Paper 11
Capital Market Analysis & Corporate Laws
Test Paper – III/11/CMC/2008/T-2
GROUP A
Ans. To Q. 1(A)
A Capital Market can be defined as the market in which financial assets are created or transferred. The capital market is designed to finance the long-term investments. The transactions taking place in this market will be for periods over a year. The Capital Market is broadly classified as Primary market and Secondary Market. The Primary market is the segment in which new issues are made whereas secondary market is the segment in which outstanding securities are traded. It is for this reason that the Primary Market is also called New issues Market or IPO/FPO market and the Secondary market is
called Stock Market.
Stock Market in India
From scattered and small beginnings in the 19th Century, India’s stock market has risen to great
heights. In 1990, we had 19 stock exchanges in the country. There were around 6,000 listed
companies and the invested population stood around 15 million. You might be interested in
knowing more about the growth of stock market in India. What functions does it perform?
What is the form of organization of stock exchange in India? How are they administered? What
is the trading system followed on these exchanges? We shall discuss these and other questions
in the following sections
The history of stock exchanges shows that the development of joint stock enterprise would never have reached its present stage but for the facilities which the stock exchanges provide for dealing with the securities. Stock exchanges have a very important function to fulfill in the country’s economy. The stock exchange is really an essential pillar of the private sector corporate economy. It discharges essential functions in the process of capital formation and in raising resources for the corporate sector
NEED FOR STOCK MARKET
1. It helps in the capital formation in the economy of the country
2. It facilitates and maintains active trading.
3. It provides liquidity to financial assets.
4. It also helps in price discovery process
Functions of Stock Market :
a) To provides a market place for purchase and sale of securities:- It ensures the free transferability of securities which is the essential basis for the stock enterprise system. The private sector economy cannot function without the assurance provided by the exchange to the owners of shares and bonds that they can be sold in the market at any time. At the same time, those who invest their surplus funds in securities for long-term capital appreciation or for speculative purpose can also buy scripts of their choice in the market.
b) To provides the linkage between the savings in the household sector and investment in corporate economy:- It mobilizes savings, and channelize them in the form ofsecurities into those enterprises which are favored by the investors on the basis of such criteria as future growth prospects, good returns and appreciation of capital.
c) To providing a market quotation of the prices of shares and bonds:- a sort of collective
judgement simultaneously reached by many buyers and sellers in the market-the stock exchange serves the role of barometer, not only of the state of health of individual companies, but also of the nation’s economy. The changes in share prices are brought about by a complex set of factors, all operating in the market simultaneously. Share values as a whole are subject to secular trends set by the economic programme of the nation, and governed by factors like general economic situation, financial and monetary policies, tax changes, political environment, international - economic and financial development, etc.
Ans. To Q. No.1 (b)
σp = 0.52 X 0.62 + 2 X .5 X .05 X .6 X .4 X 25 + 52 X .42
= 0.09 + 0.03 + 0.04
= 0.16
= 0.4
Ans. To Q. No. 2 (a)
Depository Participant (DP):- DP is an agent of the depository and is authorised to offer depository services to investors. According to SEBI guidelines, financial institutions, banks, custodians, stockbrokers, etc. can become Depository Participants in a depository. You can open your securities account through a DP and start dematerialising your securities into your account and / or start trading in the electronic mode. The balances in your account are maintained with the depository and are available through the DP. Your DP will intimate you the status of your holdings or transactions from time to time.
Benefits of DP:- As an investor you will enjoy many benefits if you buy and sell in the depository mode. Some of the benefits are –
• No bad deliveries
• Reduced paper work
• No risk of loss, mutilation or theft of share certificates.
• Faster settlement
• No stamp duty for transfer of shares
• Low transaction cost for buying and selling in the dematerialised segment
• Low interest rates on loans granted against pledge of dematerialised securities by banks
• Low margin on securities pledged with banks
• Pay-In and pay-out of securities on the same day
• Increase in the liquidity of your securities because of faster transfer and registration of securities in your account.
• Instant disbursement of non-cash corporate action benefits like bonus and rights into your account. Regular account status updates available from the DP at any point of time
Ans. To Q. No. 2 (b)
Working notes
(1) The number of days to expiration must be converted into years by dividing by 365
Thus t = 120/365 = 0.329
(2) The simple annual interest must be converted to the Black - Scholes continuously compounded
equivalent using the relationship that 1+R = er, making r = In (1+R).
Now r = In (1.06) = 0.0583
Now we can find the values of d1and d2 as follows
d2 = In(80 / 85) (0.0583 0.5x0.3 )X0.329 = -0.327
(0.3)(0.329 )
The next step is to look up the N(d1) and N(d2) values in a table of such Values. Note that N(d1) =
N (-0.155) and N(d2) = (-0.327) represent areas under a standard normal distribution function.
From Table given at the end of the book, we see that the value of d{ = 0.155 implies the area under
the normal curve to the left of -0.155, which is approximately (interpolating from the table) .438.
The value of N(d2) is found in a similar fashion to be approximately 0.372.
Now, we can insert the above values in Black - Scholes formula, to obtain the value of the stock
option. = 80X.438Xe(-00583x329)X .372 = Rs. 4.03
Ans. To Q. No. 4 (a)
Stock invest:- In case of oversubscription of issue, there have been inordinate delay in refund of excess application money and large amounts of investors’ funds remain locked up in companies for long periods affecting the liquidity of the investing public. To overcome the said problem a new instrument called ‘stock invest’ is introduced. The Stock invest is a non-negotiable bank instrument issued by the bank in different denominations. The investor who has a savings or current account with the bank will obtain the stock invest in required denominations and will have to enclose it with the share/debenture application. On the face of the instrument provides for space for the investor to indicate the name of the issues, the number and amount of shares/ debentures applied for and the signature of the investor. The stock invests issued by the bank will be signed by it and the date of issue will also be indicated on the instruments. Simultaneously with the issue of stock invest, the bank will mark a lien for the amounts of stock invest issued in the deposit account of the investor. On full or partial allotment of shares to the investor, the Registrar to issue will fill the columns of stock invest indicating the entitlement for allotment of shares/debentures, in terms of number, amount and application number and send it for clearing.
