Lt Finance 1

7/30/2019 Lt Finance 1

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Shares


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Definition Ordinary share represent the ownership position in the

company. The holders of ordinary shares are called theshareholders and they are the legal owners of the company.

By a share it also means right to participate in the profitsmade by a company, while it is a going concern anddeclares dividend, and in the assets of the company when itis wound up.

A stock is defined as consolidated value of fully paid upshares of a member.


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Types of shares capital

Equity shares capital

Preference shares capital: Preference share is the onewhich satisfies the following criteria

- With respect to dividend it carries a preferential right to be

paid which may be a fixed amount or a fixed rate

- On winding up or on repayment of capital a preferential

right to be repaid the amount .


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Features of Preference Share

Claims on income and assets

Fixed Dividend

Cumulative dividend

Redemption

Sinking fund

Call feature

Participation feature


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Hybrid Security

Ordinary share

Non payment of dividend

does not force the

company to insolvency

Dividends are not

deductible for tax purpose

In some cases there is no

fixed maturity date.

Debenture

Dividend rate is fixed

Pref shareholders do not share in

the residual earnings

They have claim on income and

assets prior to ordinary

shareholders


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Types of Preference Shares

Participating preference shares.:- they carry a right toparticipate in the surplus profit along with equityshareholders after dividend at certain rate has been paid toequity shareholders.

Cumulative and non-cumulative shares

Redeemable preference shares

Fully or partly convertible preference shares.


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Voting rights for preference shareholders

Every member of a company holding any preference shares

has a right to vote only on resolutions placed before the

company which directly affect attached to his preference

shares

Apart from this preference shareholders are entitled to vote

if dividend has remain unpaid in case of cumulative as well

as non cumulative for two years.


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Pros

Risk less leverage advantage

Dividend postpondability

Fixed dividend

Limited voting right

Cons

Non tax deductibility of dividend

Commitment to pay dividend


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Equity shares


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Types of Equity Shares

Authorized share capital

Issued share capital

Subscribed share capital

Paid up share capital


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Issue price of shares: the price at which share is issued in themarket.

Paid up share capital = issue price * no. of ordinary shares.

Issue price has two components1. Par value2. Share premium

Par value is the price per ordinary share stated in thememorandum of association.

Generally they are in the denomination of 10 or 100. Any amount in excess of par value is called the share

premium.

Shareholders equity = paid up share capital + share premium+ reserves and surplus = Net worth

Book value per share = Net worth / no. of ordinary shares Market value of a share is the price at which it trades in the

market. It is generally based upon the expectations about theperformance of the economy in general and company inparticular.


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Features of Equity Shares

Residual claim to income

Residual claim on assets

Right to control

Voting system

Pre-emptive right

Limited liability


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Evaluation Merits

- it is a permanent source of fund without any repayment liability

- It does not involve any obligatory dividend payment

Demerits

- high cost of fund reflecting the high required rate of return ofinvestors as a compensation for higher risk

- High floatation cost in terms of underwriting, brokerage andother issue expenditure

- Dilution of control


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Method of Raising Capital

By issue of prospectus

Rights issue of equity shares.

Private placement of shares


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Issuing of securities

Filing of offer document

Application for listing

Issue of securities in dematerialized form

Book building: It is a process undertaken by whichdemand for securities proposed to be issued is elicited and

built up and price for such issue is assessed for

determination of quantum of such securities to be issued.


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Issue of share at a discount

Issue of share at a premium

Call on shares: application, allotment and other calls

Forfeiture of shares


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Initial Public OfferBenefits of going public

- Access to capital

- Respectability

- Investors recognition

- Liquidity

- Signals from the market

Costs of going public

- Adverse selection- Dilution

- Disclosures

- Accountability

- Public pressure


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ISSUE TYPE OFFER PRICE DEMAND PAYMENT RESERVATIONS

Fixed PriceIssues

Price at which

the securities

are offered andwould be

allotted is made

known in

advance to the

investors

Demand for the

securities

offered isknown only

after the closure

of the issue

100 % advance

payment is

required to bemade by the

investors at the

time of

application.

50 % of the

shares offered

are reserved forapplications

below Rs. 1

lakh and the

balance for

higher amount

applications.

Book BuildingIssues

A 20 % price

band is offered

by the issuer

within which

investors areallowed to bid

and the final

price is

determined by

the issuer only

after closure ofthe bidding.

Demand for the

securities

offered , and at

various prices,

is available on areal time basis

on the BSE

website during

the bidding

period..

10 % advance

payment is

required to be

made by the

QIBs along withthe application,

while other

categories of

investors have

to pay 100 %

advance alongwith the

50 % of shares

offered are

reserved for

QIBS, 35 % for

small investorsand the balance

for all other

investors.


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Eligibility for an IPO

A company can make 100% retail issues provided itsatisfies all the following conditions

1. It has a net tangible asset of at least Rs 3 crore

in each of the preceding three years.

2. It has a track record of distributable profit for at

least three out of immediately proceeding 5

years.

