Investment Banking

Investment Banking
1.1 Introduction
Investment Banking as the term suggest , is concerned with the primary function of assisting the capital market in its function of capital intermediation, i.e. the movement of financial resources from those who have them(investor) to those who need to make use of them for generating GDP (issuer). At the macro level, banks and financial institution on one hand, and the capital market on the other hand, are two broad platform of institutional intermediation for capital flow in the economy. Therefore, it can be inferred that investment banks are the counterparts of banks in the capital market in discharging the critical function of pooling and allocation of capital. Never the less, it would be unfair to conclude so, as that would confine investment banking to a very narrow sphere of its activities in the contemporary world of global finance. Over the decades, backed by evolution and fuelled by technologies developments, investment banking has transformed time and again to suit the needs of the finance community to become the most vibrant and exciting segment of financial services. Investment bankers have always enjoyed celebrity status, but at times, have paid the price for excessive flamboyance as well.

h Definition
The dictionary of banking and finance defines investment bank as a term used in the US to means a bank which deals with the underwriting of new issues and advises corporations on their financial affairs. The equivalent term in UK for such function is Issue House. This definition obviously capture the core activity of an investment bank pertaining to capital market floatation and financial advisory services to corporations. It does not however, throw a pointer towards the evolution of investment banks as global one-stop financial shops. A broader definition is provided by Bloomberg which defines an investment bank as a financial intermediary that performs a variety of services, including aiding in the sale of securities, facilitating mergers and other corporate re-organizations, acting as brokers to both individual and institutional clients and trading for its own account . This definition capture several functions of an investment bank though it still does not capture all of them.

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1.2 Evolution of Indian Investment Banking

Origin: In India, though the existence of this branch of financial services can be traced to over the three decades, investment banking was largely confined to merchant banking services. The forerunners of merchant banking in India were the foreign banks. Grindlays Bank (now merged with Standard Chartered Bank in India) began merchant banking operations in 1967 with a license from the RBI followed by the Citibank in 1970. These two banks were providing services for syndication of loans and raising of equity apart from other advisory services.

It was in 1972 that the Banking Commission Report asserted the need for merchant banking services in India by the public sector bans. Based on the American experience, which led to the passage of the Glass-Steagall Act, the Commission recommended a separate structure for merchant banks distinct from commercial banks and financial institutions. Merchant banks were meant to manage investments and provide advisory services.

Following the above recommendation, the SBI set up its merchant banking division in 1972. Other banks as the Bank of India, Bank of Baroda, Syndicate Bank, Punjab National Bank, Canara Bank followed suit to set up their merchant banking outfits. ICICI was the first financial institution to set up its merchant banking division in 1973. The later entrants were IFCI and IDBI with the latter setting up its merchant banking division in 1992.

However, by the mid eighties and early nineties, most of the merchants banking division of public sector banks were spun off as separate subsidiaries. SBI set up SBI Capital Markets Ltd in 1986. Other such as Canara Bank, BOB, PNB, Indian Bank and ICICI created separate merchant banking entities. IDBI Capital markets much later since merchant banking was initially formed as a division of IDBI in 1992.

Growth: Merchant banking in India was given a shot in the arm with the advent of SEBI in
1988 and the subsequent introduction of free pricing of primary market equity issues in 1992. However, post-1992, the merchant banking industry was largely driven by issue management
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activity which fluctuated with the trends in the primary market. There have been phases of hectic activity followed by severe downturn in business. SEBI started to regulate the merchant banking activity in 1992 and majority of the merchant bankers registered with SEBI were either in issue management or associated activity such as underwriting or advisorship. SEBI had four categories of merchant bankers with varying eligibility criteria based on their networth. The highest number of registered merchant bankers with SEBI was seen in the mid nineties but the numbers have dwindled since due to the inactivity in the primary market. The number of registered merchants bankers with SEBI as at the end of March 2003 was 124 form a high of almost a thousand in the nineties. In the financial year 2002-03 itself, the number decreased by 21.

Constraints to Investment Banking: Due to the over-independence activity in the initial years, most merchant banks perished in the primary market downturn that followed later. In order to stabilize their businesses, several merchant banks diversified to offer a broader spectrum of capital market services. However, other than a few industry leaders, the merchant banks could not transform themselves into full service investment banks.

Going by the service portfolio of the leading full service investment banks in India, it may be said that the industry in India has been more or less similar development as its western counterparts, though the breadth available in the overseas capital market is still not present in the Indian Capital market. Secondly, due to the lower availability of institutional financing to fund capital market activity, it is only the bigger industry players who are in full service investment banking. The third major deterrent has been the inadequate breadth in the secondary market, especially in the corporate debt segment. Though there are about 5000 listed companies on the BSE and about 1500 companies listed on the NSE, the actively traded scripts are far below these numbers.

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1.3 Characteristics and structure of Indian investment banking industry

Investment banking in India has evolved in it own characteristics structure over the years both due to business realities and the regulatory regime. On the regulatory front, the Indian regulatory regime does not allow all investment banking functions to be performed under one legal entity for two reason-(a) to prevent excessive exposure to business risk under one entity and (b) to prescribe and monitor capital adequacy and risk mitigation mechanisms. Therefore bankruptcy remoteness is a key feature in structuring the business lines of an investment bank so that the risks and rewards are defined for the investors who provide resources to the investment banks. In addition, the capital adequacy requirements and leveraging capability for each business line have been prescribed differently under relevant provisions of law. On the same analogy, commercial banks in India have to follow the provisions of Banking Regulation Act and the RBI regulations, which prohibits them from exposing themselves to stock market investments and lending against stocks beyond specified limits. Therefore, Indian investment banks follow a conglomerate structure by keeping there business segments in different corporate entities to meet regulatory norms .For example, merchant banking business has to be in a separate company as it requires a separate merchant banking license from the securities and exchange board of India (SEBI). Merchant bankers other than banks and financial institutions are also prohibited from under taking any business other than that in the securities market. However, since banks are subject to the Banking Regulation Act, they cannot perform investment banking to a large extent on the same balance sheet .Asset management business in the form of a mutual fund requires a three-tier structure under the SEBI regulations. Equity research should independent of the merchant banking business to avoid the kind of conflict of interest as faced by American investment banks. Securities business has to be separated into a different company as it requires a stock exchange membership apart from SEBI registration.

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Investment banking in India has also been influenced by business realities to a large extent. The financial services industry in India till the early 1980s was driven largely by debt services in the form of term financing from financial institutions and working capital financing by commercial banks and non banking financial companies (NBFCs). Capital market services were mostly restricted to stock broking activity which was driven by a non corporate unorganized industry. Merchant banking and asset management services came up in a big way only with the opening up of capital markets in the early nineties. Due to the primary market boom during that period, many financial business houses such as financial institution, banks and NBFCs entered the merchant banking, underwriting and advisory business. While most institutions and commercial banks floated merchant banking divisions and subsidiaries, NBFCs combined their existing business with that of merchant banking. The heterogeneous and fragmented structure is evident even if Indian investment banks are classified on the basis of their activity profile. Some of them such as SBI, IDBI, ICICI, IL & FS, Kotak Mahindra Capital, Citibank and others offer almost the entire gamut of investment banking services permitted in India. Among these, the long term financial institutions (IDBI and ICICI) converted themselves into full service commercial banks. They also have full services investment banking subsidiaries under their fold. Other entities such as NBFCs or subsidiaries of public sector banks mainly offer merchant banking and corporate advisory services. Some other specialize in merchant banking and other capital market services. There are also several others who are only into corporate advisory services but prefer to hold merchant banking or underwriting registrations. As of now, there are no global Indian investment banks although there is a bulge bracket of investment banks in India that have some overseas presences to serve Indian issuers their investors. At the middle level are several niche players including the merchant banking subsidiaries of some public sector banks. Some of such subsidiaries have been shut down or sold off in the wake of the two securities scams in 1993 and in 2000. However, certain banks such as Canara Bank and Punjab National Bank have had successful merchant banking activities. Among the middle level players are also merchant bank structured has non banking

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financial services companies such as Rabo India Finance Ltd, Ambit, Meghraj etc. There are also in the middle level, some pure advisory firms such as Lazard Capital, Ernst and KPMG, Price Waterhouse Coopers etc. At the lower and are several niche player and boutique firms, which focus on one or more segment of the investment banking spectrum.

