Unit 5

Insurance Act 1938:

The Insurance Act, 1938, broadly provides the ground rules for the operating insurance
companies in India. The Act provides for the following: The Insurance Act is the parent
legislation which aimed at consolidating and amending the law relating to the business
of insurance in February 1938, when, during the British Rule in India, there were many
insurance companies which were operating. The Insurance Act, 1938, broadly provides
the ground rules for the operating insurance companies in India. Incorporation of
insurance companies, issue of licence and renewal of licence (Sections 2C to 5)

Every insurer who proposes to do insurance business has to register with IRDA and obtain
a licence before they start doing insurance business. Three lines of businesses
recognised within insurance – Life insurance, Non-life insurance and Standalone Health
insurance.

Currently only one Reinsurer GIC is licensed in India as the National Reinsurer. Separate
companies will have to be formed for doing Life, Non-Life and Standalone Health
insurance business. Such companies cannot transact any business other than the
insurance business for which the licence is issued. All companies formed for the purpose
of doing insurance business shall carry the suSix “Assurance” or “Insurance” in their
names to enable anyone to recognise that they are engaged in insurance business.

A Public company is first incorporated under the Companies Act, 1956, with the primary
object of engaging in the business of life or non-life or standalone health insurance
business.

Applicants for insurance licence will have to submit, among other things, certified true
copy of memorandum and articles of association, list of directors, certain aSidavits and

undertakings from Promoters and the fees required for registration.

(a) IRDA is vested with powers under the Act to cancel the registration of insurers on
certain grounds such as default in complying with the provisions of the Act or Regulations
passed thereunder, carrying on business other than insurance business etc.

(b) Requirements as to Capital, Transfer of shares, Voting Rights etc.(Sections 6, 6A to

6C) Every insurer carrying on insurance business shall have a minimum paid up equity
capital of `100 Crores for life insurance and general insurance business and `200 crores
for an insurer carrying on reinsurance business.

The Act also provides for restrictions on transfer of shares in an insurance company.
Before an insurance company can put through transfer of shares in excess of the
following limits, prior approval of IRDA is required:
Deposits with Reserve Bank of India (Sections 7 to 9)

Section 7 mandates that every life insurance company shall maintain a sum equivalent
to 1% of the total gross premium written in India in any financial year commending after
31 day of March 2000, but not exceeding `10 Crores with the Reserve Bank of India in the
form of Cash or approved securities. In respect of general insurance business, a sum
equivalent to 3% of the total gross premium written in India in any financial year
commencing after 31 day of March 2000, but not exceeding `10 Crores is required to be
maintained. For reinsurance companies, a flat sum of `20 Crores has been prescribed.

(d) Accounts, Audit and Actuarial report and Abstract (Sections 10, 11, 12) Separate
books of account are required to be maintained for each class of business. Since
separate companies will have to be formed for Life, Non-Life or Reinsurance, this
provision is automatically taken care for formation of separate companies and
consequent maintenance of separate books of account. Further a separate fund called
Life insurance fund shall be formed, the assets of which shall be separate and distinct
from all other assets of the insurer.

By virtue of the powers given under Section 11, IRDA have framed Regulations for
Financial Statements which provides for forms of Revenue Account, Profit and Loss
Account and Balance Sheet along with the form of Management Report and some of the
documents annexed to the financial statements.

The accounts and the statements referred to in Section 11 shall be signed by the
Chairman of the Board of the Insurance company and two other Directors, Section 12
provides for audit of the financial statements shall be audited by an auditor. Detailed
guidelines have been framed by IRDA on the qualifications of persons who can be
appointed as Statutory Auditors of the

Company.

(e) Provisions Relating to Investments (Sections 27, 27A, 27B, 27E)

The manner in which the investment is required to be made is – not less than 50% in

Government and Approved securities (out of which 25% only in Government securities)
and the balance in Approved investments as specified in Section 27A. The deposits made
with

Reserve Bank of India under Section 7 are deemed to be Government Securities for this

purpose.

Investment in “Other investments”

Any investment in other than Approved Investments as above is allowed upto 15% of the
sum specified in Section 27, provided such investments are made with the consent of all
the directors present at a Board meeting and eligible to vote, in respect of which a special
notice has been given to all the Directors in India.

Prohibited Investments (Section 27A(5) and 27C)

Investments in the shares or debentures of a Private Limited Company and investments

out of Policyholders funds outside India are prohibited.

