MERCHANT BANKING

MODULE-3
 What is Investment Banking ???

• Investment banking is a special segment of banking operation that helps individuals

or organizations raise capital and provide financial consultancy services to them.

• Investment banks serve as middlemen between a company and investors when the
company wants to issue stock or bonds.

• An investment bank is a financial intermediary that specializes primarily in selling

securities and underwriting the issuance of new equity shares to raise capital funds.
This is different from a commercial bank, which specializes in deposits and
commercial loans.
•Investment bank is a financial intermediary that performs a variety of services such as underwriting, acting as an
intermediary between a securities issuer and the investing public, facilitating mergers and acquisitions, and acting
as a broker and/or financial adviser for institutional clients.
•IPOs
•Investment management
•Boutiques:
•Mergers and Acquisitions
•Structuring of Derivatives
•Merchant banking
•Research
•Risk management

•
• Bank that deals mostly in international finance, long-term
loans for companies and stock underwriting.
• Merchant banking primarily involves financial advice and
services for large corporations and wealthy individuals.
• Merchant banks do not provide regular banking services
to the general public.
• Merchant banks invest their own capital in client
companies & provide services for mergers and
acquisitions.

MERCHANT BANKING
•A merchant bank is sometimes said to be a
wholesale bank, or in the business of wholesale
banking.
•It’s because merchant banks tend to deal primarily
with other merchant banks and other large financial
institutions.
•As of today there are 212 Merchant bankers who
are registered with SEBI, India.
•This includes Private, Public & Foreign players.

Contd...
•Merchant Banking came into existence in 17th &
18th century in Italy & France.
•Merchant banking in the modern era started from
London; Merchants started to finance the foreign trade
through acceptance of bill.
•Merchant Banking officially came to India
through Grindlays Bank in 1967.
•Recognized the requirements of upcoming
class of Entrepreneurs for diverse financial
services.

Contd...
• Few Other Institutes who joined the bandwagon:-
 Citibank Setup its merchant banking division in
India in 1970.
 Indian banks Started banking Services from
1972.
 State bank of India started the merchant
banking division in 1972.
 Many other banks came after this like ICICI,
Canara Bank, UCO bank etc.

Contd...
Institutes offering Merchant Banking
Public Sector Private Sector
•SBI capital markets ltd •ICICI Securities Ltd
•Punjab national bank •Axis Bank Ltd Bajaj
•Bank of Maharashtra Capital Ltd
•Reliance Securities
•Karur Vysya bank ltd
Limited
•State Bank of Bikaner •Kotak Mahindra Capital
and Jaipur. Company Ltd
•IFCI financial services ltd. •Yes Bank Ltd
Key Foreign Players
•Goldman Sachs (India) Securities Pvt. Ltd.
•Morgan Stanley India Company Pvt. Ltd.
•Barclays Securities (India) Pvt. Ltd.
•Bank Of America
•Citigroup Global Markets India Pvt. Ltd.
•DSP Merrill Lynch Ltd.
 MERCHANT
What is a 'Merchant Bank'

A merchant bank is a company that deals mostly

in international finance, business loans for companies
and underwriting. These banks are experts in international
trade, which makes them specialists in dealing with
multinational corporations. A merchant bank may perform
some of the same services as an investment bank, but it does
not provide regular banking services to the general public.
• “Merchant Banking is defined as what merchant banker does”.

• SEBI defines Merchant banker “ any person who is engaged

in the business of issue management either by making
arrangements regarding selling, buying, or subscribing to
securities or acting as manager-consultant, advisor or rendering
corporate advisory services in relation to such issue
management”.