Major Indian Investment Banks SBI Capital markets Ltd. Kotak Mahindra Capital company. JM Morgan Stanley Ltd. DSP Merrill Lynch Ltd. ICICI Securities Ltd. IDBI Capital Markets Ltd. Enam Financial Consultants Ltd

Leading Indian Universal Banks and their Investment Banking Affiliates Industrial Development Bank of India Ltd. IDBI Capital Markets Ltd ICICI SBI Kotak Mahindra Capital company UTI Securiti es Ltd PNB Gilts Ltd ICICI Bank Ltd State Bank of India Kotak Mahindra Bank ltd UTI Bank Ltd Punjab National Bank

Securities Capital Ltd Markets Ltd

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1.4 Services portfolio of Indian investment banks

The core services provided by Indian investment banks are in the areas of equity market, debt market and advisory services. These are profiled below.

1. Core services: a) Merchant banking, underwriting and book running

As mentioned early, the primary market which was quite small in India, was revitalized with the abolition of the capital issues (control) Act 1947 and the passing of the Securities and Exchange Board of India Act 1992. The SEBI functions as the regulator for the capital markets much in the lines of capital market regulators of other countries such as the SEC in USA. SEBI vide its guidelines dated June 11, 1992 introduce free pricing of securities in public offers for the first time in India. The public offer market very closely regulated by SEBI. When the primary markets are buoyant, issue management, book building and syndicated underwriting form a very dominant segment of activity for most Indian investment banks. A segment of the primary market is also the private placement market, specially for government securities and, commercial paper and bonds floated by public sector banks and corporations. Investment bank have been managing the public offers and hand holding them in the private placements as well. SEBI has gradually being increasing its regulations of the private placement market as well, thereby making merchant bankers play a significant role there in.

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b) Mergers and Acquisitions Advisory

The mergers and acquisitions industry was pretty nascent in India prior to 1994 has grown significantly post-2000 and cross-border transactions involving Indian companies constitute a significant chunk. The two main factors that have given a bit push to this industry are: y y The force of liberalization and globalization that have forced the Indian industry to consolidate. The institutionalization of corporate acquisitions by SEBI through it guidelines, popularly known as the Takeover Code.

One of the cream activities of investment banks has always been M&A advisory. The larger investment banks specialize in M&A as core activity. While some of them provide pure advisory services In relation to M&A, other holding valid merchant banking licenses from SEBI also manage the open offers arising out of such corporate events.

c) Corporate Advisory
Investment banks in India also have a large practice in corporate advisory services relating to project financing, corporate restructuring, capital restructuring through equity repurchase(including management of buyback offers under section 77A of the companies Act 1956), raising private equity, structuring joint venture and strategic partnerships and other value added specialized areas.

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2. Allied Business:
a) Securities business
The universal banks such as SBI, ICICI, IDBI, UTI bank and Kotak Mahindra have there broking and distribution in both the equity and debt segments of the secondary markets. In addition several investment banks such as the IL & FS and pure investment banks such as DSP Merrill Lynch and JM Morgan Stanley have a strong presence in this area of activity. After the introduction of derivative segment, it had provided an additional area of specialization for investment banks. Derivative trading, risk management and structured product offerings are the new segments that are fast becoming the areas of future potential for Indian investment banks. The securities business also provides extensive research based products and guidance to investors. The secondary market services cater to both the institutional and non-institutional investors.

b) Asset Management Services

Most of top financial groups in India which have investment banking business such as ICICI, IDBI, Kotak Mahindra, DSP Merrill Lynch, JM Morgan Stanley, SBI and IL & FS also have their presence in the asset management business through separate entities. Mutual fund industry grew significantly in India from the late nineties and is force to reckon with in the capital market. Mutual fund provides the common investor the service of sophisticated fund management.

c) Investment Advisory & wealth Management Many reputated investment banks nurture a separate service segment to management the portfolio of high net worth individuals, households, trusts and other types of non-institutional investors. This can be structured either as a discretionary or non-discretionary portfolio management.

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Business Portfolio of Indian Investment Banks

Core Business Portfolio

Non-Fund Based Merchant Banking Services for 1. Management of Public Offers of equity and debt instruments. 2. Right issues. 3. Open offers under the Takeover code. 4. Buyback offers. 5. Delisting offers. Advisory and transaction services in 1. Project Financing. 2. Syndicated loans. 3. Structured Finance and Securitisation. 4. Private Equity/ Venture Capital.

Fund Based 1. Underwriting 2. Market Making 3. Bought Out deals 4. Proprietary investments and trading in equities, bonds and derivatives.

Allied Business Asset Management Services 1. Mutual Funds 2. Portfolio Management 3. Venture Capital Funds Secondary Market Services 1. Securities Business 2. Investment Advisory 3. Derivatives Support Services 1. Registrars and share transfer agent 2. Custodial services

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1.5 Regulatory Framework for Investment Banking

In the absence of a comprehensive piece of legislation governing financial services in India, various services are regulated through rules and acts and by different regulators and investment banking is no exception. Investment banking in India is regulated in its various facts under separate legislation or guidelines issued under statute. The regulatory powers are also distributed between different regulators depending upon the constitution and the status of the investment banks. An overview of the regulatory framework is furnished below: y At the constitutional level, all investment banking companies incorporated under the Companies Act 1956 are governed by the provisions of that Act. y Universal banks are regulated by the Reserve Bank of India under the RBI Act and the Banking Regulation Act which put restrictions on capital market exposures to be taken by banks. In recent years, these restrictions have shown a residing trend. The RBI has also relaxed the exposure limits merchant banking subsidiaries of commercial banks. y Investment banking companies that are constituted as non-banking financial companies are regulated operationally by the RBI under Chapter IIIB(section 45H to 45QB) of the RBI act. Under these sections RBI is empowered to issue directions in the area of resource mobilization, accounts and administrative controls. The following directions have been issued by RBI so far:  Non-Banking Financial Companies Acceptance of deposits (Reserve Bank) directions, 1998.  NBFCs prudential norms (Reserve Bank) directions, 1998. Functionally, different aspects of investment banking are regulated under the SEBI Act 1992 and the guidelines and regulations issued there under. These are listed below:  Merchant Banking business consisting management of public offers is a licensed and regulated activity under the SEBI rules 1992 and SEBI regulation 1992.  Underwriting business is regulated SEBI rules 1993 and SEBI regulations 1993.  The activity of secondary market operations including stock broking are regulated under the relevant by-laws of the stock exchange and SEBI rules and regulations 1992.  The business of asset management as mutual funds is regulated under the SEBI regulations 1996.
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 The business o portfolio management is regulated under the SEBI rules and regulations 1993.  The business of venture capital and private equity by such funds that are incorporated in India is regulated by the SEBI regulations 1996 and by those that are incorporated outside India is regulated under SEBI regulations 2000.  The business of Institutional investing by foreign investment banks and other investors in Indian secondary markets is governed by the SEBI regulations 1995. y Investment banks that are set up in India with foreign direct investment(FDI) either as a joint venture with Indian partners or as fully owned subsidiaries of the foreign entities are governed in respect of foreign investment by the Foreign Exchange Management Act, 1999 and Foreign Exchange Regulations, 2000 issued there under as amended from time to time through notifications issued by the RBI.

