Q1] what is the maximum permissible bank finance?
As per the recommendations of Tandon Committee, corporates should be discouraged from accumulating too much of stocks of current assets and should move towards very lean inventories and receivable levels. The committee even suggested the maximum levels of Raw Material, Stock-in-process and Finished Goods which a corporate operating in an industry should be allowed to accumulate These levels were termed as inventory and receivable norms. Depending on the size of credit required, the funding of these current assets (working capital needs) of the corporates could be met by one of the following methods:
· First Method of Lending:
Banks can work out the working capital gap, i.e. total current assets less current liabilities other than bank borrowings (called Maximum Permissible Bank Finance or MPBF) and finance a maximum of 75 per cent of the gap; the balance to come out of long-term funds, i.e., owned funds and term borrowings. This approach was considered suitable only for very small borrowers i.e. where the requirements of credit were less than Rs.10 lacs
· Second Method of Lending:
Under this method, it was thought that the borrower should provide for a minimum of 25% of total current assets out of long-term funds i.e., owned funds plus term borrowings. A certain level of credit for purchases and other current liabilities will be available to fund the build up of current assets and the bank will provide the balance (MPBF). Consequently, total current liabilities inclusive of bank borrowings could not exceed 75% of current assets. RBI stipulated that the working capital needs of all borrowers enjoying fund based credit facilities of more than Rs. 10 lacs should be appraised (calculated) under this method.
The committee suggested norms, i.e., ceilings for inventory and receivables, which could be considered for bank finance. The 15 industries included cotton and synthetic textiles, paper, cement, pharmaceuticals and engineering. Thus, for instance, the norms proposed for the pharmaceutical industry were :

Raw materials : 2.75 months' consumption
Stocks in process : ½ month's cost of production
Finished goods : 2 months' cost of sales
Receivables : 1.25 months' sales

For determining the maximum permissible bank finance (MPBF), the methods suggested were :
Method I : 0.75 (CA - CL)
Method II : 0.75 CA - CL
Method III : 0.75 (CA - CCA) - CL

Here CA stands for CURRENT ASSETS corresponding to the suggested norms or past levels if lower, CL represents CURRENT LIABILITIES excluding bank lending and CCA stands for the 'Core Current Assets', i.e., permanent current assets. Method I and, following the CHORE COMMITTEE recommendations, Method II have been used by banks in assessing working capital needs of businesses, for the last several years. In October 1993, the RBI infused operational autonomy by permitting banks to determine appropriate levels of inventory and receivables, based on production, processing cycle, etc. These lending norms were made applicable to all borrowers enjoying an aggregate (FUND-BASED) working capital limit of Rs.1 crore and above from the banking system. However, the requirement of the CURRENT RATIO at 1.33 was retained

Methods of lending
Like many other activities of the banks, method and quantum of short-term finance that can be granted to a corporate was mandated by the Reserve Bank of India till 1994. This control was exercised on the lines suggested by the recommendations of a study group headed by Shri Prakash Tandon.
The study group headed by Shri Prakash Tandon, the then Chairman of Punjab National Bank, was constituted by the RBI in July 1974 with eminent personalities drawn from leading banks, financial institutions and a wide cross-section of the Industry with a view to study the entire gamut of Bank's finance for working capital and suggest ways for optimum utilisation of Bank credit. This was the first elaborate attempt by the central bank to organise the Bank credit. The report of this group is widely known as Tandon Committee report. Most banks in India even today continue to look at the needs of the corporates in the light of methodology recommended by the Group.
As per the recommendations of Tandon Committee, the corporates should be discouraged from accumulating too much of stocks of current assets and should move towards very lean inventories and receivable levels. The committee even suggested the maximum levels of Raw Material, Stock-in-process and Finished Goods which a corporate operating in an industry should be allowed to accumulate These levels were termed as inventory and receivable norms. Depending on the size of credit required, the funding of these current assets (working capital needs) of the corporates could be met by one of the following methods: * First Method of Lending:
Banks can work out the working capital gap, i.e. total current assets less current liabilities other than bank borrowings (called Maximum Permissible Bank Finance or MPBF) and finance a maximum of 75 per cent of the gap; the balance to come out of long-term funds, i.e., owned funds and term borrowings. This approach was considered suitable only for very small borrowers i.e. where the requirements of credit were less than Rs.10 lacs * Second Method of Lending:
Under this method, it was thought that the borrower should provide for a minimum of 25% of total current assets out of long-term funds i.e., owned funds plus term borrowings. A certain level of credit for purchases and other current liabilities will be available to fund the build up of current assets and the bank will provide the balance (MPBF). Consequently, total current liabilities inclusive of bank borrowings could not exceed 75% of current assets. RBI stipulated that the working capital needs of all borrowers enjoying fund based credit facilities of more than Rs. 10 lacs should be appraised (calculated) under this method. * Third Method of Lending: Under this method, the borrower's contribution from long term funds will be to the extent of the entire CORE CURRENT ASSETS, which has been defined by the Study Group as representing the absolute minimum level of raw materials, process stock, finished goods and stores which are in the pipeline to ensure continuity of production and a minimum of 25% of the balance current assets should be financed out of the long term funds plus term borrowings.
(This method was not accepted for implementation and hence is of only academic interest).
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Data shows that in the financial year 2002-03, annual trading volume to GDP ratio was just 57.3%, which reached a staggering 517% at the end of the last financial year. "This trend clearly brings out the point that there is serious churning habit in the Indian capital markets," the report noted.

A substantial part of this rise in change came because of higher trading volumes in the derivatives segment. From just about 18% of the country's GDP at the beginning of the period under consideration, derivatives segment now contribute nearly 450% of India's GDP, data showed.
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What Is Market Efficiency?
When money is put into the stock market, it is done with the aim of generating a return on the capital invested. Many investors try not only to make a profitable return, but also to outperform, or beat, the market.

However, market efficiency - championed in the efficient market hypothesis (EMH) formulated by Eugene Fama in 1970, suggests that at any given time, prices fully reflect all available information on a particular stock and/or market. Thus, according to the EMH, no investor has an advantage in predicting a return on a stock price because no one has access to information not already available to everyone else. (To read more on behavioral finance, see Taking A Chance On Behavioral Finance, Understanding Investor Behavior and Mad Money ... Mad Market?)

The Effect of Efficiency: Non-Predictability
The nature of information does not have to be limited to financial news and research alone; indeed, information about political, economic and social events, combined with how investors perceive such information, whether true or rumored, will be reflected in the stock price. According to EMH, as prices respond only to information available in the market, and, because all market participants are privy to the same information, no one will have the ability to out-profit anyone else.
In efficient markets, prices become not predictable but random, so no investment pattern can be discerned. A planned approach to investment, therefore, cannot be successful.

This "random walk" of prices, commonly spoken about in the EMH school of thought, results in the failure of any investment strategy that aims to beat the market consistently. In fact, the EMH suggests that given the transaction costs involved in portfolio management, it would be more profitable for an investor to put his or her money into an index fund.

Anomalies: The Challenge to Efficiency
In the real world of investment, however, there are obvious arguments against the EMH. There are investors who have beaten the market - Warren Buffett, whose investment strategy focuses on undervalued stocks, made millions and set an example for numerous followers. There are portfolio managers who have better track records than others, and there are investment houses with more renowned research analysis than others. So how can performance be random when people are clearly profiting from and beating the market?

Counter arguments to the EMH state that consistent patterns are present. Here are some examples of some of the predictable anomalies thrown in the face of the EMH: the January effect is a pattern that shows higher returns tend to be earned in the first month of the year; "blue Monday on Wall Street" is a saying that discourages buying on Friday afternoon and Monday morning because of the weekend effect, the tendency for prices to be higher on the day before and after the weekend than during the rest of the week.

Studies in behavioral finance, which look into the effects of investor psychology on stock prices, also reveal that there are some predictable patterns in the stock market. Investors tend to buy undervalued stocks and sell overvalued stocks and, in a market of many participants, the result can be anything but efficient.

Paul Krugman, MIT economics professor, suggests that because of the mass mentality of the trendy, short-term shareholder, investors pull in and out of the latest and hottest stocks. This results in stock prices being distorted and the market being inefficient. So prices no longer reflect all available information in the market. Prices are instead being manipulated by profit seekers.
The EMH Response
The EMH does not dismiss the possibility of anomalies in the market that result in the generation of superior profits. In fact, market efficiency does not require prices to be equal to fair value all of the time. Prices may be over- or undervalued only in random occurrences, so they eventually revert back to their mean values. As such, because the deviations from a stock's fair price are in themselves random, investment strategies that result in beating the market cannot be consistent phenomena.

Furthermore, the hypothesis argues that an investor who outperforms the market does so not out of skill but out of luck. EMH followers say this is due to the laws of probability: at any given time in a market with a large number of investors, some will outperform while other will remain average.

How Does a Market Become Efficient?
In order for a market to become efficient, investors must perceive that a market is inefficient and possible to beat. Ironically, investment strategies intended to take advantage of inefficiencies are actually the fuel that keeps a market efficient.

