@ you pay your broker
the same commission that youCd pay on any regular trade.
?here are various #?-s available in India@ such asA
<I-?K 3e#SA =n #$change ?raded -und launched by 3enchmark
,utual -und in Hanuary .&&..
Hunior 3e#SA =n #$change ?raded -und on 7<P <ifty Hunior@
launched by 3enchmark ,utual -und in -ebruary .&&0.
SG<+#1A =n #$change ?raded -und launched by G?I in Huly .&&0.
!i(uid 3e#SA =n #$change ?raded -und launched by 3enchmark
,utual -und in Huly .&&0.
3ank 3e#SA =n #$change ?raded -und 9#?-: launched by 3enchmark
,utual -und in ,ay .&&2.
56
8. MISCELLANEOUS
8.1 C.28.2'%# A)%(.!$
*+'% '2# C.28.2'%# A)%(.!$,
7orporate actions tend to have a bearing on the price of a security. When a
company announces a corporate action@ it is initiating a process that will
bring actual change to its securities either in terms of number of shares
increasing in the hands on the shareholders or a change to the face value of
the security or receiving shares of a new company by the shareholders as in
the case of merger or ac(uisition etc. 3y understanding these different types
of processes and their effects@ an investor can have a clearer picture of what
a corporate action indicates about a companyCs financial affairs and how that
action will influence the companyCs share price and performance.
7orporate actions are typically agreed upon by a companyCs 3oard of
+irectors and authori/ed by the shareholders. Some e$amples are
dividends@ stock splits@ rights issues@ bonus issues etc.
*+'% ($ &#'!% 6- =D("(1#!1> 1#)0'2#1 6- ).&8'!(#$,
1eturns received by investors in e(uities come in two forms a: growth in the
value 9market price: of the share and b: dividends. +ividend is distribution
of part of a companyCs earnings to shareholders@ usually twice a year in the
form of a final dividend and an interim dividend. +ividend is therefore a
source of income for the shareholder. <ormally@ the dividend is e$pressed
on a Cper shareC basis@ for instance E 1s. 0 per share. ?his makes it easy to
see how much of the companyCs profits are being paid out@ and how much
are being retained by the company to plough back into the business. So a
company that has earnings per share in the year of 1s. 6 and pays out 1s. 0
per share as a dividend is passing half of its profits on to shareholders and
retaining the other half. +irectors of a company have discretion as to how
much of a dividend to declare or whether they should pay any dividend at
all.
57
*+'% ($ &#'!% 6- D("(1#!1 -(#01,
+ividend yield gives the relationship between the current price of a stock
and the dividend paid by its) issuing company during the last %. months. It
is calculated by aggregating past yearCs dividend and dividing it by the
current stock price.
#$ampleA
=37 7o.
Share priceA 1s. 06&
=nnual dividendA 1s. %&
+ividend yieldA ..77B 9%&*06&:
;istorically@ a higher dividend yield has been considered to be desirable
among investors. = high dividend yield is considered to be evidence that a
stock is underpriced@ whereas a low dividend yield is considered evidence
that the stock is overpriced. = note of caution here though. ?here have been
companies in the past which had a record of high dividend yield@ only to go
bust in later years. +ividend yield therefore can be only one of the factors in
determining future performance of a company.
*+'% ($ ' S%.)4 S80(%,
= stock split is a corporate action which splits the e$isting shares of a
particular face value into smaller denominations so that the number of
shares increase@ however@ the market capitali/ation or the value of shares
held by the investors post split remains the same as that before the split.
-or e.g. If a company has issued %@&&@&&@&&& shares with a face value of 1s.
%& and the current market price being 1s. %&&@ a .for% stock split would
reduce the face value of the shares to 4 and increase the number of the
company)s outstanding shares to .@&&@&&@&&&@ 9%@&&@&&@&&&X9%&*4::.
7onse(uently@ the share price would also halve to 1s. 4& so that the market
capitali/ation or the value shares held by an investor remains unchanged. It
is the same thing as e$changing a 1s. %&& note for two 1s. 4& notesD the
value remains the same .
!et us see the impact of this on the share holderA !etCs say company =37
is trading at 1s. 2& and has %&& million shares issued@ which gives it a
market capitali/ation of 1s. 2&&& million 91s. 2& $ %&& million shares:. =n
investor holds 2&& shares of the company valued at 1s. %6@&&&. ?he
company then decides to implement a 2for% stock split 9i.e. a shareholder
holding % share@ will now hold 2 shares:. -or each share shareholders
currently own@ they receive three additional shares. ?he investor will
therefore hold %6&& shares. So the investor gains 0 additional shares for
58
each share held. 3ut this does not impact the value of the shares held by
the investor since post split@ the price of the stock is also split by .4B
9%*2th:@ from 1s. 2& to 1s.%&@ therefore the investor continues to hold 1s.
%6@&&& worth of shares. <otice that the market capitali/ation stays the same
it has increased the amount of stocks outstanding to 2&& million while
simultaneously reducing the stock price by .4B to 1s. %& for a capitali/ation
of 1s. 2&&& million. ?he true value of the company hasnCt changed.
=n easy way to determine the new stock price is to divide the previous stock
price by the split ratio. In the case of our e$ample@ divide 1s. 2& by 2 and
we get the new trading price of 1s. %&. If a stock were to split 0for.@ weCd
do the same thingA 2&*90*.: Q 2&*%.4 Q 1s. .6.6&.
.for% Split
5reSplit 5ostSplit
<o. of shares
Share 5rice
,arket 7ap.
2for%
<o. of shares
Share 5rice
,arket 7ap.
%&& mill.
1s. 2&
1s. 2&&& mill.
%&& mill.
1s. 2&
1s. 2&&& mill.
.&& mill.
1s. .&
1s. 2&&& mill.
2&& mill.
1s. %&
1s. 2&&& mill.
*+- 1. ).&8'!(#$ '!!./!)# S%.)4 S80(%,
If the value of the stock doesnCt change@ what motivates a company to split
its stock? ?hough there are no theoretical reasons in financial literature to
indicate the need for a stock split@ generally@ there are mainly two important
reasons. =s the price of a security gets higher and higher@ some investors
may feel the price is too high for them to buy@ or small investors may feel it
is unaffordable. Splitting the stock brings the share price down to a more
OattractiveO level. In our earlier e$ample to buy % share of company =37 you
need 1s. 2& presplit@ but after the stock split the same number of shares
can be bought for 1s.%&@ making it attractive for more investors to buy the
share. ?his leads us to the second reason. Splitting a stock may lead to
increase in the stockCs #iquidity0 since more investors are able to afford the
share and the total outstanding shares of the company have also increased
in the market.
59
a:
b:
c:
*+'% ($ B/-6')4 .7 S+'2#$,
= buyback can be seen as a method for company to invest in itself by buying
shares from other investors in the market. 3uybacks reduce the number of
shares outstanding in the market. 3uy back is done by the company with
the purpose to improve the li(uidity in its shares and enhance the
shareholders) wealth. Gnder the S#3I 93uy 3ack of Securities: 1egulation@
%""8@ a company is permitted to buy back its share fromA
#$isting shareholders on a proportionate basis through the offer
document.
8pen market through stock e$changes using book building process.
Shareholders holding odd lot shares.
?he company has to disclose the pre and postbuyback holding of the
promoters. ?o ensure completion of the buyback process speedily@ the
regulations have stipulated time limit for each step. -or e$ample@ in the
cases of purchases through stoc k e$changes@ an offer for buy back should
not remain open for more than 0& days. ?he verification of shares received
in buy back has to be completed within %4 days of the closure of the offer.