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2 Underwriting
2.1 Introduction and Definition
Public issues are one of the most fund raising methods for well established companies the world over. Nevertheless, as an issuer, every company undergoes a process of uncertainty with regards to public offers. If a particular issue goes through successfully, the issuer company would be able to raise the intended amount of capital. If the issue is not successful, at the worst, the company cancels the issue and refunds all the subscriptions that may have been received. In such a situation, the company has to meet the entire expenses incurred for the issue out of its internal funds. That would leave the company in a worse position than it would be not making the issue at all.

In the Indian context, Underwriting is defined in the SEBI DIP guidelines as, an agreement with or without conditions to subscribe to the securities of a body corporate when the existing shareholders of such body corporate or the public do not subscribe to the securities offered to them. An underwriter, according to the SEBI rules, 1993 means a person who engages in the business of underwriting of an issue of securities of a body corporate.

Firstly, underwriting is always in connection with a proposed issue of securities by a body corporated. It is not a general understanding between a company and an underwriter. The specific underwriting commitment has to be documented through an underwriting agreement. Secondly, underwriting is an agreement by the underwriter to subscribe to the securities being issued in case the person to whom they are offered do not subscribe to them.

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Therefore, underwriting is a service that consist of taking a contingent obligation to subscribe to an agreed number of securities in an issue if such securities are not subscribed to by intended investors. The underwriters job is to market the underwritten securities to investors and procure subscription for such securities. Thirdly, underwriting is primarily a fee-based service provided by a underwriter since there is no fundamental obligation to subscribe to underwritten securities.

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2.2 Regulatory Framework

Underwriting activity in India is regulated under the SEBI (underwriters) Rules and Regulations 1993. The regulatory framework for underwriting activity is summarized below: y Underwriting business can be taken up by financial institutions, commercial banks, mutual funds, merchant bankers registered with SEBI, stock brokers and NBFCs. y All underwriters shall have necessary infrastructure, past experience, minimum of two employees and shall comply with the minimum capital adequacy requirement as stipulated from time to time and further comply with additional capital adequacy requirements of the concerned stock exchange. y Underwriters have to enter into legally binding agreement with the issuer companies. The underwriting agreement have to be approved by stock exchange where in the shares are proposed to be listed. y In the case of financial institutions, banks and mutual funds the issuer company has to apply separately prior to finalization of the issue for underwriting support. y y Underwriting commissions cannot exceed the statutory ceilings. Sub-underwriting permissible provide there are contracts to evidence the same.

Underwriters should also comply with a code of conduct in conducting their business. The code prescribe inter alia, the following main provision: y Underwriters should avoid conflicts of interest and make necessary disclosures of their interest if any. y An underwriter should abide by the award of the Ombudsman in case of dispute with the issuer company in arriving at contractual obligations and liabilities. y An underwriting firm or any of its employees shall not render directly or indirectly, any investment advice about any security publicly unless a disclosures of its interest has been made a prescribed. y Underwriters or their employees, directors etc. cannot indulge in insider trading in the securities they underwrite.

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2.3 Business Model

Underwriting is essentially a fee-based business though many a time, if underwritten issues are not successful, the underwriter ends up with a significant exposure to issuer companies and consequently to market risks. Keeping this in view, SEBI has prescribed the requirements of minimum capital adequacy and a cap on the underwriting obligations that can subsist at any given time. The minimum capital adequacy is ` 20 lakhs and maximum underwriting obligation cannot be more than 20 times the net worth of the underwriter. The main drivers to a viable underwriting business model are (a) the net worth of the underwriter since it determines the volume of business that can be undertaken, (b) the amount of devolvement and (c) capital losses arising there from. Let us try to see how this works with an illustration.

Illustration
Assumption Present Net worth ` 25 lakhs Devolvement probability- 0.25% Devolvement quantum- 50% Cost of debt 12% Average cycle time 3 months Underwriting commission-2.5% on procurement and devolvement Tax rate- 30% Capital loss on devolved securities = 15% Solution:- based on the above assumption, the business projection can be worked out as follows

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Business cycle

Q1

Q2

Q3

Q4

Total

Present Networth

25.00

26.40

27.88

29.44

Max. underwriting 20

500.00

528.00

557.77

588.79

Devolvement probability 0.25 Devolvement quantum 50% Loan financing required Cost of debt 3%

125.00

132.00

139.39

147.20

62.50

66.00

69.70

73.60

37.50

39.60

41.82

44.16

1.13

1.19

1.25

1.32

Underwriting commission 2.50% Capital loss on devolved securities 15% PBT

12.50

13.20

13.94

14.72

9.38

9.90

10.45

11.04

2.00

2.11

2.23

2.36

Tax 30%

0.60

0.63

0.67

0.71

PAT

1.40

1.48

1.56

1.65

6.09

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2.4 Underwriting in fixed price offers

Under the present regulatory framework, underwriting is optional for a fixed price offer. Therefore, if an issuer company feels that the issue is strong enough to sell on its merits, it may decide to take the risk and opt for not underwriting it. In such a case, the company only pay brokerage for marketing its securities to investor and save on underwriting commission who has a good understanding of the market.

The regulations further stipulated that if a fixed price of a is underwritten, the lead manager managing the issue shall undertake a minimum obligations of 5% of the total underwritten amount or ` 25lakhs whichever is lower. This regulations supposes that in stipulating a mandatory participations of lead manager in the underwriting risk of the issue, a sense of responsibility would be inculcated to bring quality issues to the market.

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2.5 Underwriting in the book-built offers

As per prevalent regulations, underwriting is compulsory in book-built offers to the extent of the NPO and Issuer Company does not have any discretion therein. Therefore, if a complaint opt for the 75% book-building route, underwriting becomes mandatory for the entire NPO. Underwriting has to be done by the book runners and the syndicate members. However, this requirement does not apply to issues where in 50% of the NPO has to be mandatorily allotted to QIBs. In such issues, only the balance portion of the NPO, i.e. 25% or 50% as the case may be, shall be subject to mandatory underwriting. In book built offers the book runner assumes their responsibilities for the overall underwriting. In case there is more than one book runner the inter-se allocation among the book runners determine the extent of their obligation. The book runners enter into underwriting agreement with the issuer company. In the case of an under subscription in the issue it devolves on the book runners. In order to spread the risk the whole underwriting obligation is shared between the book runner and the syndicate member and is co-ordinate by the book runner in-charge of syndicating the underwriting. The syndicate members inter into an underwriting agreement with the book runners indicating the syndicate members failing to fulfill their underwriting obligation, the book runners shall be responsible for bringing in the amounts required to make the good devolvement.

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The standard disclosure of an underwriting agreement and the obligation of the underwriters in an offer document for a book-build offer would be as follows: y The company and the underwriters have entered into an Underwriting Agreement for the equity shares proposed to be offered through the offer. Pursuant to the term of the Underwriting Agreement, the book running lead managers(BRLMs) shall be responsible for bringing in the amount devolved in the event that the member of the syndicate do not fulfill their underwriting obligation. Pursuant to the terms of the underwriting agreement, the obligation of the underwriters is subject to certain condition to closing, a specified therein, the above underwriting agreement is dated. In the opinion of our board of Directors and the BRLMs (based on the certificate given by the underwriters), the resources of all the mentioned underwriter are sufficient to enable them to dis-charge their respective underwriting obligation in full. All the above mentioned underwriter are registered with SEBI under section 12(1) of the SEBI act or registered as brokers with the stock exchange. Allocation among under writer may not necessarily be in proportion to their underwriting commitments. Notwithstanding to the above table, the BRLMs and the syndicate members shall be responsible for ensuring payment with the respect to equity shares allocated to investors procured by them. In the event of any default in payment, the respective underwriter, in addition to other obligation defined in the underwriting agreement, will also be required to procure/subscribe to the extent of the defaulted as specified in the underwriting agreement. Allotment to QIBs is discretionary a per the terms of this prospectus and may not be proportionate in any way and the patterns of allotment to the QBIs could be different for the various underwriters.