The investor’s bank account would get debited only after the shares/debentures allotted. In respect of unsuccessful applicants, the funds continue to remain in their account and earn interest if the account is a savings or a term deposit. The excess application money of partly successful applicants also, will remain in their accounts. There will be lien on the funds for a maximum of four months period. The stock invest is intended to be utilised only by the account holders and the stock invest should not be handed over to any third party for use. In case the cancelled/partly utilised stock invest is not received by an investor from the registrar, lien will be lifted by the issuing branch on expiry of four months from the date of issue against an indemnity bond from the investor.
Ans. To Q. No. 4 (b)
Green Shoe Option:- Green shoe option denotes “ an option of allocating shares in excess of the shares included in the public issue. It is an option that allows the underwriting of an IPO to sale additional shares if the demand is high. It can be understood as an option that allows the underwriter for a new issue to buy and resell additional shares up to a certain pre-determined quantity. Looking to the exceptional interest of investors in terms of over subscription of the issue certain provisions are made to issue additional shares or bonds. In common parlance, it is retention of over subscription to a certain extent. It is a special feature of EURO issues. In the Indian context, Green-Shoe issue is limited connotation. SEBI guidelines governing public issues certain appropriate provisions for accepting over subscription subject to ceiling, say 15% of the offer made to public. In certain cases, the Green Shoe option can be even more than 15%. The Green Shoe option facility would bring in price stability of initial public offerings.
Ans. To Q. No. 4 (d)
Fringe Market :- The fringe market is a disorganised money market, deemed to include everything that is outside the scope of the money market (i.e., the institutional money market). The fringe market includes activities like the Inter-Corporate Deposit (ICD) market, small scale trade financing, financing of investments in the stock market, discounting and lending against lOUs or promissory notes, etc. The ICDs market is the most visible feature of the fringe market. As its name indicates it essentially involves short-term borrowing and lending of funds amongst the corporations. Generally the fringe market exist, wherever the main borrowers and lenders of the funds are based, i.e., at the location of the industrial, corporate and trading establishments. The interest rates at which the funds can be lent in the fringe market are generally higher than those operating in the money market. The risk level of the fringe market is higher too - the people who borrow at exorbitant rates are the ones who are most likely to default.
Ans. To Q. No. 4 (e)
Intraday Price Bands:- Daily price bands are applicable on securities as below:
• Daily price bands of 2% (either way) on securities as specified by the Exchange.
• Daily price bands of 5% (either way) on securities as specified by the Exchange.
• Daily price bands of 10% (either way) on securities as specified by the Exchange.
• Price bands of 20% (either way) on all remaining scrips (including debentures, warrants, preference shares etc).
• No price bands are applicable on: scrips on which derivative products are available or scrips included in indices on which derivative products are available..
Ans. To Q. No. 4 (c)
CHAOS THEORY :- At recent finance conferences, a few researchers have presented papers on chaos theory and its application to the stock market. In physics, chaos theory is growing field of study examining instances in which apparently random behaviour is, in fact, quite systematic or even deterministic. Scientists apply this theory to weather prediction, population growth estimates, and
fisheries biology.
As an example of the latter application, a given volume of ocean water, left free from human interference, will not necessarily reach an equilibrium population of the various species that inhibit it. As fish grow, they consume the smaller fry (of their own or a different species ) in increasing numbers. Fewer younger fishes are left to mature ; this, coupled with the natural death of the older fish, eventually results in a sudden drastic reduction in fish population, causing dismay to fishermen and excitement in the local media. At the same time, it results in reduced predation and food competition by the surviving fry, so the population begins to grow dramatically, and the cycle continues. Interactions between species add complexity to the process.
Investment analysts have sought a pattern in stock market behavior since the origin of the exchanges. Much remains unknown about how security prices are determined, and chaos theory may eventually provide some potential answers. If the apparent randomness of security price changes, can be shown to be nonrandom, much of the theory of finance
would need revision
GROUP –B
Ans. to Q. No.6 (d)
According to section 2 (13) of the Companies Act 1956, a director includes any person occupying the position of a director, by whatever name called. Thus it is clear that merely the designation as a director does not mean that the person is indeed a director. What really matters is the functions discharged by him. If a person is discharging the duties and functions of a director, he will be called as a director even though his designation may be different. Thus a person who has control over the direction, conduct and management of the business of the company is the director of the company. The Companies Act also provides that only individuals can be directors. A body corporate, association of persons or firm cannot function as director of a company. A company is an artificial person created by law. There is
no physical existence to a company. It doesn’t have a body or soul and hence cannot act on its own. Hence SBC ltd. cannot be appointed as a Director of Telco Ltd.
