The industrial boom in India has led to major growth in the need for merchant bankers. Merchant banking is an amalgam of banking and consultancy services. Although, the word merchant banking has a different meaning in different countries. In the U.S. merchant, bankers are called “Investment Banks,” in the U.K., they are called “accepting and issuing houses.”
In India, a merchant banker is defined as “an individual who is who is involved in the business of issue management either by making arrangements regarding buying, selling or subscribing to the securities as a manager, advisor, consultant in relation to such an issue management.”
Merchant banks render numerous financial services, advice, consultation, management, counseling, and solutions to big corporate houses. They are pretty different from normal commercial banks in several ways.
For example, commercial banks generally accept deposits and give loans, but merchant banks only offer consultation and management for a certain charge. They only accept deposits and offer loans only to a few clients and not to the general public.
What is Merchant Banking in India?
It is an institution that offers consultancy to its customers regarding financial, managerial, marketing, and legal concerns. They usually offer assistance to business loans for big companies, international finance, and underwriting. These banks are specialists in trading with multinational companies.
Merchant bank helps a business person to commence a business and raising finance. Furthermore, they help them to expand, modernizing, and restructuring the business. They also grant support in registering, buying, and selling shares at the stock exchange.
Features of Merchant Banking
Here are some of the must-know characteristics of merchant banking in India-
- High ratio of decision-makers as a percentage of the complete staff
- Loose organizational structure
- Fast decision mechanism.
- Refined services on both national and international levels.
- Huge amount of information.
- Profound contact with the environment.
- Priority on fee and commission returns.
- Innovative instead of monotonous operations
- Elevated liquidity ratio
- Consolidation of short and medium-term engagements
- Low ratio of profit allocation.
History of Merchant Banking
You would be amazed to know that merchant banks were established back in the 17 and 18 centuries in France and Italy by the Italian grain merchants. Initially, in merchant banking, a few merchant bankers were included who were intermediates in financing other transactions or their own.
After a couple of years, the practice of merchant banking evolved in the modern era from London. Merchants began to finance foreign trade by acceptance of the bill. With time they started using other services such as underwriting the issues, loan syndication, portfolio management, etc.
Merchant banking in India began in 1967 by National Grindlays; later, Citi Bank started it in 1970. In the year 1972, SBI became the first commercial bank to set up a distinct division for merchant banking. Then it was followed by ICICI in 1973, and then various banks started these services such as PNB, Bank of India, UCO Bank, etc.
It was in 1973 when FERA came into existence that helped increase merchant banking activities in India. After that, various banks such as IDBI and IFCI entered the market.
Also Read: Banking System in India Explained
Reasons for growth of Merchant Banking
There are a few reasons that accelerated the growth of these banks in India. Some of the reasons are:
1. Globalization: After the 1991 reforms, the Indian economy saw a drastic change as it opened gates for foreign companies. It helped in getting funds from abroad; thus, it led to the growth of merchant banks.
2. Elevated Competition: Because of the globalization of the economy, the market scenarios became lucrative, and business options became favorable for various individuals. This pivoted the Indian corporate sector, and a huge expansion was seen in this sector. This motivated the Merchant Bankers to play an important role by offering specialized services to corporate.
3. Switch in consumer trends: There was a huge transformation in the industrial and corporate sectors because of the foreign players in the market.
The major benefit was that the Indian massed started getting better quality products as the Indian companies also started working on quality to match the foreign products. In such prevailing environments, financial products and instruments became more prominent.
4. Government Reforms: Government intervention was reduced, and privatization was increased. It also raised the limits of investment and lessened direct interventions that led to an increase in the proposition of foreign players.
These were some of the causes that hastened the increase of Merchant Banking in India. Let us also know the services that merchant banking offers to corporate and big business houses.
Services of Merchant Banking
1. Portfolio Management: It refers to decreasing the risk and maximizing the profits. This expression is usually used in connection to shares and debentures only. Merchant bankers offer these services to their customers and guide the investors in selecting the right securities as per their needs. Thus, merchant bankers ensure that they are updated with the complete market information.
2. Corporate Counseling: This is the basic service that merchant banks offer as all industrial units, whether new or existing, require this service. There is a wide range of services that come under corporate counseling, such as project counseling, capital restructuring, project management, working capital management, public issue management, loan syndications, fixed deposit, and lease financing.