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3. Issue Management 3.1 Definition & Overview

The terms issues management has been defined under the SEBI (merchant bankers) regulation 1992 as an activity, which will inter alia consist of preparation of prospectus and other information relating to the issue determining the financial structure tie up financers and final allotment and refund of the subscription. As per the framework envisaged under the

SEBI (Merchant Bankers) Rules, 1992 and SEBI (Merchant Bankers) Regulation 1992, the main activity of a merchant banker is issue management. The concept of an issue manager is unique to India due to the definition of the specified functions. In the US markets, the equivalent term is managing underwriter which means an underwriting firm that organize the underwriting of a share issue This is because in the US modal of public officer, the role of an investment bank is primarily as the underwriter and marketer for the issue. The task of preparation of prospectus that has been included under issue management in India, is primarily done by the law firms in the US. Issue management in India encompasses a wider role for the merchant banker associated with the issue. The merchant banker is also thrust with a responsibility for ensuring disclosures from the issuer company and statutory compliance with regards to the offer. In India, though term merchant banker is used under the SEBI law, the term that is used to denote an issue manager is lead manager which has also been used in the Regulation if there is more than one lead manager associated with an issue, the main issue manager would be called the lead manager and the other would be known as the co-lead managers. In a book-built offer, the lead manager known as the co-lead manager. In a book built offer, the lead manager is known as the book running lead manager.

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h Types of issues requiring issue manager :The following types of issues of securities by companies requires the mandatory appointment of an issue manager:y All the issue of securities made through a prospectus irrespective of whether they are new issue of securities or offer for sale and whether they constitute IPO or FPO. Provided that in a larger issues more than one issue manager can be appointed subject to the following ceiling :1. If the size issue is less than ` 50 crore, a maximum two lead managers. 2. if the issue size is between ` 50-100 crore, a maximum three managers. 3. if the issue size is between ` 100-200 crore, a maximum four managers. 4. if the issue size is between ` 200-400 crore, a maximum five managers. 5. if the issue size is above ` 400 crore, five or more as may be approved by SEBI.

y All rights of a issue size is above exceeding ` 50lakhs should have one issue manager.

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3.2 Functions of Merchant Banker in Issue Management

Merchant bankers with valid registration certificates from SEBI have been provided with Statutory exclusivity in managing public offers of securities (IPO & FPO) and right issues. Therefore, whenever there is an offer of securities to the public, the involvement of merchant banker become mandatory. It goes without saying that SEBI and the statue place complete on reliance merchant bankers to ensure that compliance of law in issue matter is maintained. The functions of merchant bankers as given below:

Appointment, MOU and Interse Allocation of Responsibilities

Liaison with SEBI and Stock Exchange

Co-ordination with Other Functionaries

Issue Structuring and Pricing

Underwriting and Pre-Issue Compliance

Issue Marketing

Due Diligence

Preparation and Filling of Offer Document

Functions during the Issue

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a) Appointment, MOU and Inter-se Allocation of Responsibilities

The appointment of merchant banker as lead manager has to be accepted very carefully. The DIP guidelines stipulate that a merchant banker shall not lead manage the issue if he is a promoter or a director or associate of the issuer company. The MOU with the company for the assignment has to be drawn up immediately since it defines the relationship and becomes a material document for inspection. In case there are more than one lead manager, the inter-se allocation of responsibility has to be drawn up on a suitable basis. This statement becomes the basis on which the merchant banker become answerable to SEBI at a later date.

b) Issue Structuring and Pricing

This is one of the most critical advisory function performed by the lead manager after carefully assessing market factors, dilution of promoter equity, fulfillment of lock-in requirements, possibility of pre-marketing the issue through firm allotments and related issues. In a fixed price issue, the pricing is arrived at in conjunction with the issue structure. In a book built issue, the pricing is done before hand to more or less arrive at the possible structure but the floor price is announced only after the issue marketing is completed.

c) Due Diligence
This is probably the most crucial aspect of issue management as it places a tremendous responsibility, the failing of which can have civil and criminal consequences under law apart from penalties impost by SEBI. The due diligence has an implication on the disclosure in the offer document and the quality of issue. It is customary for the merchant banker to issue a due diligence questionnaire to the company before the commencement of the process taking into account the standard requirements and the specific requirements of the issue in question.

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d) Preparation and Filling of Offer Document

The offer document has to be prepared with care and craft as it not only has to conform to the statutory requirements but live up to the image of the issuer company as well. The main contains of this documents have already been enumerated above. But the presentation skills of the merchant banker are put to test while writing the business section of the prospectus. The management discussions and analysis has to be written to discuss the important issues from a management perspective as it reposes the confidence of the investor. All the certifications to be included in the offer document have to be obtained in the specific formats required. The filling of offer document with SEBI has to be accompanied by several enclosures.

e) Underwriting and Pre-Issue Compliance

The pre-issue compliance work is heavy on the merchant banker in term of several requirements of the DIP guidelines, tying up underwriting if required, selection and negotiation of terms of other intermediaries, formulating the issue budget and making preparations for roll out of the issue.

f) Liaison with SEBI and Stock Exchange

After the filling of the draft offer document with SEBI and the stock exchange and making it public, the lead manager has to expeditiously attend to the modifications or amendments required at short notice. The lapses in the due diligence would also come to light during this stage. Precious time cannot be lost at this stage at drawing board. Rejection of listing approval by the stock exchange can be disastrous for the issuing sixth day after closure of the issue, the lead manager has to ensure that listing approval is in place before proceeding with the issue.

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g) Co-ordination with Other Functionaries

Issue management been a concerted team effort is performed with the help of several agencies and intermediaries apart from the lead manager. These are registrars, bankers, advertisement agencies, brokers to the issue, underwriters to the issue, printers and couriers. In addition, professionals such as auditors of the company, company secretary, legal advisor and experts whose opinions are included in the offer document also plays important role in the issue.

h) Issue Marketing
Issue marketing includes road shows, pre-issue meets with journalist and media men, brokers, investors associations, etc. The merchant bankers has to ensure that no public city material or report is issued with information other than what is contained in the offer document, no incentives other than underwriting commissions and brokerage are offered through advertisement or by any other means, the advertisement code is strictly followed.

i) Functions during the Issue

The main function during the issue is to ascertain daily figures from the bankers or the stock exchange as the case may be and to take decision on the closure of the issue based on the procurement of minimum subscription. The merchant banker should also carefully ensure that the issuer company or other associates with the issue do not publish any advertisement stating that the issue is over-subscribed or indicating investors response to the issue during the period when the issue is still open for the subscription by the public.

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3.3 Conceptual Perspective in Issue Management

There are several aspects of issue management that involve conceptual clarity for the investment banker as they have a profound effect on the outcome of the issue and the post issue performance of the company.

Type of Issue and Method of Delivery

The first task in connection with issue management is to identify the type of issue to be made and choose the proper method of delivery. The various alternatives available to a company have also been illustrated therein. The choice of the type of issue and method of delivery depends on several factors such as the stature of the issuer company and its visibility in the capital market, the current state of the market and the flavor of the season, the necessity for underwriting the offer, the requirement for price discovery, the spread of shareholding desired by the company, etc. If the market is buoyant and the flavor is for book-built offers, the company could benefit with a higher pricing by going in for a 100% book-built offer. If the company is extremely visible with strong fundamentals and desires a spread of shareholding, it may option for a 100% retail offer.