Ans. to Q. No. 8
(a) “consumer” means any person who—
(i) buys any goods for a consideration which has been paid or promised or partly paid and partly promised, or under any system of deferred payment and includes any user of such goods other than the person who buys such goods for consideration paid or promised or partly paid or partly promised, or under any system of deferred payment when such use is made with the approval of such person, whether such purchase of goods is for resale or for any commercial purpose or for personal use;
(ii) hires or avails of any services for a consideration which has been paid or promised or partly paid and partly promised, or under any system of deferred payment and includes any beneficiary of such services other than the person who hires or avails of the services for consideration paid or promised, or partly paid and partly promised, or under any system of deferred payment, when such services are availed of with the approval of the first-mentioned person whether such hiring or availing of services is for any commercial purpose or for personal use;
“person” includes—
(i) an individual;
(ii) a Hindu undivided family;
(iii) a company;
(iv) a firm;
(v) an association of persons or a body of individuals, whether incorporated or not, in India or outside India;
(vi) any corporation established by or under any Central, State or Provincial Act or a Government company as defined in section 617 of the Companies Act, 1956 (1 of 1956);
(vii) any body corporate incorporated by or under the laws of a country outside India;
(viii) a co-operative society registered under any law relating to cooperative societies;
(ix) a local authority;
(x) every artificial juridical person, not falling within any of the preceding sub-clauses;
(b) Appointment by Central Government :- As per section 408, the Central Government can appoint such number of directors on the Board of the company as the Tribunal may order in writing, to safeguard the interests of the company or its shareholders. The appointment shall be for not more three years on any one occasion. The purpose of this appointment is to prevent the affairs of the company from being conducted either in the manner
a) Which is oppressive to any members of the company, or
b) Which is prejudicial to the interests of the company or to public interest
The Tribunal may pass the above order on a reference made to it by the Central Government or on the application of,
a) Not less than 100 members of the company or
b) Members of the company holding not less than 1/10th of the total voting power therein.
Any director appointed by the Central Government shall not be required to hold any qualification shares nor shall his period of office be liable to termination by retirement of directors by rotation. Any such director may be removed by the Central Government from his office and another person may be appointed in his place.
Ans. to Q.No.9
(a) DEMERGER:- Demerger is the converse of a merger or acquisition. It describes a form of restructure in which shareholders or unit holders in the parent company gain direct ownership in a subsidiary (the ‘demerged entity’). Underlying ownership of the companies and/or trusts that formed part of the group does not change. The company or trust that ceases to own the entity is known as the ‘demerging entity’. If the parent company holds a majority stake in the demerged entity , the resulting company is referred to as the subsidiary. In a market of falling prices, mergers and IPOs are less popular, and the merchant banks who earn their fees from corporate activity will start to look at demerger possibilities for their clients.
(b) Sweat Equity Shares: A company may issue Sweat Equity Shares as per the provisions of Section 79 A of the Companies [Amendment] Act 1999. The relevant provisions are as follows.
i. A company may issue Sweat Equity Shares of a class of shares already issued if the following conditions are fulfilled, namely -
The issue of these shares is authorized by a special resolution passed by the company in the general meeting.
The resolution shall specify the number of shares, current market price, consideration if any and the class or classes of directors or employees to whom such equity shares are to be issued.
Not less than one year has, at the date of the issue elapsed since the date on which the company was entitled to commence the business.
The sweat equity shares of a company whose equity shares are listed on a recognized stock exchange are issued in accordance with the regulations made by the Securities Exchange Board of India in this behalf. However in the case of a company whose equity shares are not listed on any recognized stock exchange, the sweat equity shares are issued in accordance with the guidelines as may be prescribed.
(c) Independent Director:- An independent director of a company is a non-executive director who :
1. Apart from receiving director’s remuneration, does not have any material pecuniary relationships or transactions with the company, its promoters, its senior management or its holding company, its subsidiaries and associated companies
2. Is not related to promoters or management at the board level, or one level below the board (spouse and dependent, parents, children or siblings)
3. Has not been an executive of the company in the last three years.
4. Is not a partner or an executive of the statutory auditing firm, the internal audit firms that are associated with the company, and has not been a partner or an executive of any such firm for the last three years. This will also apply to legal firm and consulting firm that have a material association with the entity.
5. Is not a significant supplier, vendor or customer of the company.
6. Is not a substantial shareholder of the company, i.e. owning 2 percent or more of the block of voting shares;
7. Has not been a director, independent or otherwise of the company for more than three terms of the three years each (not exceeding nine years in any case);
An employee, executive director or nominee of any bank, financial institution, corporations or trustees of debenture and bond holders, who is normally called a ‘nominee director’ will be excluded from the pool of directors in the determination of the number of independent directors. In other words, such a director will not feature either in the numerator or the denominator.
Moreover, if an executive in, say, Company X becomes an non-executive director in another Company Y, while another executive of Company Y becomes a non-executive director in Company X, then neither will be treated as an independent director.
The committee recommends that the above criteria be made applicable for all listed companies, as well as unlisted public limited companies with a paid up share capital and free reserves of Rs.10 crore and above or turnover of Rs.50 crore and above with effect from the financial year beginning 2003.
Thursday, July 8, 2010
Answers to CC Paper Final Group 3 Paper 11 T1
Paper 11
Capital Market Analysis & Corporate Laws
Test Paper – III/11/CMC/2008/T-1
GROUP -A
Ans. To Q. 1(A)
A Capital Market can be defined as the market in which financial assets are created or transferred. The capital market is designed to finance the long-term investments. The transactions taking place in this market will be for periods over a year. The Capital Market is broadly classified as Primary market and Secondary Market. The Primary market is the segment in which new issues are made whereas secondary market is the segment in which outstanding securities are traded. It is for this reason that the Primary Market is also called New issues Market or IPO/FPO market and the Secondary market is
called Stock Market.
Stock Market in India
From scattered and small beginnings in the 19th Century, India’s stock market has risen to great
heights. In 1990, we had 19 stock exchanges in the country. There were around 6,000 listed
companies and the invested population stood around 15 million.
