Need for Finance in Business
Businesses require finance right from their inception for:
- Working Capital: Payments for raw materials, salaries, and daily operations.
- Fixed Capital Expenditure: Investments in machinery, buildings, or expansion.
Example: Idea Cellular entered the Indian capital market to fund its expansion.
Raising Funds
- Short-Term Needs: Managed through money markets.
- Long-Term Needs: Raised through bonds and equity.
- Methods: Private Placement (selling to select groups) and Initial Public Offer (IPO - first-time public offer).
Financial Market: A marketplace where financial assets like stocks and bonds are created and exchanged. It links savers (households) and investors (businesses) by mobilizing funds.
Functions of Financial Markets
- Mobilization of Savings: Transfers surplus funds from individuals to productive investments.
- Facilitating Price Discovery: Prices are determined by the interaction of supply (households) and demand (businesses).
- Providing Liquidity: Ensures easy buying and selling so assets can quickly convert to cash.
- Reducing Transaction Costs: Provides a common platform, saving time, effort, and money.
Mechanism: Funds are allocated either via Banks (intermediaries) or Financial Markets (direct investment in shares/debentures).
Money Market
Short-term funds with maturity up to one year. Low-risk, unsecured, and highly liquid instruments. Participants include RBI, commercial banks, large corporate houses (e.g., Tata Motors), and mutual funds.
Capital Market
Long-term funds (Debt & Equity). Channels savings into economic growth. Components include development banks and stock exchanges.
| Basis | Money Market | Capital Market |
|---|---|---|
| Participants | RBI, Banks, Financial Institutions. Individuals participate less. | Financial institutions, banks, corporates, foreign & retail investors. |
| Instruments | T-Bills, Commercial Paper, Call Money. | Equity shares, Debentures, Bonds. |
| Investment Outlay | Large sums (High value instruments). | Small outlays (Low denominations like Rs 10). |
| Duration | Up to 1 year. | Medium and long-term. |
| Liquidity | Highly liquid (DFHI arrangements). | Generally liquid via Stock Exchanges. |
| Safety | Safer (low default risk). | Higher risk (fraud potential, market performance). |
| Expected Return | Lower returns. | Typically higher (Capital gains & dividends). |
Crucial for transferring funds from savers to businesses for new projects or expansion. Key methods of floatation include:
- Offer through Prospectus: Advertising widely to attract public subscription. (Ex: Zomato IPO).
- Offer for Sale: Selling in bulk to brokers who then resell to the public.
- Private Placement: Allotting securities to institutional investors/select individuals. (Ex: Startups like Paytm).
- Rights Issue: Existing shareholders get the right to buy new shares in proportion to holdings. (Ex: Reliance Industries).
- e-IPOs: Issuing shares through online stock exchange systems. (Ex: LIC IPO).
Where existing securities are traded. Provides liquidity and determines market prices.
Functions of Stock Exchange
- Liquidity & Marketability: Continuous market for existing securities. (Ex: Trading Infosys on NSE).
- Pricing of Securities: Based on demand and supply. (Ex: Tata Motors price fluctuations).
- Safety of Transactions: Membership is regulated by SEBI to prevent fraud.
- Economic Growth: Channels savings into productive investments.
- Equity Cult: Spreading share ownership to the public (Ex: Zomato IPO awareness).
- Speculation: Controlled speculation within legal limits for market liquidity.
Traditional (Open Outcry) has been replaced by Screen-Based Electronic Trading. Benefits: Transparency, Efficiency, and Wider Access.
Steps in the Settlement Process
- Find a Broker: Approach a registered broker and sign an agreement (PAN, Bank details required).
- Open Accounts: Open a Demat Account (for shares) and a Bank Account (for money).
- Placing an Order: Give instructions to the broker (What, how many, at what price).
- Order Execution: Broker matches the order on the exchange electronically.
- Contract Note: Issued within 24 hours showing trade details and brokerage.
- Settlement (T+2): Deal is completed 2 days after the trade. Pay-in (delivering shares/money) must happen before this.
Dematerialisation: Converting physical share certificates into electronic form to avoid theft, forgery, and delays.
Key Entities
- Depository: Electronic storage bank for securities. Two in India: NSDL (First/Largest) and CDSL (Started by BSE/Bank of India).
- Depository Participant (DP): The link between you and the depository (Ex: HDFC Bank, ICICI Direct).
Process: Hand over physical shares to DP → DP converts them electronically → Settlement on T+2 basis.
NSE (National Stock Exchange)
Founded 1992. Fully automated. Segments: Wholesale Debt Market (Govt bonds) and Capital Market (Equity).
BSE (Bombay Stock Exchange)
Established 1875. First stock exchange in Asia. Lists about 5000 companies, largest market cap in India.
OTCEI (Over The Counter Exchange)
Platform for small/medium companies to raise finance. Fully computerized model similar to NASDAQ.
Established April 12, 1988. Statutory status in 1992. Mumbai HQ.
Reasons for Establishment
To curb malpractices like price rigging and fraud (Ex: Harshad Mehta Scam 1992) and restore investor confidence.
Functions of SEBI
| Function Category | Key Activities |
|---|---|
| Regulatory | Registration of brokers/mutual funds, regulating takeovers, conducting inspections, levying fees. |
| Development | Training intermediaries, conducting research, promoting electronic platforms. |
| Protective | Prohibiting fraud/price rigging, controlling insider trading, protecting investor interests, promoting fair practices. |
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