Type of Instrument
The type of security to be offered to the investor depends mainly on the factors that are considered in the selection of the type of issue. The investors appetite at a given point of time largely determines the security. Having said that, the financial parameters of the issuers company should also be kept in mind while structuring the security on offer. For instance, in the 1990s, several large issues involving projects with long gestation period issued debt securities or staggered convertibles in public offers. This is because a staggered convertible delays the expansion of the equity base and has a sobering effect on the EPS so as not to impact the share price adversely. However, in the phase of issue starting with the year 2003,
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the accent was on high priced pure equity issues and debt securities in public offers become non-existent. Reliance petroleum ltd is a case in point. When it came for a public issue for its refinery project in Jamnagar (Gujarat) in 1993, it made a public issue of a complicated debt convertible. However, when reliance petroleum ltd (second version) went public in 2006 also for a refinery project in Jamnagar, it made a public issue pure equity at a premium. Both the issues were enormously successful but at different points of time.

Debt Security or Debt Convertible

As far as issue of debt securities or debt convertibles is concerned, one of the key areas for a merchant banker is to assess the credit-worthiness of the issuer company in the context of its existing in long-term obligations and the assets that have been offered as a security. There are two important considerations in raising debt: (a) the future expected cash flow generation which would need to service the future debt obligations and (b) the future financial cost that has to be met out of the future pre-debt servicing profits. If the financial costs were steep, the profits would take the burden. On the contrary if the cash flows were not robust enough, the principal repayments were come under pressure.

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Case of Reliance Petroleum TOCD Issue in 1993

Reliance Petroleum (since merged with RIL) made a public issue of Triple Option Convertible Debentures (TOCD) in 1993. Each TOCD has a face value of ` 60 split into three components: (a) an equity share, (b) another equity share, (c) a debenture. The split-up in face value was two equity shares of ` 10 each and a debenture of ` 40. Out of three parts, the first equity share would entitle the investor for one equity share at par on payment of the allotment money on the TOCD of ` 20. The balance amount of ` 40 to be paid by the investor was also split into installments spread over 36 months. If the investor chose to exercise the right for the second at par, an amount of ` 10 has to be paid on it along with the balance amount due on the non-convertible third part. The investor was given a staggered payment schedule spread over 36 months to pay the balance amount of ` 40. After the receipt of the full amount, the company allotted two tradable equity warrants to the investor which could be exchanged for shares at par after the expiry of 5 years. The non-convertible part of the TOCD was not entitled to any interest for the first 5 years but it was possible to surrender it with the warrants while exchanging them for shares. If the nonconvertible part was optioned for continuation, it carried interest for the period after 5 years. The non-convertible part of the TOCD was to be redeemed in three installments in the 6th, 7th, and the 8th year. Thus in this case, the option to subscribe and take equity at par was optional upon the investor for which there was a sacrifice of interest on the non-convertible portion for 5 years.

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It may be observed from the above that in the TOCD, the investor had an option both on the equity portion and the debt portion. The debt portion could be retained for 3 years after the 5th year. It did not have a coupon rate but provided a yield in terms of repayment amounts at the end of each year which resulted in an annualized yield of above 14%. Though the shares were been issued at par, in effect there was an in-build premium to the extent of the loss of interest on the non-convertible part for the first 5 years.

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4. Buybacks and Delisting 4.1 Introduction to Share Repurchase or Share Buyback

Stock Repurchase or Share Repurchase, commonly known as share buyback refers to the process of a company buying back its shares from its shareholder. In this sense, it is the reserve of an issue of shares and is therefore U.S. and U.K. capital markets, companies are allowed to buyback shares from the secondary market regularly has a part of their treasury operations. It implies that shares bought by a company as treasury shares can be sold back into the secondary market.

It is said that shareholder wealth maximization has to be objective of every corporate enterprises. Therefore if a company has a return on equity (ROE) that is better than the opportunity for the shareholder, his is maximized by redeploying the profits in the business. In other words, such a company should follow a no dividend policy. But if a company is sufficiently mature and quite stable in its business models, there are two things that would happen: (a) its annual growth rate reaches a more sustainable level, (b) its investment needs become more modest.

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4.2 Equity Repurchase in India

Exit offer is a new concept in the Indian context. Till 1998, Indian companies were not allowed to buyback equity shares from there shareholders or from the secondary market. So the exit option for the common investor was to sell through the secondary market. With the amendment to the Companies Act, companies were allowed to buyback their shares subject to a lot of statutory restrictions. The basic framework of a share repurchase mechanism in India is to allow it as a step to be implemented from time to time by companies. Share repurchase can be used to meet strategic objectives including distribution of capital to shareholders but not treasury operations.

Buybacks are being discussed in the context of investment banking since statutory regulations provide that appointment of a merchant banker as a manager to the offer is mandatory for listed companies intending to make a buyback offer to their shareholders. In such offers, the merchant banker plays a very significant role not only in pricing the issue but in ensuring compliance with law and in advising the company at every stage.

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4.3 Regulatory Framework for Equity Repurchase

Equity repurchase by a company was not allowed under the Indian law until the Companies Act was amended to provide for limited repurchase of its shares incompliance with section 77A that was newly introduced with effect from October 1998. This section applies to all types of companies intending to all types of companies and all types of shares and other securities that may be bought back as specified from time to time by the government. In addition to section 77A, which has universal application across companies, unlisted companies have to comply with the regulations issued by the Ministry of Company Affairs. Similarly, listed companies intending a buyback of shares need to comply with the SEBI guidelines on the subject.

h General Conditions
The general conditions applicable to all types of companies for buy-back of securities I terms of the provisions of section 77A and 77B of the Companies Act are listed below:y The buy-back by the company has to be financed out of free reserves or securities premium account or from proceeds of earlier issue of dissimilar shares or other securities. y The maximum time allowed for the completion of the buy-back process in 12 months from the date of the relevant resolution. y Buy-back can be made from existing security holders on proportionate basis, or from employees and directors out of the ESOP shares or sweat equity shares or through open market purchases. y A declaration of solvency has to be filed with the ROC and the SEBI (where applicable) with a verification through an affidavit by the BODs of the company that they believe that the company would remain solvent for a period of 12 months from the date of such declaration. y All securities that are bought back have to be destroyed within 7 days from the date of conclusion of the buy-back programme. y Two buy-back programmes shall be separated by period of 365 days even if they are for dissimilar securities.

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Case on Share Buyback

Reliance buyback program was triggered off due to the under-revaluation of the company stock vis--vis the BSE sensex, which was one of the reasons cited by the RIL management to initiate steps to correct the pricing anomaly. As per the statistics for the past 5 years, the stock had been trading at a discount to the Sensexs P/E, which the company thought was unfair given its

consistent financial performance this period. The company generated a compounded annual growth of 15% on EPS during the last 5 years. RILs P/E relative to sensex had ranged between 43% on March 31st, 1996 to 85% on March 31st, 2000. The sensex P/E was based on old BSE sensex. RILs current P/E at the time of buyback announcement was 66% of the recast sensex. The stock outperformed the sensex by 38% between January 1st, 2000 and April 11, 2000. The stock outperformed the sensex by 135% in one year time frame, by 21% in two year time frame, by 105% in three years time frame, by 90% in five years time frame and by 409% in ten years time frame. Hence, despite consistently outperforming the sensex over these time frames, the stock had been trading below its perceived intrinsic value. The buyback move aimed to achieve certain objectives including supporting the stock price in the face of under valuation. The company wanted to return the money to shareholders in large measures in a tax efficient and investor friendly manner without sacrificing growth opportunities and within the overall capital allocation framework. The company proposed to its shares up to a price of ` 303 aggregating ` 1100 crores, which was 25% of its free reserves as per the legal provisions on share buybacks.