The history of stock exchanges shows that the development of joint stock enterprise would never have reached its present stage but for the facilities which the stock exchanges provide for dealing with the securities. Stock exchanges have a very important function to fulfill in the country’s economy. The stock exchange is really an essential pillar of the private sector corporate economy. It discharges essential functions in the process of capital formation and in raising resources for the corporate sector
NEED FOR STOCK MARKET
1. It helps in the capital formation in the economy of the country
2. It facilitates and maintains active trading.
3. It provides liquidity to financial assets.
4. It also helps in price discovery process
Functions of Stock Market :
a) To provides a market place for purchase and sale of securities:- It ensures the free transferability of securities which is the essential basis for the stock enterprise system. The private sector economy cannot function without the assurance provided by the exchange to the owners of shares and bonds that they can be sold in the market at any time. At the same time, those who invest their surplus funds in securities for long-term capital appreciation or for speculative purpose can also buy scripts of their choice in the market.
b) To provides the linkage between the savings in the household sector and investment in corporate economy:- It mobilizes savings, and channelize them in the form ofsecurities into those enterprises which are favored by the investors on the basis of such criteria as future growth prospects, good returns and appreciation of capital.
c) To providing a market quotation of the prices of shares and bonds:- a sort of collective
judgement simultaneously reached by many buyers and sellers in the market-the stock exchange serves the role of barometer, not only of the state of health of individual companies, but also of the nation’s economy. The changes in share prices are brought about by a complex set of factors, all operating in the market simultaneously. Share values as a whole are subject to secular trends set by the economic programme of the nation, and governed by factors like general economic situation, financial and monetary policies, tax changes, political environment, international - economic and financial development, etc.
Ans. to Q.1(b)
(a) The rate of return is the percentage of the amount invested in as stock multiplied by its
expected rate of return. Thus, of the Rs. 50,000 invested.
Company A – 30 percent of total with 15 percent rate of return :
30 X Rs. 50,000 X .15 = Rs. 2,250
Company B – 70 percent with a 12 percent rate of return :
70 X Rs. 50,000 X.12 = Rs. 4,200
The total return is Rs. 6450 (i.e., Rs. 2250 + Rs.4,200)
(b) The expected percentage rate of return is the total return divided by the amount invested:
r = Total Return
Total amount invested
r = . Rs.6450
Rs.50,000
= 12 .90 %
Ans. to Q.2(A)
i) Pre-tax Income Required on Investment of Rs. 16,00,000
Let the period of investment be ‘P’ = Rs. 16,00,000X 4% = Rs. 64,000
( )
16,00,000 X 8 X p -40,000
100 12 =64000
10,662.40 P - 40,000 = 64,000
10,662.4 P = 40,000 +64,000
P = 9.754
To earn 4% pre tax return of Rs.16,00,000 should be invested in the shorter marketable
securities for a period 9.754 months
(ii) break-even its investment expenditure
( )
16,00,000 X 8 X p -40,000 = 0
100 12
10,662.40 P - 40,000 = 0
10,662.4 P = 40,000
P = 40,000/ 10,662.40 = 3.75
∴The minimum period to break-even its investment expenditure is 3.75 months.
Ans. to Q.2(B)
Listing of Securities
Listing means admission of the securities to dealings on a recognised stock exchange. The
securities may be of any public limited company, Central or State Government, quasi governmental
and other financial institutions/corporations, municipalities, etc.
The objectives of listing are mainly to :
• provide liquidity to securities;
• mobilize savings for economic development;
• protect interest of investors by ensuring full disclosures.
• Making a quotation available for a company’s share to be traded.
• Trading on a SE – Public Ltd. Companies with minimum paid up capital of Rs. 5 Crores
• Trading on BSE / NSE - Minimum paid up capital of Rs. 10 Crores
Listing of securities have to be in accordance with the provisions of the Securities Contracts
(Regulation) Act, 1956, Securities Contracts (Regulation) Rules, 1957, Companies Act, 1956,
Guidelines issued by SEBI and Rules, Bye-laws and Regulations of the Exchange.
Ans. to Q. 3
(a) Demutualization of Stock Exchanges:-
Historically stock exchanges were formed as ‘mutual’ organisations, which were considered beneficial in terms of tax benefits and matters of compliance. They are generally ‘not-for-profit’ and tax exempted entities. The trading members who provide broking services, also own, control and manage such exchanges for their common benefit, but do not distribute the profits among themselves. The ownership rights and trading rights are clubbed together in a membership card which is not freely transferable and hence this card at times carries a premium. In contrast, in a ‘demutual’ exchange, three separate sets of people own the exchange, manage it and use its services. The owners usually vest in management constituting a board of directors which is assisted by a professional team. A completely different set of people use trading platform of the exchange. These are generally ‘for-profit’ and tax paying entities. The ownership rights are freely transferable. Trading rights are acquired/surrendered in terms of transparent rules. Membership cards do not exist. These two models of exchanges are generally referred to as ‘club’ and ‘institution’ respectively. The most important development in the capital market is concerning the demutualisation of the stock exchanges. Demutualisation of exchanges means segregating the ownership from management. This move was necessitated by the fact that brokers in the management of the stock exchange were misusing their position for personal gains. Demutualisation would bring in transparency and prevent conflict of interest in the functioning of the stock exchanges. The Minister of Finance in his union budget speech of 2002-03 has made important announcement that the process of demutualisation and corporatisation of stock exchanges is expected to be completed during the course of the current year. Now, all the stock exchanges in India are demutualised entities.
Ans. to Q. 3
(d) Hedging
The classic hedging application would be that of a wheat farmer forward/ futures selling his harvest at a known price in order to eliminate price risk. Conversely, a bread factory may want to buy wheat forward/futures inorder to assist production planning without the risk of price fluctuations. Hedgers wish to eliminate or reduce the price risk to which they are already exposed. The hedging function solely focuses on the role of transferring the risk of price changes to other holders in the futures markets. hedging technique is equivalent of insurance facility against market risk where price is always volatile.