3. Management of Capital Issues: This service comprises selling securities, equity shares, debentures, preference shares, etc., to the investors. The role of the merchant banker here is to make an action plan and budget for expenses for coordinating with underwriters, the expense for the issues, choosing the advertising agency for pre and post-issue.
For doing this, they have to be in touch with agencies that are involved in public issues.
4. Underwriting services: This is one of the most important services given by merchant banks as in this, the bank gives a guarantee that states that if the agreement is below the specified level, then the bank would have to contribute to the stated expense.
5. Loan Syndication: This service is pretty unusual from what the other banks offer. Here the merchant banks arrange a loan for a borrower who can be a big company, a government department, or a local authority. But, there are a lot of measures that a merchant banker has to take before a loan.
Firstly, they check and analyze the cost of the project, then they design the capital structure, see how much the promoter is contributing, and then decides on the amount of loan and approaches the financial institution for a loan. They also have to ensure that the company adheres to all the guidelines.
Other services that merchant banks offer are:
- Project Counseling
- Issue Management
- Foreign Currency Financing
- Advisory Services to Mergers and Takeovers
- Broking Corporate Advisory Services Leasing
- Consultancy to Sick Industrial Units
- Providing Venture Capital Financing
- Act as Debenture Trustee
Types of the organization that offer Merchant Banking services
Here are the organizations that provide Merchant banking services in India:
- Commercial Banks and their sub-banks
- Foreign Banks comprise Citi Bank, National Grindlays bank, Hong Kong Bank, etc.
- State Level Financial Institutions are State Industrial Development Corporations (SIDC’s) and State Financial Corporations.
- All India Financial Institutions and Development Banks like ICICI, IFCI, IDBI, etc.
- Private Financial Consultancy Firms and Brokers, like J.M. Financial and Investment Services Ltd.; Fnam Financial Consultants, Ceat Financial Services, DSP Financial Consultants, Kotak Mahindra, etc.
- Professional Merchant Banking Houses.
- Technical Consultancy Organisations.
Also Read: List of Banks in India
Functions of Merchant Bankers
There are a lot of functions that merchant banks do; let’s have a look at some of them:
- Help raise funds: The highlighting part about merchant banks is that they assist their clients in raising funds from the market by issuing shares, debentures, and bank loans. They help to raise funds from both domestic and international markets.
- Revival of sick units: They support the companies in rebuilding the disabled manufacturing units. They meet a lot of long-term financial institutions and the Industrial and Financial Restoration Council for backing them.
- Handling government permission: Almost all the business needs the consent of government for commencing a fresh project. In fact, there are a lot of industries that need permission for expansion and modernization; hence merchant banks handle government permissions for their clients.
- Advice on various issues: Merchant Banking in India is relatively different from other countries as here they also offer advice to their clients on modernization and expansion of business.
- Brokers in the stock exchange: They also serve as a broker in the stock exchange for their clients, plus they also buy and sell shares on account of them.
- Promotional Activities: They also play the role of industrial business promoters as well. They enable the developers to build innovations, make feasibility studies, define ventures, and receive public bodies and opportunities permits.
- Services to private sector units: They provide services to public sector units by offering numerous services like help in getting long term capital, foreign collaboration, marketing of securities, and also manage their long term finance
- Management of interest and dividend: They also guide their clients in managing both dividends on shares and interest on debentures. Merchant bank proffers them directions on the rate of dividend and timing as well.
- Money Market operation: They also trade with short-term money market instruments such as government bonds, commercial paper issues by big corporate enterprises, treasury bills issued by RBI, etc.
- Managing Public issue of companies
- Assistance to small companies
- Leasing services
- Managing public issue
Merchant Bankers in India
There are more than 130 merchant bankers who are registered with SEBI. Here is the list of some significant ones:
Public Sector Merchant Bankers
- State Bank of Bikaner and Jaipur
- Karur Vysya Bank
- SBI Capital markets Ltd.
- IFCI Financial Services Ltd.
- Punjab National Bank
- Bank of Maharashtra
Private Sector Merchant Bankers
- Yes, Bank Ltd.
- ICICI Securities Ltd.
- Kotak Mahindra Capital Company Ltd.
- Axis Bank Ltd.
- Tata Capital Markets Ltd.
- Reliance Securities Ltd.