?he payments for accepted securities has to be made within 7 days of the
completion of verification and bought back shares have to be e$tinguished
within 7 days of the date of the payment.
8.2 I!1#;
*+'% ($ %+# N(7%- (!1#;,
SN5 7<P <ifty 9<ifty:@ is a scientifically developed@ 4& stock inde$@ reflecting
accurately the market movement of the Indian markets. It comprises of
some of the largest and most li(uid stocks traded on the <S#. It is
maintained by India Inde$ Services N 5roducts !td. 9IIS!:@ which is a Foint
venture between <S# and 71ISI!. ?he inde$ has been cobranded by
Standard N 5oor)s 9SN5:. <ifty is the barometer of the Indian markets.
60
8.3 C0#'2(!3 & S#%%0#&#!% '!1 R#12#$$'0
*+'% ($ ' C0#'2(!3 C.28.2'%(.!,
= 7learing 7orporation is a part of an e$change or a separate entity and
performs three functions@ namely@ it clears and settles all transactions@ i.e.
completes the process of receiving and delivering shares*funds to the buyers
and sellers in the market@ it provides financial guarantee for all transactions
e$ecuted on the e$change and provides risk management functions.
<ational Securities 7learing 7orporation 9<S77!:@ a %&&B subsidiary of
<S#@ performs the role of a 7learing 7orporation for transactions e$ecuted
on the <S#.
*+'% ($ R.00(!3 S#%%0#&#!%,
Gnder rolling settlement all open positions at the end of the day mandatorily
result in payment* delivery 'n) days later. 7urrently trades in rolling
settlement are settled on ?Y. basis where ? is the trade day. -or e$ample@
a trade e$ecuted on ,onday is mandatorily settled by Wednesday
9considering two working days from the trade day:. ?he funds and securities
payin and payout are carried out on ?Y. days.
*+'% ($ P'-9(! '!1 P'-9./%,
5ayin day is the day when the securities sold are delivered to the e$change
by the sellers and funds for the securities purchased are made available to
the e$change by the buyers.
5ayout day is the day the securities purchased are delivered to the buyers
and the funds for the securities sold are given to the sellers by the
e$change.
=t present the payin and payout happens on the .nd working day after the
trade is e$ecuted on the stock e$change.
61
*+'% ($ '! A/)%(.!,
8n account of nondelivery of securities by the trading member on the pay
in day@ the securities are put up for auction by the #$change. ?his ensures
that the buying trading member receives the securities. ?he #$change
purchases the re(uisite (uantity in auction market and gives them to the
buying trading member.
*+'% ($ ' B..49)0.$/2#?R#).21 1'%#,
3ook closure and record date help a company determine e$actly the
shareholders of a company as on a given date. 3ook closure refers to the
closing of the register of the names of investors in the records of a
company. 7ompanies announce book closure dates from time to time. ?he
benefits of dividends@ bonus issues@ rights issue accrue to investors whose
name appears on the companyCs records as on a given date which is known
as the record date and is declared in advance by the company so that
buyers have enough time to buy the shares@ get them registered in the
books of the company and become entitled for the benefits such as bonus@
rights@ dividends etc. With the depositories now in place@ the buyers need
not send shares physically to the companies for registration. ?his is taken
care by the depository since they have the records of investor holdings as
on a particular date electronically with them.
*+'% ($ ' N.91#0("#2- 8#2(.1,
Whenever a company announces a book closure or record date@ the
e$change sets up a nodelivery period for that security. +uring this period
only trading is permitted in the security. ;owever@ these trades are settled
only after the nodelivery period is over. ?his is done to ensure that
investorCs entitlement for the corporate benefit is clearly determined.
*+'% ($ '! E;91("(1#!1 1'%#,
?he date on or after which a security begins trading without the dividend
included in the price@ i.e. buyers of the shares will no longer be entitled for
the dividend which has been declared recently by the company@ in case they
buy on or after the e$dividend date.
62
*+'% ($ '! E;91'%#,
?he first day of the nodelivery period is the e$date. If there is any
corporate benefits such as rights@ bonus@ dividend announced for which book
closure*record date is fi$ed@ the buyer of the shares on or after the e$date
will not be eligible for the benefits.
*+'% 2#)./2$#$ '2# '"'(0'60# %. (!"#$%.2?)0(#!% 7.2 2#12#$$(!3
+($ 32(#"'!)#$,
Kou can lodge complaint with the Investor >rievances 7ell 9I>7: of the
#$change against brokers on certain trade disputes or nonreceipt of
payment*securities. I>7 takes up complaints in respect of trades e$ecuted
on the <S#@ through the <S# trading member or S#3I registered subbroker
of a <S# trading member and trades pertaining to companies traded on
<S#.
*+'% ($ A26(%2'%(.!,
=rbitration is an alternative dispute resolution mechanism provided by a
stock e$change for resolving disputes between the trading members and
their clients in respect of trades done on the e$change. If no amicable
settlement could be reached through the normal grievance redressal
mechanism of the stock e$change@ then you can make application for
reference to =rbitration under the 3ye!aws of the concerned Stock
e$change.
*+'% ($ '! I!"#$%.2 P2.%#)%(.! F/!1,
Investor 5rotection -und 9I5-: is maintained by <S# to make good investor
claims@ which may arise out of nonsettlement of obligations by the trading
member@ who has been declared a defaulter@ in respect of trades e$ecuted
on the #$change. ?he I5- is utilised to settle claims of such investors where
the trading member through whom the investor has dealt has been declared
a defaulter. 5ayments out of the I5- may include claims arising of non
payment*non receipt of securities by the investor from the trading member
who has been declared a defaulter. ?he ma$imum amount of claim payable
from the I5- to the investor 9where the trading member through whom the
investor has dealt is declared a defaulter: is 1s. %& lakh.
63
9. CONCEPTS & MODES OF ANALYSIS
*+'% ($ S(&80# I!%#2#$%,
S(&80# I!%#2#$%< Simple Interest is the interest paid only on the principal
amount borrowed. <o interest is paid on the interest accrued during the
term of the loan.
?here are three components to calculate simple interestA principal@ interest
rate and time.
F.2&/0' 7.2 )'0)/0'%(!3 $(&80# (!%#2#$%<
I Q 5rt
Where@
I Q interest
5 Q principal
r Q interest rate 9per year:
t Q time 9in years or fraction of a year:
#$ampleA
,r. P borrowed 1s. %&@&&& from the bank to purchase a household item. ;e
agreed to repay the amount in 8 months@ plus simple interest at an interest
rate of %&B per annum 9year:.
If he repays the full amount of 1s. %&@&&& in eight months@ the interest
would beA
5 Q 1s. %&@&&& r Q &.%& 9%&B per year: t Q 8*%. 9this denotes fraction of a
year:
=pplying the above formula@ interest would beA
I Q 1s. %&@&&&X9&.%&:X98*%.: Q 1s. 667.
?his is the Simple Interest on the 1s. %&@&&& loan taken by ,r. P for 8
months.
If he repays the amount of 1s. %&@&&& in fifteen months@ the only change is
with time.
?herefore@ his interest would beA
I Q 1s. %&@&&&X9&.%&:X9%4*%.: Q 1s. %@.4&
64
Z
Z
*+'% ($ C.&8./!1 I!%#2#$%,
C.&8./!1 I!%#2#$%< 7ompound interest means that@ the interest will
include interest calculated on interest. ?he interest accrued on a principal
amount is added back to the principal sum@ and the whole amount is then
treated as new principal@ for the calculation of the interest for the ne$t
period.
-or e$ample@ if an amount of 1s. 4@&&& is invested for two years and the
interest rate is %&B@ compounded yearlyA
=t the end of the first year the interest would be 91s. 4@&&& X &.%&:
or 1s. 4&&.
In the second year the interest rate of %&B will applied not only to