Ans. to Q. 3
(e) Qualified institutional Buyer
Qualified Institutional Buyers are those institutional investors who are generally perceived to
possess expertise and the financial muscle to evaluate and invest in the capital market. As per
the SEBI guidelines QIBs shall mean the following:
• Public Financial Institution as defined in section 4A of the Companies Act, 1956
• Scheduled Commercial Banks
• Mutual Funds
• Foreign Institutional Investors registered with SEBI
• Multilateral and Bilateral Development Financial Institutions
• Venture Capital Funds registered with SEBI
• Foreign Venture Capital Investors registered with SEBI
• State Industrial Development Corporations
• Insurance Companies registered with the Insurance Regulatory and Development Authority
(IRDA)
• Provident Funds with minimum corpus of Rs. 25 crores
• Pension Funds with minimum corpus of Rs. 25 crores.
These entities are not required to register with SEBI as QIBs. Any entities falling under the
categories specified above are considered as QIBs for the purpose of participating in primary
issuance process.
GROUP ‘B’
Ans. to Q No.6(c)
As per the provision of Companies Act 1956, the quorum for the board meeting shall be 1/3rd of its total strength [any fraction contained in that one third being rounded off as one] or two directors, whichever is higher. It should be noted that ‘interested director’ shall not be counted for deciding the quorum for the meeting]. If a meeting of the board of directors could not be held for want of quorum, the unless the articles otherwise provide, the meeting shall automatically stand adjourned till the same day next week, at the same time and place or if that day is a public holiday, till the next succeeding day, which is not a public holiday, at the same time and day.
In the given case of HLL Ltd. A resolution to be passed by circulation shall be deemed to have been passed if it is circulated to all members not being less than the quorum along with necessary papers [members of the board or its committee and those in India] and has been approved by such of the directors as are then in India or by a majority of such of them as are entitled to vote on the resolution.
Ans. to Q No.6(d)
if the statements are false or fraudulent or if some material information is withheld, allottee can apply to the Court for the rescission of the contract. However he should apply within reasonable time and before the company goes into liquidation. He will also have to surrender the shares and his name will be removed from the register of members. After completing these formalities, he will get his money back along with the interest. However, it should be noted that the right of rescission shall be available to the shareholder only in the event of the following.
i. The statement must be a material misrepresentation of fact. In other words, the statement should be false and misleading about the facts. It should be remembered that there is a difference between an honest opinion and statement of fact. Thus when it is mentioned that due to the hard work and efficiency of directors, the profits of the company are expected to reach a certain figure, it becomes a statement of opinion. On the other hand, if a prospectus states that ‘certain persons have agreed to become directors of the company’, it can be material misrepresentation if it prove to be a false statement. A shareholder can avail of the right to rescission of a contract if there is a material misrepresentation.
ii. The statement must have induced the shareholder to take the shares. Though it is very difficult to prove that the shareholder has been induced to take the shares on the basis of the misstatement in the prospectus, it will have to be dependent on the circumstances of each case. The crucial point is that if the statement is such as it would influence a common man, the Tribunal will infer that it influenced the applicant. If the applicant’s acts show, that he did not rely on the statement, he is not entitled to rescind.
Ans. to Q No.8(a)
This Act may be called the Right to Information Act 2004 It extends to the whole of India except the State of Jammu and Kashmir. It shall come into force within 120 days of it being enacted. Where State legislation exists dealing with the right to access information; a person will have the right to seek information under the State law as well as under this Act. Every public authority shall maintain all its records, duly catalogued and indexed, in a manner and form which facilitates the right to information as provided for in this Act. Every public authority shall for the purposes of this Act, designate as many officers as Public Information Officers, in all administrative units and offices under such authority. A person desirous of obtaining information shall make a request in writing or through electronic means in English or in the official language of the area in which the application is being submitted. On receipt of a request under section 6, the Public Information Officer shall as expeditiously as possible and in any case within fifteen days of the receipt of the request, either provide the information requested on payment of such fee as may be prescribed or reject the request for any of the reasons specified in sections 8 and 9. Without prejudice to the provisions of section 8, a Public Information Officer may reject a request for information where such a request for providing access would involve an infringement of copyright subsisting in a person other than the State. If a request for access to information is rejected on the ground that it is in relation to information which is exempted from disclosure, then notwithstanding anything contained in this Act, access may be given to that part of the record which does not obtain any information that is exempted from disclosure under this Act and which can reasonably be severed from any part that contains exempted information. Where a public authority intends to disclose any information or record, or part thereof on a request made under this Act which relates to, or has been supplied by a third party and has been treated as confidential by that third party, the Public Information Officer shall, within five days from the receipt of a request, give written notice to such third party of the request and of the fact that the public authority intends to disclose the information or record, or part thereof and invite the third party to make a submission, in writing or orally, regarding whether the information should be disclosed, which submission shall be taken into account when determining whether to disclose the information
The State Government may, by notification in the Official Gazette, make rules to carry out the provisions of the Act. In particular, and without prejudice to the generality of the foregoing power, suchrules may provide for all or any of the following matters, namely:-
(a) the fee payable under sub-section (1) of section 7:
(b) the authority before whom an appeal may be preferred under sub-section (2) of section 12:
(c) any other matter which is required to be, or may be prescribed:
Provided that initially the rules shall be made by the Union Government by notification in the official gazette.
Ans. to Q No.8(b)
Objectives of Right to Information Act – 2004 :-
1. give effect to the Fundamental Right to Information, which will contribute to strengthening democracy, improving governance, increasing public participation, promoting transparency and accountability and reducing corruption.
2. establish voluntary and mandatory mechanisms or procedures to give effect to right to information in a manner which enables persons to obtain access to records of public authorities in a swift, effective, inexpensive and reasonable manner.
3. promote transparency, accountability and effective governance of all public authorities by, including but not limited to, empowering and educating all persons to:-
understand their rights in terms of this Act in order to exercise their rights in relation to
public authorities;
understand the functions and operation of public authorities; and effectively participating in decision making by public authorities that affects their rights.