Prohibition of Loans

Section 29 prohibits grant of any loans or temporary advances to any Director, Actuary or
Auditor of the insurance company or to any company or firm in which any such Director,
Actuary or Auditor holds the position of a Director, Actuary or partner. This prohibition is
not applicable to:

Minimum insurance business under Rural and Social Sectors

Section 32B and 32C requires every insurer to undertake such minimum percentage of
the insurance business for covering risks associated with persons forming part of rural or
social sector, workers in the unorganized or informal sector or economically vulnerable
or backward classes of society or such classes as prescribed by IRDA.

IRDA

Insurance Regulatory and Development Authority of India or the IRDAI

Insurance Regulatory and Development Authority of India (IRDAI) is an apex regulatory

body involved in regulating and developing the insurance and reinsurance industry in
India. It was constituted as a statutory body as per the provisions of Insurance Regulatory
and Development Authority Act 1999. The body was created on the recommendations of
the Malhotra Committee Report. All the companies wanting to run the insurance
business in India are to be registered with the IRDAI.

Organisational Set-up:

The authority is a ten member body consisting of

• A chairman

• Five whole time members

• Four part time members

All the members to the Insurance Regulatory and Development Authority of India are
appointed by the Government of India.

The IRDAI is headquartered in Hyderabad in Telangana. Prior to 2001, it was

headquartered in New Delhi.
IRDA Functions

The functions of the IRDA are listed below:

• IRDAI is responsible for the registration, renewal, modification, withdrawal,

suspension or cancellation of such registration for applicants wanting to start an
insurance business in India.

• Protection of the interests of the policyholders.

• Control and regulation of the rates, advantages, terms and conditions that may be
oSered by insurers in respect of general insurance business not so controlled and
regulated by the TariS Advisory Committee.

• Regulating and maintaining a margin of solvency.

• Specifying qualifications, the code of conduct and training for intermediaries and
agents

• Specifying the code of conduct for surveyors and loss assessors

• Adjudication of disputes between insurers and intermediaries or insurance

intermediaries

• Supervising the functioning of the TariS Advisory Committee

• Calling for information from, undertaking an inspection of, conducting inquiries

and investigations including audit of the insurers, intermediaries, insurance
intermediaries and other organizations connected with the insurance business

• Promotion of competition so as to enhance customer satisfaction through

increased consumer choice and lower premiums

IRDA Mission

To protect the interests of the policyholders, to regulate, promote and ensure orderly
growth of the insurance industry and for matters connected therewith or incidental
thereto.

Insurance penetration in India:

• The penetration rate is helpful in understanding the growth of the insurance sector
in India. Penetration rate can be defined as the ratio of premiums underwritten in
a particular year to GDP.

• Economic survey 2022-23 noted the growth of the insurance sector in India but it
is not growing at a faster rate since most policyholders select savings-based
products.
 • The economic survey also noted that the penetration rate was 4.2% in 2021
when compared to 2.7% in 2000.

• Insurance penetration is marked by two parameters; insurance penetration, which

measures the ratio of tetra insurance premiums to Gross Domestic Product (GDP)
and insurance density which is the ratio of insurance premium to population

Products and services

What is the Definition of Insurance?

Insurance is a legal contract between a person and an insurance business in which the
insurer promises to provide financial protection (Sum guaranteed) against unforeseen
events for a certain price (premium). The many types of insurance plans available today
may be grouped into two groups :

• Life Insurance

• General Insurance

1. General Insurance

Some of the kinds of general insurance oSered in India are as follows :

• Health Care Coverage

• Automobile Insurance

• Homeowners' Insurance

• Insurance against fire

• Insurance for Travel

2. Life Insurance

Life insurance comes in a variety of forms. The most prevalent types of life insurance
policies oSered in India are as follows :

• Term Life Insurance

• Unit-Linked Insurance Plans

• Whole Life Insurance

• Endowment Plans

• Child Plans for Educations

• Retirement Plans

Let's take a closer look at the many kinds of insurance policies :

General Insurance

General insurance plans are one of the types of policies that provide coverage in the form
of sum assured against damages besides the policyholder's demise. In general, general
insurance refers to a variety of insurance plans that provide financial protection against
losses caused as a result of liabilities such as a bike, automobile, house, or health. The
following are examples of several types of general insurance policies :

Health Care Coverage

Health insurance is a form of insurance policy that covers the costs of medical treatment.
Health insurance policies either cover or repay the cost of treatment for any included
disease or injury. Various forms of health insurance cover a wide range of medical bills.