A market has to be large and liquid. Information has to be widely available in terms of accessibility and cost and released to investors at more or less the same time. Transaction costs have to be cheaper than the expected profits of an investment strategy. Investors must also have enough funds to take advantage of inefficiency until, according to the EMH, it disappears again. Most importantly, an investor has to believe that she or he can outperform the market.

Degrees of Efficiency
Accepting the EMH in its purest form may be difficult; however, there are three identified classifications of the EMH, which are aimed at reflecting the degree to which it can be applied to markets. 1. Strong efficiency - This is the strongest version, which states that all information in a market, whether public or private, is accounted for in a stock price. Not even insider information could give an investor an advantage.

2. Semi-strong efficiency - This form of EMH implies that all public information is calculated into a stock's current share price. Neither fundamental nor technical analysis can be used to achieve superior gains.

3. Weak efficiency - This type of EMH claims that all past prices of a stock are reflected in today's stock price. Therefore, technical analysis cannot be used to predict and beat a market. |

Conclusion
EMH propagandists will state that profit seekers will, in practice, exploit whatever abnormally exists until it disappears. In instances such as the January effect (a predictable pattern of price movements), large transactions costs will most likely outweigh the benefits of trying to take advantage of such a trend.

In the real world, markets cannot be absolutely efficient or wholly inefficient. It might be reasonable to see markets as essentially a mixture of both, wherein daily decisions and events cannot always be reflected immediately into a market. If all participants were to believe that the market is efficient, no one would seek extraordinary profits, which is the force that keeps the wheels of the market turning.

In the age of information technology (IT), however, markets all over the world are gaining greater efficiency. IT allows for a more effective, faster means to disseminate information, and electronic trading allows for prices to adjust more quickly to news entering the market. However, while the pace at which we receive information and make transactions quickens, IT also restricts the time it takes to verify the information used to make a trade. Thus, IT may inadvertently result in less efficiency if the quality of the information we use no longer allows us to make profit-generating decisions
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Definition of 'Liquidity'

Market liquidity refers to the extent to which one is able to quickly and easily buy and sell financial assets in the market, without moving the price. Market liquidity captures the aspects of immediacy, breadth, depth, and resiliency in markets. Immediacy refers to the speed with which a trade of a given size and cost can be completed. Breadth, often measured by the bid/ask spread, refers to the costs of providing liquidity. Depth refers to the maximum size of a trade for any given bid/ask spread. Resiliency refers to how quickly prices revert to fundamental values after a large transaction.

1. The degree to which an asset or security can be bought or sold in the market without affecting the asset's price. Liquidity is characterized by a high level of trading activity. Assets that can be easily bought or sold are known as liquid assets.

2. The ability to convert an asset to cash quickly. Also known as "marketability".

There is no specific liquidity formula; however, liquidity is often calculated by using liquidity ratios.
Investopedia explains 'Liquidity'
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1. It is safer to invest in liquid assets than illiquid ones because it is easier for an investor to get his/her money out of the investment.

2. Examples of assets that are easily converted into cash include blue chip and money market securities.

Raw Material | | 18 | Work in Progress | | 5 | Finished goods | | 10 | Receivables | inluding bills discounted | 15 | Other current Assets | | 2 | Total Current Assets | X | 50 | Core current assets | CCA?? | 20 | | | | Creditors | | 12 | Other current liabilities | | 3 | Bank borrowings | (including bills discounted) | 25 | Total current liabilties | | 40 | Total current liabilties excluding bank borrowings | Y | 15 | | | | Max permissible bank finance | | | Method 1 | 0.75(X-Y) | 26.25 | Method 2 | 0.75(X)-Y | 22.5 | Method 3 (not valid to use) | 0.75(X-CCA)-Y | 7.5 | | | | Minimum of (B, Method1, Method2) | | 22.5 |
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Debt Service coverage ratio
In corporate finance, it is the amount of cash flow available to meet annual interest and principal payments on debt, including sinking fund payments.

In government finance, it is the amount of export earnings needed to meet annual interest and principal payments on a country's external debts.

In personal finance, it is a ratio used by bank loan officers in determining income property loans. This ratio should ideally be over 1. That would mean the property is generating enough income to pay its debt obligations.

In general, it is calculated by:

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A DSCR of less than 1 would mean a negative cash flow. A DSCR of less than 1, say .95, would mean that there is only enough net operating income to cover 95% of annual debt payments

