Innovative Financial Instruments

Prof. S N Rao from S J M School of Management, IIT Bombay visited TAPMI on 22nd June, 2010 to interact with the students.

The topic for discussion was “Innovative Financial Instruments”. He started his lecture by mentioning the major reforms that took place in the Indian Financial Markets, which could be staged into two phases. The first was Pre-1992 stage where the financial instruments were controlled in terms of its product, price and size by the Controller of Capital Issues Act, 1946. And the second was Post-1992 in which the companies had freedom to design the product, price the product and raise any amount by coming out with a financial instrument.

He proceeded by mentioning about some of the innovative financial instruments used by the companies in the Indian Financial Markets. These included the following financial instruments:

1)   Triple Option Convertible Debentures (TOCD):

  • First Issued by Reliance Power Limited with an issue size of Rs. 2,172 Cr.
  • There was no outflow of interest for first five years.
  • Equity increase was in phases.
  • No put option to investors and no takeover threat.
  • Reduced dependence on the financial institutions.
  • The expenses for floating the issue was just 2.62% of the issue size which was very less when compared to the 10-12% for a general public issue.

2)   Deep Discount Bonds:

  • The investor got a tax advantage and could eliminate the re-investment risk.
  • From the issuer’s point of view also, the issue cost was saved as it involved no immediate service cost and lower effective cost. The refinancing risk was also eliminated.

3)   Floating Rate Notes:

  • First issued by Tata Sons with a floor rate of 12.5% and a cap of 15.5% and a reference rate of 364 T-Bill yield, which was 9.85% at the time of issue.
  • The investors would get a minimum return of the floor rate and the maximum return was the cap rate. They would get higher than floor rate depending upon the fluctuations in the reference rate.

4)   Zero Coupon Bonds:

  • It did not involve any annual interest on the bonds. But it had a higher maturity value on the initial investment for a particular time period.

5)   Convertible and Zero Coupon Convertible Bonds:

  • Similar to the zero coupon bonds except that the effective interest was lower because of the convertibility.

6)   Secured Premium Notes (SPNS):

  • First issued by TISCO in July, 1992.
  • These financial instruments were secured against the assets of the company but the investors had to pay a premium over the market price for these types of instruments.

7)   Equity with Differential Voting Rights:

  • Issued by Tata Motors, in which the shares were classified as  “Ordinary Shares” and “A Ordinary Shares”.
  • The ordinary shares were issued at Rs. 340 per share, had a voting right of one vote per share.
  • On the other hand, the A ordinary shares were issued at Rs. 305 per share but the voting rights were limited to one vote for every 10 shares. In addition, they were paid extra dividend of five percentage points.

The session was followed by a question and answer round wherein the students got an opportunity to clear their doubts about the nature and type of the various financial instruments.

– Finance Forum


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