Ans. to Q. No. 9
(a) Passing Resolution by Postal Ballot:- A listed public company and Central Government may declare to be conducted only by postal ballot by notification and declare to be conducted only by postal ballot. Where a company decides to pass any resolution by postal ballot, it shall send a notice to all the shareholders, along with a draft resolution explaining the reasons therefore and requesting them to send their assent or dissent in writing on a postal ballot within a period of 30 days from the date of posting of the ballot. The notice shall be sent by registered post or by any other method as may be prescribed by the Central Government on this behalf, and shall include with the notice, a postage prepaid envelop for facilitating the communication of the assent or dissent of the shareholders to the resolution within the said period. If a resolution as assented to by a majority of the shareholders by means of postal ballot, it shall be deemed to have been duly passed at a general meeting convened in that behalf.
(b) Alternate Director:- Alternate Director Section 303 provides that an alternate director can be appointed by the Board of Directors if it is authorized by the articles of association or by a resolution passed in the annual general meeting. He shall act as alternate director in the place of the original director in his absence for a period of at least 3 months, from the State in which the meetings of the Board are normally held.
Appointment by Proportional Representation
Section 265 provides that the articles of association of a public company or a private company, which is a subsidiary of a public company may provide for appointment of directors by proportional representation. This provision is made basically for providing representation to all segments of the shareholders. The section further provides that the articles may provide for appointment of not less than 2/3rd of the total number of directors by proportional representation. The appointment can be made either by a single transferable vote or by a system of cumulative voting or other wise. The appointment is to be made once in every three years and interim casual vacancies being filled in according to the other relevant provisions
(c) Forfeiture of Shares :- If a shareholder defaults in the payment of the installments in the issue price of a share called by the company, the Board of Directors may decide to forfeit the shares held by the defaulting shareholders by following the procedure as laid down in the Articles of Association of the company. In the absence of the Articles of Association, Table A requires that a notice of 14 days is to be given before the forfeiture is made and if the shareholder fails to pay the dues within this period, the Board of Directors, may be passing resolution in the Board meeting, decide to forfeit the shares. As a result of forfeiture, the shares are cancelled and the name of the concerned shareholder is struck off the Register of Members. Forfeited shares can be re-issued by the company if they are not cancelled.
Capital Market Analysis & Corporate Laws
Test Paper – III/11/CMC/2008/T-1
GROUP -A
Ans. To Q. 1(A)
A Capital Market can be defined as the market in which financial assets are created or transferred. The capital market is designed to finance the long-term investments. The transactions taking place in this market will be for periods over a year. The Capital Market is broadly classified as Primary market and Secondary Market. The Primary market is the segment in which new issues are made whereas secondary market is the segment in which outstanding securities are traded. It is for this reason that the Primary Market is also called New issues Market or IPO/FPO market and the Secondary market is
called Stock Market.
Stock Market in India
From scattered and small beginnings in the 19th Century, India’s stock market has risen to great
heights. In 1990, we had 19 stock exchanges in the country. There were around 6,000 listed
companies and the invested population stood around 15 million.
The history of stock exchanges shows that the development of joint stock enterprise would never have reached its present stage but for the facilities which the stock exchanges provide for dealing with the securities. Stock exchanges have a very important function to fulfill in the country’s economy. The stock exchange is really an essential pillar of the private sector corporate economy. It discharges essential functions in the process of capital formation and in raising resources for the corporate sector
NEED FOR STOCK MARKET
1. It helps in the capital formation in the economy of the country
2. It facilitates and maintains active trading.
3. It provides liquidity to financial assets.
4. It also helps in price discovery process
Functions of Stock Market :
a) To provides a market place for purchase and sale of securities:- It ensures the free transferability of securities which is the essential basis for the stock enterprise system. The private sector economy cannot function without the assurance provided by the exchange to the owners of shares and bonds that they can be sold in the market at any time. At the same time, those who invest their surplus funds in securities for long-term capital appreciation or for speculative purpose can also buy scripts of their choice in the market.
b) To provides the linkage between the savings in the household sector and investment in corporate economy:- It mobilizes savings, and channelize them in the form ofsecurities into those enterprises which are favored by the investors on the basis of such criteria as future growth prospects, good returns and appreciation of capital.
c) To providing a market quotation of the prices of shares and bonds:- a sort of collective
judgement simultaneously reached by many buyers and sellers in the market-the stock exchange serves the role of barometer, not only of the state of health of individual companies, but also of the nation’s economy. The changes in share prices are brought about by a complex set of factors, all operating in the market simultaneously. Share values as a whole are subject to secular trends set by the economic programme of the nation, and governed by factors like general economic situation, financial and monetary policies, tax changes, political environment, international - economic and financial development, etc.
Ans. to Q.1(b)
(a) The rate of return is the percentage of the amount invested in as stock multiplied by its
expected rate of return. Thus, of the Rs. 50,000 invested.
Company A – 30 percent of total with 15 percent rate of return :
30 X Rs. 50,000 X .15 = Rs. 2,250
Company B – 70 percent with a 12 percent rate of return :
70 X Rs. 50,000 X.12 = Rs. 4,200
The total return is Rs. 6450 (i.e., Rs. 2250 + Rs.4,200)
(b) The expected percentage rate of return is the total return divided by the amount invested:
r = Total Return
Total amount invested
r = . Rs.6450
Rs.50,000
= 12 .90 %
Ans. to Q.2(A)
i) Pre-tax Income Required on Investment of Rs. 16,00,000
Let the period of investment be ‘P’ = Rs. 16,00,000X 4% = Rs. 64,000
( )
16,00,000 X 8 X p -40,000
100 12 =64000
10,662.40 P - 40,000 = 64,000
10,662.4 P = 40,000 +64,000
P = 9.754
To earn 4% pre tax return of Rs.16,00,000 should be invested in the shorter marketable
securities for a period 9.754 months
(ii) break-even its investment expenditure
( )
16,00,000 X 8 X p -40,000 = 0
100 12
10,662.40 P - 40,000 = 0
10,662.4 P = 40,000
P = 40,000/ 10,662.40 = 3.75
∴The minimum period to break-even its investment expenditure is 3.75 months.