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Letter of Credit
A letter of credit is a promise to pay. Banks issue letters of credit as a way to ensure sellers that they will get paid as long as they do what they've agreed to do.
Letters of credit are common in international trade because the bank acts as an uninterested party between buyer and seller. For example, importers and exporters might use letters of credit to protect themselves. In addition, communication can be difficult across thousands of miles and different time zones. A letter of credit spells out the details so that everybody's on the same page.
Letter of Credit Lingo
To better understand letters of credit, it may help to know the following: * Abbreviations for 'letter of credit' include L/C, LC, and LOC * Applicant - the buyer in a transaction * Beneficiary - the seller or ultimate recipient of funds * Issuing bank - the bank that promises to pay * Advising bank - helps the beneficiary use the letter of credit
The Money Behind a Letter of Credit
A bank promises to pay on behalf of a customer, but where does the money come from?
The bank will only issue a letter of credit if they know the buyer will pay. Some buyers have to deposit (or already have) enough money to cover the letter of credit, and some customers use a line of credit with the bank. Sellers must trust that the bank issuing the letter of credit is legitimate.
Executing a Letter of Credit
A seller only gets paid after performing specific actions that the buyer and seller agree to.
For example, the seller may have to deliver merchandise to a shipyard in order to satisfy requirements for the letter of credit. Once the merchandise is delivered, the seller receives documentation proving that he made delivery. The letter of credit now must be paid even if something happens to the merchandise. If a crane falls on the merchandise or the ship sinks, it's not the seller's problem.
To pay on a letter of credit, banks simply review documents proving that a seller performed his required actions. They do not worry about the quality of goods or other items that may be important to the buyer and seller.
Pitfalls of Letters of Credit
Letters of credit make it possible to do business worldwide. They are important and helpful tools, but you should be careful when using letters of credit.
As a seller, make sure you: * Carefully review all requirements for the letter of credit before moving forward with a deal * Understand all the documents required * Can get all the documents required for the letter of credit * Understand the time limits associated with the letter of credit, and whether they are reasonable * Know how quickly your service providers (shippers, etc) will produce documents for you * Can get the documents to the bank on time * Make all documents required by the letter of credit match the letter of credit application exactly
Limit calculation:-
Assessing Letter of Credit (LC) Limit
A limit for a letter of credit facility for working capital purposesenables an enterprise to procure raw materials and other important ingredients for production on credit terms. Analternative to the LC limit is to sanction a fund based creditfacility in favour of the enterprise. However a letter of creditissued by the bank on behalf of its customer is an off balancesheet item in the books of the client which enables the latter to prepare a more appealing balance sheet. Further, the role of acommercial bank as an intermediary considerably enhances thelevel of comfort required for trading for buyer and seller.Therefore, if the supplier of mater ial does not insist on advance payment, the customer (buyer of the material) would prefer anLC limit.The process of assessing LC limits is intimatelyrelated to the appraisal of other working capital facilities to thecustomer.There are always a number of factors at work which impact thecomputation of the LC limit as a part of the overall workingcapital credit requirements of an enterprise. It is thereforedifficult to prescribe a standard method to work out the exactamount of LC limit to be provided to a manufacturing unit.However, following major factors should be taken into accountin any quantitative method of assessment:AAnnual consumption of the material being purchased120 (Rs lacs)BLead time from opening of credit to shipments½ (months)CTransit period for goods till it arrives at the factory½ (months)DCredit Period available3 (months)The sum of B, C and D can be called as purchase cycle. In theabove case purchase cycle would be 4 months. We denote the
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purchase cycle by P (months). The cycle commences at the pointof placement of order whereas the final payment is made at theend of the cycle.The quantum of LC limit may now be worked out using theexpression (P X A/12), which would work out to Rs 40 lacs.This represents the cost of the material that will be consumed inone working cycle Annual RM consumption expected for Projection Yr 1 (X) | 15000 | | Annual RM consumed under LC (RM - raw material) | 25% | | Usance | 3 | months | Lead time | 1 | months | | | | | | | Limit = Annual RM consumed under LC *(usance + lead time)/12 | 1250 | Lacs |
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BG limit
Assessing BG Limit
Banks usually issue guarantees in the following circumstances:1)Enterprise participating in tenders, auctions etc aregenerally required to submit bank guarantees for aminimum stipulated amount in lieu of securitydeposits/earnest money deposit etc.2)It is common practice to provide mobilisation advance by the principal to contractors/vendors executing turn-key projects or civil projects which may takeconsiderable time for completion. Mobilisation advancemay be provided both before the commencement of the project and at various stages of progress in respect of plant layout design, drawings, construction etc. As asecurity against funds provided in advance, thecontractors are often required to submit bank guarantees.3)Sometimes raw material ar supplied by the buyer to themanufacturing units with whom supply orders are placed by the former. In these cases, the buyer of goods(supplier of raw material) may require security in theform of bank supplying products/services to a parentcompany, where the latter suppliles raw material againstsubmission of bank guarantee. 4)Even after the goods have been supplied in terms of thecontract, the buyers may hold a portion of the supply bills till they are finally satisfied about the quality of thematerial supplied. The retained amount is released onlyafter a bank guarantee for an equivalent amount issubmitted by the supplier.5)Supplier of goods and services often proved warranty period to the buyers of such products. In these cases, thesuppliers may request the bank to issue performanceguarantees in favour of the buyers. On submission of such performance guarantee, the suppliers receive the proceeds without waiting for the expiry of the warranty period.It is generally observed that guarantees are mainly required bythe construction companies for the purpose of EMD, Bid Bond,APG, Machinery Advance etc. An indicative way of assessingthe guarantee limits may be assumed as under:
Sr. No.ParticularsAmount
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AValue of contracts expected to be bid1000.00BEMD Guarantee (generally 3% to 5% of A), Here we willassume 5%50.00CExpected value of the new contract (25% of A), It may varyfrom company to company250.00DPerformance Guarantee (Normally 10% of C) 25.00EAdvance Payment / Security Deposit Guarantee (5% of C),This may vary from project to project.12.50FFresh Guarantees required (B+C+D+E) 337.50GExisting bank guarantees (Assumption) 100.00HGuarantees expiring during the year 25.00IGuarantees requirement (F+G-I) 412.50JTotal guarantees limits required 412.50In other cases where guarantees are to be issued for the procurement of raw materials, the assessment will be casespecific and no formal way of assessment can be applied
What do Tier 1, Upper Tier 2 and Lower Tier 2 mean? A bank's capital is made up of share capital, reserves and a series of dated and hybrid capital instruments, which are divided, based on their charatceristics, into categories referred to as Lower Tier 2, Upper Tier 2 and Tier 1. Capital in the form of debt instruments is always sub-ordinated because senior debt does not count as bank capital. This debt has to comply with regulatory guidelines concerning its characteristics in order to count as capital. In setting these guidelines bank regulators are primarily concerned with the protection of depositors such that bank capital can be regarded as a safety net that absorbs a certain level of unexpected losses without the interests of depositors being affected. Tier 1 Tier 1 is a bank's core capital. The main components of Tier 1 are ordinary shareholders equity; retained earnings; perpetual (undated) non-cumulative preferred stock (Tier 1 Preferred); reserves created by appropriations of retained earnings, share premiums and other surpluses; and minority interests. The equity and reserves element of Tier 1 is often referred to as 'Core Tier 1'. The Tier 1 Preferred elements are often known as 'hybrid instruments' because they have a mix of both debt and equity features. The main characteristics of Tier 1 instruments are: * there should be no contractual obligation to pay dividends or interest to Tier 1 holders with the deferral of a coupon usually being at the option of the issuer * deferred coupons or dividends are non-cumulative * Tier 1 should be able to absorb losses before, or instead of, general creditors * Tier 1 preferred must be perpetual but the FSA allows a limited step-up associated with a call after the tenth anniversary of the issueUpper Tier 2 The main components of Upper Tier 2 are perpetual deferrable sub-ordinated debt (including debt convertible into equity); revaluation reserves from fixed assets and fixed asset investments; and general provisions. The main characteristics of Upper Tier 2 debt are: * perpetual, senior to Tier 1 preferred and equity * coupons are deferrable and cumulative * interest and principal can be written downLower Tier 2 Lower Tier 2 capital is relativlely standard in form and cheap for banks to issue. The Basel Accord states that only 25% of a bank's total capital can be lower Tier 2.Basel 3Basel 3 will take effect from 1 January 2013 and will apply stricter definitions to the various forms of bank capital. In particular it seems that virtually all existing Tier 1 securities and preference shares will not count as Tier 1 under Basel 3. For those who like the detail below is a list of the 14 criteria laid down for inclusion in Additional Tier 1 Capital Under Basel 3:1. Issued and paid-in.2. Subordinated to depositors, general creditors and subordinated debt of the bank.3. Is neither secured nor covered by a guarantee of the issuer or related entity or other arrangement that legally or economically enhances the seniority of the claim vis-à-vis bank creditors.4. Is perpetual with no maturity date and no step-ups or other incentives to redeem.5. May be callable at the initiative of the issuer only after a minimum of five years providing: a. To exercise a call option a bank must receive prior supervisory approval; and b. A bank must not do anything which creates an expectation that the call will be exercised; and c. Banks must not exercise a call unless: i. They replace the called instrument with capital of the same or better quality and the replacement of this capital is done at conditions which are sustainable for the income capacity of the bank; or ii. The bank demonstrates that its capital position is well above the minimum capital requirements after the call option is exercised.6. Any repayment of principal (eg through repurchase or redemption) must be with prior supervisory approval and banks should not assume or create market expectations that supervisory approval will be given.7. Dividend/coupon discretion: a. the bank must have full discretion at all times to cancel distributions/payments b. cancellation of discretionary payments must not be an event of default c. banks must have full access to cancelled payments to meet obligations as they fall due d. cancellation of distributions/payments must not impose restrictions on the bank except in relation to distributions to common stockholders.8. Dividends/coupons must be paid out of distributable items.9. The instrument cannot have a credit sensitive dividend feature, that is a dividend/coupon that is reset periodically based in whole or in part on the banking organisation’s credit standing.10. The instrument cannot contribute to liabilities exceeding assets if such a balance sheet test forms part of national insolvency law.11. Instruments classified as liabilities for accounting purposes must have principal loss absorption through either (i) conversion to common shares at an objective pre-specified trigger point or (ii) a write-down mechanism which allocates losses to the instrument at a pre-specified trigger point. The write-down will have the following effects: a. Reduce the claim of the instrument in liquidation; b. Reduce the amount re-paid when a call is exercised; c. and Partially or fully reduce coupon/dividend payments on the instrument.12. Neither the bank nor a related party over which the bank exercises control or significant influence can have purchased the instrument, nor can the bank directly or indirectly have funded the purchase of the instrument.13. The instrument cannot have any features that hinder recapitalisation, such as provisions that require the issuer to compensate investors if a new instrument is issued at a lower price during a specified time frame.14. If the instrument is not issued out of an operating entity or the holding company in the consolidated group (eg a special purpose vehicle – “SPV”), proceeds must be immediately available without limitation to an operating entity or the holding company in the consolidated group in a form which meets or exceeds all of the other criteria for inclusion in Additional Tier 1 capital |
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Debt Service Coverage Ratio (DSCR)
DSCR is a debt metric used to analyse the project’s ability to repay debt periodically.
DSCR = Cashflow Available for Debt Service / Debt Service (P+I)
There are other definitions of DSCR that are used in other fields except Project Finance1:
Definitions of DSCR
In “Corporate Finance”,
….it refers to the amount of cashflow available to meet annual interest and principal payments on debt including sinking fund payments.
In “Government Finance”,
.…it is the amount of exporting earnings needed to meet annual interest and principal payments on a country’s external debts.
In “Personal Finance”,
….it is a ratio used by bank loan officers in determining income property loans. The ratio of over 1.0 x would mean the property is generating enough income to pay its debt obligations.
1) Definition of DSCR extracted from Investopedia
DSCR Definition in Project Finance
In Project Finance modelling, Cashflow Available for Debt Service (CFADS) is used as the numerator, rather than EBITDA or Net Operating Income, which is used in Corporate Finance modelling. * The DSCR can be calculated using several different methods * Quarterly CFADS / Quarterly Debt Service * Semi-Annual CFADS / Semi-Annual Debt Service * Annual CFADS / Annual Debt Service * Backward and forward looking CFADS and Debt Service (e.g. 6-Month look-back or (x) periods look-back ; 6-Month look-forward or (x) periods look-forward)
Applications of DSCR in Project Finance
The Term Sheet definition of DSCR drives the debt sizing of the project. A key point to keep in mind when performing debt sizing analysis based on ratios that are defined as the average DSCR over several periods, is that sizing performed purely using DSCR can result in periods where there is not enough actual cashflow to repay debt.
With CFADS significantly larger than Debt Service it is clear that there is a significant buffer in the project to protect the lenders from decreased cashflows from the project due to, for example, operation inefficiencies post the end of construction.
Debt Sizing Considerations – DSCR < 1.00x
A DSCR of less than one means that the cashflows from the project are not strong enough to support the level of debt.
In a debt sizing phase of a project, this could be managed by using one of the following structures. Be careful when modelling around a DSCR < 1.00x this is such a fundamental issue that correct approach needs careful consideration. If a senior facility does not allow for capitalisation of un-payable sums do not model it that way.
Sculpted Debt Repayments
This will ensure that a lower principal repayment is applied in a period with lower Cashflow Available for Debt Service (CFADS). A Grace Period is the number of months or years in the beginning of the debt term, where there is no obligation by the borrower to repay debt. This is particularly common in projects where there is a ramp-up phase, such as toll roads and other types of infrastructure projects.
Debt Service Reserve Account (DSRA/c)
A Debt Service Reserve Account works as an additional security measure for the lender as it ensures that the borrower will always have funds deposited for the next x months of debt service. Commonly the Debt Service Reserve Account target is defined as six or twelve months of debt service.
Breaching a DSCR Covenant

