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Merchant Banking in India

IndianMoney.com Research Team | Updated On Tuesday, November 13,2018, 01:05 PM

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Merchant Banking in India

 

 

The word merchant bank does not have a fixed definition as this term is used differently in different countries. In United States these are called as “Investment Banks” and in UK they are called as “accepting and issuing houses”. The notification of Ministry Of Finance in India defines Merchant Banker as “any person who is engaged in the business of issue management either by making arrangements regarding selling, buying, or subscribing to the securities as manager, consultant, adviser in relation to such an issue management”. In general the merchant banks are the financial institution which provides financial services, solutions, & advice to corporate houses. Some of the world famous merchant banks are Goldman Sachs, Credit Suisse & Morgan Stanley etc. In India there are many banks which are into the field of merchant banking some of the banks are ICICI, State Bank Of India, Punjab National Bank etc.

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What is merchant banking?

A merchant banking is an institution that deals mostly in international finance, business loans for companies and underwriting. These banks are experts in international trade, which makes them specialists in dealing with multinational corporations.

History of Merchant Banking

The history of merchant bank can be dated back to 17th & 18th centuries when it first started in Italy & France. This was started by the Italian grain merchants. It comprised of merchant bankers who intermediated or assisted in financing the transactions of other traders and their own trade too. With the passage of time the practices in evolved and the merchant banking in the modern era started from London where the merchants started to finance the foreign trade through acceptance of bill. Later they extended their services to the governments of under developed countries to raise the long term funds through the floatation of bonds in the London money market. Over the period they extended their services to loan syndication, underwriting the issues, portfolio management etc. The post war period witnessed huge increase in the merchant banking activities.

Services of merchant banking:

Listed below are some of the services provided by the merchant bankers to customers:

  • Issue management: This service deals with issuing equity shares, preference shares, and debentures that acts as a partner for a high net-worth client by issuing shares and debentures to the general public.
  • Portfolio counseling: It is a service where a merchant bank invests in different kinds of financial instruments on behalf of clients as well as manages the whole investment.
  • Project counseling: Project counseling also involves filling up application forms and trying to fund projects through banks or financial institutions.
  • Loan syndication: In this case the bank provides term loans for the projects that need money.
  • Underwriting services: This is one of the main services offered by merchant bankers. It is a guarantee that states that if the subscription is below a specified level, then the merchant banker has to subscribe to the said amount.

Merchant Banking in India

Merchant banking activity was officially commenced into the Indian capital Markets when Grindlays bank received the license from reserve bank in 1967. Grindlays started its operations with management of capital issues, recognized the requirements of upcoming class of Entrepreneurs for diverse financial services ranging from production planning and system design to market research. Apart from this it also provides management consulting services to meet the Requirements of small and medium sector rather than large sector.

  • Citibank Setup its merchant banking division in Indian in 1970.
  • Indian banks Started banking Services from 1972.
  • State bank of India started the merchant banking division in 1972
  • After that there were many banks which set up the merchant bank division such as;
  • ICICI
  • Bank of India
  • Bank of Baroda
  • Canara Bank
  • Punjab National Bank
  • UCO Bank

The Merchant Bank got more importance in the year 1983 when there was a huge boom in the primary market where the companies were going for new issue. Merchant banking activities are organized and undertaken in several forms. Commercial banks and foreign development finance institutions have organized them through formation divisions, nationalized banks have formed subsidiary companies, share brokers and consultancies constituted themselves into public limited companies or registered themselves as private limited Companies. Some merchant banking companies have entered into collaboration with merchant bankers of foreign countries abroad with several branches.

Functions of merchant bankers:

The important functions of merchant banking are discussed below:

  • Raising funds for clients: Merchant banking helps clients raise funds by issuing shares, debentures and bank loans. This helps clients raise funds both in the domestic as well as the international market.
  • Handling government consent for industrial projects: Any business requires Government permission for starting a project. Companies also require permission for expansion or modernization activities. Merchant banks do all this for their clients.
  • Brokers in stock exchange: The merchant bankers act as brokers of a stock exchange. These brokers buy and sell shares on behalf of their clients.
  • Advice on expansion and modernization: The banks have executives who advice their customers on the expansion and modernization of businesses. They give expert advice on mergers and acquisitions and takeovers.
  • Managing public issue of companies: Merchant bankers advice and manage public issues of companies.
  • Services to private sector units: merchant banks offer many services to public sector units and public utilities. They help in raising long term capital, marketing of securities and foreign collaboration and also managing long term finance.
  • Special assistance to small companies: Merchant banks advice small companies on business opportunities, government benefits, incentives and policies.
  • Management of interests and dividends: Merchant bankers help their clients in the management of interest on debentures and dividends on shares. They also provide expert advice to the client on the rate of dividend and timing.
  • Money market operation: Merchant bankers deal with short term money market instruments like commercial paper issued by large corporate firms, government bonds, and treasury bills issued by the RBI and so on.
  • Leasing services: Merchant bankers also help in leasing services where the lessor allows the use of specific assets to the lessee for a certain period on behalf of rentals or fees.