Ans. to Q.2(B)
Listing of Securities
Listing means admission of the securities to dealings on a recognised stock exchange. The
securities may be of any public limited company, Central or State Government, quasi governmental
and other financial institutions/corporations, municipalities, etc.
The objectives of listing are mainly to :
• provide liquidity to securities;
• mobilize savings for economic development;
• protect interest of investors by ensuring full disclosures.
• Making a quotation available for a company’s share to be traded.
• Trading on a SE – Public Ltd. Companies with minimum paid up capital of Rs. 5 Crores
• Trading on BSE / NSE - Minimum paid up capital of Rs. 10 Crores
Listing of securities have to be in accordance with the provisions of the Securities Contracts
(Regulation) Act, 1956, Securities Contracts (Regulation) Rules, 1957, Companies Act, 1956,
Guidelines issued by SEBI and Rules, Bye-laws and Regulations of the Exchange.
Ans. to Q. 3
(a) Demutualization of Stock Exchanges:-
Historically stock exchanges were formed as ‘mutual’ organisations, which were considered beneficial in terms of tax benefits and matters of compliance. They are generally ‘not-for-profit’ and tax exempted entities. The trading members who provide broking services, also own, control and manage such exchanges for their common benefit, but do not distribute the profits among themselves. The ownership rights and trading rights are clubbed together in a membership card which is not freely transferable and hence this card at times carries a premium. In contrast, in a ‘demutual’ exchange, three separate sets of people own the exchange, manage it and use its services. The owners usually vest in management constituting a board of directors which is assisted by a professional team. A completely different set of people use trading platform of the exchange. These are generally ‘for-profit’ and tax paying entities. The ownership rights are freely transferable. Trading rights are acquired/surrendered in terms of transparent rules. Membership cards do not exist. These two models of exchanges are generally referred to as ‘club’ and ‘institution’ respectively. The most important development in the capital market is concerning the demutualisation of the stock exchanges. Demutualisation of exchanges means segregating the ownership from management. This move was necessitated by the fact that brokers in the management of the stock exchange were misusing their position for personal gains. Demutualisation would bring in transparency and prevent conflict of interest in the functioning of the stock exchanges. The Minister of Finance in his union budget speech of 2002-03 has made important announcement that the process of demutualisation and corporatisation of stock exchanges is expected to be completed during the course of the current year. Now, all the stock exchanges in India are demutualised entities.
Ans. to Q. 3
(d) Hedging
The classic hedging application would be that of a wheat farmer forward/ futures selling his harvest at a known price in order to eliminate price risk. Conversely, a bread factory may want to buy wheat forward/futures inorder to assist production planning without the risk of price fluctuations. Hedgers wish to eliminate or reduce the price risk to which they are already exposed. The hedging function solely focuses on the role of transferring the risk of price changes to other holders in the futures markets. hedging technique is equivalent of insurance facility against market risk where price is always volatile.
Ans. to Q. 3
(e) Qualified institutional Buyer
Qualified Institutional Buyers are those institutional investors who are generally perceived to
possess expertise and the financial muscle to evaluate and invest in the capital market. As per
the SEBI guidelines QIBs shall mean the following:
• Public Financial Institution as defined in section 4A of the Companies Act, 1956
• Scheduled Commercial Banks
• Mutual Funds
• Foreign Institutional Investors registered with SEBI
• Multilateral and Bilateral Development Financial Institutions
• Venture Capital Funds registered with SEBI
• Foreign Venture Capital Investors registered with SEBI
• State Industrial Development Corporations
• Insurance Companies registered with the Insurance Regulatory and Development Authority
(IRDA)
• Provident Funds with minimum corpus of Rs. 25 crores
• Pension Funds with minimum corpus of Rs. 25 crores.
These entities are not required to register with SEBI as QIBs. Any entities falling under the
categories specified above are considered as QIBs for the purpose of participating in primary
issuance process.
GROUP ‘B’
Ans. to Q No.6(c)
As per the provision of Companies Act 1956, the quorum for the board meeting shall be 1/3rd of its total strength [any fraction contained in that one third being rounded off as one] or two directors, whichever is higher. It should be noted that ‘interested director’ shall not be counted for deciding the quorum for the meeting]. If a meeting of the board of directors could not be held for want of quorum, the unless the articles otherwise provide, the meeting shall automatically stand adjourned till the same day next week, at the same time and place or if that day is a public holiday, till the next succeeding day, which is not a public holiday, at the same time and day.
In the given case of HLL Ltd. A resolution to be passed by circulation shall be deemed to have been passed if it is circulated to all members not being less than the quorum along with necessary papers [members of the board or its committee and those in India] and has been approved by such of the directors as are then in India or by a majority of such of them as are entitled to vote on the resolution.