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According to the company, the share buyback would help to optimize its weighted average cost of capital thereby enhancing its overall global competitiveness, improve financial parameters such as return on equity, reduce floating stock and enhance overall long-term price performance. As per the share buyback regulations, shares that were bought back, had to be compulsorily written down and cancelled immediately. This reduced the floating stock. The company expected that the buyback would help improve valuation to a considerable extent and enable it to use its stock as currency for any M&A activities in the futures. The company aimed to achieve a re-rating for the RIL stock by sending a powerful signal on the perceived undervaluation from time to time. In addition, this could also help increase the RILs market capitalizations thereby adding to the shareholder wealth. These were some of the key objectives that RIL aimed to achieve through its share buy-back plan. The buy-back was also meant to give a signal to the speculators that if the stock gets hammered below, which company had set at ` 303, it would enter the market to push it up by mopping up the excess floating stock from the market.

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4.4 De-listing

De-listing is a process by which a company whose shares are listed on stock exchange is taken private once again by getting its publicly held shares over by private shareholders and terminating the listing agreement with the stock exchange. As a result, there can be public shareholding after de-listing and the shares cannot be traded on a stock exchange. Therefore, de-listing is a process also known as going private. Going private has traditionally been a phenomenon associated with LBOs in the US markets. This is because in an LBO structure, one of the elements is to take the target company private. LBOs had large tax advantages and management incentive structures. Going private buyouts facilitated compensation

arrangements that could be viewed as excessively generous in a publicly listed corporation. Therefore, going private was inevitable. Another strong reason was that in an LBO structure, eventually the investors have to realize a huge amount of capital gain as their return model. This was facilitated by taking the company private at the first instance and making a reverse LBO at a later stage.

h De-listings in India
De-listing has becomes a common occurrences in India. Most multinational companies, which prefer 100% subsidiaries to listed companies, have been active in de-listing their Indian subsidiaries. Till recently, government policies prevented this route but with the opening up of 100% FDI in many sectors, they are now preferring this route. Examples are Carrier Aircon, Otis India, Philips India, Coates Viyella, Castrol India, ITW Signode, and Wartsila India which have all been de-listed in 2000-01. In the USA, 66 companies went private in 2002 as compared to 35 in 1999 according to Thomson Financial. There have been many de-listings in recent years despite strong market conditions.

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Bausch & Lomb Eye care India, a subsidiary of the US based Bausch & Lomb opticare has bought over the 20 shares of its resident shareholders to convert itself into a 100% subsidiary. The shares have been bought by Bausch & Lomb south Asia. In 1999, as a part of a global acquisition, the Luxottica group had acquired the sunglasses business of Bausch & Lomb USA, for $640 million. The takeover of the Indian operations was part of this deal. So while the eyewear business went to Luxottica, the eye care business remained with Bausch & Lomb.

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4.5 Regulatory Requirements for De-listing

We now go on to discuss the provisions of the SEBI (de-listing of securities) Guidelines 2003 (De-listing guidelines), which apply to all types of De-listing whether voluntary or compulsory. The De-listing guidelines apply to all kinds of De-listing mechanisms but more specifically to the following. y Voluntary De-listing sought by the promoters of a company. y Any scheme of arrangement consequent to which the public shareholding falls below the minimum limit required for the company to stay listed. y Promoters seeking to De-list a company from some of the stock exchanges. y Consolidation of holdings by a person in control of the management in a manner in which the public shareholdings falls below the minimum limit required for the company to stay listed. y Compulsory De-listing of companies by the stock exchange.

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4.6 Voluntary De-listing

A company would be allowed to De-list voluntarily provided it has been listed for at least 3 years prior to that date on any stock exchange. Such De-listing would be permitted by obtaining approval of the shareholders in general meeting and making a public announcement of a De-listing offer. Before making the public announcement, a merchant banker who is unrelated to the promoter shall be appointed to administer the buy-back of shares from the public for the purpose of De-listing through a public offer.

Case on Voluntary De-listing

In the first ever case of voluntary De-listing under the reverse Book-Building guidelines. Digital GolbalSoft India was de-listed using the reverse Book-Building under the de-listing guidelines. Digital India, which began in 1988 as a joint venture between Digital equipment corporation of USA (DEC) and Hinditron, later became a subsidiary of a Compaq, Digital India (renamed Digital GolbalSoft) became the subsidiary of HP. HP announced a voluntary De-listing so that Digital India could become a 100% subsidiary of the parent company.

The De-listing offer was made at a price of ` 750 per share, which nearly worked out to a 50% premium on the 26-week average price formula. The reverse Book-Building offer open in the month of jan 2004. The response from the investors was good but the most number of offers were received at ` 850 a share which amounted to almost 21% of the shareholding in the company. This meant that HP had to increase its offer price to ` 850 thereby incurring an additional cost. The final deal size worked out to about ` 1418 crore as opposed to the earlier size of around `1000 crore at India. ` 750 per share. This made it the largest exit offer till than in

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4.7 Compulsory De-listing

Stock exchanges may De-list companies which have been suspended for a minimum period of 6 months for non-compliance with the listing agreement. At the same time, the stock exchanges may assess the need for compulsory De-listing based in stipulated norms, which are listed in annexure III of the De-listing guidelines. The stock exchange shall serve a show cause notice on the company with a 15 day period for filing replies. The De-listing decisions shall be taken by a specially constituted panel of the stock exchange and notice of the termination of the listing agreement needs to be given to the company. The De-listing should also be publicized and displayed on the trading systems. The decision of the stock exchange to De-list has a right of appeal to SEBI. Where a company has been compulsorily De-listed, the promoters of such company shall Buy-Back the shares from, the public at their option, at the fair price to be determine by the arbitrator. The consideration for the shares should be settled in cash.

h Comparative of Buy-Back v/s De-listing Shares Buy-Back y Applies to equity, preference shares and specified securities. y Governed by section 77A/77B and respective guidelines by MCA/SEBI. De-listing y Applies to equity, preference shares and specified securities. y Applicable for listed companies alone. Governed by De-listing guidelines of SEBI and stock exchange requirements.

y Quantum of Buy-Back specified amounts.

restricted

to

y Quantum of shares bought back shall be residual public shareholding to enable the company to De-list. y To be used only if De-listing is contemplated.

y Buy-Back cannot be used for De-listing a company.

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5. Private Equity 5.1 What are Private Equity?

The private placement market for equity capital is quite large with several varying types of investors for with equity

appetite

investments. While venture capital and private equity funds are the two popular types of institutional equity investment, there are several other investors such as mutual funds, overseas institutional portfolio

investors (FIIs), banks, insurance companies and others who form a part of the private equity market as well. Private placements are mostly organized by investment banks acting as arrangers. Private equity has therefore thrived as a major service area over the years for investment banks in helping companies to raise equity capital privately.

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5.2 Overview of Arranger s Services for Private Equity The investment banker plays a key advisory role in formulating the transaction for raising equity and intermediates in the whole process till the transaction is closed successfully. More specifically, the role of the arranger can be broken down into the following components: y Business Advisory advise the company on the necessary steps to be taken to fine-tune the business model and make it investor friendly. Perform a study of the industry landscape and competitor analysis, product pricing strategy and SWOT analysis. y Valuation conduct a valuation of the company for the purpose of assessment of its equity value and develop a deal structure. y Deal Structure formulate the investment offering to be made by the company in line with the requirements of the company and the investment parameters that would find favor with targeted investors. Ensure that the deal structure complies with relevant regulatory framework. y Offer Literature prepare an Information Memorandum that incorporates the business plan, the transaction and investment offering. The information memorandum should incorporate the necessary corporate disclosures that are mandatory under law. In the case of listed companies it should also comply with requirements under the DIP Guidelines.