- Bajaj Capital Ltd.
- ICICI Bank Ltd.
Foreign Players in Merchant Banking
- FedEx Securities Ltd.
- Goldman Sachs (India) Securities Pvt. Ltd.
- DSP Merrill Lynch Ltd.
- Deutsche Equities India Private Limited
- Morgan Stanley India Company Pvt. Ltd.
- Citigroup Global Markets India Pvt. Ltd.
- Barclays Securities (India) Pvt. Ltd.
- Barclays Bank Plc
- Deutsche Bank
Also Read: List of Scheduled Banks in India
Classification of Merchant Bankers
Merchant bankers have been divided into four categories for registration-
- Category 1: The role of merchant bankers in this category is to act as a consultant, advisor, issue manager, portfolio manager, and underwriter.
- Category 2: Merchant Bankers in this category act as a consultant, advisor, portfolio manager, and underwriter. They cannot be an issue manager of their own but can act as co-manager.
- Category 3: In this category, merchant bankers cannot do activities related to portfolio management, plus they can neither take issue management of their own nor act as a co-manager. They can act as a consultant, advisor, and underwriter.
- Category 4: If the merchant banker lies in this category, then they can just act as a consultant or advisor to an issue of capital.
Regulations for Merchant Banking in India
SEBI was established in 1992 as a regulatory body for protecting the interests of investors in the securities market. They made a few rules and guidelines for merchant bankers so that there is no monopoly, plus the interest of the customers is not harmed.
They are called Securities Exchange Board of India (SEBI) Regulations, 1992. These guidelines are amended regularly as per the dynamic market conditions:
Rules and regulations for merchant banks in India have been classified into five chapters and four schedules:
- The first chapter comprises the definitions and meanings of numerous terms that are frequently used in merchant banking.
- In the second chapter, you would locate the Registration and Certification of Merchant Bankers in India. It also holds several Operational Capabilities and Capital Requirements required to be finished for registering as a merchant banker.
- The third chapter deals with the General Obligations and Responsibilities that the merchant banker would have to undertake. Some of the major things are the General Code of Conduct, disclosure of information, auditing of accounts, and other important operating guidelines.
- Now comes the fourth chapter, which comprises the right of the Board to examine the merchant bankers and the actions that can be taken based on the report.
- In the fifth chapter, you will find the cases of defaults and the actions that are taken if anything wrong is done or if the guidelines are not followed.
This was about the chapters; the schedule by SEBI comprises of the format of forms and reports, which are substantial and also states the fees that are required to be paid for different purposes.
One of the most important things to remember is that no organization would be able to become a merchant banker until and unless they get a certificate of registration from SEBI. Plus, he must get himself registered under these regulations if they want to persevere any of the merchant banker activities.
For getting the certificate of registration, you would have to apply through the form and complete two sets of norms, which are:
- Operational capabilities
- Capital Adequacy norms
1. Operational capabilities: As per operational capabilities, merchant bankers are divided as per their roles.
2. Capital Adequacy Norms: For registration of the different categories of a merchant banker, SEBI has laid a few norms. Capital adequacy is calculated by taking capital contributed to the business plus free reserves.
Also Read: List of Private Banks in India
Capital Adequacy Norms by SEBI:
|Category of Merchant Banker||Minimum Net Worth|
|Category 1||Rs. 5 Crore|
|Category 2||Rs. 50 Lakhs|
|Category 3||Rs. 20 Lakhs|
Fee- As per SEBI Amendment Regulations, each merchant banker would have to pay a registration fee of Rs. 5 lakh when getting a certificate from the Board. The merchant banker would have to pay the fee within 15 days of the notice from the court.
Also, a merchant banker to keep the registration in force would have to pay a renewal fee of Rs. 2.5 lakhs every three years from the fourth year from the date of actual registration.
Points to remember
Here are a few points that you should review before choosing a merchant banker-
- Competence to examine and determine
- Plentiful of knowledge
- The capability of building a relationship
- Creative approach
- Honesty and transparency
- Capital Market facilities
- Helpfulness and friendliness
- Attitude towards problem-Solving
Merchant Bank vs. Commercial Bank
It is paramount to understand the difference between the two banks as it will make it easier for you to understand the merchant banking in India as compared to the other banks-
- Merchant banks work primarily for corporate firms, whereas commercial banks cater to the needs of individual customers.