1s. 4@&&& but also to the 1s. 4&& interest of the first year. ?hus@ in
the second year the interest would be 9&.%& X 1s. 4@4&&: or 1s. 44&.
-or any loan or borrowing unless simple interest is stated@ one should
always assume interest is compounded. When compound interest is used we
must always know how often the interest rate is calculated each year.
>enerally the interest rate is (uoted annually. #.g. %&B per annum.
7ompound interest may involve calculations for more than once a year@ each
using a new principal@ i.e. 9interest Y principal:. ?he first term we must
understand in dealing with compound interest is conversion period.
7onversion period refers to how often the interest is calculated over the
term of the loan or investment. It must be determined for each year or
fraction of a year.
#.g.A If the interest rate is compounded semiannually@ then the number of
conversion periods per year would be two. If the loan or deposit was for five
years@ then the number of conversion periods would be ten.
65
n
F.2&/0' 7.2 )'0)/0'%(!3 C.&8./!1 I!%#2#$%<
7 Q 5 9%Yi:
Where
7 Q amount
5 Q principal
i Q Interest rate per conversion period
n Q total number of conversion periods
E;'&80#<
,r. P invested 1s. %&@&&& for five years at an interest rate of 7.4B
compounded (uarterly
5 Q 1s. %&@&&&
i Q &.&74 * 2@ or &.&%874
n Q 2 X 4@ or .&@ conversion periods over the five years
?herefore@ the amount@ 7@ isA
7 Q 1s. %&@&&&9% Y &.&%874:[.&
Q 1s %&@&&& $ %.22""28
Q 1s %2@2"".28
So at the end of five years ,r. P would earn 1s. 2@2"".28 91s.%2@2"".28 E
1s.%&@&&&: as interest. ?his is also called as 7ompounding.
7ompounding plays a very important role in investment since earning a
simple interest and earning an interest on interest makes the amount
received at the end of the period for the two cases significantly different.
If ,r. P had invested this amount for five years at the same interest rate
offering the simple interest option@ then the amount that he would earn is
calculated by applying the following formulaA
S Q 5 9% Y rt:@
5 Q %&@&&&
r Q &.&74
tQ4
?hus@ S Q 1s. %&@&&&I%Y&.&7494:J
Q 1s. %0@74&
;ere@ the simple interest earned is 1s. 0@74&.
66
%
4
= comparison of the interest amounts calculated under both the method
indicates that ,r. P would have earned 1s. 72".28 91s.2@2"".28 E 1s.
0@74&: or nearly .&B more under the compound interest method than
under the simple interest method.
Simply put@ compounding refers to the reinvestment of income at the same
rate of return to constantly grow the principal amount@ year after year.
Should one care too much whether the rate of return is 4B or %4B? ?he
fact is that with compounding@ the higher the rate of return@ more is the
income which keeps getting added back to the principal regularly generating
higher rates of return year after year.
?he table below shows you how a single investment of 1s %&@&&& will grow
at various rates of return with compounding. 4B is what you might get by
leaving your money in a savings bank account@ %&B is typically the rate of
return you could e$pect from a oneyear company fi$ed deposit@ %4B .&B
or more is what you might get if you prudently invest in mutual funds or
e(uity shares.
T+# I&8')% .7 P.5#2 .7 C.&8./!1(!3<
?he impact of the power of compounding with different rates of return and
different time periodsA
=t end of Kear
%&
%4
.4
4B
1s %&4&&
1s %.8&&
1s %60&&
1s .&8&&
1s 00"&&
%&B
1s %%&&&
1s %6%&&
1s .4"&&
1s 2%8&&
1s %@&80&&
%4B
1s %%4&&
1s .&%&&
1s 2&4&&
1s 8%2&&
1s 0@.".&&
.&B
1s %.&&&
1s .2"&&
1s 6%"&&
1s %42%&&
1s "@42@&&&
*+'% ($ &#'!% 6- %+# T(&# V'0/# .7 M.!#-,
,oney has time value. ?he idea behind time value of money is that a rupee
now is worth more than rupee in the future. ?he relationship between value
of a rupee today and value of a rupee in future is known as '?ime 6alue of
,oney). = rupee received now can earn interest in future. =n amount
invested today has more value than the same amount invested at a later
date because it can utili/e the power of compounding. 7ompounding is the
process by which interest is earned on interest. When a principal amount is
invested@ interest is earned on the principal during the first period or year.
In the second period or year@ interest is earned on the original principal plus
67
9=:
93:
the interest earned in the first period. 8ver time@ this reinvestment process
can help an amount to grow significantly.
!et us take an e$ampleA
Suppose you are given two optionsA
1eceive 1s. %&@&&& now 81
1eceive 1s.%&@&&& after three years.
Which of the options would you choose?
1ationally@ you would choose to receive the 1s. %&@&&& now instead of
waiting for three years to get the same amount. So@ the time value of
money demonstrates that@ all things being e(ual@ it is better to have money
now rather than later.
3ack to our e$ampleA by receiving 1s.%&@&&& today@ you are poised to
increase the "uture va#ue of your money by investing and gaining interest
over a period of time. -or option 3@ you donCt have time on your side@ and
the payment received in three years would be your future value. ?o
illustrate@ we have provided a timelineA
Present Value Future Value
0 1 2 3 Years
Option A: Rs. 10,000
Option : Rs. 10,000 ! "nterest
Rs. 10,000 # "nterest
Rs. 10,000
If you are choosing option =@ your future value will be 1s. %&@&&& plus any
interest ac(uired over the three years. ?he future value for option 3@ on the
other hand@ would only be 1s. %&@&&&. ?his clearly illustrates that value of
money received today is worth more than the same amount received in
future since the amount can be invested today and generate returns.
68
!et us take an another e$ampleA
If you choose option = and invest the total amount at a simple annual rate
of 4B@ the future value of your investment at the end of the first year is 1s.
%&@4&&@ which is calculated by multiplying the principal amount of 1s.
%&@&&& by the interest rate of 4B and then adding the interest gained to the
principal amount.
?hus@ -uture value of investment at end of first yearA
Q 991s. %&@&&& P 94*%&&:: Y 1s. %&@&&&
Q 91s.%&@&&& $ &.&4&: Y 1s. %&@&&&
Q 1s.%&@4&&
Kou can also calculate the total amount of a oneyear investment with a
simple modification of the above e(uationA
8riginal e(uationA 91s.%&@&&& $ &.&4&: Y 1s.%&@&&& Q 1s.%&@4&&
,odified formulaA 1s.%&@&&& $ I9% $ &.&4&: Y %J Q 1s.%&@4&&
-inal e(uationA 1s. %&@&&& $ 9&.&4& Y %: Q 1s. %&@4&&
Which can also be written asA
S Q 5 9rY %:
Where@
S Q amount received at the end of period
5 Q principal amount
r Q interest rate 9per year:
?his formula denotes the future value 9S: of an amount invested 95: at a
simple interest of 9r: for a period of % year.
69
%.
..
0.
2.
A1B
A
C.5 ($ %(&# "'0/# .7 &.!#- ).&8/%#1,
?he time value of money may be computed in the following circumstancesA
-uture value of a single cash flow
-uture value of an annuity
5resent value of a single cash flow
5resent value of an annuity
F/%/2# V'0/# .7 ' S(!30# C'$+ F0.5
-or a given present value 956: of money@ future value of money 9-6: after a
period 't) for which compounding is done at an interest rate of 'r)@ is given
by the e(uation
-6 Q 56 9%Yr:t
?his assumes that compounding is done at discrete intervals. ;owever@ in
case of continuous compounding@ the future value is determined using the
formula
-6 Q 56 X ert
Where 'e) is a mathematical function called 'e$ponential) the value of
e$ponential 9e: Q ..7%80. ?he compounding factor is calculated by taking
natural logarithm 9log to the base of ..7%80:.
Example 1 7alculate the value of a deposit of 1s..@&&& made today@ 0
years hence if the interest rate is %&B.
3y discrete compoundingA
-6 Q .@&&& X 9%Y&.%&:0 Q .@&&& X 9%.%:0 Q .@&&& X %.00% Q 1s. .@66.
3y continuous compoundingA
-6 Q .@&&& X e 9&.%& X0: Q.@&&& X %.02"86. Q 1s..6"".7.
70
3.
r