See Also: What is SEBI (Securities Exchange Board of India)?

Merchant Bankers in India

As of now there are 135 Merchant bankers who are registered with SEBI in India. It includes Public Sector, Private Sector and foreign players some of them are:-

Public Sector Merchant Bankers

  • SBI capital markets ltd
  • Punjab national bank
  • Bank of Maharashtra
  • IFCI financial services ltd
  • Karur Vysya bank ltd,
  • State Bank of Bikaner and Jaipur

Private Sector Merchant Bankers

  • ICICI Securities Ltd
  • Axis Bank Ltd (Formerly UTI Bank Ltd.)
  • Bajaj Capital Ltd
  • Tata Capital Markets Ltd
  • ICICI Bank Ltd
  • Reliance Securities Limited
  • Kotak Mahindra Capital Company Ltd
  • Yes Bank Ltd.

Foreign Players in Merchant Banking

  • Goldman Sachs (India) Securities Pvt. Ltd.
  • Morgan Stanley India Company Pvt. Ltd
  • Barclays Securities (India) Pvt. Ltd
  • Bank Of America, N.A
  • Deutsche Bank
  • Deutsche Equities India Private Limited
  • Barclays Bank Plc
  • Citigroup Global Markets India Pvt. Ltd.
  • DSP Merrill Lynch Ltd
  • FEDEX Securities Ltd

Merchant Bank Vs Commercial Bank

  • Commercial banks are catering to the needs of the common man whereas the merchant banks cater to the needs of corporate firms.
  • Any person can open a bank account in the commercial bank whereas it cannot be done in the merchant bank. 
  • Merchant bank deals with equities whereas the commercial bank deals with debt related finance which includes the activities like credit proposals, loan sanctions etc.
  • The merchant bank is exposed to the market so it is more exposed to risk as compared to commercial banks.
  • Merchant bank is related to the primary market whereas the commercial markets are more into secondary markets.
  • Merchant banking activities are capital restructuring, underwriting, portfolio management etc whereas the commercial banks play the role of financers.
  • The activities of merchant banks have a direct impact on the growth and liquidity of money markets.   
  • Merchant Bank is management oriented whereas the commercial banks are asset oriented
  • The commercial banks generally avoid risks and on the other hand the merchant banks are willing to take the risks.

Services Provided by Merchant Banks

Below mentioned are the major services offered by Merchant Bankers;

  • Project Counseling
  • Management of debt and equity offerings
  • Issue Management
  • Managers, Consultants or Advisers to the Issue
  • Underwriting of Public Issue
  • Portfolio Management
  • Restructuring strategies
  • Off Shore Finance
  • Non-resident Investment
  • Loan Syndication
  • Corporate Counseling and advisory services
  • Placement and distribution

Project Counseling

Project counseling comprises preparation of project reports, deciding upon the financing pattern to finance the cost of the project and appraising the project report with the financial institutions and banks. It also includes filling up of application forms with significant information for obtaining funds from financial institutions and obtaining government approval.

Management of Debt and Equity offerings

This is the major function of the merchant banker. They assist the companies in raise funds from the market. The main areas of work in this regard include;

  • Instrument designing
  • Pricing the issue
  • Registration of the offer document
  • Underwriting support
  • Marketing of the issue
  • Allotment and refund
  • Listing on stock exchanges.

Issue Management

Management of issue involves marketing of corporate securities like equity shares, preference shares and debentures or bonds by offering them to public. Merchant banks act as an intermediary to transfer capital from those who own it to those who need it. After taking action as per SEBI guidelines, the merchant banker organizes a meeting with company representatives and advertising agents to finalize arrangements relating to date of opening and closing of issue, registration of prospectus, launching publicity campaign and fixing date of board meeting to approve and sign prospectus and pass the necessary resolutions. Pricing of issues is done by the companies in consultant with the merchant bankers.