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5.3 Investment Banking Perspectives In Private Equity 1. Business Plan and Financial Model One of the initial tasks in a fund raising programme would be to map the business modal of the company and based on it, prepare a comprehensive business plan. The business plan preparation helps in understanding the business dynamics that shape the fortunes of the company. The involvement in the business plan preparation helps the investment banker in the following ways: y In Understanding the business model so that it stands a test of scrutiny by investors at a later date. y In providing the key assumptions and inputs required to construct the financial model. y To prepare the company for investor due diligence at a later date. y The most important aspect of a business plan analysis is to make an assessment of the risks that are involved in the business and how well the business plan addresses the mitigation of such risks. The financial model follows the preparation of the business plan as all the key assumptions that go into its preparation directly flow from the business plan. The financial model helps in assessment of the following parameters: y The investment plan envisaged by the company and its relevance and justification from a financial perspective. y The generation capacity for operating cash flow based on the revenue and cost model and the positive and negative cash that the operating statement throws up. It is observed in many early stage business plans that the company passes through an initial cash negative phase before its operations turn cash positive. It is critical to assess the cash negative period accurately as that much amount of external financing would be required to recapitalize the company.

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5.4 Transaction Structuring

Transaction formulation is another conceptually important aspect of raising private equity since it should meet requirements of the company and appropriate compliant with regulatory framework. Structure of the transaction primarily stem from the following: y The current status of the company in terms of its size, shareholding, listing status etc. y The amount of capital to be raised through the transaction after careful assessment of the companys requirements as per the financial model and finalization of the financial plan. y The type of instrument to be structured that would meet the requirements of the company and the investors. y The provisions of the Companies Act, Income Tax Act, SEBI Guidelines, FEMA and SCRA h Private Equity in Unlisted Companies As far as regulatory provisions are concerned, private placements in unlisted Companies Act, the memorandum and article of association, the Unlisted Public Companies rules, and FEMA. Thes regulatory provisions are not very stringent and provide a lot of legroom for transaction structuring to the investment banker. The only important consideration to be kept in mind is the pricing of a convertible instrument shall be disclosed to the shareholders at the time of approving such issue. However, it may be noted that the pricing itself is left open for the company to decide.

h PIPE Placement (Private Investment in Public Equity)

PIPE placement is identical to that described above expected that is made by a listed company. Listed companies suffer from several constraints including regulatory restrictions on transaction structure. Apart from pricing, the other issues for consideration are the takeover code of SEBI and the type of instrument. The Takeover code is triggered off if the placement amounts to offering a particular investor more than 14.99% of the post-issue capital of the

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company. In listed companies the usual practice for equity investors is to look for straight equity or a convertible with or without a warrant.

h Qualified Institutional Placement

A Qualified institutional placement is exactly similar to a PIPE transaction except that it should be made only to QIBS. Therefore, all institutional investors who do not qualify as QIBS cannot participate in such private placement. For example, unregistered foreign venture capital or private equity funds are not eligible for QIP. A QIP is very similar to a rule 144A private placement that is available in the U.S capital market. Since is made only to institutional investors, it has some relaxations as compared to a PIPE transaction.

h Comparative Analysis of QIP V/S PIPE

y Convertible issued under QIP have a currency of 60 months vis--vis 18 months in a preferential issue. This provides a staggered dilution and better investor perception and market capitalization. y There are however restrictive covenants on the number of investors and maximum allotment per investor under QIP while no such restrictions exist under preferential issue. y The cost of the QIP would be higher since there is a requirement for appointment of a merchant banker and due diligence and preparation of QIP documents.

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Mergers & Acquisition 6.1 Introduction to Mergers & Acquisition

Corporate re-organizations consisting of restructuring, mergers and amalgamations are by far, the most important business segment for investment bankers after management of public offers. Globally, in the traditional days of investment banking, this business segment, popularly known as Mergers & Acquisition, contributed to significant share of the bottom line of investment banks, sometimes becoming the largest revenue stream.

The Indian M & A scenario is much more modest both in terms of the size of the industry and the number of deals. As far as mergers were concerned, these were mostly intra-group mergers either as part of bankruptcy restructuring or tax

mergers to avail tax shields from loss making entities. The ale of Hyderabad Allwyn to the Mahindras, Voltas takeover Kelvinator, Nelco by the Tatas, the Modi group restructuring were all related to financial distress. The group company mergers of Hindustan Lever Ltd (Lakmes cosmetic division Ponds, Brooke bond and Lipton) are an example of intra-group mergers.

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Illustrative leaguage table of investment Banks in M&A in India

Investment bank Ernst & young Merrill Lynch Citigroup Ambit Co-op Finance ltd MAPE Advisory Group Morgan Stanley ICICI Securities Rabobank International Rothchild Lazard LLC ABN Amro Bank CSFB West LB AG ING Group NV KPMG International

No. of deals 13 7 5 5 4 4 3 2 2 2 2 1 1 1 1

Rank 1 2 3 4 5 6 7 8 9 10 11 12 12 14 15

Volume (US $ M) 114.74 55.01 407.52 73.67 54.88 32.70 47.53 132.88 100.02 86.72 69.2 194.67 194.67 87.02 62.68

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6.2 Rationale for Mergers and Acquisitions

Mergers and acquisition promote inorganic growth of business enterprises that can helped it to grow faster than through the organic route of asset creation. Furnished below are some of strategic objectives relating to Mergers and Acquisitions, with related example with Indian context. 1. To grow at a rate faster than an organic growth rate. An Acquisition strategy is often driven by the objective of attaining faster inorganic growth. The Nicholas Piramal group is an example which started off buying out Sumitra Pharmaceuticals. Burroughs Wellcome was bought by Glaxo. 2. To enter a new market or grow beyond a saturated market. Sometimes mergers an acquisitions help in becoming an entry strategy. The acquisitions of Tetley in UK by Tata Tea Ltd is a good case in point. Several such acquisitions of brands and product lines were seen among FMCG companies such as Coca Colas acquisition of Parles soft drink business, Sara Lees buy of Nutrines biscuit business, Modern Foods by HLL, Kwality ice-cream by HLL etc. 3. To capture forward and backward linkages in the value chain. Often group company mergers are triggered off to provide a complete value chain within the same company (known as vertical mergers). Similarly, such mergers are also possible in companies with complementary strengths. The group company mergers in the Reliance group (RIL-PEPL, RPPL, RPL) and the mergers in the Hindustan Lever Group(Brooke bond, Ponds, Lipton) are examples. 4. Bail-out mergers and acquisitions are common when a company is in trouble and seeks financial strength. For example, Centurion Banks takeover by the Rana Talwar group, Oriental Bank of Commerce Global Trust Bank are cases in point.

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6.3 Mergers and Amalgations

Mergers and Amalgation are words that are used in corporate finance parlance almost synonymously to denote integration of companies. The Dictionary of Banking and Finance defines a merger as the joining together of two or more companies. However, in the Indian context, it appear that the word merger is used in common parlance for one company blending with or getting absorbed by another while an amalgamation I used in the context of more than two companies combining together. Halsburys Laws of England consider amalgamation as a blending of two or more existing undertaking into one undertaking, the shareholders of each blending company becoming substantially the shareholders in the company, which is to carry on the blended undertaking.

Types of Mergers
1. Horizontal Mergers: A horizontal merger happens between companies engaged in the same business activity and competing with each other. These are most commonly seen in competitive industries and are similar to a bigger fish swallowing a smaller one to survive. Industry consolidation cause horizontal mergers. Examples are Novartis (Sandoz-Ciba Geigy), Glaxo-SKB, EXXON-Mobil, HP-Compaq, Daimler Benz-Chrysler, Arcelor-Mittal, Times Bank and HDFC Bank, ICICI Bank-Nedungadi Bank-Bank of Madura, Centurion Bank-Nank of Punjab, IDBI Bank-United Western Bank etc. Horizontal mergers are regulated by the government for possible monopolistic tendencies. In India, the Competition Commission of India has been setup under the Competition Act, 2002 to examine horizontal mergers as an advisory body to the government of India.