3. It has a net worth of at least Rs1 crore in eachof the preceding 3 financial years.

4. The issue size (offer through offer document +

firm allotment + promoters contribution through

offer document) does not exceed five times the-


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Cost of Public Issue

Underwriting Expenses

Brokerage

Fees to the managers to the issue

Fees for registrars to the issue Printing expenses

Postage expenses

Advertising and publicity expenses Listing fees

Stamp duty


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Green Shoe option A provision contained in an underwriting agreement that gives the underwriter

the right to sell investors more shares than originally planned by the issuer. This

would normally be done if the demand for a security issue proves higher thanexpected. Legally referred to as an over-allotment option.

It provides additional price stability to a security issue because the underwriterhas the ability to increase supply and smooth out price fluctuations if demandsurges.

Greenshoe options typically allow underwriters to sell up to 15% more

shares than the original number set by the issuer.

However, some issuers prefer not to include greenshoe options in theirunderwriting agreements under certain circumstances, such as if the issuerwants to fund a specific project with a fixed amount of cost and does not wantmore capital than it originally sought.

The term is derived from the fact that the Green Shoe Company was the first toissue this type of option.


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size of public offer: 2,00,000 equity shares of Rs 10 each

no. of times over subscribed: 3 times

total no. of shares applied for: 6,00,000 equity shares

S.No No. of sharesapplied for

category wise

No. ofapplican

ts

Total no. ofshares

applied

Proportionate

allocation

No. ofshares

allocated

by

rounding

No ofsuccessfu

l

applicant

Total noof shares

allocated

1 100 1500 150000 50,000 100 500 50,000+3300

2 200 400 80,000 26,700 100 267 26700

3 300 300 90,000 30,000 100 300 30,000

4 400 300 1,20,000 40,000 100 300 30,000

5 500 200 1,00,000 33,300 200 200 40,000

6 600 100 60,000 20,000 200 100 20,000

6,00,000 2,00,000 2,00,000


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Rights Issue of Equity Share

It involves selling of ordinary shares to the

existing shareholders.

Law in India requires that the new ordinary

shares must be first issued to the existing

shareholders on a prorata basis

No. of rights = existing share/ new share


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Private placement of shares

It involves sale of shares (or other securities)by a company to few selected investors,particularly the Institutional Investors like the

Unit Trust of India (UTI), the Life InsuranceCorporation of India (LIC), IDBI etc.

Private placement has the following

advantages- It is helpful to raise small amount of fund

- It is less expensive

- It is a much faster way of raising fund.


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Shareholder A shareholder (or stockholder) is an individual or company

(including a corporation) that legally owns one or more shares ofstock in a joint stock company.

Shareholders are granted special privileges depending on the class of

stock, including the right to vote (usually one vote per share owned) on matters such

as elections to the board of directors,

the right to share in distributions of the company's income,

the right to purchase new shares issued by the company,

and the right to a company's assets during a liquidation of thecompany.

However, shareholder's rights to a company's assets are subordinateto the rights of the company's creditors.


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Preferential Allotment , An issue of equity or equity related instruments by a

listed company to pre-identified investors who may or

may not be the existing shareholders of the company

at a pre-determined price is referred to as a

preferential allotment.

Made to promoters, strategic investors, venture

capitalist, financial institutions and suppliers

Rationale- to secure equity participation of those that

the company considers desirable, but who may

otherwise find it very costly or impractical to buy large

chunk of shares in the market.


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Regulations

Special resolution- company must pass special resolution

- government must grant special approvalunder section 81(1A)

Pricing price should not be lower than thehigher of the average of the weekly high and lowof the closing price of the shares quoted on thestock exchange during six months before the

relevant date or two weeks before the relevantdate.

Open offer- a preferential allotment of more than15% of equity necessitates an open offer.

Lock-in-period one year lock-in-period


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Internal Accruals

Depreciation Charges

Retained earnings


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Advantages & Disadvantages of InternalAccruals

Advantages Retained earnings are easily available internally.

It eliminates issue and transaction cost.

No dilution of control

Disadvantages

Amount that can be raised by way of retainedearning is limited.

Opportunity cost is quite high


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Term Loan


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Term Loan

Term loan is a loan made by bank/financial

institution to a business having an initial

maturity of more than one year.


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Features of a term loan

Maturity

Negotiated

Security:

- primary security/secondary security (collateral)

Covenants

restrictive covenants are contractual clauses in

the loan agreement that place certain operatingand financial constraints on the borrower.

these covenants are both positive as well asnegative in the sense of what borrowers shoulddo and should not do in the conduct of its

operation.


