Financial Services Introduction
The economic reforms and deregulation has resulted in impressive growth recorded by the financial service industry. Several innovative products have also been introduced. Financial services aim en providing funds or substitutes of funds for the desired venture at an optimum costs to the promoters and with best possible returns to the investors within the regulatory framework prescribed by the society. 1 includes Hire Purchase, Leasing, Factoring, and Forfaiting, Consultancy services like Merchant Banking Mutual Fund, Credit Rating, Insurance, and Depositories, Custodial Services etc.
Forfaiting:
It is a technique, which helps the exporter to sell his goods on credit and receiving cash well before the due date. Exporter forfaits/surrenders his rights or claims to payment which he could have received in future if' lieu of immediate cash payments. In other words, it involves encasing future trade receivable now, a: charge. It has emerged as an important tool of financing to an exporter while retaining the benefits of a cash sale.
Forfaiting is done without recourse i.e. the forfaiter cannot go back to the exporter for the recovery of the money, which the importer may not have paid him. The forfaiter ordinarily charges a commission of about 1 % of the face value of the receivables. However, the percentage of commission would vary depending or the size of the individual accounts, the volume of receivables sold and the quality of the accounts sold. Forfaiter also charges interest on amount advance to exporter.
Forfaiting is different from international factoring. In international factoring, factor acts as an agent of exporters, while in Forfaiting, forfaiter become sole owners to collect the debts. International factoring could be either recourse or non-recourse, while Forfaiting is always non-recourse.
Credit Rating:
Credit rating indicates the risk involved in a debt instrument as well as its qualities. Higher the credit rating greater is the probability that the borrower will make timely payment of principal and interest and viceversa. It is not a one-time evaluation of credit risk of a security. It may be changed, considering the changes periodically.
It is a boon to companies as well as investors. It facilitates the company in raising funds in the capital market and helps the investors to select their risk-return trade off. In India, the rating coverage is of a fairly recent origin, beginning 1988, when the first rating agency CRISIL carne in to existence. At present there are other 3 rating agencies have also entered in the credit rating business viz. ICRA, CARE and Duff & Phelps Credit rating India.
Venture Capital Financing:
The dictionary meaning of "Venture" is a course of proceeding associated with risk, the outcome of which is uncertain. In a narrower sense venture capital is understood as the capital, which is available for financing new venture. Venture capital finance can be defined as the long-term equity investments in business, which display potential for significant growth and financial return. The object of venture capital is to generate substantial capital appreciation through investment in early stage companies capable of achieving rapid growth.
In Venture capital financing, investor bears the risk of venture and earns his return from capital gain with its success. Venture capital is generally regarded as a risk capital. The venture capital scheme is designed to promote technological advancement and innovation through introduction of new products, process and ideas. However, it does not finance to enterprises, which are engaged in trading, investment brokerage or financial services, agency or liaison work.
Merchant Banking
Merchant Banks also called, as "Investment Banks" are most significant institutions in the financial markets of the developed countries. They help in promoting and sustaining capital markets and money markets, and they provide a variety of financial services to the corporate sector. The scope of merchant banking activities has been expanding in India over the years. Activities of merchant banker includes:
(a) Management of issue of corporate securities
(b) Offering financial expertise in Mergers, takeovers and corporate restructuring.
(c) Management of Investment trusts
(d) Handling insurance business.
(e) Loan syndication and corporate advisory services
(f) Portfolio Management
(g) Custodial and depository services
(h) Broking
(i) Underwriting of issues
(j) Bills Discounting etc.
Loan Syndication:
It refers to the services rendered by the financial service expert in procurement of terms loans and working capital loans from financial institutions, banks and other financing and investment firms for its clients. The syndicator of loan charges his fee for the service rendered. It involves all such activities, which are the part of the procurement of term loan beginning from preparation of project reports to disbursement of loans. It also ensures the clients in complying with the terms and condition as per the loan agreement entered.
Custodial Services:
A custodian is a person who keeps custody of securities on behalf of somebody else. He is the caretaker of the securities and documents and in return he gets some benefit for his services called as custodial charges. Custodians are intermediaries between companies and clients and institutions. They are link between real owners and entities.
Debenture Trusteeship:
When a company seeks to issue debentures, it is mandatory to appoint a trustee to protect the interests of the debenture holders. The issue is normally constituted under a trust deed entered into between the company and the trustee. Ingeneral, it is the concern of the trustee to see that the obligations of the company are duly performed. The trustee would normally hold the documents of title to any specifically charged assets and in some cases might be required to ensure that the floating assets of the undertaking are maintained at a stipulated level. If there is sinking fund for the redemption of the debentures, the trustee will be responsible for seeing that the fund is operated in accordance with the deed. The security property can be released only with the consent of the trustee. The trustee will also be responsible for seeing that freehold and leasehold properties are properly insured and that all outgoings are duly met. The role of a debenture trustee is very important in the context of corporate financing and creation of secondary market for the instruments.
Depository Services
Depository in India is a relatively new concept as it was introduced in 1996 with the enactment of Depositories Act, 1996. The first depository in the world was setup way back in 1947 in Germany.
The term depository means a place where something is deposited for safekeeping. The depository is an organization where the securities are held in the form of electronic amounts, in the same way as a bank· holds money. The depository holds electronic custody of securities and' also arranges for transfer of ownership of securities on the settlement dates as well in off market. The system is known as scrip less trading system. Any body to be eligible to provide depository services must register with SEBI.