Screenshot #2: DSCR Graph highlighting the Minimum DSCR
Screenshot #2 illustrates a graph highlighting a weak cashflow in the last period (December 2012) of a project where the DSCR drops below the Term Sheet DSCR Covenant of 1.30x.
Points to keep in mind when calculating a DSCR * The DSCR is a key Project Finance Ratio which is calculated during the debt term. * DSCR measures how many times the CFADS can repay the Scheduled Debt Service. * Usually DSCR is calculated in every period. * Identification of the Minimum DSCR is the primary method to identify a period of weak CFADS to service the debt obligations. * However, when DSCR is measured in every period, the DSCR can be a volatile measure and may fluctuate from period to period. * To counter this effect the DSCR is often calculated on a look-back rolling basis e.g. 12-Month or 4-Quarter look-back. In every period the CFADS and Debt Service of the current quarter and the preceding 3 quarters are compared. * The DSCR ((X) periods look-back) may produce a smoother, less sensitive DSCR.
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Please note that a DSCR (per period) could have a DSCR of < 1.00 but a rolling 12-Month measure would mask this.
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As a standard DSCR should not be less than one. However, most of the banks prefer DSCR as 2
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Or more. DSCR 2 or more implies that even if the cash flow falls by 50%, the borrower would be able to pay the long term debt.
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Capital Adequacy Ratio
The Committee on Banking Regulations and Supervisory Practices (Basel Committee) had released the guidelines on capital measures and capital standards in July 1988 which were been accepted by Central Banks in various countries including RBI. In India it has been implemented by RBI w.e.f. 1.4.92

Objectives of CAR : The fundamental objective behind the norms is to strengthen the soundness and stability of the banking system.

Capital Adequacy Ratio or CAR or CRAR : It is ratio of capital fund to risk weighted assets expressed in percentage terms i.e.

Minimum requirements of capital fund in India:
* Existing Banks 09 %
* New Private Sector Banks 10 %
* Banks undertaking Insurance business 10 %
* Local Area Banks 15%

Tier I Capital should at no point of time be less than 50% of the total capital. This implies that Tier II cannot be more than 50% of the total capital.

Capital fund

Capital Fund has two tiers - Tier I capital include
*paid-up capital
*statutory reserves
*other disclosed free reserves
*capital reserves representing surplus arising out of sale proceeds of assets.
Minus
*equity investments in subsidiaries,
*intangible assets, and
*losses in the current period and those brought forward from previous periods to work out the Tier I capital.

Tier II capital consists of:
*Un-disclosed reserves and cumulative perpetual preference shares:
*Revaluation Reserves (at a discount of 55 percent while determining their value for inclusion in Tier II capital)
*General Provisions and Loss Reserves upto a maximum of 1.25% of weighted risk assets:
*Investment fluctuation reserve not subject to 1.25% restriction
*Hybrid debt capital Instruments (say bonds):
*Subordinated debt (long term unsecured loans:

Risk weighted assets - Fund Based : Risk weighted assets mean fund based assets such as cash, loans, investments and other assets. Degrees of credit risk expressed as percentage weights have been assigned by RBI to each such assets.

Non-funded (Off-Balance sheet) Items : The credit risk exposure attached to off-balance sheet items has to be first calculated by multiplying the face amount of each of the off-balance sheet items by the credit conversion factor. This will then have to be again multiplied by the relevant weightage.

Reporting requirements:
Banks are also required to disclose in their balance sheet the quantum of Tier I and Tier II capital fund, under disclosure norms.
An annual return has to be submitted by each bank indicating capital funds, conversion of off-balance sheet/non-funded exposures, calculation of risk -weighted assets, and calculations of capital to risk assets ratio

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An escrow is an arrangement made under contractual provisions between transacting parties, whereby an independent trusted third party receives and disburses money and/or documents for the transacting parties, with the timing of such disbursement by the third party dependent on the fulfillment of contractually-agreed conditions by the transacting parties
FCD
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A type of debt security where the whole value of the debenture is convertible into equity shares at the issuer's notice. The ratio of conversion is decided by the issuer when the debenture is issued. Upon conversion, the investors enjoy the same status as ordinary shareholders of the company.

The main difference between FCDs and other convertible debentures is that the company can force conversion into equity, whereas in other types of convertible securities, the owner of the debenture may have that option.

FCDs also differ from partially convertible debentures (PCDs). In case of PCDs, part of the instrument is redeemed and part of it is converted into equity,

FOREIGN CURRENCY TERM LOAN SCHEME (FCTL)
FCTL will be extended in USD & Euro currencies.
For acquisition of fixed Assets
Purpose
For setting up new projects as well as for expansion, diversification, technology upgradation and modernization of existing units with good track record covering both indigenous and imported. The units should preferably be export-oriented.
Eligible Borrowers
Industrial concerns in the SME sectors.
Norms
Repayment - maximum 5 years with a moratorium of 1 year, linked to the cash flow of the unit.
For Working capital purposes
Purpose
For meeting working capital requirements, both indigenous and imported
Eligible Borrowers
SME units and Export / Trading Houses sourcing their requirements for export from SME sector and having consistent export performance.
Norms
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Repayment - maximum 5 years.
Right issue is the share that a company offers to its existing shareholders. The number of right issue to be offered to an investor depends on the number of shares that the investor is currently holding. While the right issue is offered to the shareholders, he or she has the right to buy a shares or ignore the right issue offer to lapse or even sell the entitlement of the shares. The companies offer the right issue to get more fund from the equity to meet their capital requirement or further expansion of the business. In most cases one share is allotted for two shares.
When the right issue is offered to the existing share holders, it is offered to them at a lower price than the existing price of the stock at the stock market. But that does not mean that the shareholders can make huge profit from this price difference. This is because after the right issue is offered price of that particular stock falls in the stock market. It happens because the number of stock of that company increases in the market. Especially if the number of the right issue is relatively higher than the paid-up capital the price falls. Moreover the dividend yield and the PE ratio of that particular stock also falls after the right issue is offered.
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Theoretically the right issue does not give significant profit to the shareholders in spite of the fact that they get the stock in lower price. But in practice the shareholders always find the right issue an attractive option to buy the shares of the company. This is because the presume that the company is going to utilize the additional fund from the right issue for further development and expansion of the company that will eventually strengthen the financial standing of the company.

A foreign currency convertible bond (FCCB) is a type of corporate bond issued by an Indian listed company in an overseas market and hence, in a currency different from that of the issuer. The highlight of the FCCB, however, is the option of converting the bonds into equity at a price determined at the time the bond is issued.

It also has the benefits of a debt instrument as it includes guaranteed returns or yields which are payable in foreign currency.

FCCBs have a maturity period of about five years during which no call or put option can be exercised. They are generally viewed as a means of foreign investment into a company and have to comply with the limits imposed depending on the sector. Currently Indian companies can raise up to $50 million in a FY through issue of such bonds via automatic route.
For companies, FCCBs gave them access to funds at cheaper rates, given the fact that many of these were zero coupon bonds with a yield-to-maturity structure , meaning the company would have to make large-scale payments only when the bonds were redeemed.

Also, the interest rates were much lower than that of normal debt.

In fact, given the boom in the markets and rising share prices, the assumption was that a larger number of bondholders would choose to convert their bonds into shares eventually.

The company could also then benefit from the lack of outflows from their reserves.
With the slowdown and stocks trading at prices below conversion price, the chances of bondholders exercising conversion option became minimal.

In fact, a large number of Indian companies found themselves in a position where they had not made provisions for the redemption of bonds maturing from 2009 and would reach a height in 2010-11. The weakening rupee became an added complication.

Thus, at the end of 2008, the RBI said Indian corporates could buy back FCCBs using forex either in India or overseas, provided the companies could ensure that the buyback value was at least at a discount to the book value of FCCB. There was also the option of generating resources using the ECB route.

While companies could initially buy back FCCBs worth $50 million, the limit was further raised to $100 million. The norms were further eased this year to allow companies to buyback from internal accruals
Earlier this week, the RBI announced plans to withdraw the facility of allowing companies to buy back FCCBs from January. This is line with the improving economy as well as buoying stock prices.

In fact, a few companies, including L&T , Tata Power and Rai Agro, have started the process of issuing FCCBs for capital inflow in the last two months, while Unitech is in the process of getting approvals.
Funds are raised from international financial market through sale of securities such as long term, medium term and short term funds.
LONG TERM INSTRUMENTS
1.INTERNATIONAL EQUITIES
International equities are a new instrument representing foreign portfolio equity investment. They are ordinary shares sold to international investors in the form of American or Global depository receipts. The investor gets dividend and not interest . They do not have the same voting rights as in the case of foreign direct investment.
The benefit are:
a) The company issues international equities when the domestic capital market s already flooded with its shares.
b) The presence of restrictions on issue of shares in the domestic market facilitates issue of international equities.
c) Company issues international equity for gaining international recognition among the public.
d) International equity bring in foreign exchange which is vital for a firm in a developing country.
e) International capital is available at lower cost through international equities.
f) Funds raised through such an instrument do not add to the foreign exchange exposure.
g) It brings in diversification benefits and raise return with a given risk or lower risk with a given return.