It typically provides defence against :

• Inpatient care

• Critical illness treatment

• post-hospitalization medical bills

• Procedures for day-care

A few types of health insurance policies also cover resident care and pre-hospitalization
costs. The following are some of the several types of health insurance policies available
in India :

1) Individual Health Insurance

Provides coverage to a single person.

2) Family Floater Insurance

This type of insurance allows your complete family to be covered under one policy, which
often includes the husband, wife, and two children.

3) Critical Illness Coverage

A sort of health insurance that covers a variety of life-threatening illnesses such as stroke,
heart attack, renal failure, cancer, and other comparable conditions. When a
policyholder is diagnosed with a serious illness, they get a lump sum payment.

4) Senior Citizen Health Insurance:

These insurance policies are designed for people over the age of 60.

5) Group Health Insurance

This is a type of insurance that a business provides to its employees.

Also Read: Discover the untapped potential of tax concepts in life insurance for
unparalleled financial security.

Automobile Insurance

Motor insurances are forms of insurance that provide financial help in the event that your
automobile is involved in a crash. In India, there are several types of motor insurance
coverage available, including :

1) Car Insurance

This plan covers privately owned four-wheelers. There are two kinds of automobile
insurance plans: third-party insurance and extended coverage policies.

2) Bike Insurance

These are forms of automobile insurance that protect privately-owned two-wheelers in

the event of an accident.

3) Commercial Vehicle Insurance :

A sort of automobile insurance that covers any vehicle utilized for commercial purposes.

Homeowners' Insurance

A homeowner’s insurance, as the name implies, provides full coverage for the belongings
and infrastructure of your property against physical destruction or damage. In other
words, house insurance protects you from both natural and man-made disasters such as
fire, earthquake, tornado, burglary, and robbery.

The following are examples of several types of house insurance policies :

1) Home Building Insurance

Serves to protect the house's foundation from destruction in the event of a disaster.

2) Public Liability Coverage

Protects the insured residential property from any harm caused by a visitor or third-party
while on the premises.

3) Standard Fire and Special Perils Policy

Protection against fires, natural disasters (e.g., earthquakes, landslides, and storms, and
floods), and anti-social human-caused activities (e.g., strikes, and riots)

Life Insurance
Life insurance policies provide protection against unforeseen circumstances such as the
policyholder's death or incapacity. Aside from providing financial security, many types of
life insurance plans enable policyholders to optimize their savings by making recurring
payments to various equity and debt fund alternatives.

You may get a life insurance policy to protect your family's financial future against the ups
and downs of life. The insurance coverage includes a substantial sum that will be paid to
your loved ones if something occurs to you. Based on your financial needs, you may pick
the length of the life insurance policy, the amount of coverage, and the payment choice.
The following are the many types of life insurance policies :

• Term Life Insurance

• Unit-Linked Insurance Plans

• Whole Life Insurance

• Endowment Plans

• Child Plan for Educations

• Retirement Plans

1. Term Life Insurance

Term insurance is the purest and most inexpensive type of life insurance, allowing you to
choose a high level of coverage for a certain period of time. With a low-cost term life
insurance policy, you can protect your family's financial future (term insurance plans
generally do not have any cash value, and thus, are available at lower rates of premium
as compared to other life insurance products.)

If you die within the policy time, your nominees will get the agreed sum Assured,
depending on the payment type you choose (some term insurance plans oSer multiple
payout options as well)

2. Whole Life Insurance

Whole life insurance plans, often known as 'conventional' life insurance plans, give
protection for the policyholder individual's complete life (typically till age 100), as
opposed to any other type of life insurance that only provides coverage for a set number
of years.

While a whole life insurance policy pays a death benefit, it also has a savings component
that helps the policy accumulate cash value over time. Whole life insurance policies have
a 100-year maturity period. If the insured person survives beyond the maturity age, the
entire life insurance policy becomes a matured endowment.

3. Endowment
Endowment plans fundamentally give financial protection against life's risks while also
allowing policyholders to save consistently over a certain length of time. If the
policyholder survives the policy term, the endowment plan matures, and the
policyholder receives a lump sum payment.

If something occurs to you (as the life insured), the life insurance endowment policy pays
your family (beneficiaries) the whole sum assured.