- Merchant Banks are always open to take risks, but commercial banks usually avert taking any kind of risk.
- In merchant banks, everyone cannot open an account, whereas commercial banks are open for everyone.
- Merchant banks are management-oriented, but commercial banks are asset-oriented.
- Merchant banks usually do business with equities, but commercial banks usually buy and sell debt-related finance such as loan approvals, credit proposals, etc.
- The major activities done by merchant bankers are underwriting, portfolio management, consultant, and advisor, whereas commercial banks mostly play the role of financers only.
- Merchant banks are more related to the primary market and the commercial banks to the secondary market.
Also Read: List of Commercial Banks in India
Difference between Merchant banking and Investment banking
A lot of people get confused between Merchant and Investment banking; therefore, below is the difference between them so that it makes it easy for you to understand their roles and interests-
- Merchant banks deal with international financing activities; on the contrary, Investment banks usually deal with underwriting and issuance of securities
- Merchant banks mostly work with medium-sized organizations, whereas investment banks deal with large companies
- The work of a Merchant Banker is associated with trading finance, real estate investment, and corporate investment. Investment banking work with established enterprises and helps them in getting long-term capital requirement by becoming a mediator between the investors and the organization
- All the merchant banks offer trade facilities to their clients, but there are very less investment banks that offer trade financing facilities.
- A merchant bank is an institute that is both fee and fund-based as it offers custodial, banking, and advisory service to its customers. On the other hand, an investment bank is just fee-based as it earns money from services offered, lease rentals, and interest.
Objectives of Merchant Banks
The different banks had different purposes of establishment, but the merchant banking in India was started for the following objectives-
- For doing underwriting
- Offering long-term funds to companies
- Portfolio management
- Deciding capital structure
- Off-shore financing
- Corporate Advisory and issue management
- Loan Syndication
- Placement and Distribution
Frequently Asked Questions
Q1) What is Merchant Banking, for example?
A1) It is an institution that trades in underwriting, business loans for companies, advice on mergers & acquisitions, and international finance. They also offer consultancy to its clients in various areas such as marketing, financial, managerial, etc.
For example, merchant banking renders skill-oriented professional service to their clients concerning their financial requirements for adequate consideration in the form of a fee.
Q2) How many Merchant Bankers are there in India?
A2) There are approximately 1450 merchant bankers in India. Out of 1450, around 930 are registered with SEBI.
The major ones which are registered with SEBI are-
In Public Sector– Commercial Banks (24), Financial Institutions (6), State Institutions (4).
In Private Sector– International Bankers (10), Banks (10), finance and investment (231).
Q3) Who can be a merchant banker in India?
A3) To become a merchant banker, the applicant needs to pay a fee of Rs.50 000 by demand draft drawn in favor of ‘Securities and Exchange Board of India,’ payable at Mumbai, and this fee is non-refundable.
Secondly, the applicant’s net worth must be at least Rs 5 crore, not less than that. There is a fee of 20 Lakhs that he needs to pay as per SEBI Regulations, 2014. This money is to be paid when you get the certificate of initial registration by SEBI.
A merchant banker needs to hold a valid SEBI registration as per the SEBI regulations 1992. Then only he becomes eligible for acting as a Book Running Lead Manager (BRLM) to an issue. After this, the issuer company asks the merchant banker who is SEBI registered to make the offer document.
Merchant banker needs to ensure that he adheres to the legal compliance while preparing the offer document.
Q4) What are the functions of merchant banking?
A4) There are a lot of things that merchant bankers do for their clients; some of the services that it offers are-
- Management of Debt and Equity offerings
- Issue Management
- Project Counseling
- Financial Structuring
- Corporate Counseling and Advisory Services
- Placement and Distribution
- Portfolio Management
- Underwriting of Public Issue
- Offering venture capital and mezzanine financing
- Off-shore Finance
- Loan Syndication
- Non-Resident Investment
Recommended: What is SEBI? Powers, Roles & Functions of SEBI
Merchant Banking in India has enhanced the ease of doing business, because of which they have gained a considerable position in the market. Furthermore, the involvement of SEBI as a watchdog for all their activities has helped people gain confidence in merchant banks. With the dynamic international conditions, the government might bring in a few more guidelines for merchant banks that would protect customers’ interests and offer a platform for these banking services to flourish.