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Covenants

Asset-related covenants

-maintenance of working capital position in terms ofminimum current ratio

-ban on sale of fixed asset without the lendersapproval

Liability related covenant

-restrain on incurrence of additional debt-reduction in debt equity ratio by issue of additional

capital

Cash flow related covenant

-limitation on dividend payment to a certain amountor rate

-ceiling on managerial salary or perks

Control related covenant

-appointment of nominee director to represent the

financial institution and safeguard their interest


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Repayment schedule/Loan

Amortization

Year Beginnin

g loan

Payment

installme

nt

Interest

(0.14)

Principal

repayme

nt[3-4]

Ending

loan [2-5]

1 2 3 4 5 6

1 60,000 12,934 8,400 4,535 55,4662 55,466 12,934 7,776 5,168 50,298

3 50,298 12,934 7,042 5,896 44,406

4 44,406 12,934 6,216 6,718 37,688

5 37,688 12,934 5,276 7,658 30,0306 30,030 12,934 4,204 8,730 21,300

7 21,300 12,934 2,982 9,952 11,348

8 11,348 12,934 1,588 11,346 0


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Obtaining a term loan

An application form containing comprehensive

information about the project is submitted to the financialinstitution

It contains details like promoters background, particularsof the industrial concern, particulars of the industrial

project, cost of the project, means of financing etc. After the application is received a flash report is

generated which is a summarization of the loanapplication. On the basis of this report detailed appraisalof the project is done.

In the detailed analysis marketing, technical, financial,management and economic feasibility of the project istested.

If on appraisal is the project is found feasible then the

loan is sanctioned by the bank.


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Debentures

Debenture/bond is a debt instrument indicating that a

company has borrowed certain sum of money and

promises to repay it in future under clearly defined

terms.


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Attributes

Trust indenture: it is a complex and lengthy legal document

stating the conditions under which a bond has been issued.

It provides the specific terms of agreement such as descriptionof debenture, rights of debenture holder, rights of the issuingcompany and responsibilities of the trustees.

Trustees is a bank or financial institution that acts as a thirdparty to the bond to ensure that the issue does not default onits contractual responsibilities to the bond holders.

Interest: the debenture carries a fixed rate of interest, paymentof which is legally binding

Maturity: It indicates the length of time for redemption


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Debenture redemption reserve: It is a requirement in thedebenture indenture to provide for systematic retirementof debenture on maturity.

Call and put provision: the call/buyback provides anoption to the issuing company to redeem the debentureat a specified price before maturity. The put option is theright to the debenture holder to seek redemption at a

specified time at a predetermined price.

Security

Convertibility

Credit rating

Claim on income and assets


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Innovative debt Instruments

Zero Interest Bond

- They do not carry any explicit rate of interest

- They are sold at a discount from their maturity value

- The difference between face value of the bond and the

acquisition cost is the gain.

Deep Discount bond

- It is issued at a deep/steep discount at its face value

- It appreciates to its face value during the maturity period


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IDBI in 1992 had come up with a deep discount

bond of face value Rs 1,00,000 at a deep

discount price of Rs 2,700 with a maturityperiod of 25 years. If the investors hold it for 25

years the annualized return comes out to be

15.54%. The investor had the option to withdraw

at the end of every five years with a specified

maturity and face value ranging between Rs

5,700 (after 5 years) and Rs 50,000 after 20

years, the implicit annual rate of interest being16.12 and 15.71 respectively


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Secured premium notes

- It is a secured debenture redeemable at premium over

the face value/ purchase price- There is a lock in periodduring which no interestispaid

- The redemption is made in installment

Floating rate bond

- Interest is linked to some benchmark rate such as

treasury bill, bank rate etc

Callable and puttable bonds


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Other new sources of finance

Leasing and hire purchase- leasing: It is a process by which a firm can obtain the

use of certain fixed assets for which it must make aseries of contractual, periodic, tax-deductiblepayments.

- Hire purchase:- It is a type of financial transaction inwhich goods are let on hire with an option to the hirerto purchase them.

Venture capital financing: It is a type of financeavailable for investors looking for high potentialreturns and entrepreneurs who need capital as theyare yet to go to the public

Q lifi d I tit ti l B (QIB)


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Qualified Institutional Buyer (QIB)

The Securities and Exchange Board of India has defined a Qualified InstitutionalBuyer as follows

"Qualified Institutional Buyers are those institutional investors who are generallyperceived to possess expertise and the financial muscle to evaluate and invest in thecapital markets.

In terms of clause 2.2.2B (v) of DIP Guidelines, a Qualified Institutional Buyer shallmean:

"a) Public financial institution as defined in section 4A of the Companies Act, 1956;

"b) Scheduled commercial banks;

"c) Mutual funds;

"d) Foreign institutional investor registered with SEBI;

"e) Multilateral and bilateral development financial institutions;

"f) Venture capital funds registered with SEBI.

"g) Foreign Venture capital investors registered with SEBI.

"h) State Industrial Development Corporations."i) Insurance Companies registered with the Insurance Regulatory and Development

Authority (IRDA).

"j) Provident Funds with minimum corpus of Rs.25 crores

"k) Pension Funds with minimum corpus of Rs. 25 crores

"These entities are not required to be registered with SEBI as QIBs. Any entities falling

under the categories specified above are considered as QIBs for the purpose ofparticipating in primary issuance process."


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Factors affecting choice of financing

Sales stabilityAsset structure

Profitability

Control Taxes

Growth rate

Management attitude

Firms internal conditions

Financial flexibility

Market conditions

Lt Finance 1

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