Merchant Banks can be defined as financial institutions which provide a wide range of financial services such as consultation, management, counselling to large corporate houses or individuals. These differ from the ‘normal’ commercial banks in many ways. The Commercial Banks deal in activities such as accepting deposits and providing loans, while Merchant Banks only indulge in consultation or management for a certain fee. Although they may also accept deposits and provide credit, but this is done for only select clients of the bank and not to the public in general as commercial banks do.
These banks are known around the world by different names. In the United States of America (USA), they are called ‘Investment Banks’, while in the United Kingdom (UK), they are known as ‘accepting and issuing houses’. A notification released by the Finance Ministry of India defines a Merchant Banker as, “any person who is engaged in the business of issue management either by making arrangements regarding selling, buying, or subscribing to the securities as manager, consultant, adviser in relation to such an issue management”. Globally institutions like Goldman Sachs, Morgan Stanley and Credit Suisse are some of the well know Merchant Banks, while in India commercial banks such as State Bank of India, ICICI Bank,and Citibank provide merchant banking services among others.
Merchant Banking as a concept can be traced back to the 17th and 18th Centuries to countries like France and Italy where grain merchants intermediated or assisted other merchants in financial matters for a small fee. It developed further in countries such as the UK and USA where it was adopted by many as their profession. The modern concept of merchant banking started in the city of London where it was practiced on a large scale by merchants. These were extended to the government as well.
In India, Merchant Bank services were formally started by an already well-established National Grindlays Bank in 1967, through its merchant banking division. Although it did not offer many financial services, but it was a start. Following in the footsteps, Citibank also set up a merchant banking department in 1970 and the State Bank of India in 1972. In the years to come, most of the commercial banks in India, like the ICICI Bank, IDBI Bank, Syndicate Bank, Canara Bank, Bank of Baroda, Bank of India and many others set up their own merchant banking divisions to compete in this growing market. Later, private individuals and consultancy firms, both national and international also entered this race.
Merchant Banks in India and around the world perform the following functions as part of their standard operations –
- Issue management: Merchant Bankers advice their clients on the issuing of different types of shares such as equity shares, preference shares, and debentures, which are a type of debt instrument.
- Credit Syndication: The Merchant Banks provide loans to a specific set of clients for setting up or executing various projects.
- Portfolio Counselling: Merchant Banks also help their clients in investing and managing Portfolios, which are large investments consisting of a number of various financial instruments and investments.
- Project Counselling: Clients are advised on various procedural and financial aspects of their short or long-term projects.
- Brokering in Stock Exchange: Many Merchant Banks act as brokers of stock exchanges. They buy and sell shares of different types on behalf of their clients.
- Advice on Expansion and Management: Some Merchant Banks also provide advice to their customers on the expansion and modernization of their businesses. They advise on mergers, acquisitions and takeovers too.
- Services to Private & Public Sector Units: Merchant Bankers also offer many services to public & private sector units like helping in raising funds, marketing of securities, foreign collaborations and managing long-term finances.
- Management of Interests and Dividends: Merchant Banks also help their clients in the management of interest on and dividends on their invested shares, and regarding the rate of dividend as well as their timing.
- Leasing Services: Some Merchant Banks also help in leasing services where the lessor allows the use of specific assets to the lessee for a certain period on behalf of rentals or fees.
This is only a suggestive and not an exhaustive list of the services that the Merchant Banks provide to a wide variety of clients.
Types of Merchant Banks in India
The Securities and Exchange Board of India (SEBI), which is a regulatory body, has classified ‘Merchant Bankers’ under the following four categories –
Category I Merchant Bankers:
This category contains the Merchant Bankers who can act as Issue Managers, Consultants, Advisors, Portfolio Managers and Underwriters.
Category II Merchant Bankers:
These Merchant Bankers can act as Advisors, Consultants, Portfolio Managers and Underwriters. But they cannot act as issue managers on their own but as Co-Managers.
Category III Merchant Bankers:
This category of Bankers is allowed to act as Advisors, Consultants and Underwriters only. They can neither act as Issue Managers on their own nor as Co-Managers. Also, they cannot undertake portfolio management activities.
Category IV Merchant Bankers:
This category of Merchant Bankers can only act as Advisors or Consultants regarding an issue of capital.
Regulations regarding Merchant Banking in India
The Securities and Exchange Board (SEBI), which was established as a regulatory body to protect the interests of investors in the securities market in 1992 framed some guidelines for the Merchant Banks operating in India. These are known as the Securities and Exchange Board of India (Merchant Bankers) Regulations, 1992, and have been regularly amended to keep up with the changing market conditions.
These Regulations have been divided into Five Chapters and Four Schedules.
1. The First Chapter deals with the definitions of various terms used in Merchant Banking Industry.
2. The Second Chapter deals with the Registration and Certification of Merchant Bankers in India. It lays out certain Operational Capabilities and Capital Requirements that need to be fulfilled to register as a Merchant Banker in India. For e.g., Section 7 of the regulations state that a capital adequacy requirement of net worth of Rupees Five Crores needs to be fulfilled.
3. The Third Chapter talks about the General Obligations and Responsibilities that a registered Merchant Banker has to undertake. These include the General Code of Conduct, auditing of accounts, disclosure of information and other necessary operating guidelines.
4. The Fourth Chapter lays down the right of the Board to inspect the Merchant Bankers registered under it and the actions that can be taken on the basis of the report.
5. The Fifth Chapter deals with the cases of defaults and the actions to be taken in that condition.
The Schedules contain the format of forms and reports that are necessary and also describe the fees that need to be paid for various purposes.
The Merchant Banking industry in India which started with large foreign banks and firms and were then adopted by Indian Commercial Banks and firms as well, have faced various challenges over the years. The period of economic liberalisation in the 1990s saw new opportunities open up as more and more individuals and businesses started to expand. Although these banks are subject to many rules and regulations framed by the SEBI as well as the Reserve Bank of India, they continue to flourish. Now with changing international conditions and consumer trends, it is upto the government to bring in reforms which protect the interests of the customers as well as provide a platform for these banking services to prosper.
Frequently Asked Questions
What are Merchant Banks?
Merchant Banks are financial institutions which provide services such as issue management, consultancy, portfolio management and underwritings. These are different from the commercial banks in the sense that they do not accept deposits or provide loans to the general public.
What is the history of Merchant Banking in India?
Merchant Banking in India was started by the Grindlays Bank in 1967. Since then, many private and public banks such the State Bank of India, Citibank, ICICI Bank etc. and other national and international firms have set up their own Merchant Banking services.
What are the various categories of Merchant Bankers in India?
There are four categories of Merchant Banks in India. The first category provides services such as Issue Management, Consultancy, Portfolio Management and Underwritings. The second category cannot indulge in Issue Management alone, they act as Co-Managers. The third category cannot enter issue management, even jointly. While the fourth category can only provide consultancy.
What are the Regulations for the Merchant Bankers in India?
The Merchant Banks in India are regulated by the Securities and Exchange Board of India (SEBI) through the Securities and Exchange Board of India (Merchant Bankers) Regulations, 1992.
Edited by Shikhar Shrivastava
Approved & Published – Sakshi Raje