Depository system is concerned with conversion of securities' from physical to electronic form, settlement of trades in electronic segment, electronic transfer of ownership and electronic custody of securities. The system results in instant transfer as compared to six to eight weeks time under physical mode.
At present in India 2 "Depository" are working i.e. NSDL & CDSL. NSDL was promoted by IDBI, UTI and NSE and registered as India's first depository. "Depository Participant" is an intermediary between the investor and depository. According to SEBI guidelines, financial institutions, banks, custodians, stockbrokers etc. can become depository participants. Investors or owners of the securities are called as "Beneficiaries" and require opening a D-MAT account with "Depository Participant" in the same way as to get open a bank account.
Benefits of Depositories:
Ø Reduction of risks associated with loss, theft and forgery of physical scrip.
Ø Greater liquidity from speedier settlements and reduction in delays in registration. Substantial reduction in period relating transfer of ownership process from 45 days to 2 days.
Ø Faster & hassle free receipts of benefits from corporate action.
Ø Reduced transaction costs through greater efficiency.
Ø Helps to eliminate the problems of odd lot.
Ø Helps investor to get preference in getting loan against securities.
Share Registration Services
Usually big companies with large investor base gives contracts of work of share registration to outside agency. That outside agency works as a professional registrar. Though with me introduction of depository share registration work got reduced to a great extent. However, still some companies are hiring share registration services for those members who still didn't get converted their physical share certificate in demat form. Share registrar also carries out the work of distribution of dividend and interest, dispatch of notices, annual reports and other company communication and assist company secretary in various jobs.
Credit Card
Credit card is the natural extension of ordinary banking facilities. In India the public sector commercial banks, foreign banks and other private sector organizations mainly issue credit cards. Credit card is a convenient and easy way for a shopper to make his payments for goods and services without the use of cash. It also includes an element of credit to withdraw cash to the certain limit at predetermine interest rate. Credit card usually provides 40-45 days of free credit in respect of goods & services purchased by the credit card holder-using credit card.
Factoring:
Factoring is a debt collection service; it was developed in USA, which includes buying the receivables of a company and extending credit up to 70-80% of the invoice value. It falls within the category of working capital finance. It plays a major role in augmenting the sales. The outright sale of accounts receivables known as factoring is very much popular means of short term financing abroad especially in United states. Generally factoring involves:
Ø Provision of specialized services relating to credit investigation,
Ø Sales ledger management,
Ø Purchases and collection of debts,
Ø Credit protection
Ø Provisions of finance against receivables and risk bearing.
In factoring accounts receivables are generally sold to a financial Intermediary, who charges commission and bears the credit risks. The main advantage of factoring is that firm can convert accounts receivables into cash without bothering about repayment.
It is gaining popularity as useful source of financing short-term funds requirements of business. Another advantage is relieving the borrowing firm of credit and collection costs. The main drawback of this service is that it is comparatively costly source of financing. The total cost of factor includes factoring fee, interest charge on the advance (if any), if factor absorbs the bad debts losses, charges are correspondingly higher. Hence finance manager have to make cost and benefits analysis associated with it. Factors generally offer following types of factoring arrangements:
(1) Recourse and non-recourse factoring: In recourse the client makes risk of default good and in nonrecourse factor assumes risk of default.
(2) Advance factoring: Factor provides financial accommodation and other services.
(3) Maturity factoring: In this method no advance is given to the client. The factor administers the client's sales ledger, renders debt collection services and pays only after collection.
(4) Bank Participation factoring: In this method bank finance that portion which the factor has held as margin.
(5) Suppliers guarantee factoring: Factor guarantees the supplier against invoices raised by supplier upon the middleman.
(6) Disclosed and undisclosed factoring: When clients notifies to the customer about factoring arrangement it is called as disclosed factoring otherwise undisclosed.
(7) Invoice discounting: financing against invoices without factor assuming any other responsibility.
Accounting Procedure:
In case of non-recourse factoring, the advance provided in the form of pre-payment against such purchased debts will be off the balance sheet. Margin receivable will be shown as" Amount to be received from factor". But in the case of Recourse factoring, pre-payment will appear in the balance sheet as contingent liability.
Cost and Benefits of Factoring:
There are two types of costs involved, First, Factoring Commission and second is the interest on advance granted by the factor to the firm. While the benefits of factoring are, it provides specialized service in credit management and thus, helps the firm's management to concentrate on manufacturing and marketing. It saves the cost of credit administration due to the scale of economies and specialization. Net finance received from factor is calculated as follows:
Average Receivables *
Less: Margin (to be calculated on A/R) (*)
-----
Less: Commission (to be calculated on A/R) (*)
Amount of finance *
Less: Interest on finance (*)
------
Net finance received from the factor *
=======
Effective cost of finance from factoring arrangement:
Net cost of Factoring
----------------------------------------- × 100
Net finance received from the factor
Effective cost of finance may be compared with alternative source of financing and decision may be taken accordingly.
Net cost of Factoring:
Cost of factoring i.e. (Commission + Interest) * A
Less: Savings due to factoring arrangement (*)
-----
Net Cost of Factoring *
Other Financial Services
(i) Insurance
(ii) Leasing and Hire Purchases
(iii) Mutual fund