2. INTERNATIONAL BONDS
They are debt instruments that are issued by international agencies, government and companies for borrowing foreign currency for a specified period of time. The issuer pays interest to the creditor and makes repayment of capital. The different types of bonds are:
-Foreign bond
-Euro bond
-Global bond
-Straight bonds
-Floating rate notes
-Convertible bonds
-Cocktail bonds

MEDIUM TERM INSTRUMENTS
MEDIUM TERM EURO NOTES
It is an extension of short term euro notes, which is issued to get medium term funds in foreign currency. They are not underwritten, but there is a provision for underwriting. They carry fixed rate of interest.

SHORT TERM INSTRUMENTS
1. EURO NOTES
Euro notes are like promissory notes issued by companies for obtaining short term funds. They are denominated in any currency other than the currency of the country where they are issued. It is a low cost funding route. The documentation facilities are minimum. Investors prefer them due to short maturity. When issuer issues euro notes, it hires the service o agent who issues the notes, gets them underwritten and sells them through placement agents. After selling period is over, the underwriter buys the unsold issues.

2. EURO COMMERCIAL PAPERS
They are short term fund instruments issued only by highly rated companies. They are not underwritten. It faces minimal documentation. ECPs have longer maturity going u to one year. The ECP route for raising funds is investor driven.

Types of financial markets
Within the financial sector, the term "financial markets" is often used to refer just to the markets that are used to raise finance: for long term finance, the Capital markets; for short term finance, the Money markets. Another common use of the term is as a catchall for all the markets in the financial sector, as per examples in the breakdown below. * Capital markets which consist of: * Stock markets, which provide financing through the issuance of shares or common stock, and enable the subsequent trading thereof. * Bond markets, which provide financing through the issuance of bonds, and enable the subsequent trading thereof. * Commodity markets, which facilitate the trading of commodities. * Money markets, which provide short term debt financing and investment. * Derivatives markets, which provide instruments for the management of financial risk. * Futures markets, which provide standardized forward contracts for trading products at some future date; see also forward market. * Insurance markets, which facilitate the redistribution of various risks. * Foreign exchange markets, which facilitate the trading of foreign exchange.
The capital markets may also be divided into primary markets and secondary markets. Newly formed (issued) securities are bought or sold in primary markets, such as during initial public offerings. Secondary markets allow investors to buy and sell existing securities. The transactions in primary markets exist between issuers and investors, while in secondary market transactions exist among investors.
Liquidity is a crucial aspect of securities that are traded in secondary markets. Liquidity refers to the ease with which a security can be sold without a loss of value. Securities with an active secondary market mean that there are many buyers and sellers at a given point in time. Investors benefit from liquid securities because they can sell their assets whenever they want; an illiquid security may force the seller to get rid of their asset at a large discount.
The financial market is broadly divided into 2 types: 1) Capital Market and 2) Money market. The Capital market is subdivided into 1) primary market and 2) Secondary market.
[edit] Raising capital
Financial markets attract funds from investors and channel them to corporations—they thus allow corporations to finance their operations and achieve growth. Money markets allow firms to borrow funds on a short term basis, while capital markets allow corporations to gain long-term funding to support expansion.
Without financial markets, borrowers would have difficulty finding lenders themselves. Intermediaries such as banks help in this process. Banks take deposits from those who have money to save. They can then lend money from this pool of deposited money to those who seek to borrow. Banks popularly lend money in the form of loans and mortgages.
More complex transactions than a simple bank deposit require markets where lenders and their agents can meet borrowers and their agents, and where existing borrowing or lending commitments can be sold on to other parties. A good example of a financial market is a stock exchange. A company can raise money by selling shares to investors and its existing shares can be bought or sold.
The following table illustrates where financial markets fit in the relationship between lenders and borrowers: Relationship between lenders and borrowers | Lenders | Financial Intermediaries | Financial Markets | Borrowers | Individuals
Companies | Banks
Insurance Companies
Pension Funds
Mutual Funds | Interbank
Stock Exchange
Money Market
Bond Market
Foreign Exchange | Individuals
Companies
Central Government
Municipalities
Public Corporations |
[edit] Lenders
Who have enough money to lend or to give someone money from own pocket at the condition of getting back the principal amount or with some interest or charge, is the Lender.
[edit] Individuals & Doubles
Many individuals are not aware that they are lenders, but almost everybody does lend money in many ways. A person lends money when he or she: * puts money in a savings account at a bank; * contributes to a pension plan; * pays premiums to an insurance company; * invests in government bonds; or * invests in company shares.
[edit] Companies
Companies tend to be borrowers of capital. When companies have surplus cash that is not needed for a short period of time, they may seek to make money from their cash surplus by lending it via short term markets called money markets.
There are a few companies that have very strong cash flows. These companies tend to be lenders rather than borrowers. Such companies may decide to return cash to lenders (e.g. via a share buyback.) Alternatively, they may seek to make more money on their cash by lending it (e.g. investing in bonds and stocks).
[edit] Borrowers * Individuals borrow money via bankers' loans for short term needs or longer term mortgages to help finance a house purchase. * Companies borrow money to aid short term or long term cash flows. They also borrow to fund modernization or future business expansion. * Governments often find their spending requirements exceed their tax revenues. To make up this difference, they need to borrow. Governments also borrow on behalf of nationalized industries, municipalities, local authorities and other public sector bodies. In the UK, the total borrowing requirement is often referred to as the Public sector net cash requirement (PSNCR).
Governments borrow by issuing bonds. In the UK, the government also borrows from individuals by offering bank accounts and Premium Bonds. Government debt seems to be permanent. Indeed the debt seemingly expands rather than being paid off. One strategy used by governments to reduce the value of the debt is to influence inflation.
Municipalities and local authorities may borrow in their own name as well as receiving funding from national governments. In the UK, this would cover an authority like Hampshire County Council.
Public Corporations typically include nationalized industries. These may include the postal services, railway companies and utility companies.
Many borrowers have difficulty raising money locally. They need to borrow internationally with the aid of Foreign exchange markets.
Borrowers having similar needs can form into a group of borrowers. They can also take an organizational form like Mutual Funds. They can provide mortgage on weight basis. The main advantage is that this lowers the cost of their borrowings.
[edit] Derivative products
During the 1980s and 1990s, a major growth sector in financial markets is the trade in so called derivative products, or derivatives for short.
In the financial markets, stock prices, bond prices, currency rates, interest rates and dividends go up and down, creating risk. Derivative products are financial products which are used to control risk or paradoxically exploit risk.[1] It is also called financial economics.
Derivative products or instruments help the issuers to gain an unusual profit from issuing the instruments. For using the help of these products a contract has to be made. Derivative contracts are mainly 3 types: 1. Future Contracts 2. Forward Contracts 3. Option Contracts.
[edit] Currency markets
Main article: Foreign exchange market
Seemingly, the most obvious buyers and sellers of currency are importers and exporters of goods. While this may have been true in the distant past,[when?] when international trade created the demand for currency markets, importers and exporters now represent only 1/32 of foreign exchange dealing, according to the Bank for International Settlements.[2]
The picture of foreign currency transactions today shows: * Banks/Institutions * Speculators * Government spending (for example, military bases abroad) * Importers/Exporters * Tourists
[edit] Analysis of financial markets
See Statistical analysis of financial markets, statistical finance
Much effort has gone into the study of financial markets and how prices vary with time. Charles Dow, one of the founders of Dow Jones & Company and The Wall Street Journal, enunciated a set of ideas on the subject which are now called Dow Theory. This is the basis of the so-called technical analysis method of attempting to predict future changes. One of the tenets of "technical analysis" is that market trends give an indication of the future, at least in the short term. The claims of the technical analysts are disputed by many academics, who claim that the evidence points rather to the random walk hypothesis, which states that the next change is not correlated to the last change. In recent years the rise of algorithmic and high-frequency program trading has seen the adoption of momentum, ultra-short term moving average and other similar strategies which are based on technical as opposed to fundamental or theoretical concepts of market Behaviour.
The scale of changes in price over some unit of time is called the volatility. It was discovered by Benoît Mandelbrot that changes in prices do not follow a Gaussian distribution, but are rather modeled better by Lévy stable distributions. The scale of change, or volatility, depends on the length of the time unit to a power a bit more than 1/2. Large changes up or down are more likely than what one would calculate using a Gaussian distribution with an estimated standard deviation.
[edit] Financial market slang * Poison pill, when a company issues more shares to prevent being bought out by another company, thereby increasing the number of outstanding shares to be bought by the hostile company making the bid to establish majority. * Quant, a quantitative analyst with a PhD[citation needed] (and above) level of training in mathematics and statistical methods. * Rocket scientist, a financial consultant at the zenith of mathematical and computer programming skill. They are able to invent derivatives of high complexity and construct sophisticated pricing models. They generally handle the most advanced computing techniques adopted by the financial markets since the early 1980s. Typically, they are physicists and engineers by training; rocket scientists do not necessarily build rockets for a living. * White Knight, a friendly party in a takeover bid. Used to describe a party that buys the shares of one organization to help prevent against a hostile takeover of that organization by another party. * round tripping * smurfing * Spread, the difference between the highest bid and the lowest offer.
[edit] Role (Financial system and the economy)
One of the important requisite for the accelerated development of an economy is the existence of a dynamic financial market. A financial market helps the economy in the following manner. * Saving mobilization: Obtaining funds from the savers or surplus units such as household individuals, business firms, public sector units, central government, state governments etc. is an important role played by financial markets. * Investment: Financial markets play a crucial role in arranging to invest funds thus collected in those units which are in need of the same. * National Growth: An important role played by financial market is that, they contributed to a nations growth by ensuring unfettered flow of surplus funds to deficit units. Flow of funds for productive purposes is also made possible. * Entrepreneurship growth: Financial market contribute to the development of the entrepreneurial claw by making available the necessary financial resources. * Industrial development: The different components of financial markets help an accelerated growth of industrial and economic development of a country, thus contributing to raising the standard of living and the society of well-being.
[edit] Functions of Financial Markets * Intermediary Functions: The intermediary functions of a financial markets include the following: * Transfer of Resources: Financial market facilitate the transfer of real economic resources from lenders to ultimate borrowers. * Enhancing income: Financial markets allow lenders to earn interest or dividend on their surplus invisible funds, thus contributing to the enhancement of the individual and the national income. * Productive usage: Financial market allow for the productive use of the funds borrowed. The enhancing the income and the gross national production. * Capital Formation: Financial market provide a channel through which new savings flow to aid capital formation of a country. * Price determination: Financial markets allow for the determination of price of the traded financial assets through the interaction of buyers and sellers. They provide a sign for the allocation of funds in the economy based on the demand and supply through the mechanism called price discovery process. * Sale Mechanism: Financial markers provide a mechanism for selling of a financial asset by an investor so as to offer the benefit of marketability and liquidity of such assets. * Information: The activities of the participants in the financial market result in the generation and the consequent dissemination of information to the various segments of the market. So as to reduce the cost of transaction of financial assets. * Financial Functions * Providing the borrower with funds so as to enable them to carry out their investment plans. * Providing the lenders with earning assets so as to enable them to earn wealth by deploying the assets in production debentures. * Providing liquidity in the market so as to facilitate trading of funds.
[edit] Constituents of Financial Market
[edit] Based on market levels * Primary market: Primary market is a market for new issues or new financial claims. Hence it’s also called new issue market. The primary market deals with those securities which are issued to the public for the first time. * Secondary market: It’s a market for secondary sale of securities. In other words, securities which have already passed through the new issue market are traded in this market. Generally, such securities are quoted in the stock exchange and it provides a continuous and regular market for buying and selling of securities.
[edit] Based on security types * Money market: Money market is a market for dealing with financial assets and securities which have a maturity period of up to one year. In other words, it’s a market for purely short term funds. * Capital market: A capital market is a market for financial assets which have a long or indefinite maturity. Generally it deals with long term securities which have a maturity period of above one year. Capital market may be further divided in to: (a) industrial securities market (b) Govt. securities market and (c) long term loans market. * Equity markets: A market where ownership of securities are issued and subscribed is known as equity market. An example of a secondary equity market for shares is the Bombay stock exchange. * Debt market: The market where funds are borrowed and lent is known as debt market. Arrangements are made in such a way that the borrowers agree to pay the lender the original amount of the loan plus some specified amount of interest. * Derivative markets: * Financial service market: A market that comprises participants such as commercial banks that provide various financial services like ATM. Credit cards. Credit rating, stock broking etc. is known as financial service market. Individuals and firms use financial services markets, to purchase services that enhance the working of debt and equity markets. * Depository markets: A depository market consist of depository institutions that accept deposit from individuals and firms and uses these funds to participate in the debt market, by giving loans or purchasing other debt instruments such as treasure bills. * Non-Depository market: Non-depository market carry out various functions in financial markets ranging from financial intermediary to selling, insurance etc. The various constituency in non-depositary markets are mutual funds, insurance companies, pension funds, brokerage firms etc.