Definition
 Merchant Bankers
Merchant Banker :
 Intermediaries between the company
and the investors.
 Responsible for preparing the
prospectus and marketing the issue.
 Acting as manager/consultant/advisor
 By making arrangement regarding
 Selling, buying or subscribing to securities
 DIFFERENCE BETWEEN COMMERCIAL
& MERCHANT BANKS
Commercial Banking Merchant Banking

•Catering needs of common •Catering needs of corporate firms.

man. •It cannot be done. More
•Anyone can open an A/c. exposed to risk.
•Related to Primary
Less exposed to risk.
markets.
•Related to secondary markets. •It’s management oriented.
• It’s asset oriented. •Plays different roles like
underwriting, portfolio etc.
•Plays the role of financers.
 Services Offered By MB
 Issue Management
Corporate Counselling and advisory services
 Project Counselling
Portfolio Management
Loan Syndication
 Managers, Consultants or Advisers for mergers and takeovers
Relief of Sick Industries
Mutual Fund
 Offshore Finance
1. ISSUE MANAGEMENT :
•Management of issues involves marketing of corporate
securities ie. equity shares, preference shares and debentures by
offering them to public.
Pre-issue activities : They prepare copies of prospectus and
send it to SEBI and then file them to Registrar of Companies
•They conduct meetings with company representatives and
advertising agencies to decide upon the date of opening issue,
closing issue, launching publicity campaign etc..
•They help the companies in fixing up the prices for their issues
Post-issue activities: It includes collection of application forms,
screening of applications, deciding allotment procedure, mailing
of allotment letters, share certificates and refund orders
 2. CORPORATE COUNSELLING :
• Set of activities undertaken for efficient running of an
enterprise.
• Identifying areas of growth & diversification.
• Guiding clients on aspects like locational factors,
organizational size, investment decision, choice of product.
• Arranging for the approval of the financial institutions for
scheme of rehabilitation
• Providing assistance in getting soft loans from financial
institutions for capital expenditures
• Exploring possibilities for takeover of sick units and making
negotiations
• Monitoring rehabilitation schemes
3. PROJECT COUNSELLING :
• It’s a part of corporate counselling & deals with analysis
of project viability .
• Undertaking general review of Project
• Advice on procedural aspects
• Review of technical feasibility
• Assisting in selection of TCO
• Assisting in obtaining approval from different authorities
• Identification of potential investment avenues
• Preparation of project report & deciding finance pattern for
cost of project.
• Filling up of application form with significant information
for obtaining funds.
4. PORTFOLIO MANAGEMENT:
•Making decisions for the investment of cash resources of a corporate
enterprise in marketable securities.
•Decides quantum, timing & type of security to be bought.
•Providing advice on selection of investment
•Carrying out of critical evaluation of investment portfolio
•Securing approval from RBI (For NRI Clients)
•Maintaining records
•Collection and remittance of interest or dividend on investment and
reinvest the same
•Providing tax counselling and filling of tax returns through tax
consultants
•Help in achieving maximum return with minimum risk by proper
combination of securities.
5. RESTRUCTURING STRATEGIES :
• Deals with Mergers & Acquisitions.
• It’s a specialized service of Merchant bankers wherein they
act as middle-men in negotiating between two companies.
• Examining the capital structure of the company
• Suggesting an alternative capital structure
• Preparation of memorandum including valuation of shares
• Examining the tax implications
• Offers expert evaluation regarding identification organizations
with matching characteristics.
• Suggesting the ideal capital structure for sick unites
• Obtaining approvals from various authorities.
6. LOAN SYNDICATION :
• Relates to activities connected with credit procurement
& project financing.
• Estimates total cost of the project
• Drawing up of financial plan which conforms
requirements of promoters & their collaborators.
• Preparing loan applications for financial assistance
from term lenders or financial institutions
• Selecting institutions for participation for financing.
• Follow up of action
• Arranging bridge finance
• Assessing working capital requirements
7. RELIEF OF SICK INDUSTRIES:
•Rejuvenating old lines & ailing units by appraising
technology, process etc.
•Evolving rehabilitation packages acceptable to
financial institutions/banks.
•Exploring possibilities of mergers & acquisitions.
8. MUTUAL FUND:
•It’s collective investment scheme that pools money
from several investors & channels them into
productive investments.
•Investing money in diversified portfolio of
shares & debentures.
•Assuring Investors return in terms of capital
appreciation.
9. OFF SHORE FINANCE :
•Merchant bankers help their clients in :
Providing assistance for carrying out the study of turnkey and
construction contract projects
Arranging for the syndication of various types of loans and guarantees
Deferred payment guarantees under suppliers credit schemes for
importing capital goods
Providing guidance on forward cover for exchange risk
Long term foreign currency loan and Joint venture abroad
Providing advice on currency swaps and interest rate swaps
Financing exports and imports
Foreign collaboration arrangement
10. Project Appraisal:
• Evaluation of industrial projects in terms of alternative in
variants in technology, raw materials, production capacity
and location of plant
1. Financial Appraisal
2. Technical Appraisal
3. Economical Appraisal
 Other Services