(1 + r) t 1

Q 7-
2. F/%/2# V'0/# .7 '! A!!/(%-
=n annuity is a stream of e(ual annual cash flows. ?he future value 9-6=: of
a uniform cash flow 97-: made at the end of each period till the time of
maturity 't) for which compounding is done at the rate 'r) is calculated as
followsA
-6= Q 7-X9%Yr: t% Y 7-X9%Yr: t. Y ... Y 7-X9%Yr:% Y7-
(1 + r) t 1

?he term

is referred as the -uture 6alue Interest factor for an
annuity 9-6I-=:. ?he same can be applied in a variety of conte$ts. -or e.g.
to know accumulated amount after a certain period@ to know how much to
save annually to reach the targeted amount@ to know the interest rate etc.
#$ample %A Suppose@ you deposit 1s.0@&&& annually in a bank for 4 years
and your deposits earn a compound interest rate of %& per cent@ what will be
value of this series of deposits 9an annuity: at the end of 4 years? =ssume
that each deposit occurs at the end of the year.
-uture value of this annuity isA
Q1s.0&&&X9%.%&:2 Y 1s.0&&&X9%.%&:0 Y 1s.0&&&X9%.%&:. Y 1s.0&&&X9%.%&:
Y 1s.0&&&
Q1s.0&&&X9%.262%:Y1s.0&&&X9%.00%&:Y1s.0&&&X9%..%&&:Y1s.0&&&X9%.%&:
Y 1s.0&&&
Q 1s. %80%4.0&
P2#$#!% V'0/# .7 ' S(!30# C'$+ F0.5
5resent value of 956: of the future sum 9-6: to be received after a period 't)
for which discounting is done at an interest rate of 'r)@ is given by the
e(uation
In case of discrete discountingA 56 Q -6 * 9%Yr: t
#$ample %A What is the present value of 1s.4@&&& payable 0 years hence@ if
the interest rate is %& B p.a.
56 Q 4&&& * 9%.%&:0 i.e. Q 1s.0746.47
In case of continuous discountingA 56 Q -6 X e rt
71
4.
#$ample .A What is the present value of 1s. %&@&&& receivable after . years
at a discount rate of %&B under continuous discounting?
5resent 6alue Q %&@&&&*9e$p[9&.%X.:: Q 1s. 8%87.."7
P2#$#!% V'0/# .7 '! A!!/(%-
?he present value of annuity is the sum of the present values of all the cash
inflows of this annuity.
5resent value of an annuity 9in case of discrete discounting:
56= Q -6 I\9%Yr:t % ]* \r X 9%Yr: t]J
?he term I9%Yr:t %* rX9%Yr: tJ is referred as the 5resent 6alue Interest
factor for an annuity 956I-=:.
5resent value of an annuity 9in case of continuous discounting: is calculated
asA
56a Q -6a X 9%e rt:*r
#$ample %A What is the present value of 1s. .&&&* received at the end of
each year for 0 continuous years
Q .&&&XI%*%.%&JY.&&&XI%*%.%&J[.Y.&&&XI%*%.%&J[0
Q .&&&X&."&"%Y.&&&X&.8.62Y.&&&X&.74%0
Q %8%8.%8%8%8Y%64..8".46.Y%4&..6."6&.
Q 1s. 2"70.7&2
*+'% ($ E77#)%("# A!!/'0 2#%/2!,
Gsually while applying for a fi$ed deposit or a bond it is stated in the
application form@ that the annual return 9interest: of an investment is %&B@
but the effective annual return mentioned is something more@ %&.08B. Why
the difference? #ssentially@ the effective annual return accounts for intra
year compounding and the stated annual return does not. ?he difference
between these two measures is best illustrated with an e$ample. Suppose
the stated annual interest rate on a savings account is %&B@ and say you
put 1s %@&&& into this savings account. =fter one year@ your money would
grow to 1s %@%&&. 3ut@ if the account has a (uarterly compounding feature@
your effective rate of return will be higher than %&B. =fter the first (uarter@
or first three months@ your savings would grow to 1s %@&.4. ?hen@ in the
second (uarter@ the effect of compounding would become apparentA you
would receive another 1s .4 in interest on the original 1s %@&&&@ but you
72
would also receive an additional 1s &.60 from the 1s. .4 that was paid after
the first (uarter. In other words@ the interest earned in each (uarter will
increase the interest earned in subse(uent (uarters. 3y the end of the year@
the power of (uarterly compounding would give you a total of 1s %@%&0.8&.
So@ although the stated annual interest rate is %&B@ because of (uarterly
compounding@ the effective rate of return is %&.08B. ?he difference of
&.08B may appear insignificant@ but it can be huge when youCre dealing
with large numbers. &.08B of 1s. %&&@&&& is 1s 08&^ =nother thing to
consider is that compounding does not necessarily occur (uarterly@ or only
four times a year@ as it does in the e$ample above. ?here are accounts that
compound monthly@ and even some that compound daily. =nd@ as our
e$ample showed@ the fre(uency with which interest is paid 9compounded:
will have an effect on effective rate of return.
C.5 %. 3. '6./% $-$%#&'%()'00- '!'0-@(!3 ' ).&8'!-,
Kou must look for the following to make the right analysisA
Industry Analysis: 7ompanies producing similar products are
subset 9form a part: of an Industry*Sector. -or e$ample@ <ational
;ydroelectric 5ower 7ompany 9<;57: !td.@ <ational ?hermal 5ower
7ompany 9<?57: !td.@ ?ata 5ower 7ompany 9?57: !td. etc. belong to
the 5ower Sector*Industry of India. It is very important to see how
the industry to which the company belongs is faring. Specifics like
effect of >overnment policy@ future demand of its products etc. need
to be checked. =t times prospects of an industry may change
drastically by any alterations in business environment. -or instance@
devaluation of rupee may brighten prospects of all e$port oriented
companies. Investment analysts call this as Industry /na#ysis.
Corporate Analysis: ;ow has the company been faring over the
past few years? Seek information on its current operations@
managerial capabilities@ growth plans@ its past performance vis_vis
its competitors etc. ?his is known as (or%orate /na#ysis.
Financial Analysis: If performance of an industry as well as of the
company seems good@ then check if at the current price@ the share is
a good buy. -or this look at the financial performance of the company
and certain key financial parameters like #arnings 5er Share 9#5S:@
5*# ratio@ current si/e of e(uity etc. for arriving at the estimated
future price. ?his is termed as 'inancia# /na#ysis. -or that you need
to understand financial statements of a company i.e. 3alance Sheet
and 5rofit and !oss =ccount contained in the =nnual 1eport of a
company.
73