Private Limited is a fully owned company by group of promoters. All shares of the company are in private hands. In Limited Company, which is in fact Public Limited, who's owners are Public, and shares are open to to anyone to buy and sell and keep it. Maximum share holder runs the company, as per Company Law.

There are lot of differences. The major factor is number of shareholders and shareholding pattern. In Pvt. Ltd. company the share holders comprises of close group of friends and relatives. A Pvt. Ltd. company can not make an offer for public to subscribe it's shares. Where as a Ltd. company can given an advertisement and invite general public to subscribe for it's shares. Basically a Pvt. Ltd. company is a corporate version of partnership firm where as a Public Ltd. company is a full fledged corporate body. For a Pvt. Ltd. company minimum 2 shareholders are required whereas for Public Ltd. company minimum 50 sharehoders are required. A share holder of a Public Ltd. company can transfere his shares freely at the stock exchange where the sahres are listed whereas in a Pvt. Ltd. Company a shareholder can not transfer his shares without the consent of other shareholders. Also shares of the Pvt. Ltd. company can not be listed on stock exchanges and hence can not be traded there like shares of a Public Ltd. company. These are some of the major points of diference. For more details you need to refer The Indian Companies Act 1956.

There are three general categories of investors: shareholders, individual investors, and institutional investors. Their approaches to investment can differ or overlap, depending on their respective goals, but the major differences are that shareholders, for the most part, do not contribute capital directly to a corporation, individual investors invest their own money, and institutional investors invest the money of others.

Shareholders
Shareholders buy stock in a corporation, but do not own the corporation. Shareholders do have some influence and privileges, however. These include a say in who is elected to the corporation’s board, the right to dividends should they be agreed upon, and part of whatever assets remain in the case of liquidation. In the primary market, shareholders buy shares of the company and, in doing so, contribute capital directly to the corporation. Most shareholders are active in the secondary market, however, where already owned stocks are traded. In the secondary market, shareholders do not contribute capital directly to the corporation, but they help set the value of corporations’ stocks with their buying/selling activity.

Individual investors
Individual investors are, literally, investors who invest their own money to contribute capital to a corporation in order to profit with the corporation at a later point. These investors, depending on the size of their involvement, have their own money tied up in the corporation’s welfare. In this way, an individual shareholder shares the success and failures of a corporation on whatever scale s/he has invested. Individual investors like venture capitalists often specialize in a particular field. All individual investors, though, invest their money in a way that collects more than it would in a savings account; as a high-margin, high-risk path to profits; and as a personal investment in a company.

Institutional investors
Among the categories of investors, institutional investors are the most common. Institutional investors are companies, banks, funds, and investment companies that invest other people’s money. They are given others’ money because they have a level of expertise and/or access to companies and the transactional process that makes them a wiser or more secure medium to hold money. In addition, funds that pool a large amount of money can invest it more widely in a way that diminishes risk for the individual investor.

A global depository receipt or global depositary receipt (GDR) is a certificate issued by a depository bank, which purchases shares of foreign companies and deposits it on the account. GDRs represent ownership of an underlying number of shares.
Global depository receipts facilitate trade of shares, and are commonly used to invest in companies from developing or emerging markets.
Prices of global depositary receipt are often close to values of related shares, but they are traded and settled independently of the underlying share.
Several international banks issue GDRs, such as JPMorgan Chase, Citigroup, Deutsche Bank, Bank of New York. GDRs are often listed in the Frankfurt Stock Exchange, Luxembourg Stock Exchange and in the London Stock Exchange, where they are traded on the International Order Book (IOB). Normally 1 GDR = 10 Shares, but not always. It is a negotiable instrument which is denominated in some freely convertible currency. It is a negotiable certificate denominated in US dollars which represents a non-US Company's publicly traded local equity. characteristics of GDRs: 1.it is an unsecured security 2.a fixed rate of interest is paid on it 3.it may be converted into number of shares 4.interest and redemption price is public in foreign agency 5.it is listed and traded in the share market
An American depositary receipt (ADR) is a negotiable security that represents securities of a non-US company that trade in the US financial markets. Securities of a foreign company that are represented by an ADR are called American depositary shares (ADSs).
Shares of many non-US companies trade on US stock exchanges through ADRs. ADRs are denominated and pay dividends in US dollars and may be traded like regular shares of stock. Over-the-counter ADRs may only trade in extended hours.
The first ADR was introduced by J.P. Morgan in 1927 for the British retailer Selfridges.
ADR: American Depository Receipts
GDR: Global Depository Receipts
IDR: Indian Depository Receipts Say if an Indian company wants to mobilize capital from abroad, can it do it? Even a novice will instantaneously come up with an answer like ‘NO’. We have too many controls which will not allow raising of capital abroad easily. This is what we ‘perceive.’ As we are liberalizing our economy, raising of capital from outside the country is slowly enabled by the government. ADRs and GDRs are the result of such liberalization. What happens in these ADRs and GDRs is that an Indian corporate can deposit its stock (shares) with a foreign depository (foreign host country equivalents to our own NSDL and CSDL) and raise money from foreign public by offering these ADR/GDR issues for subscripttion. Usually the corporate conducts a road-show (advertising and publicity for its issue) and attracts the attention/interest of the foreign public to subscribe to its capital. The foreign governments and / or stock exchanges (where the issue will be listed) will have their own regulations (which are usually very stringent) which have to be complied with by the Indian corporate. The government liberalized the rules in this regard sometime in 2002. And IDR is an exact reverse of the ADR/GDR issue. A foreign company can raise capital from Indian public, the same way that Indian companies can raise capital through ADR/GDR issues. The government of India framed the IDR rules sometime in 2004. The basic role they play in the economy now should be very clear to you? Is it? Raising capital from foreigners or allowing foreign companies to raise capital in India.