• Venture Financing
• Lease Financing
• Handling Government Consent for Industrial Projects
• Special Assistance to small companies and entrepreneurs
• Services to public sector units
 Advantages:
Disadvantages:
•Merchant banks perform
•Merchant banks are really
functions that cannot be
only for large corporate
carried out by businesses on
customers, or extremely
their own.
wealthy smaller businesses
•Merchant banks have access owned by individual clients.
to traders, financial
•Not all deals carried
institutions, and markets that
out by merchant banks
companies or individuals
meet with unqualified
could not possibly reach.
success.
•By using their skills and
•There is always risk attached
contacts, merchant banks can
to the kinds of deal that
get the best possible deals for
merchant banks undertake.
their clients.

Merchant Banking
 Issue means
 Issue is the process of offering securities as an attempt to
raise funds. Companies may issue bonds or shares to
investors as a method of financing the business. 
 On its/his/their behalf to or from the public or from holders
of their securities
 Through a merchant banker
 Categories of Securities Issue
 Public Issue : Issue of stock on a public market rather than being
privately funded by the companies own promoter(s), which may not be
enough capital for the business to start up, produce, or continue running.
By issuing stock publically, this allows the public to own a part of the company,
though not be a controlling factor.

 Right Issue : A rights issue is an invitation to existing shareholders to purchase

additional new shares in the company. More specifically, this type of issue gives
existing shareholders securities called "rights," which, well, give the shareholders the
right to purchase new shares at a discount to the market price
 Private Placement : A private placement is the sale of securities to a relatively small
number of select investors as a way of raising capital. Investors involved in private placements
are usually large banks, mutual funds, insurance companies and pension funds

 Bonus Issue: A bonus issue, also known as a scrip issue or a capitalization issue, is an offer
of free additional shares to existing shareholders. A company may decide to distribute further
shares as an alternative to increasing the dividend payout. 

 OFS: A situation in which a company advertises new shares for sale to the public as a way of

launching itself on the Stock Exchange
 Issue Management

Pre - Issue Post Issue

FUNCTIONS OF PRE-ISSUE MANAGEMENT
 Approval from SEBI
 Underwriting the proposed issue
 Preparation of draft and prospectus & clearance from agencies
 Preparation of draft and prospectus & clearance from documents (newspaper,
advertisements)
 Printing press, advertising agencies, brokers and bankers fees
 Press Conferences
 Publicity
Mechanism Of Issue Management
Decision to raise Capital Funds