*+'% ($ '! A!!/'0 R#8.2%,

=n annual report is a formal financial statement issued yearly by a
corporate. ?he annual report shows assets@ liabilities@ revenues@ e$penses
and earnings how the company stood at the close of the business year@
how it fared profitwise during the year@ as well as other information of
interest to shareholders. 7ompanies publish annual reports and send
abridged versions to shareholders free of cost. = detailed annual report is
sent on re(uest. 1emember an annual report of a company is the best
source of information about the financial health of a company.
*+()+ 7#'%/2#$ .7 '! A!!/'0 R#8.2% $+./01 .!# 2#'1 )'2#7/00-,
8ne must read an =nnual 1eport with emphasis on the followingA
+irector)s 1eport and 7hairman)s statement which are
related to the current and future operational
performance of a company.
=uditors) 1eport 9including =nne$ure to the =uditors
1eport:
5rofit and !oss =ccount.
3alance Sheet.
<otes to accounts attached to the 3alance Sheet.
*+'% ($ ' B'0'!)# S+##% '!1 ' P2.7(% '!1 L.$$ A))./!%
S%'%#&#!%, *+'% ($ %+# 1(77#2#!)# 6#%5##! B'0'!)# S+##% '!1
P2.7(% '!1 L.$$ A))./!% S%'%#&#!%$ .7 ' ).&8'!-,
?he 3alance sheet of a company shows the financial position of the company
'% ' 8'2%()/0'2 8.(!% .7 %(&#. ?he balance sheet of a company*firm@
according to the 7ompanies =ct@ %"46 should be either in the account "orm
or the re%ort "orm.
B'0'!)# S+##%< A))./!% F.2&
L('6(0(%(#$
Share 7apital
1eserves and Surplus
Secured loans
Gnsecured loans
7urrent liabilities and provisions
74
A$$#%$
-i$ed =ssets
Investments
7urrent =ssets@ loans and advances
,iscellaneous e$penditure
%
B'0'!)# S+##%< R#8.2% F.2&
I. S./2)#$ .7 F/!1$
%. Shareholders) -unds
9a: Share 7apital
9b: 1eserves N surplus
.. !oan -unds
9a: Secured loans
9b: Gnsecured loans
II. A880()'%(.! .7 F/!1$
9i: -i$ed =ssets
9ii: Investments
9iii: 7urrent =ssets@ loans and advances
!essA 7urrent liabilities and provisions
<et current assets
9iv: ,iscellaneous e$penditure and losses
?he 5rofit and !oss account 9Income Statement:@ on the other hand@ shows
the financial performance of the company*firm ."#2 ' 8#2(.1 .7 %(&#. It
indicates the revenues and e$penses during particular period of time. ?he
period of time is an accounting period*year@ =pril,arch. ?he accounting
report summari/es the revenue items@ the e$pense items@ and the difference
between them 9net income: for an accounting period.
C.5 %. (!%#282#% B'0'!)# S+##% '!1 P2.7(% '!1 L.$$ A))./!% .7 '
).&8'!-,
!et)s start with 3alance Sheet. ?he 3o$% gives the balance sheet of PKV
!td. company as on 0%s t ,arch .&&4. !et us understand the balance sheet
shown in the 3o$%.
BOI91
IYJ COMPANY LTD.G
B'0'!)# $+##% '$ .! 31$% M'2)+G 25
A$ '%
31$%
M'2)+G
25
A$ '%
31$%
M'2)+G
24
SOURCES OF FUNDS Schedule 5age
1s. 7r 1s. 7r 1s. 7r
S;=1#;8!+#1SC -G<+S
9a: 7apital % %" %&0.87 %&2.22
75
.
0
2
6
7
9b: 1eserves and Surplus . .& 27"..% 087.7&
!8=< -G<+S
480.&8 280.%2
9a: Secured
9b: Gnsecured
0
2
.%
.%
040.02
%.".8"
087.76
%&%.&7
280..0 288.80
?8?=! -G<+S #,5!8K#+
APPLICATION OF FUNDS
-IP#+ =SS#?S
166.31 971.97
9a: >ross 3lock
9b: !essA +epreciation
9c: <et 3lock
9d: 7apital Work in 5rogress
4 .. "26.82
28..%"
262.64
6..%&
87&.22
20&.7&
20".72
22.22
4.6.74 282.%8
4 I<6#S?,#<?S 6 .0 %&8.48 0&0.28
7G11#<? =SS#?S@ !8=<S =<+
=+6=<7#S
9a: Inventories
9b: Sundry +ebtors
9c: 7ash and 3ank 3alances
9d: !oans and =dvances
7
8
"
%&
.2
.2
.4
.4
226.02
248.27
66.&0
%"2.06
04&..4
0&&.0.
4.67
%%&.80
!essA 7G11#<? !I=3I!I?I#S =<+
51I6ISI8<S
%%64..& 767.&7
9a: 7urrent !iabilities
9b: 5rovisions
%%
%.
.6
.6
4"4...
%0".&&
4&&.%"
8..47
76
702... 48..76
"
8
<#? 7G11#<? =SS#?S I96: les s
97:J
?8?=! =SS#?S 9<#?:
<8?#S ?8 3=!=<7# S;##? =<+
20&."8
166.31
%82.0%
971.97
%& 78<?I<>#<? !I=3I!I?I#S %0 .7
-or and on behalf of the
=s per our report attached 3oard.
=S+->
-or =. S+- N 78. PPPPP ====
7hartered =ccountants@
S.W. ?KG1
7hairman 3333
7777
!TH;
?KG3
5artner.
-or ;IHT! KKKK
1#->;
<S+-
58IGK +irectors
6ice
7hairman
7hartered =ccountants @
W#1?
5artner.
and
,anaging
+irector
VVVVVV
SW#1
,<36
3ombay@ .8th Hune@
3ombay %&th Huly@ .&&2 Secretary .&&2.
?he balance sheet of a company is a record showing sources of funds and
their application for creating*building assets. ;owever@ since company)s fund
structure and asset position change everyday due to fund inflow and
outflow@ balance sheets are drawn on a specific date@ say 0%s t ,arch.
*+'% 1. %+#$# $./2)#$ .7 7/!1$ 2#82#$#!%,
=s shown in a sample balance sheet in 3o$%@ there are two sources of
fundsA
9a: S+'2#+.01#2$> F/!1 9also known as N#% *.2%+B is the fund coming
from the owners of the companyD and
9b: L.'! F/!1 is the fund borrowed from outsiders.
When a company*firm starts operations@ its owners@ called shareholders@
contribute funds called S+'2# C'8(%'0. <ote that in 3o$% PKV 78,5=<K
!?+.)s capital in .&&4 was 1s. %&0.87 crore. ?he shareholders being the
owners@ share part of the profit of the company@ as dividend. Share capital
has been further divided into #:/(%- )'8(%'0 and 82#7#2#!)# )'8(%'0.
#(uity capital does not have fi$ed rate of dividend. ?he preference capital
77

represents contribution of preference shareholders and has fi$ed rate of

dividend.
=fter distributing dividends@ a part of the profit is retained by the company
for meeting fund re(uirements in future. ?he retained profits accumulated
over the years are called 2#$#2"#$ '!1 $/280/$G which are shareholders)
property. In case of PKV 78,5=<K !?+.@ note that the reserves and surplus
increased from 1s. 087.7& crore in .&&2 to 1s. 27"..% crore in .&&4.
*+'% ($ %+# 1(77#2#!)# 6#%5##! E:/(%- $+'2#+.01#2$ '!1
P2#7#2#!%('0 $+'2#+.01#2$,
E:/(%- S+'2#+.01#2$ are supposed to be the owners of the company@ who
therefore@ have right to get dividend@ as declared@ and a right to vote in the
=nnual >eneral ,eeting for passing any resolution.
?he act defines a 82#7#2#!)# $+'2# as that part of share capital of the
7ompany which enFoys preferential right as toA 9a: payment of dividend at a
fi$ed rate during the life time of the 7ompanyD and 9b: the return of capital
on winding up of the 7ompany.
3ut 5reference shares cannot be traded@ unlike e(uity shares@ and are
redeemed after a predecided period. =lso@ P2#7#2#!%('0 S+'2#+.01#2$ do
not have voting rights.
*+'% 1. %#2&$ 0(4# '/%+.2(@#1G ($$/#1G $/6$)2(6#1G )'00#1 /8 '!1
8'(1 /8 )'8(%'0 &#'!,
A/%+.2(@#1 )'8(%'0 is the ma$imum capital that a company is
authori/ed to raise.
I$$/#1 )'8(%'0 is that part of the authori/ed capital which is offered
by the company for being subscribed by members of the public or
anybody.
S/6$)2(6#1 )'8(%'0 is that part of the issued capital which is
subscribed 9accepted: by the public.
C'00#1 /8 )'8(%'0 is a part of subscribed capital which has been
called up by the company for payment. -or e$ample@ if %&@&&& shares
of 1s. %&& each have been subscribed by the public and of which 1s.
4& per share has been called up. ?hen the subscribed capital of the
78