The GDR functions as a means to increase global trade, which in turn can help increase not only volumes on local and foreign markets but also the exchange of information, technology, regulatory procedures as well as market transparency. Thus, instead of being faced with impediments to foreign investment, as is often the case in many emerging markets, the GDR investor and company can both benefit from investment abroad. Let’s take a closer a look at the benefits:
For the Company
A company may opt to issue a GDR to obtain greater exposure and raise capital in the world market. Issuing GDRs has the added benefit of increasing the share’s liquidity while boosting the company’s prestige on its local market (“the company is traded internationally”). Global Depositary receipts encourage an international shareholder base, and provide expatriates living abroad with an easier opportunity to invest in their home countries. Moreover, in many countries, especially those with emerging markets, obstacles often prevent foreign investors from entering the local market. By issuing a GDR, a company can still encourage investment from abroad without having to worry about barriers to entry that a foreign investor might face.
For the Investor
Buying into a GDR immediately turns an investors’ portfolio into a global one. Investors gain the benefits of diversification, while trading in their own market under familiar settlement and clearance conditions. More importantly, GDR investors will be able to reap the benefits of these usually higher-risk, higher-return equities, without having to endure the added risks of going directly into foreign markets, which may pose lack of transparency or instability resulting from changing regulatory procedures. It is important to remember that an investor will still bear some foreign-exchange risk, stemming from uncertainties in emerging economies and societies. On the other hand, the investor can also benefit from competitive rates the U.S. dollar and euro have to most foreign currencies.
Conclusion
Giving you the opportunity to add the benefits of foreign investment while bypassing the unnecessary risks of investing outside your own borders, you may want to consider adding these securities to your portfolio. As with any security, however, investing in GDRs requires an understanding of why they are used, and how they are issued and traded.
GUIDELINES FOR PREFERENTIAL ISSUES
13.0 The preferential issue of equity shares/ Fully Convertible Debentures (FCDs) / Partly Convertible Debentures (PCDs) or any other financial instruments which would be converted into or exchanged with equity shares at a later date, by listed companies whose equity share capital is listed on any stock exchange, to any select group of persons under section 81(1A) of the Companies Act 1956 on private placement basis shall be governed by these guidelines.
13.1 Such preferential issues by listed companies by way of equity shares/ Fully Convertible Debentures (FCDs) / Partly Convertible Debentures (PCDs) or any other financial instruments which would be converted into / exchanged with equity shares at a later date, shall be made in accordance with the pricing provisions mentioned below:
13.1.1 Pricing of the issue
13.1.1.1The issue of shares on a preferential basis can be made at a price not less than the higher of the following:
i) The average of the weekly high and low of the closing prices of the related shares quoted on the stock exchange during the six months preceding the relevant date;
OR
ii) The average of the weekly high and low of the closing prices of the related shares quoted on a stock exchange during the two weeks preceding the relevant date.
Explanation
a) "relevant date" for the purpose of this clause means the date thirty days prior to the date on which the meeting of general body of shareholders is held, in terms of Section 81(1A) of the Companies Act, 1956 to consider the proposed issue.
b) "stock exchange" for the purpose of this clause means any of the recognised stock exchanges in which the shares are listed and in which the highest trading volume in respect of the shares of the company has been recorded during the preceding six months prior to the relevant date. Qualifications for listing Initial Public Offerings (IPO) are as below: 1. Paid up Capital

The paid up equity capital of the applicant shall not be less than 10 crores * and the capitalisation of the applicant's equity shall not be less than 25 crores**

* Explanation 1

For this purpose, the post issue paid up equity capital for which listing is sought shall be taken into account.

** Explanation 2

For this purpose, capitalisation will be the product of the issue price and the post issue number of equity shares. In respect of the requirement of paid-up capital and market capitalisation, the issuers shall be required to include, in the disclaimer clause of the Exchange required to put in the offer document, that in the event of the market capitalisation (Product of issue price and the post issue number of shares) requirement of the Exchange not being met, the securities would not be listed on the Exchange. 2. Conditions Precedent to Listing:

The Issuer shall have adhered to conditions precedent to listing as emerging from inter-alia from Securities Contracts (Regulations) Act 1956, Companies Act 1956, Securities and Exchange Board of India Act 1992, any rules and/or regulations framed under foregoing statutes, as also any circular, clarifications, guidelines issued by the appropriate authority under foregoing statutes. 3. Atleast three years track record of either: * the applicant seeking listing; or * the promoters****/promoting company, incorporated in or outside India or * Partnership firm and subsequently converted into a Company (not in existence as a Company for three years) and approaches the Exchange for listing. The Company subsequently formed would be considered for listing only on fulfillment of conditions stipulated by SEBI in this regard.

For this purpose, the applicant or the promoting company shall submit annual reports of three preceding financial years to NSE and also provide a certificate to the Exchange in respect of the following: * The company has not been referred to the Board for Industrial and Financial Reconstruction (BIFR). * The networth of the company has not been wiped out by the accumulated losses resulting in a negative networth * The company has not received any winding up petition admitted by a court.

****Promoters mean one or more persons with minimum 3 years of experience of each of them in the same line of business and shall be holding at least 20% of the post issue equity share capital individually or severally. 1. The applicant desirous of listing its securities should satisfy the exchange on the following: * No disciplinary action by other stock exchanges and regulatory authorities in past three years

There shall be no material regulatory or disciplinary action by a stock exchange or regulatory authority in the past three years against the applicant company. In respect of promoters/promoting company(ies), group companies, companies promoted by the promoters/promoting company(ies) of the applicant company, there shall be no material regulatory or disciplinary action by a stock exchange or regulatory authority in the past one year. * Redressal Mechanism of Investor grievance

Eligibility of companies to issue IDRs
The regulations relating to the issue of IDRs is contained in Securities and Exchange Board of India (Issue of capital and disclosure requirements) Regulations, 2009, as revised from time to time.[4]
According to Clause 26 in Chapter III (“Provisions as to public issue”), the following are required of any company intending to make a public issue in India: * it has net tangible assets of at least Indian rupee three crore in each of the preceding three full years (of twelve months each), of which not more than fifty per cent are held in monetary assets: Provided that if more than fifty per cent. of the net tangible assets are held in monetary assets, the issuer has made firm commitments to utilise such excess monetary assets in its business or project; * it has a track record of distributable profits in terms of section 205 of the Companies Act, 1956, for at least three out of the immediately preceding five years: Provided that extraordinary items shall not be considered for calculating distributable profits; * it has a net worth of at least INR one crore in each of the preceding three full years (of twelve months each); * the aggregate of the proposed issue and all previous issues made in the same financial year in terms of issue size does not exceed five times its pre-issue net worth as per the audited balance sheet of the preceding financial year; * if it has changed its name within the last one year, at least fifty per cent. of the revenue for the preceding one full year has been earned by it from the activity indicated by the new name.

What is Indian Depository Receipt (IDR)?
An IDR is a receipt, declaring ownership of shares of a foreign company. These receipts can be listed in India and traded in rupees. Just like overseas investors in the US-listed American Depository Receipts (ADRs) of Infosys and Wipro get receipts against ownership of shares held by an Indian custodian, an IDR is proof of ownership of foreign company's shares. The IDRs are denominated in Indian currency and are issued by a domestic depository and the underlying equity shares are secured with a custodian. An Indian investor pays in Indian rupees for the IDR whereas a shareholder in the issuer's home country pays in home currency.