4. Unit-Linked Insurance Plan (ULIP)

ULIPs are insurance policies that combine investment and insurance advantages into
one contract. A portion of your payment for a Unit Linked Insurance Plan is invested in a
range of market-linked equities and debt instruments.

The leftover premium is used to provide life insurance coverage for the duration of the
policy. ULIPs provide you with the freedom to allocate premiums to diSerent instruments
based on your financial needs and market risk tolerance.

5. Plans for Children

Child plans are life insurance policies that assist you in financially securing your child's
life goals, such as higher education and marriage, even if you are not there. To put it
another way, child plans combine savings and insurance benefits to help you prepare for
your child's future requirements at the appropriate age.

The money obtained on maturity can be utilized to help your child meet his or her financial
needs.

Venture Capital

What do you mean by Venture Capital?

Entrepreneurs need investments for their start-up companies. The investments or the
capital that these entrepreneurs receive from wealthy investors is called Venture Capital
and the investors are called Venture Capitalists.

VC firms reduce the risk of investments by co-investing with other VC firms. Usually, there
will be the main investor called the ‘lead investor’ and other investors will be called
‘followers’.

How does Venture Capital Fund work?

1. Venture Capital Fund is made up of investments from wealthy individuals or

companies who give their money to a VC firm to manage their investment
portfolios for them and to invest in high-risk start-ups in exchange for equity.

2. The basic idea is to invest in a company’s balance sheet and infrastructure.

 3. Venture Capitalist nurtures the idea of an entrepreneur for a short period of time
and exits with the help of an investment banker.

4. In a start-up company, VC will receive an equity partnership in exchange for

investments in the start-up company.

5. VC’s receive liquidation preference, it means in the worst-case scenario where the
company fails, VCs are given the first claim to all the company’s assets and
technology. It also oSers voting rights over key decisions like Initial Public OSer
(IPO) or even sale of the company.

What are the types of Venture Capital funding?

As per the ideation stage, age of start-up company and its performance over the years,
venture capital funding can be categorised into diSerent types.

Below table gives a list of the types of venture capital funding and their features

Type of Objective & Amount of Funding

Funding

Pre-seed 1. Pre-seed funding is in the range of $100,000 – $200,000

funding
2. Funding provided when a startup is less than a year old.

3. Supports R&D, Market Research.

4. Recruit new members.

Seed 1. Funding will be in the range of $ 1million – $ 2 million

Capital
2. Start-up company will need a product that will be viable in the market

Series A 1. Funding will range in between $ 2 million – $ 15 million

funding
2. The start-up company needs to have a market-proven product that
will help in scaling up fast.

Series B 1. Funding can range between $ 7 million – $ 20 million.

funding
2. This round is considered to be less risky.

3. Funding is used for Business Development, advertising.

 Series C 1. Funds for developing more products and services, acquiring another
funding company

2. Funding received is usually in the range of $ 25 million.

Series D 1. Few start-ups reach this stage.

funding
2. Positive reasons could be the company wants to stay private for
some more time or they need to go for more expansion before going
for IPO.

3. The negative reason could be the company did not hit the expected
growth plans.

4. This is down round funding as trust in the companies abilities has

been eroded.

Each letter corresponds to the development stage of the start-up that has received
funding.

What are the advantages of Venture Capital?

1. Banks usually prefer to finance a new business which has hard assets. In the
current information-based economy, new start-ups hardly have any hard asset.
Venture Capitalists step in under these circumstances.

2. They can provide more insights into the market.

3. Can help in strategy formulation.

4. Can help in developing strategic networks

How is a Venture Capital (VC) Fund Structured?

Currently, the fund structure is similar to what it was 40 to 50 years back.

1. The partnership is a combination of limited and general partners.

2. The life of the fund ranges from 7 years to 10 years.

3. The VC fund investments take place over the course of the first two to three years
and the returns are usually obtained over the last 2 or 3 years.

4. In today’s scenario, the average fund managed and the number of investments
managed is much more than what it used to be in the past.

Explain the importance of Venture Capital?

Venture Capital industry in the USA is considered as an engine of economic growth. The
modern-day computer industry in the USA was created partly due to the capital made
available by early venture capitalists like Tom Perkins, Tommy Davis, Eugene Kleiner,
Arthur Rock.