7ompany works out to 1s. %@&&@&&& of which the called up capital of

the 7ompany is 1s. 4&@&&&&.
P'(1 U8 )'8(%'0 refers to that part of the called up capital which has
been actually paid by the shareholders. Some of the shareholders
might have defaulted in paying the called up money. Such defaulted
amount is called as arrears. -rom the called up capital@ calls in
arrears is deducted to obtain the paid up capital.
*+'% ($ %+# 1(77#2#!)# 6#%5##! $#)/2#1 '!1 /!$#)/2#1 0.'!$
/!1#2 L.'! F/!1$,
Secured loans are the borrowings against the security i.e. against
mortgaging some immovable property or hypothecating*pledging some
movable property of the company. ?his is known as creation of charge@
which safeguards creditors in the event of any default on the part of the
company. ?hey are in the form of debentures@ loans from financial
institutions and loans from commercial banks. <otice that in case of the PKV
78,5=<K !?+.@ it was 1s. 040.02 crore as on ,arch 0%@ .&&4. ?he
unsecured loans are other short term borrowings without a specific security.
?hey are fi$ed deposits@ loans and advances from promoters@ intercorporate
borrowings@ and unsecured loans from the banks. Such borrowings amount
to 1s. %.".8" crore in case of the PKV 78,5=<K !?+.
*+'% ($ &#'!% 6- '880()'%(.! .7 7/!1$,
?he funds collected by a company from the owners and outsiders are
employed to create following assetsA
'ixed /ssets1 ?hese assets are ac(uired for longterms and are used
for business operation@ but not meant for resale. ?he land and
buildings@ plant@ machinery@ patents@ and copyrights are the fi$ed
assets. In case of the PKV 78,5=<K !?+.@ fi$ed assets are worth 1s.
4.6.74 crore.
Investments1 ?he investments are the financial securities created by
investing surplus funds into any nonbusiness related avenues for
getting income either for longterm or shortterm. ?hus incomes and
gains from the investments are not from the business operations.
(urrent /ssets0 ,oans0 and /dvances1 ?his consists of cash and other
resources which can be converted into cash during the business
operation. 7urrent assets are held for a shortterm period for
79
meeting dayto day operational e$penditure. ?he current assets are
in the form of raw materials@ finished goods@ cash@ debtors@
inventories@ loans and advances@ and prepaid e$penses. -or the PKV
78,5=<K !?+.@ current assets are worth 1s. %%64..& crore.
&isce##aneous Ex%enditures and ,osses1 ?he miscellaneous
e$penditures represent certain outlays such as preliminary e$penses
and preoperative e$penses not written off. ?hough loss indicates a
decrease in the owners) e(uity@ the share capital can not be reduced
with loss. Instead@ share capital and losses are shown separately on
the liabilities side and assets side of the balance sheet@ respectively.
*+'% 1. %+# $/69+#'1(!3$ /!1#2 %+# F(;#1 A$$#%$ 0(4# =E2.$$
60.)4> =D#82#)('%(.!>G =N#% B0.)4> '!1 C'8(%'09*.24 (!
P2.32#$$> &#'!,
?he total value of ac(uiring all fi$ed assets 9even though at different points
of time: is called '>ross B0.)4> or '>ross F(;#1 A$$#%>.
=s per accounting convention@ all fi$ed assets e$cept land have a fi$ed life.
It is assumed that every year the worth of an asset falls due to usage. ?his
reduction in value is called '+epreciation). ?he 7ompanies =ct %"46
stipulates different rates of depreciation for different types of assets and
different methods calculating depreciation@ namely@ Straight !ine ,ethod
9constant annual method: and Written +own 6alue ,ethod 9depreciation
rate decreases over a period of time:.
?he worth of the fi$ed assets after providing for depreciation is called '<et
B0.)4>. In case of the PKV 78,5=<K !?+.@ <et 3lock was 1s. 262.64 crore
as on ,arch 0%@ .&&4.
E2.$$ B0.)49D#82#)('%(.! K N#% B0.)4
R$. 946.849 R$. 482.19 K R$. 464.65
?he capital*funds used for a new plant under erection@ a machine yet to be
commissioned etc. are e$amples of '7apital Work in 5rogress)@ which also
has to be taken into account while calculating the fi$ed assets as it will be
converted into gross block soon.
80
*+'% '2# C/22#!% L('6(0(%(#$ '!1 P2."($(.!$ '!1 N#% C/22#!%
A$$#%$ (! %+# 6'0'!)# $+##%,
= company may receive many of its daily services for which it does not have
to pay immediately like for raw materials@ goods and services brought on
credit. = company may also accept advances from the customer. ?he
company thus has a liability to pay though the payment is deferred. ?hese
are known as '7urrent L('6(0(%(#$>. Similarly the company may have to
provide for certain other e$penses 9though not re(uired to be paid
immediately: like dividend to shareholders@ payment of ta$ etc. ?hese are
called '5rovisions). In short@ 7urrent !iabilities and 5rovisions are amounts
due to the suppliers of goods and services brought on credit@ advances
payments received@ accrued e$penses@ unclaimed dividend@ provisions for
ta$es@ dividends@ gratuity@ pensions@ etc.
7urrent !iabilities and 5rovisions@ therefore@ reduce the burden of dayto
day e$penditure on current assets by deferring some of the payments. -or
daily operations the company re(uires funds e(ual to the current assets less
the current liabilities. ?his amount is called '<et C/22#!% A$$#%$> or '<et
*.24(!3 C'8(%'0>. In case of the PKV 78,5=<K !?+.@ <et 7urrent =sset
figure of 1s. 20&."8 cr. has been arrived at by deducting 7urrent !iabilities
91s. 4"4... cr.: and 5rovisions 91s. %0" cr.: from 7urrent =ssets worth 1s.
%%64..& crore.
C.5 ($ 6'0'!)# $+##% $/&&'2(@#1,
= balance sheet indicates matching of sources o" "unds with a%%#ication o"
"unds. In case of the PKV 7ompany !td.@ '?otal -unds #mployed) to the tune
of 1s. %&66.0% cr. are from the said two Sources of -undsShareholders
-unds and !oan -unds. ?hese funds have been utili/ed to fund ?otal 9<et:
=ssets of 1s. %&66.0% cr. that consist of -i$ed =ssets 91s. 4.6.74 cr.:@
Investments 91s. %&8.48 cr.: and <et 7urrent =ssets 91s. 20&."8 cr.:.
?hus in a balance sheet@
T.%'0 C'8(%'0 E&80.-#1 K N#% A$$#%$.
81
*+'% 1.#$ ' P2.7(% '!1 L.$$ A))./!% $%'%#&#!% ).!$($%$ .7,
= 5rofit and !oss =ccount shows how much profit or loss has been incurred
by a company from its income after providing for all its e$penditure within a
financial year. 8ne may also know how the profit available for appropriation
is arrived at by using profit after ta$ as well as portion of reserves. -urther@
it shows the profit appropriation towards dividends@ general reserve and
balance carried to the balance sheet.
?he 3o$. e$hibits 5rofit and !oss =ccount of PKV 7ompany !td. Item%
represents income @ Items from . to 6 show various e$penditure items.
Items from 7 to %. show the profits available for appropriation and items %0
9a:@ 9b:@ and 9c: indicate appropriation of profits.
BOI L 2
PROFIT AND LOSS ACCOUNT FOR TCE YEAR ENDED
31ST MARCCG 25
PARTICULARS RUPEES
A(! )2.2#$B
RUPEES
A(! )2.2#$B
=s at
0%st ,arch@
.&&4
RUPEES
A(! )2.2#$B
=s at
0%st ,arch@
.&&2
INCOME
%. S=!# 8- 518+G7?S =<+ 8?;#1 I<78,#
EIPENDITURE
.. ,=<G-=7?G1I<> =<+ 8?;#1 #P5#<S#S
0. +#51#7I=?I8<
2. I<?#1#S?
4. #P5#<+I?G1# ?1=<S-#11#+ ?8 7=5I?=!
=778G<?S
6. ?8?=! #P5#<+I?G1#
PROFIT BEFORE TAI
7. ?=P -81 ?;# K#=1
PROFIT AFTER TAI
8. I<6#S?,#<? =!!8W=<7# 1#S#16#
=778G<?
". I<6#S?,#<? =!!8W=<7# 9G?I!IS#+:
1#S#16# W1I??#< 3=7T
%&. +#3#<?G1# 1#+#,5?I8< 1#S#16#
%%. 7=5I?=! 1#+#,5?I8< 1#S#16#
82
..74.07
42..6
8%.60
2".8.
.4"4.""
.0%6.22
.02.44
"..4
%2..&4
2.66
9%4..:
9&.47:
%"6".%&
%72..42
28."%
70.60
922..7:
%8.&.8%
%28.."
24.74
%&..42
0.44
9%%..:
9&.47:

%.. 3=!=<7# 318G>;? -81W=1+ -18,

51#6I8GS K#=1
AMOUNT AVAILABLE FOR
APPROPRIATIONS
%0. =551851I=?I8<S
9a: 5roposed +ividendsX
9b: >eneral 1eserve
9c: 3alance credited to 3alance Sheet
%2. <8?#S ?8 518-I? =<+ !8SS =778G<?
X +etails as per +irectors 1eport
=s per our report attached
to the 3alance Sheet
86.7%
.%7.64
2%.42
%&&
76.%%
.%7.64
-or and on behalf of the 3oard
00.64
%.7."7
0%..6
%&
86.7%
%.7."7
-or PKV N co.
7hartered =ccountants@
=37
5S1
7hairman
===
333
777
5artner
-or !,< N co.
7hartered =ccountants@
+#-
5artner
>;I
6ice
7hairman
and
,anaging
+irector
S?G
+++ +irectors
,umbai@ %&th Huly .&&2 Secretary ,umbai@ .8th Hune .&&2
*+'% $+./01 .!# 0..4 7.2 (! ' P2.7(% '!1 L.$$ '))./!%,
-or a company@ the profit and loss statement is the most important
document presented to the shareholders. ?herefore@ each company tries to
give ma$imum stress on its representation* misrepresentation. 8ne should
consider the followingA
Whether there is an overall improvement of sales as well as profits
9operating@ gross and net: over the similar period 9halfyearly or
annual: previous year. If so@ the company)s operational management
is good.
7heck for the other income carefully@ for here companies have the
scope to manipulate. If the other income stems from dividend on the
investments or interest from the loans and advances@ it is good@
because such income is steady. 3ut if the other income is derived by
83