Ans. to Q No.6(d)
if the statements are false or fraudulent or if some material information is withheld, allottee can apply to the Court for the rescission of the contract. However he should apply within reasonable time and before the company goes into liquidation. He will also have to surrender the shares and his name will be removed from the register of members. After completing these formalities, he will get his money back along with the interest. However, it should be noted that the right of rescission shall be available to the shareholder only in the event of the following.
i. The statement must be a material misrepresentation of fact. In other words, the statement should be false and misleading about the facts. It should be remembered that there is a difference between an honest opinion and statement of fact. Thus when it is mentioned that due to the hard work and efficiency of directors, the profits of the company are expected to reach a certain figure, it becomes a statement of opinion. On the other hand, if a prospectus states that ‘certain persons have agreed to become directors of the company’, it can be material misrepresentation if it prove to be a false statement. A shareholder can avail of the right to rescission of a contract if there is a material misrepresentation.
ii. The statement must have induced the shareholder to take the shares. Though it is very difficult to prove that the shareholder has been induced to take the shares on the basis of the misstatement in the prospectus, it will have to be dependent on the circumstances of each case. The crucial point is that if the statement is such as it would influence a common man, the Tribunal will infer that it influenced the applicant. If the applicant’s acts show, that he did not rely on the statement, he is not entitled to rescind.
Ans. to Q No.8(a)
This Act may be called the Right to Information Act 2004 It extends to the whole of India except the State of Jammu and Kashmir. It shall come into force within 120 days of it being enacted. Where State legislation exists dealing with the right to access information; a person will have the right to seek information under the State law as well as under this Act. Every public authority shall maintain all its records, duly catalogued and indexed, in a manner and form which facilitates the right to information as provided for in this Act. Every public authority shall for the purposes of this Act, designate as many officers as Public Information Officers, in all administrative units and offices under such authority. A person desirous of obtaining information shall make a request in writing or through electronic means in English or in the official language of the area in which the application is being submitted. On receipt of a request under section 6, the Public Information Officer shall as expeditiously as possible and in any case within fifteen days of the receipt of the request, either provide the information requested on payment of such fee as may be prescribed or reject the request for any of the reasons specified in sections 8 and 9. Without prejudice to the provisions of section 8, a Public Information Officer may reject a request for information where such a request for providing access would involve an infringement of copyright subsisting in a person other than the State. If a request for access to information is rejected on the ground that it is in relation to information which is exempted from disclosure, then notwithstanding anything contained in this Act, access may be given to that part of the record which does not obtain any information that is exempted from disclosure under this Act and which can reasonably be severed from any part that contains exempted information. Where a public authority intends to disclose any information or record, or part thereof on a request made under this Act which relates to, or has been supplied by a third party and has been treated as confidential by that third party, the Public Information Officer shall, within five days from the receipt of a request, give written notice to such third party of the request and of the fact that the public authority intends to disclose the information or record, or part thereof and invite the third party to make a submission, in writing or orally, regarding whether the information should be disclosed, which submission shall be taken into account when determining whether to disclose the information
The State Government may, by notification in the Official Gazette, make rules to carry out the provisions of the Act. In particular, and without prejudice to the generality of the foregoing power, suchrules may provide for all or any of the following matters, namely:-
(a) the fee payable under sub-section (1) of section 7:
(b) the authority before whom an appeal may be preferred under sub-section (2) of section 12:
(c) any other matter which is required to be, or may be prescribed:
Provided that initially the rules shall be made by the Union Government by notification in the official gazette.
Ans. to Q No.8(b)
Objectives of Right to Information Act – 2004 :-
1. give effect to the Fundamental Right to Information, which will contribute to strengthening democracy, improving governance, increasing public participation, promoting transparency and accountability and reducing corruption.
2. establish voluntary and mandatory mechanisms or procedures to give effect to right to information in a manner which enables persons to obtain access to records of public authorities in a swift, effective, inexpensive and reasonable manner.
3. promote transparency, accountability and effective governance of all public authorities by, including but not limited to, empowering and educating all persons to:-
understand their rights in terms of this Act in order to exercise their rights in relation to
public authorities;
understand the functions and operation of public authorities; and effectively participating in decision making by public authorities that affects their rights.
Ans. to Q. No. 9
(a) Passing Resolution by Postal Ballot:- A listed public company and Central Government may declare to be conducted only by postal ballot by notification and declare to be conducted only by postal ballot. Where a company decides to pass any resolution by postal ballot, it shall send a notice to all the shareholders, along with a draft resolution explaining the reasons therefore and requesting them to send their assent or dissent in writing on a postal ballot within a period of 30 days from the date of posting of the ballot. The notice shall be sent by registered post or by any other method as may be prescribed by the Central Government on this behalf, and shall include with the notice, a postage prepaid envelop for facilitating the communication of the assent or dissent of the shareholders to the resolution within the said period. If a resolution as assented to by a majority of the shareholders by means of postal ballot, it shall be deemed to have been duly passed at a general meeting convened in that behalf.
(b) Alternate Director:- Alternate Director Section 303 provides that an alternate director can be appointed by the Board of Directors if it is authorized by the articles of association or by a resolution passed in the annual general meeting. He shall act as alternate director in the place of the original director in his absence for a period of at least 3 months, from the State in which the meetings of the Board are normally held.
Appointment by Proportional Representation
Section 265 provides that the articles of association of a public company or a private company, which is a subsidiary of a public company may provide for appointment of directors by proportional representation. This provision is made basically for providing representation to all segments of the shareholders. The section further provides that the articles may provide for appointment of not less than 2/3rd of the total number of directors by proportional representation. The appointment can be made either by a single transferable vote or by a system of cumulative voting or other wise. The appointment is to be made once in every three years and interim casual vacancies being filled in according to the other relevant provisions
(c) Forfeiture of Shares :- If a shareholder defaults in the payment of the installments in the issue price of a share called by the company, the Board of Directors may decide to forfeit the shares held by the defaulting shareholders by following the procedure as laid down in the Articles of Association of the company. In the absence of the Articles of Association, Table A requires that a notice of 14 days is to be given before the forfeiture is made and if the shareholder fails to pay the dues within this period, the Board of Directors, may be passing resolution in the Board meeting, decide to forfeit the shares. As a result of forfeiture, the shares are cancelled and the name of the concerned shareholder is struck off the Register of Members. Forfeited shares can be re-issued by the company if they are not cancelled.
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