Further, Clause 97 in Chapter X stipulates additional requirements from a foreign company intending to make an issue of IDRs: An issuing company making an issue of IDR shall also satisfy the following: * the issuing company is listed in its home country; * the issuing company is not prohibited to issue securities by any regulatory body; * the issuing company has track record of compliance with securities market regulations in its home country. * What is the security of the underlying shares? Where will the receipts be deposited? * The underlying shares for IDRs will be deposited with an overseas custodian who will hold the shares on behalf of a domestic depository. The domestic depository will accordingly issue receipts to investors in India. Investors will get an entry in their demat accounts reflecting their IDR holding. * How will IDRs be issued? Who can participate? * IDRs will be issued to Indian residents in the same way as domestic shares are issued. The issuer company will make a public offer in India, and residents can bid the same way as they do for Indian shares. Investors eligible to participate in an IDR issue are institutional investors, including FIIs — but excluding insurance companies and venture capital funds — retail investors and non-Institutional Investors. NRIs can also participate in the Issue. Commercial banks may participate subject to approval from the RBI. * What are the benefits that Indian investors can look forward to? * Indian individual investors have restrictions on holding shares in foreign companies, but IDR gives Indian residents a chance to invest in a listed foreign entity. No resident individual can hold more than $200,000 worth of foreign securities, including shares, as per foreign exchange regulations. However, this will not be applicable for IDR. Besides, these additional key requisites such as demat account outside India to hold foreign securities, KYC with foreign broker, foreign bank account to hold funds are too cumbersome for most investors. These troubles are completely avoided in holding IDRs. * Will Indian investors get equal rights as shareholders? * Indian investors have equivalent rights as shareholders. They can vote on EGM resolutions through the overseas custodian. Whatever benefits accrue to the shares, by way of dividend, rights, splits or bonuses will be passed on to the DR holders also, to the extent permissible under Indian law. * Can IDRs be converted? * IDR holders will have to wait for an year after issue before they can demand that their IDRs be converted into the underlying shares. However this conversion is subject to certain conditions: * a) IDR Holders can convert IDRs into underlying equity shares only with the prior approval of the RBI. * b) Upon such exchange, individual persons resident in India are allowed to hold the underlying shares only for the purpose of sale within a period of 30 days from the date of conversion of the IDRs into underlying shares * c) Current regulations do not provide for exchange of equity shares into IDRs after the initial issuance i.e.reverse fungibility is not allowed.

Allotment to various investor categories is provided in the guidelines and is detailed below:
In case of Book Built issue
1. In case an issuer company makes an issue of 100% of the net offer to public through
100% book building process—
10
(a) Not less than 35% of the net offer to the public shall be available for allocation to retail individual investors;
(b) Not less than 15% of the net offer to the public shall be available for allocation to non‐institutional investors i.e. investors other than retail individual investors and
Qualified Institutional Buyers;
(c) Not more than 50% of the net offer to the public shall be available for allocation to Qualified Institutional Buyers:
2. In case of compulsory Book‐Built Issues at least 50% of net offer to public being allotted to the Qualified Institutional Buyers (QIBs), failing which the full subscription monies shall be refunded.
3. In case the book built issues are made pursuant to the requirement of mandatory allocation of 60% to QIBs in terms of Rule 19(2)(b) of Securities Contract
(Regulation) Rules, 1957, the respective figures are 30% for RIIs and 10% for NIIs.
In case of fixed price issue
The proportionate allotment of securities to the different investor categories in an fixed price issue is as described below:
1. A minimum 50% of the net offer of securities to the public shall initially be made available for allotment to retail individual investors, as the case may be.
2. The balance net offer of securities to the public shall be made available for allotment to:
a. Individual applicants other than retail individual investors, and
b. Other investors including corporate bodies/ institutions irrespective of the number of securities applied for.

Private Equity….. What is it?
Infusion of equity funds by investors in an unlisted firm
For medium or long term horizon
And eventual exit through listing on exchanges, sell out to other funds
Or eventually take controlling stake and retain/ divest depending on strategic considerations
Venture Capital- a subset of PE, for launch/ early stage capital
Emphasis on entrepreneurial ventures rather than mature businesses

Qualified institutional placement (QIP) is a capital-raising tool, primarily used in India, whereby a listed company can issue equity shares, fully and partly convertible debentures, or any securities other than warrants which are convertible to equity shares to a qualified institutional buyer (QIB).
Apart from preferential allotment, this is the only other speedy method of private placement whereby a listed company can issue shares or convertible securities to a select group of persons. QIP scores over other methods because the issuing firm does not have to undergo elaborate procedural requirements to raise this capital.
Why was it introduced?
The Securities and Exchange Board of India (SEBI) introduced the QIP process through a circular issued on May 8, 2006[1], to prevent listed companies in India from developing an excessive dependence on foreign capital. Prior to the innovation of the qualified institutional placement, there was concern from Indian market regulators and authorities that Indian companies were accessing international funding via issuing securities, such as American depository receipts (ADRs), in outside markets. The complications associated with raising capital in the domestic markets had led many companies to look at tapping the overseas markets. This was seen as an undesirable export of the domestic equity market, so the QIP guidelines were introduced to encourage Indian companies to raise funds domestically instead of tapping overseas markets.[2]
[edit] What are some of the regulations governing a QIP?
To be able to engage in a QIP, companies need to fulfil certain criteria such as being listed on an exchange which has trading terminals across the country and having the minimum public shareholding requirements which are specified in their listing agreement.
During the process of engaging in a QIP, the company needs to issue a minimum of 10% of the securities issued under the scheme to mutual funds. Moreover, it is mandatory for the company to ensure that there are at least two allottees, if the size of the issue is up to Rs 250 crore and at least five allottees if the company is issuing securities above Rs 250 crore.
No individual allottee is allowed to have more than 50% of the total amount issued. Also no issue is allowed to a QIB who is related to the promoters of the company.
[edit] Who can participate in the issue?
The specified securities can be issued only to QIBs, who shall not be promoters or related to promoters of the issuer. The issue is managed by a Sebi-registered merchant banker. There is no pre-issue filing of the placement document with Sebi. The placement document is placed on the websites of the stock exchanges and the issuer, with appropriate disclaimer to the effect that the placement is meant only QIBs on private placement basis and is not an offer to the public.
[edit] Qualified institutional buyers (QIBs)
Qualified institutional buyers (QIBs) those institutional investors who are generally perceived to possess expertise and the financial muscle to evaluate and invest in the capital markets. In terms of clause 2.2.2B (v) of DIP guidelines, a ‘qualified institutional buyer’ shall mean: 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 of participating in primary issuance process."
[edit] QIPs in India and the US
In India Therefore, to encourage domestic securities placements (instead of foreign currency convertible bonds (FCCBs) and global or American depository receipts (GDRs or ADRs)), the Securities Exchange Board of India (SEBI) has with effect from May 8, 2006 inserted Chapter XIIIA into the SEBI (Disclosure & Investor Protection) Guidelines, 2000 (the DIP Guidelines), to provide guidelines for Qualified Institutional Placements (the QIP Scheme). The QIP Scheme is open to investments made by “Qualified Institutional Buyers” (which includes public financial institutions, mutual funds, foreign institutional investors, venture capital funds and foreign venture capital funds registered with the SEBI) in any issue of equity shares/ fully convertible debentures/ partly convertible debentures or any securities other than warrants, which are convertible into or exchangeable with equity shares at a later date (Securities). Pursuant to the QIP Scheme, the Securities may be issued by the issuer at a price that shall be no lower than the higher of the average of the weekly high and low of the closing prices of the related shares quoted on the stock exchange (i) during the preceding six months; or (ii) the preceding two weeks. The issuing company may issue the Securities only on the basis of a placement document and a merchant banker needs to be appointed for such purpose. There are certain obligations which are to be undertaken by the merchant banker. The minimum number of QIP allottees shall not be less than two when the aggregate issue size is less than or equal to Rs 250 crore; and not less than five, where the issue size is greater than Rs 250 crore. However, no single allottee shall be allotted more than 50 per cent of the aggregate issue size. The aggregate of proposed placement under the QIP Scheme and all previous placements made in the same financial year by the company shall not exceed five times the net worth of the issuer as per the audited balance sheet of the previous financial year. The Securities allotted pursuant to the QIP Scheme shall not be sold by the allottees for a period of one year from the date of allotment, except on a recognized stock exchange. This provision allows the allottees an exit mechanism on the stock exchange without having to wait for a minimum period of one year, which would have been the lock–in period had they subscribed to such shares pursuant to a preferential allotment.
[edit] The Difference
There are some key differences between the SEC’s Rule 144A and the SEBI QIP Scheme such as the SEBI pricing guidelines and the US rule that a private placement under Rule 144 A must be a resale and not a direct issue by the issuer. In addition, the target audience of both regulations is different -while the impetus behind Rule 144A was to encourage non-US issuers to undertake US private placements, the impetus behind the SEBI QIP Scheme was to encourage domestic Indian issuers to undertake domestic Indian private placements. Nonetheless, the intention of both regulations is to encourage private placements in the domestic markets of the US and India, respectively
[edit] Benefits of qualified institutional placements
Time saving:
QIBs can be raised within short span of time rather than in FPO, Right Issue takes long process.
Rules and regulations:
In a QIP there are fewer formalities with regard to rules and regulation, as compared to follow-on public issue (FPO) and rights Issue.
A QIP would mean that a company would only have to pay incremental fees to the exchange. Additionally in the case of a GDR, you would have to convert your accounts to IFRS (International Financial Reporting Standards). For a QIP, company’s audited results are more than enough
Cost-efficient:
The cost differential vis-à-vis an ADR/GDR or FCCB in terms of legal fees, is huge. Then there is the entire process of listing overseas, the fees involved. It is easier to be listed on the BSE/NSE vis-à-vis seeking a say Luxembourg or a Singapore listing.
Lock-in:
It provides an opportunity to buy non-locking shares and as such is an easy mechanism if corporate governance and other required parameters are in place.