Innovation and entrepreneurship are the kernels of a capitalist economy. New

businesses, however, are often highly-risky and cost-intensive ventures. As a result,
external capital is often sought to spread the risk of failure. In return for taking on this risk
through investment, investors in new companies are able to obtain equity and voting
rights for cents on the potential dollar. Venture capital, therefore, allows startups to get
oS the ground and founders to fulfill their vision.

How do Venture Capital firms work?

1. Venture capital funds usually go into a particular industry in a particular time

period. For example, in the 1980s in the US, Venture Capital (VC) funds majorly
went into the energy industry, later on, it shifted into genetic engineering, telecom
industry and software companies. In the next stage, VC funds concentrated more
on the Internet-based industry.

2. One can safely conclude that VC funding is guided more by the growth potential
in a particular industry rather than the potential and skills of individual
entrepreneurs.

How is Venture Capital di`erent from an angel investor?

While both provide money to startup companies, venture capitalists are typically
professional investors who invest in a broad portfolio of new companies and provide
hands-on guidance and leverage their professional networks to help the new firm. Angel
investors, on the other hand, tend to be wealthy individuals who like to invest in new
companies more as a hobby or side-project and may not provide the same expert
guidance. Angel investors also tend to invest first and are later followed by VCs.

Financing –Bill discounting –factoring

When businesses face cash flow challenges and require immediate funds, they often
turn to financial instruments like bill discounting and factoring. Both bill discounting and
factoring provide avenues for accessing working capital by leveraging outstanding
invoices. Although these terms are related to accounts receivable financing, they diSer
in their process, parties involved, and scope. In this article, we will explore the diSerences
between bill discounting and factoring, their definitions, processes, benefits, and key
distinctions.
Criteria Bill Discounting Factoring

Nature of Short-term financing against the Sale of accounts receivable or

Transaction discounted value of a bill of invoices to a third-party (factor) at a
exchange or promissory note discount

Parties Involved Involves the drawer of the bill (seller), Involves the seller (client), the buyer
the drawee (buyer), and a financing (debtor), and the factor (financing
institution company)

Financing Provides immediate cash flow by Provides immediate cash flow by

receiving a discounted value of the selling invoices or accounts
bill from the financing institution receivable to the factor

Ownership of The seller retains ownership of the The factor takes ownership of the
Receivables bill and is responsible for collecting accounts receivable and is
payment from the buyer responsible for collecting payment

Risk and The seller remains responsible for The factor assumes the risk of non-
Responsibility credit risk, collection, and credit payment and is responsible for credit
control control and collection

Invoice The financing institution generally The factor verifies the authenticity and
Verification verifies the authenticity and validity of the invoices
acceptance of the bill

Use of Collateral Collateral may or may not be Collateral may or may not be required,
required, depending on the depending on the creditworthiness of
creditworthiness of the drawer and the invoices
the buyer

Relationship with The seller maintains a direct The factor may establish a direct
Buyer relationship with the buyer, who is relationship with the buyer for
obligated to pay the bill payment collection

Confidentiality The transaction details are generally The factor may have direct contact
kept confidential between the with the buyer, and the transaction
financing institution and the seller details may not be confidential

Repayment The seller repays the financing The factor collects payment directly
institution after the buyer settles the from the buyer and deducts the
bill on its due date amount advanced to the seller
Focus Focuses on short-term financing and Provides comprehensive accounts
working capital needs of the seller receivable management, credit
protection, and working capital
solutions

Control of The seller maintains control over the The factor assumes control over
Collections collections and is responsible for collections and follows up with the
pursuing payment buyer for payment

Financing Fees The financing institution charges The factor charges fees based on the
interest or discount fees based on invoice value, creditworthiness, and
the bill's value and creditworthiness services provided

Examples Discounting a post-dated check, bill Selling invoices to a factoring

of exchange, or promissory note with company for immediate cash flow and
a bank credit management

Definition of Bill Discounting

Bill discounting, also known as invoice discounting or invoice financing, is a financing

arrangement where a business sells its unpaid invoices to a financial institution at a
discounted rate. The business receives immediate funds, usually a percentage of the
invoice value, while the financial institution assumes the right to collect the full payment
from the debtor. Bill discounting allows businesses to address immediate cash flow
needs without waiting for their customers to make the payment.