selling any assets or land@ be cautious since such income is not an

annual occurrence.
=lso check for the increase of all e$penditure items vi/. raw material
consumption@ manpower cost and manufacturing@ administrative and
selling e$penses. See whether the increases in these costs are more
than the increase in sales. If so@ it reveals the operating conditions
are not conducive to making profits. Similarly@ check whether ratio of
these costs to sales could be contained over the previous year. If so@
then the company)s operations are efficient.
#valuate whether the company could make profit from its operations
alone. -or this you should calculate the profits of the company@ after
ignoring all other income e$cept sales. If the profit so obtained is
positive@ the company is operationally profitable@ which is a healthy
sign.
Scrutini/e the depreciation as well as interest for any abnormal
increase. ?he increase in depreciation is attributed to higher addition
of fi$ed assets@ which is good for long term operations of the
company. ;igh depreciation may suppress the net profits@ but it)s
good for the cash flow. So instead of looking out for the net profits@
check the cash profits and compare whether it has risen. ;igh
interest cost is always a cause of concern because the increased debt
burden cannot be reduced in the short run.
7alculate the earnings per share and the various ratios. In case of
half yearly results@ multiply half yearly earnings per share by . to get
appro$imately the annuali/ed earnings per share.
84
=
1. RATIO ANALYSIS
,ere statistics*data presented in the different financial statements do not
reveal the true picture of a financial position of a firm. 5roperly analy/ed and
interpreted financial statements can provide valuable insights into a firm)s
performance. ?o e$tract the information from the financial statements@ a
number of tools are used to analyse such statements. ?he most popular tool
is the R'%(. A!'0-$($.
-inancial ratios can be broadly classified into three groupsA 9I: !i(uidity
ratios@ 9II: !everage*7apital structure ratio@ and 9III: 5rofitability ratios.
AIB L(:/(1(%- 2'%(.$<
!i(uidity refers to the ability of a firm to meet its financial obligations in the
shortterm which is less than a year. 7ertain ratios@ which indicate the
li(uidity of a firm@ are 9i: 7urrent 1atio@ 9ii: =cid ?est 1atio@ 9iii: ?urnover
1atios. It is based upon the relationship between current assets and current
liabilities.
(i C!""#$% "&%i' =
Current.Assets
Current.Liabilitie s
?he current ratio measures the ability of the firm to meet its current
liabilities from the current assets. ;igher the current ratio@ greater the
shortterm solvency 9i.e. larger is the amount of rupees available per rupee
of liability:.
(ii A(i)*%#+% R&%i'
Quick. Assets
Current.Liabilitie s
Suick assets are defined as current assets e$cluding inventories and prepaid
e$penses. ?he acidtest ratio is a measurement of firm)s ability to convert
its current assets (uickly into cash in order to meet its current liabilities.
>enerally speaking %A% ratio is considered to be satisfactory.
85
9iii: ?urnover 1atiosA
?urnover ratios measure how (uickly certain current assets are converted
into cash or how efficiently the assets are employed by a firm. ?he
important turnover ratios areA
Inventory ?urnover 1atio@ +ebtors ?urnover 1atio@ =verage 7ollection
5eriod@ -i$ed =ssets ?urnover and ?otal =ssets ?urnover
I$,#$%'"- T!"$',#" R&%i' =
CostofGoodsSold
AverageInventory
Where@ the cost of goods sold means sales minus gross profit. '=verage
Inventory) refers to simple average of opening and closing inventory. ?he
inventory turnover ratio tells the efficiency of inventory management.
;igher the ratio@ more the efficient of inventory management.
D#.%'"+/ T!"$',#" R&%i' =
NetCreditSales
AverageAccounts Re ceivable(ebtors)
?he ratio shows how many times accounts receivable 9debtors: turn over
during the year. If the figure for net credit sales is not available@ then net
sales figure is to be used. ;igher the debtors turnover@ the greater the
efficiency of credit management.
A,#"&0# C'11#(%i'$ P#"i') =
Averageebtors
AverageailyCreditSales
=verage 7ollection 5eriod represents the number of days) worth credit sales
that is locked in debtors 9accounts receivable:.
5lease note that the /verage (o##ection *eriod and the /ccounts 2eceiva#e
7Detors8 Turnover are related as followsA
A,#"&0# C'11#(%i'$ P#"i') =
365 ays
ebtors!urnover
86
=
=
-i$ed =ssets turnover ratio measures sales per rupee of investment in fi$ed
assets. In other words@ how efficiently fi$ed assets are employed. ;igher
ratio is preferred. It is calculated as followsA
Fi2#) A++#%+ %!"$',#" "&%i' =
Net.Sales
Net"i#edAssets
?otal =ssets turnover ratio measures how efficiently all types of assets are
employed.
T'%&1 A++#%+ %!"$',#" "&%i' =
Net.Sales
Average!otalAssets
AIIB L#"#2'3#?C'8(%'0 $%2/)%/2# R'%(.$<
!ong term financial strength or soundness of a firm is measured in terms of
its ability to pay interest regularly or repay principal on due dates or at the
time of maturity. Such long term solvency of a firm can be Fudged by using
leverage or capital structure ratios. 3roadly there are two sets of ratiosA
-irst@ the ratios based on the relationship between borrowed funds and
owner)s capital which are computed from the balance sheet. Some such
ratios areA +ebt to #(uity and +ebt to =sset ratios. ?he second set of ratios
which are calculated from 5rofit and !oss =ccount areA ?he interest coverage
ratio and debt service coverage ratio are coverage ratio to leverage risk.
9i: +ebt#(uity ratio reflects relative contributions of creditors and owners to
finance the business.
D#.%*E3!i%- "&%i'
!otal ebt
!otal $%uity
?he desirable*ideal proportion of the two components 9high or low ratio:
varies from industry to industry.
9ii: +ebt=sset 1atioA ?otal debt comprises of long term debt plus current
liabilities. ?he total assets comprise of permanent capital plus current
liabilities.
D#.%*A++#% R&%i'
!otal ebt
!otal Assets
87
=
?he second set or the coverage ratios measure the relationship between
proceeds from the operations of the firm and the claims of outsiders.
(iii I$%#"#+% C',#"&0# "&%i'
$arnings &efore Interest and !a#es
Interest
;igher the interest coverage ratio better is the firm)s ability to meet its
interest burden. ?he lenders use this ratio to assess debt servicing capacity
of a firm.
9iv: +ebt Service 7overage 1atio 9+S71: is a more comprehensive and apt
to compute debt service capacity of a firm. -inancial institutions calculate
the average +S71 for the period during which the term loan for the proFect
is repayable. ?he +ebt Service 7overage 1atio is defined as followsA
Pr ofit.after.ta# + e'reciation + (t)erNoncas)$#'enditure + Interest.on.ter*.loan
Interest on !er* loan + Re 'ay*ent of ter* loan
AIIIB P2.7(%'6(0(%- 2'%(.$<
5rofitability and operating*management efficiency of a firm is Fudged mainly
by the following profitability ratiosA
(i G"'++ P"'4i% R&%i' (5 =
Gross Profit
Net Sales
6 177
(ii N#% P"'4i% R&%i' (5 =
Net Profit
Net Sales
6 177
Some of the profitability ratios related to investments areA
(iii R#%!"$ '$ T'%&1 A++#%+ =
Pr ofit.&efore.Interest. And .!a#
"i#edAssets + CurrentAssets
(i, R#%!"$ '$ C&8i%&1 E981'-#) =
Net ProfitAfter!a#
!otalCa'ital $*'loyed
9;ere@ ?otal 7apital #mployed Q ?otal -i$ed =ssets Y 7urrent =ssets
7urrent !iabilities:
88
=
(, R#%!"$ '$ S:&"#:'1)#"+/ E3!i%-
Net Pr ofit After !a#
Average!otal S)are)olders' $%uity or Net+ort)
9<et worth includes Shareholders) e(uity capital plus reserves and surplus:
= commo n 9e(uity: shareholder has only a residual claim on profits and
assets of a firm@ i.e.@ only after claims of creditors and preference
shareholders are fully met@ the e(uity shareholders receive a distribution of
profits or assets on li(uidation. = measure of his well being is reflected by
return on e(uity. ?here are several other measures to calculate return on
shareholders) e(uity of which the following are the stock market related
ratiosA
9i: #arnings 5er Share 9#5S:A #5S measures the profit available to the e(uity
shareholders per share@ that is@ the amount that they can get on every share
held. It is calculated by dividing the profits available to the shareholders by
number of outstanding shares. ?he profits available to the ordinary
shareholders are arrived at as net profits after ta$es minus preference
dividend.
It indicates the value of e(uity in the market.
EPS =
Net Profit. Available.!o.!)e.S)are)older
Nu*ber of (rdinary S)ares (utstanding
(ii P"i(#*#&"$i$0+ "&%i'+ = P;E R&%i' = ,arket Pr ice 'er S)are
$-S
89
I00/$%2'%(.!<
B'0'!)# S+##% .7 ABC C.. L%1. '$ .! M'2)+ 31G 25
AR$. (! C2.2#B
L('6(0(%(#$
Share 7apital
A&./!%
%6.&&
A$$#%$
-i$ed =ssets 9net:
A&./!%
6&.&&
9%@&&@&&@&&& e(uity shares
of 1s.%& each:
1eserves N Surplus
Secured !oans
Gnsecured !oans
7urrent !iabilities N 5rovisions
T.%'0
...&&
.%.&&
.4.&&
%6.&&
1
7urrent =ssetsA
7ash N 3ank
+ebtors
Inventories
5repaid e$penses
Investments
T.%'0
&..&
%%.8&
%&.6&
&.8&
.0.2&
%6.6&
1
P2.7(% & L.$$ A))./!% .7 ABC C.. L%1. 7.2 %+# -#'2 #!1(!3 .! M'2)+
31G 25<
P'2%()/0'2$
8pening Stock
5urchases
Wages and Salaries
8ther ,fg. #$penses
>ross 5rofit
T.%'0
=dministrative and 5ersonnel #$penses
Selling and +istribution #$penses
+epreciation
Interest
<et 5rofit
T.%'0
Income ?a$
#(uity +ividend
1etained #arning
T.%'0
A&./!%
%0.&&
6".&&
%..&&
%&.&&
%6.&&
12.
%.4&
..&&
..4&
%.&&
".&&
16.
2.&&
0.&&
..&&
9.
P'2%()/0'2$
Sales 9net:
7losing Stock
T.%'0
>ross 5rofit
T.%'0
<et 5rofit
T.%'0
A&./!%
%&4.&&
%4.&&
12.
%6.&&
16.
".&&
9.
,arket price per e(uity share Q 1s. .&.&&
90
C/22#!% R'%(. Q 7urrent =ssets * 7urrent !iabilities
Q .0.2&*%6.&& Q %.26
D/()4 R'%(. Q Suick =ssets * 7urrent !iabilities
Q7urrent =ssets9inventory Y prepaid e$penses:*7urrent !iabilities
Q I.0.2&9%&.6&Y&.8:J*%6.&& Q %..&&*%6.&& Q &.74
I!"#!%.2- T/2!."#2 R'%(. Q 7ost of goods sold*=verage Inventory
Q 9<et Sales>ross 5rofit:* I9opening stockYclosing stock:*.J
Q 9%&4%6:* I9%4Y%0:*.J Q 8"*%2 Q 6.06
D#6%.2$ T/2!."#2 R'%(.K <et Sales*=verage account receivables
9+ebtors:
Q%&4*%%.8& Q8.8"80
A"#2'3# C.00#)%(.! 8#2(.1 Q 064 days * +ebtors turnover
Q 064 days*8.8"80 Q 2% days
F(;#1 A$$#%$ T/2!."#2 2'%(. Q <et Sales * <et -i$ed =ssets
Q %&4*6& Q %.74
D#6% %. E:/(%- R'%(. Q +ebt* #(uity
Q 9.%.&&Y.4.&&:*9%6.&&Y...&&: Q 26*08 Q %..%
E2.$$ P2.7(% R'%(. Q >ross 5rofit*<et Sales
Q %6.&&*%&4.&& Q &.%4.08 or %4..2B
N#% P2.7(% R'%(. Q <et 5rofit * <et Sales
Q "*%&4.&& Q &.&847 or 8.47 B
R#%/2! .! S+'2#+.01#2$> E:/(%- Q <et 5rofit after ta$*<et worth
Q 4.&&*9%6.&&Y...&&: Q&.%0%47 or %0.%6B
91

A662#"('%(.!$<
<S# <ational Stock #$change of India !td.
S#3I Securities #$change 3oard of India
<7-, <S#)s 7ertification in -inancial ,arkets
<S+! <ational Securities +epository !imited
7S+! 7entral Securities +epository !imited
<7+#P <ational 7ommodity and +erivatives #$change !td.
<S77! <ational Securities 7learing 7orporation !td.
-,7 E -orward ,arkets 7ommission
<KS# <ew Kork Stock #$change
=,#P =merican Stock #$change
8?7 8verthe7ounter ,arket
!, E !ead ,anager
I58 Initial 5ublic 8ffer
+5 +epository 5articipant
+1- +emat 1e(uest -orm
11- 1emat 1e(uest -orm
<=6 E <et =sset 6alue
#5S E #arnings 5er Share
+S71 +ebt Service 7overage 1atio
SN5 E Standard N 5oor
IIS! India Inde$ Services N 5roducts !td
71ISI! 7redit 1ating Information Services of India !imited
7=1# 7redit =nalysis N 1esearch !imited
I71= Investment Information and 7redit 1ating =gency of India
I>7 E Investor >rievance 7ell
I5- E Investor 5rotection -und
S71= Securities 7ontract 91egulation: =ct
S711 E Securities 7ontract 91egulation: 1ules
92