Obtaining SEBI Approval

Arranging Underwriting

Preparing & Finalizing Prospectus

Selection of Registrars, Brokers, Bankers Etc

Arranging Press & Investor Conference

Printing & Publicity of Issue Documents

SEBI Compliance

Issue Launch
 Pre Issue Activities
Signing of Mou : Between client company and MB
 Obtaining Appraisal note : Sources of Funding capital outlay of project
 Optimum capital structure : Maximize the shareholders value and minimize cost of capital
 Convening Meeting : BOD various aspects related to issue of securities
 Appointment of Financial Intermediary : Underwriters, registrars banks.
 Preparing Documents : Initial Listing application for submission to stock exchanges,
Prospectus, MOU, agreement with intermediaries.
 Due Diligence : Legal requirements
 Submission of Offer Documents : a draft along with due diligence certificate filed with SEBI
 Finalization of collection centres : Collect of issue application forms
 Filing with ROC : Offer doc is completed with all observations
 Launching the Issue: The process of marketing the issue starts after the legal formalities
 Promoter's Contribution : PC has been raised before the issue & has to be obtained by CA
Issue Closure : An announcement regarding closure of issue
•Pre-issue obligations – SEBI Guidelines

•Due Diligence
• Payment of requisite fees
• Submission of documents
MOU
Inter-se allocation of responsibilities
Due Diligence Certificate
Certificate in case of further issue by Listed companies
Undertaking
List of promoters group
• Appointment of Intermediaries
Merchant bankers
Co-managers
Other intermediaries

Contd...
• Underwriting
•Offer document made public
•Dispatch of issue material
•No complaints certificate
•Mandatory collection centers
•Authorized collection agents
•Advertisement for rights post-issue
•Appointment of compliance officer
• Abridged prospectus
•Agreement with depositories
 Preparation of Prospectus
Is an invitation issued to the public to offer for
purchase/subscribe shares or debentures of the company

Content of Prospectus:

• General information about the company

• Capital structure of the company
• Terms of the present issue
• Dates of opening and closing of the issue
• Name, address, functions and remuneration of
Directors
• Auditors report with name and address of the auditors
 ABRIDGED PROSPECTUS
 General Information
 Capital Structure of the company
 Terms of Present Issue
 Particulars of the issue
 Company. management and project
 Basis for issue
 Management perception of risk
factors
 Outstanding Litigation
 Option to subscribe
 Financial performance of the
company for last 5 years
Statement after minimum
subscription clause
 Post Issue
Post Issue Obligation/Requirement
 Post Issue Monitoring Report :
 Rights Issue : 3-day Monitoring Report – To be submitted on third day from the date of
closure of subscription .Final Post Issue Monitoring Report – 50th day from the date of
closure of subscription

 Public Issue : 3-day Monitoring Report – To be submitted on third day from the date of
closure of subscription. Final Post Issue Monitoring Report – 78th day from the date of
closure of subscription

 Collection and processing of Application

 Redressed of Investor Grievance
 Coordination With Intermediaries
Underwriters
Bankers to Issue
 Finalization on the basis of allotment : Oversubscribed & Undersubscribed
 Despatch of Share certificates : Shares has to be dispatched and refund also needs to be done.
 Advertisement : Announcement in the newspapers , no of applications & refund orders
 Green Shoe Option
In security issues, a green shoe option is an over-allotment option. In
the context of an initial public offering (IPO), it is a provision
contained in an underwriting agreement that gives the underwriter the
right to sell investors more shares than originally planned by the issuer
if the demand for a security issue proves higher than expected.

A Green shoe option is a special provision in an IPO prospectus, which

allows underwriters 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 than expected. A green shoe option
(sometimes green shoe or green-shoe but must legally be called an
"over-allotment option" in a prospectus) allows underwriters to short
sell shares in a registered securities offering at the offering price. The
green shoe can vary in size and is customarily not more than 15% of
the original number of shares offered
Private Placement

•A process of inviting subscription to the securities of a

corporate issuer by means other than public offering.
•Private placement usually refers to non-public offering of
shares in a public company.
•Instruments issued in private placements are common
stock, preferred stock or other forms of membership
interests, warrants or promissory notes (including convertible
promissory notes), bonds and debentures.
•Unlike public offerings, the number of investors can be at
most 49.
•The company has to be listed on a stock exchange.
• Public offerings have limitations w.r.t market variables, cost
and time.
 Benefits
•Fast and cost effective.
•Choice of investors.
•Flexibility in type and amount of funding.
•Easier to negotiate on return.
•Less amount of scrutiny.
Limitations

•Difficult to find investors.