Definition of Factoring

Factoring, on the other hand, involves a broader range of services beyond financing. It is
a financial arrangement where a business sells its accounts receivable to a third-party
known as a factor. The factor purchases the receivables at a discounted rate and
assumes responsibility for collecting the payments from the debtors. Factoring includes
not only financing but also services such as credit checks, collections, and bookkeeping.

Process of Bill Discounting

In bill discounting, the process involves the following steps:

1. The business delivers goods or services to its customers and generates an invoice.

2. The business approaches a financial institution, such as a bank or a non-banking

financial company (NBFC), for bill discounting.

3. The financial institution evaluates the creditworthiness of the business and the
debtor.
 4. If approved, the financial institution purchases the invoice from the business at a
discount.

5. The financial institution provides immediate funds to the business, usually a

percentage of the invoice value.

6. The business retains the responsibility of collecting the payment from the debtor
within the specified period.

7. Once the debtor pays the invoice, the business repays the financial institution the
discounted amount.

Process of Factoring

Factoring involves a more comprehensive process, including the following steps:

1. The business delivers goods or services to its customers and generates an invoice.

2. The business enters into a factoring agreement with a factor.

3. The factor assesses the creditworthiness of the business and the debtors.

4. The factor purchases the accounts receivable from the business at a discount.

5. The factor provides immediate funds to the business, usually a percentage of the
accounts receivable value.

6. The factor assumes the responsibility of collecting the payments from the
debtors.

7. The factor may provide additional services such as credit checks, collections, and
bookkeeping.

8. Once the debtors pay the invoices, the factor deducts its fees and returns the
remaining amount to the business.

Parties Involved in Bill Discounting

In bill discounting, the parties involved are:

1. Business: The entity selling the invoices and in need of immediate funds.

2. Financial Institution: The institution purchasing the invoices at a discounted rate

and providing funds to the business.

3. Debtor: The customer of the business who owes payment for the delivered goods
or services.

Parties Involved in Factoring

In factoring, the parties involved are:

 1. Business: The entity selling the accounts receivable and seeking financing and
other related services.

2. Factor: The third-party entity purchasing the accounts receivable and providing
funds to the business. The factor also handles collections, credit checks, and
other services.

3. Debtor: The customer of the business who owes payment for the delivered goods
or services.

Types of Bill Discounting

There are two primary types of bill discounting:

1. Recourse Bill Discounting: In this type, the financial institution has the right to
recourse or recover the discounted amount from the business if the debtor fails to
make the payment.

2. Non-Recourse Bill Discounting: In this type, the financial institution bears the risk
of non-payment by the debtor. If the debtor defaults, the financial institution
cannot seek recourse from the business.

Types of Factoring

Factoring can be categorized into various types based on the services provided:

1. Recourse Factoring: Similar to recourse bill discounting, the business retains the
risk of non-payment by the debtor.

2. Non-Recourse Factoring: In this type, the factor assumes the risk of non-payment
by the debtor. If the debtor defaults, the factor absorbs the loss.

3. Spot Factoring: It involves factoring individual invoices or a selected set of

invoices, providing flexibility to the business.

4. Full-Service Factoring: This type includes a comprehensive range of services,

such as credit checks, collections, and bookkeeping, in addition to financing.

Benefits of Bill Discounting

The benefits of bill discounting include:

1. Immediate access to funds: Businesses can address cash flow gaps and fund
their operations without waiting for invoice payment.

2. Flexibility: Businesses can selectively choose which invoices to discount based

on their immediate financing needs.

3. Control over collections: The business retains control over collecting payments
from debtors.
 4. Improved liquidity: By converting unpaid invoices into immediate funds, bill
discounting improves liquidity and working capital management.

Benefits of Factoring

The benefits of factoring include:

1. Immediate funds: Factoring provides businesses with quick access to funds by

selling their accounts receivable.

2. Outsourced collections and bookkeeping: The factor handles collections, credit

checks, and bookkeeping tasks, reducing the administrative burden on the
business.

3. Risk mitigation: In non-recourse factoring, the factor assumes the risk of non-
payment, providing protection to the business.

4. Enhanced credit management: Factors often have expertise in credit evaluation,

helping businesses make informed decisions about their customers'
creditworthiness.

Key Di`erences Between Bill Discounting and Factoring

1. Scope: Bill discounting focuses solely on financing by purchasing individual

invoices, while factoring includes financing as well as additional services such as
credit checks and collections.

2. Responsibility: In bill discounting, the business retains the responsibility of

collecting payments from debtors, whereas in factoring, the factor handles the
collections.