Managers, Consultants or Advisers to the Issue

The managers to the issue assist in the drafting of prospectus, application forms and completion of formalities under the Companies Act, appointment of Registrar for dealing with share applications and transfer and listing of shares of the company on the stock exchange. Companies can appoint one or more agencies as managers to the issue.

Underwriting of Public Issue

Underwriting is a guarantee given by the underwriter that in the occurrence of under subscription, the amount underwritten would be subscribed by him. Banks/Merchant banking institutions cannot underwrite more than 15% of any issue.

Portfolio Management

Portfolio indicates investment in different types of securities such as shares, debentures or bonds issued by different companies. Portfolio management means maintaining proper combinations of securities in a mode that they give maximum return with minimum risk.

Restructuring strategies

A merger is a blending of two companies into a single company where one survives and other loses its corporate existence. A takeover is the purchase by one company obtaining controlling interest in the share capital of another existing company. Merchant bankers act as the middlemen in setting negotiation between the two companies. Merchant bankers assist the management of the client company to successfully restructure various activities such as mergers and acquisitions, divestitures, management buyouts, joint venture among others.

Off Shore Finance

The merchant bankers help their clients in the following areas involving foreign currency.

  • Long term foreign currency loans
  • Joint Ventures abroad
  • Financing exports and imports          
  • Foreign collaboration arrangements

Non-resident Investment

The services of merchant banker includes investment advisory services to NRI in terms of classification of investment opportunities, selection of securities, investment management, and operational services like purchase and sale of securities.

Loan Syndication

Loan syndication is an assistance provided by merchant bankers to get mainly term loans for projects. Such loans may be obtained from a single development finance institution or a syndicate or consortium. Merchant bankers help corporate clients to raise syndicated loans from banks and other financial institutions.

Corporate Counseling and advisory services

Corporate counseling involves the entire field of merchant banking activities such as project counseling, capital restructuring, public issue management, loan syndication, working capital, fixed deposit, lease financing acceptance credit, etc. Merchant bankers also provide customized solutions to their client’s financial problems. Apart from this they also explore the refinancing alternatives of the client, and evaluate cheaper sources of funds. Rehabilitation and turnaround management is another area of advice. A merchant banker advises the client on different hedging strategies and suggests the appropriate strategy.

Placement and distribution

The merchant banker helps in distributing different securities like equity shares, debt instruments, mutual fund products, fixed deposits, insurance products, commercial paper, etc. The distribution network of the merchant banker can be classified as institutional and retail in character. The institutional network consists of mutual funds, foreign institutional investors, private equity funds, pension funds, financial institutions etc. The size of such a network signifies the wholesale reach of the merchant banker. The retail network is purely depends on networking with investors.

Difference between merchant banking and investment banking:

  • The merchant banks are engaged in international financing activities whereas the investment banks are concerned with underwriting and issuance of securities.
  • A merchant bank refers to a banking institute whose work is concerned mainly with international finance. The merchant bankers work is related to corporate investment, trade finance and real estate investment. The main functions of merchant banks are issue management, portfolio management and corporate counselling, whereas an investment bank is a banking institution that deals with established firms and helps them gain their long-term capital requirement, by acting as an intermediary between the company and investors.
  • Merchant banks provide trade financing facilities to their clients. But in case of investment banks, there are only a few banks or institutions that provide trade financing services to clients.
  • An investment bank is a fee based institution that earns income from interest, lease rentals and services provided. A merchant bank is fee based and fund based as it provides banking, advisory and custodial services to its clients.
  • An investment bank works with large corporations whereas a merchant bank deals with the companies which are not so big.

Importance of merchant banking:

The importance of merchant banks is as follows:

  • Project advisory services: When a merchant bank works with clients, they are responsible for preparing a project report for review.  The information that is contained in these reports usually includes the company’s capital structure, a profitability analysis, and a liquidity analysis along with technical and economic parameters. 
  • Corporate counselling: The merchant banks are responsible for customizing financial solutions for client review. The role that they play is to assess and provide the counselling that is needed in order to make a substantial profit. 
  • Security placement: They can assist clients in the distribution of bonds, equity shares, and popular insurance products. Once the merchant banker meets the client, they assist on placement of different types of securities.

Objectives of merchant banking:

The main objectives of merchant banking are as follows:

  • Providing long-term funds to projects or companies.
  • Portfolio management
  • Underwriting
  • Corporate advisory and issue management
  • Deciding capital structure

Project counselling like loan syndication, project appraisal and arrangement of working capital

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