• Danger of insufficient funds
• Limited investors.
 Who is a Lead Manager
Bank or underwriting firm that coordinates the activities of an underwriting
syndicate (of which it is the organizer and a member) and plays the primary role
in launch and sale of the issue of securities underwritten by the company. Also
called lead underwriter.
 What is the role of a Lead Manager?
 In the pre-issue process, the Lead Manager (LM) takes up

 The due diligence of company's operations/ management/

business plans/ legal etc.
 Drafting and design of Offer documents, Prospectus, statutory
advertisements and memorandum containing salient features of
the Prospectus
 Shall ensure compliance with stipulated requirements and
completion of prescribed formalities with the Stock Exchanges,
RoC and SEBI
 Appointment of other intermediaries viz., Registrar(s), Printers,
Advertising Agency and Bankers to the Offer is also included in
the pre-issue processes
 What is the role of a Lead Manager?
 The post issue activities includes

 Management of accounts, coordinate non-institutional allocation,

intimation of allocation and dispatch of refunds to bidders etc
 The post Offer activities which include the finalization of trading
and dealing of instruments and dispatch of certificates and demat
of delivery of shares
 The merchant banker shall be responsible for ensuring that these
agencies fulfil their functions and enable it to discharge this
responsibility through suitable agreements with the Company.
Pricing of issues
• In case of Initial Public Offerings (IPOs), the determination of
offer price is more complicated. The disclosures made in the offer
documents are new to the investors and the performance of the
company is yet to be tested in the secondary market
• An issuer may determine the price of specified securities in
consultation with the lead merchant banker or through the book
building process
• Listed company can freely price Equity shares
• Unlisted company eligible to make public issue & planning to get
listed on recognized stock exchange can freely price
• Free pricing by Infrastructure co. subject to compliance with
disclosure norms of SEBI
• Free pricing by banks to be approved by RBI
• Difference pricing –allotment to firms & general public but
allotment to firms should be > allotment to general public
Price Band
• Can mention a price band of 20% in the offer document filed with
SEBI
• Should not exceed 20% of the floor price
• Actual price can be determined before filing with ROCs
• Resolution to be passed for determining such price
• In case of listed company details to be provided to stock exchanges
• No commission/discount to be paid to any firm in case of a public
issue
• Issue can be in any denomination as specified SEBI from time to
time
 Book Building
Book building is the process by which an underwriter attempts to
determine at what price to offer an initial public offering (IPO) based
on demand from institutional investors. An underwriter builds a book by
accepting orders from fund managers, indicating the number of shares
they desire and the price they are willing to pay.