3. Services: Factoring oSers a more comprehensive range of services beyond

financing, such as credit checks, collections, and bookkeeping.

4. Risk: In bill discounting, the risk of non-payment rests with the business, while in
non-recourse factoring, the factor assumes the risk of non-payment.

Conclusion

Bill discounting and factoring are valuable financial tools that enable businesses to
address cash flow challenges and access immediate funds by leveraging their
outstanding invoices or accounts receivable. While bill discounting primarily focuses on
financing, factoring encompasses a broader range of services. Understanding the
diSerences between these two options allows businesses to make informed decisions
based on their specific needs and requirements.

Merchant Banking
Merchant banking is a special branch of banking that provides financial services to
medium to small-sized businesses. They may help with underwriting, fundraising, credit
or financial advice. Merchant banks may also provide services to high net worth
individuals.

Some merchant banks may be aSiliated with other retail or investment banks, but this
specialized branch of banking does not provide services to the general public.

Today, merchant banking solutions like RazorpayX Business Banking+ allow businesses
to harness the power of automation and technology to make banking eSicient and
accurate.

Manage payroll, vendor payments, invoices and contracts, bulk payouts, and so much
more from one centralized dashboard.

How Does Merchant Banking Work?

Merchant banks work with large companies to cater to their complex financial needs. The
services they provide include:

• Fundraising and capital acquisition for various purposes like mergers,

acquisitions, expansion.

• They also provide underwriting, securities trading and advisory services

• Asset management, wealth management, investment management for

companies and high net worth individuals and families

Read more: SEBI-registered merchant banks in India

Functions of Merchant Banks

A merchant bank’s primary function is to provide financial and advisory services to

medium-sized businesses.

➡ Portfolio Management

Merchant banking companies provide portfolio management services to high-net-worth

individuals and corporate investors. These services include a selection of securities,
portfolio monitoring and review, advice on the rationalization of portfolios, and tax
planning.

➡ Fundraising

Merchant banking helps businesses raise funds from the public by issuing shares and
debentures, rights issues of shares, preferential allotment of shares, private placement
of shares and debentures, and other instruments.

➡ Loan Syndication
Merchant bankers help arrange funds for large corporate borrowers by syndicating loans
from multiple lenders. They act as an intermediary between the borrowing company and
the lending institutions.

➡ Leasing Services

Merchant banks provide leasing services to companies in the form of capital goods,
vehicles and oSice equipment. This helps to reduce the overall financial burden of the
companies.

➡ Underwriting Services

Merchant banks also provide underwriting services for initial public oSerings (IPOs),
private placements, follow-on public oSerings (FPOs) and rights issues. This service
helps companies to raise the required funds from the public.

Example of Merchant Banking

In 2021, merchant bank Avendus Capital helped the Indian company Piramal Enterprises
acquire the debt-ridden assets of Dewan Housing Finance Corporation (DHFL) for
₹34,250 crore ($4.4 billion). This was one of the largest debt restructuring deals in India
and helped Piramal Enterprises to become a major player in the Indian financial services
sector.

Top 10 Merchant Banks in India

1. Kotak Mahindra Capital: India’s largest merchant bank, providing a wide range of
services to businesses, including raising capital, mergers and acquisitions (M&A),
and project finance.

2. Morgan Stanley India: Global investment bank with a strong presence in India,
oSering services such as underwriting, M&A advisory, and equity research.

3. JM Financial: Full-service merchant bank with a focus on emerging markets,

providing services such as debt and equity capital markets, M&A advisory, and
restructuring.

4. Avendus Capital: Leading merchant bank with a focus on M&A and private equity,
providing services such as deal origination, execution, and post-merger
integration.

5. Edelweiss Financial Services: India’s leading financial services company,

providing a wide range of services to businesses, including investment banking,
asset management, and wealth management.

6. Goldman Sachs India: Global investment bank with a strong presence in India,
oSering services such as underwriting, M&A advisory, and equity research.
 7. Axis Capital: Leading merchant bank with a focus on debt capital markets,
providing services such as debt issuance, restructuring, and advisory.

8. Citigroup Global Markets India: Global investment bank with a strong presence
in India, oSering services such as underwriting, M&A advisory, and equity
research.

9. Nomura Financial Advisory and Securities India: Global investment bank with a
strong presence in India, oSering services such as underwriting, M&A advisory,
and equity research.