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2. Vertical Mergers: Vertical mergers happen between companies engaged in different segments of a product value chain so a to integrate the entire value chain. It is common knowledge that all the segment of a product chain do not add proportionate value. The lower ends have lesser value addition and bit goes up as the chain gets nearer to the end customer. The top end enjoy branding and visibility that make its value addition the maximum. Vertical mergers help in reaping the synergies across the value chain.

3. Conglomerate Mergers: Pure conglomerate mergers are between companies that are in diversified industries with no visible synergy. These are done basically with the intention of diversifying and derisking the expansion and growth of a corporate empire. However, conglomerate mergers are also seen in companies with related product lines or in different geographical markets.

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Framework of Amalgamations

Amalgamations

Amalgamation in the nature of Mergers

Amalgamation in the nature of Purchase

Horizontal Mergers

Vertical Mergers

Conglomerate Mergers

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Case of RIL - RPL Merger

The merger of the two companies of the Reliance group, Reliance Industries Ltd and Reliance Petroleum Ltd created history of orts. RIL is Indias biggest petrochemicals

manufacturer and RPL had the largest single location refinery in the world. The merged company at that time, ranked second in India after Hindustan Lever Ltd. In terms of market capitalization and second to Indian Oil Ltd in terms of revenue. The merged company became Indias own fully integrated energy company with operations in oil and gas exploration and production, refining and marketing, petrochemicals, and textiles. The mergers was concluded at a swap ratio of 1:11. it was a case of absorption of RPL by RIL whereby the merged company was retained as RIL.the Ambani family owned 34% of the merged RIL. The merger alo took RIL into the big league of Fortune 500 companies. Another landmark was that the combined entity had possibly the largest shareholder population in the world of about 3.5 million.

The merger justified in term of positioning the combined entity better for achieving scale, size, integration and enhanced financial strength and flexibility to purse future growth opportunities, in an increasingly globally competitive environment. This was true given the fact that though the combined RIL was big in the Indian context, it was still small compared to the global oil majors. The mergers was also strategically positioned to meet the increased investment required in the oil retailing business and the other new business initiatives of the group, notably Reliance Infocomm Ltd. RPLs huge cash kitty of about ` 5000 crore would provide support to RIL while RILs tax shelters would shield such incomes to some extent. The combined entity would also ave considerably on sales tax on inter-company sales.

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6.4 Acquisitions and Takeover

Acquisitions and Takeovers are two mechanisms by which companies change hands and through transfer of ownership of shares or transfer of control. While both these words are used almost interchangeably, there is a subtle distinction between two. Acquisition means the purchase of or getting access to significant stakes in a company, often making such acquirer a major shareholder in the company. The word Acquisition has not been defined under any Act. By a reading of its description from various non-statutory sources, its may be concluded that acquisition is the Act of acquiring ownership or property. However, the word

Takeover has more of a negative connotation that conveys the intent to displace the existing management and seek control of affairs through acquisition of shareholding or by other means. Again, it ha not been defined under any Act. The dictionary of Banking and Finance defines it as an act of buying a controlling interest in a business by buying more than 50% of its share.

h Regulation of Substantial Acquisition and Takeovers World over, substantial acquisitions and takeover are subject of regulation to protect existing managements of companies from undesirable attempts to displace them and to ensure that shareholders are protected. In India, regulation of acquisitions and takeovers is a codified law under the SEBI Act, 1992 in the form of the EBI regulation introduced in 1994. The regulation were overhauled in 1997 again in 1999. it provides a regulated procedure for substantial acquisitions and takeovers with respect to listed companies. However, the Takeover code does not apply to unlisted companies that continue to be regulated by the provision of the Companies Act. Therefore the Indian law on this subject regulates acquisitions and takeovers based on the criterion of listing tatus and not on the basis of economic power. Unlisted companies have to look for protection under the Companies Act with regards to takeovers.

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6.5 Investment Banking Perspectives in Merger and Acquisitions An investment bank play the role of a transaction adviser in an M&A transaction. This would consist of understanding the requirement of the client and structuring the transaction accordingly. The role play is two fold-(a)advising the client and the transaction and (b) facilitating the execution of the transaction. Therefore, the main areas would consist of formulation of the transaction and deal structure, valuation, identification of the other party to the transaction either from the buy side or the sell side and thereafter facilitating the transaction by hand holding the client during negotiation and until the deal is closed. Investment bank thus play a comprehensive role in mergers and acquisitions. Methods for Integration of Existing Companies

Amalgamation (through merger or purchase) y y y Integration through the asset route. Merger is the absorption of one company by another. Amalgamation can be either accomplished through a purchase of business undertaking of the transferor company. Involves transfer of assets from the transferor to the transferee. Regulated by section 391395 of the Companies Act.

Acquisition/Takeover y It is a process of integration at the shareholders level of shareholding. Does not involves transfer of assets or liabilities. No change in the balance sheet of the company. Acquisition need not be to get controlling interest or to be in charge of day-to-day management . it can be for a strategic reasons. Takeover is a term used to denote a hostile acquisition wherein the acquirer aims to get management control.

y y y

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Case of INDAL
This was largest ever all-cash buyout takeover in corporate India. Hindalco, part of the Aditya Birla Group, acquired down-stream aluminimum major, Indian Alumimimum (Indal). The acquisition deal, which was announced in march 2000, involved a staggering price of ` 1008 crore for a 74.62% stake in Indal. The deal was structured in two parts consisting of a buy-out and an open offer. The first part of the deal, which involved the buy-out of Alcan (the Canadian parent company) in Indal through transfer of 54.62% stake of Alcan to Hindalco, was completed immediately. The second part, for the rest of the 20% stake, for which an open offer was announced, had to be completed by the end of June 2000. The entire acquisition was funded from the companys own internal accrual, investments and liquid funds. The company had liquid funds and investments aggregating ` 1200 crore as against the aggregate cost of ` 1008 crore required for financing the acquisition. Even after such a huge drain on cash, the residual debt-equity ratio of Hindalco was 0.2, which was well below the industry average. The company had made it clear that it did not propose to raise any debt or issue fresh equity for this purpose. The Takeover by Hindalco came close on the heels of an earlier unsuccessfully bid by Sterlite Industries to acquire Indal during which time, Alcan defended its 34% stake in Indal successfully. This was subsequently consolidated to 54%. However, a subsequent refocus in strategy globally by Alcan in favor of up-stream products led to the sell-out of Indal to Hindalco. For hindalco, it made perfect business sence because while it was Indias largest integrated aluminimum company, Indal was a market leader in alumina and down-stream product.

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Conclusion
Here by I conclude that, the term Investment Banking is the movement of financial resources from those who have them to those who need them. Investment bankers help companies to raise funds from the public or private institutions. Its also gives guarantee to the company for the minimum subscription of their Initial Public Offer (IPO) by way of underwriting. Investment banking also plays an important role in Issue Management. By preparation of prospectus and other information relating to the issue, determining the financial structure, tie up financers and final allotment and refund of the subscription. Private placements are mostly organized by investment banks acting as arranger. Private equity has therefore thrived as a major service area over the years for investment banks in helping companies to raise equity capital privately. Mergers and Amalgamations are by far, the most important business segment for investment bankers after management of public offers. Globally, in the traditional days of investment banking, this business segment, popularly known as Mergers & Acquisition, contributed to significant share of the bottom line of investment banks, sometimes becoming the largest revenue stream.

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