Book building is a process of price discovery

 There is no fixed price per share
 Instead, the company issuing the shares arrives at a price band
 The lowest price is referred to as the 'floor price' and
 The highest, the 'cap price'. Applicants then bid for the shares.
Book Building Process
1. Appointment of Book Runner
2. Drafting Prospectus
3. Circulating draft Prospectus
4. Maintaining offer records
5. Intimation about aggregate orders
6. Bid analysis
7. Mandatory underwriting
8. Filing with ROC
9. Bank accounts
10. Collection of completed applications
11. Allotment of securities
12. Payment schedule & listing
13. Under Subscription
 Fixed Price Process
Under fixed price, the company going public
offering determines a fixed price at which its shares are
offered to investors. The investors know the share
price before the company goes public. Demand from the
markets is only known once the issue is closed. To
partake in this IPO, the investor must pay the full share
price when making the application.
 Book Building V/S Fixed Price
 Fixed Price process  Book Building process
 Pricing
• Price at which the securities are • Price at which securities will
offered/allotted is known in advance be offered /allotted is not
to investors
known in advance to the
investor. The Only an
 Demand
indicative price range is
• Demand for the securities offered is
known only after the closure of the known.
issue. • Demand for the securities
Payment offered can be known everyday
• Payment is made at the time of as the book is built.
subscription wherein refund is given
after allocation.
• Payment only after allocation
 “Underwriting is an agreement entered into
before the shares are bought by the public
that in the event of the public not taking up
the whole of them the underwriter will take
an allotment of such part of the shares as
the public has not applied for.”
 Firm Underwriting is one in which the underwriters apply for
a block of securities. Under it, the underwriters agree to take up
and pay for this block of securities as ordinary subscribers in
addition to their commitment as underwriters.
 Sub-Underwriting is one in which an underwriter gets a part
of the issue further underwritten by another agency. This is
done to diffuse the risk involved in underwriting.
 Syndicate Underwriting is one in which, two or more
agencies or underwriters jointly underwrite an issue of
securities. Such an arrangement is entered into when the total
issue is beyond the resources of one underwriter or when he
does not want to block up large amount of funds in one issue.
Joint Underwriting : Voluntary agreement established to
provide insurance coverage for a risk.
Two or more insurers jointly contract with the insured.
To retain control over the management of the company.

 Full Underwriting : Here underwriter undertakes the

guarantee of buying the whole of shares or debentures placed
before the public in the event of non-subscription.

 Partial Underwriting : Here underwriter undertakes the

guarantee for only part of the issue offered for the public.
Liabilities are also limited to that extend.
 The primary role of the underwriter is to purchase
securities from the issuer and resell them to
investors.

 Underwriters act as intermediaries between issuers

and investors, providing for an efficient of capital.

 The underwriters take the risk that it will be able to

resell the securities at a profit.

 Underwriters provide stability to the price of

securities by purchasing and selling various
securities. This ultimately benefits the stock
market.
 The underwriter is the organization that is actually
responsible for pricing, selling, and organizing the
issue, and it may or may not provide additional
services.

 Such an activity helps to enhance the goodwill of

the issuing company by purchasing securities
either directly from the company or from the
market, they vouchsafe the financial soundness of
the company.

 By undertaking to take up the whole issue or the

remaining shares not subscribed by the public, it
helps a company to undertake project investments
with the assurance of adequate capital funds.
Functions or benefits of Underwriting

• Adequate Funds
• Expert Advice
• Enhanced Goodwill
• Assurance to investors
• Better Marketing
• Benefits to buyers
• Price stability
Alibaba Group Holding Limited is a Chinese e-
commerce company that provides consumer-to-
consumer, business-to-consumer and business-to-
business sales services via web portals.

The company came up with an IPO on 19th

September 2014

The IPO ultimately ended up raising more than

$25 billion.
The six banks listed on Alibaba’s prospectus
officially are regarded as having equal
status as lead underwriters. They were:

Credit Suisse
 Morgan Stanley
 J P Morgan
 Goldman Sachs
 Deutsche Bank
 Citigroup
Categories of Issue Managers
 Category I
 MB who is authorized to act as issue manager, advisor, consultant,
underwriters & portfolio managers
 Category II
 MB who is authorized to act only as co manager, advisor, consultant,
underwriters & portfolio managers
 Category III
 MB who is authorized to act as underwriters, advisors & consultants to
an issue
 Category IV
 Can act only as adviser or consultant to an issue
Note: with effect from Dec 9, 1997, an application can be made only for
carrying out activities mentioned in category I
 Questions from P.Y. Question Papers
Sl.No Questions Marks Year
2019/20,2018
What is underwriting ?
1 3 /19
Discuss the types of Underwriting.
2 7 2017/18,2017
3 What is the role of underwriter ? 3 2015/16
4 what is meant by 'Green Shoe Option'?
Explain the process of book building. How it is different from private
5 placement ? 7 2013/14
6 Explain Book building. 3 2016