10. Bank of America Securities India: Global investment bank with a strong
presence in India, oSering services such as underwriting, M&A advisory, and
equity research.

Merchant Banking vs Investment Banking

Both merchant and investment banks provide financial services to businesses, but serve
very diSerent functions.

Feature Merchant Bank Investment Bank

International finance,
business loans for Underwriting and issuance of
companies, and securities on behalf of large
Focus underwriting corporations

Small and medium-sized

businesses, high-net-worth
individuals, and family Large corporations and government
Clients oSices entities

Underwriting, private placement,

Mergers and acquisitions initial public oSering (IPO)
(M&A), project finance, trade management, debt and equity
finance, leasing, and securities issuance, and financial
Services advisory services restructuring

Higher risk appetite since Lower risk appetite, generally not open
Risk they deal with smaller to doing business with riskier, high-
appetite businesses growth businesses
 Profit
model Fee-based Commission-based

Merchant banking is a valuable financial service that can provide growing businesses
with the capital and financial help they need. It can also provide advice and assistance in
areas such as financial management, corporate strategy and risk management.

By utilizing the services of a merchant bank, businesses can access capital, reduce costs
and gain access to a variety of specialized services. In short, merchant banking is an
essential component of any business’s financial strategy.

• One-stop banking solutions platforms like RazorpayX allow business owners to

open current accounts, pay taxes, schedule payments, pay vendors seamlessly
and check invoices from a single dashboard. This saves valuable time and eSort.

• It is an accounting and banking platform that fills the gap between advanced
banking solutions and finance professionals. It allows easy accounting software
integration.

Role of SEBI

SEBI (Merchant Bankers’) Regulation Act, 1992 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 securities or acting as manager,
consultant, adviser or rendering corporate advisory service in relation to such issue
management”.

At present no organisation can act as a ‘merchant banker’ without obtaining a certificate

of registration from the SEBI.

However, it must be noted that a person/ organisation has to get himself registered under
these regulations if he wants to carry on or undertake any of the authorised activities, i.e.,
issue management assignment as manager, consultant, advisor, underwriter or portfolio
manager.

To obtain the certificate of registration, one had to apply in the prescribed form and fulfil
two sets of norms (i) operational capabilities and (ii) capital adequacy norms.

Classification of Merchant Bankers:

The SEBI has classified ‘merchant bankers’ under four categories for the purpose of
registration:

1. Category I Merchant Bankers:

These merchant bankers can act as issue manager, advisor, consultant, underwriter and
portfolio manager.

2. Category II Merchant Bankers:

Such merchant bankers can act as advisor, consultant, underwriter and portfolio
manager. They cannot act as issue manager of their own but can act co-manager.

3. Category III Merchant Bankers:

They are allowed to act as underwriter, advisor and consultant only. They can neither
undertake issue management of their own nor they act as co-manager. They cannot
undertake the activities of portfolio management also.

4. Category IV Merchant Bankers:

A category IV merchant banker can merely act as consultant or advisor to an issue of

capital.

Capital Adequacy Norms:

SEBI has prescribed capital adequacy norms for registration of the various categories of
merchant bankers. The capital adequacy is expressed in terms of minimum net worth,
i.e., capital contributed to the business plus free reserves.

The following are the capital adequacy norms as laid down by SEBI:

Capital Adequacy Norms

Fees:

According to the SEBI (Merchant Bankers) Amendment Regulations, 1999, w.e.f.

30.9.1999, every merchant banker shall pay a sum of Rs. 5 lakhs as registration fees at
the time of grant of certificate by the Board. The fee shall be paid by the merchant banker
within 15 days of receipt of intimation from the Board.

Further, a merchant banker to keep registration in force shall pay renewal fee of Rs. 2.5
lakhs every three years from the fourth year from the date of initial registration.

Government Policy for Merchant Banking:

The Government issued policy guidelines for merchant bankers to ensure suSicient
physical infrastructure, necessary expertise, good financial standing, professional
integrity and fairness in their transactions. The merchant bankers have to be competent
to serve the investors also.

On 1st March, 1993 new policy guidelines have been issued by SEBI for the merchant
bankers to ensure greater transparency in their operations and to make them
accountable so as to protect the investor’s interest. The guidelines relate to pre-issue
obligations, underwriting, advertisements and post-issue obligations of the merchant
bankers.