DEPOSITORY-

Definition and Meaning of Depository

Indian capital market has been witnessing rapid growth in recent past. However, this growth has not
watched with supporting infrastructure to handle the growing volume of paper that has flooded the
market, choking our existing system. This has caused problems like delay in transfers, long settlement
period, high levels of failed trade and bad deliveries, high-risk exposure etc. These characteristics were
normally the attributes of an under developed market. To overcome delay in settlement of certificates,
mutilation of certificates, loss in transit, stolen certificates, litigation etc. a new system of trading, viz.
Depository system was introduced, which facilitates investor to hold securities in electronic form and
to trade in these securities. Depository system essentially aims at eliminating the voluminous and
cumbersome paper work involved in the scrip-based system and offers scope for ‘paperless’ trading
through state-of-the-art technology. It is an institution which maintains an electronic record of
ownership or securities. The storage and handling of certificates is hence immediately eliminated which
generates a reduction in costs like back office cost for handling, transporting and storing certificates.
On the simplest level, depository is used to refer to any place where something is deposited for storage
or security purposes. More specifically, it can refer to a company, bank or an institution that holds and
facilitates the exchange of securities, or a depository can refer to an institution that is allowed to accept
monetary deposits from customers. Depository is an institution or a kind of organization which holds
securities with it, in which trading is done among shares, debentures, mutual funds, derivatives, Future
& Options (F&O) and commodities. The term depository is defined as ‘a central location for keeping
securities on deposit’. It is also defined as ‘a facility for holding securities, either in certificated or
uncertificated form to enable book entry transfer of securities.’ In recent times, the volume of securities
and the size of the business handled have increased manifold. Hence, the present day depositories are
fully automated to serve the customers faster and accurate. As per The Bank for International
Settlements (BIS), depository is “a facility for holding securities which enables securities transactions
to be processed by book entry. Physical securities may be immobilized by the depository or securities
may be dematerialized (so that they exist only as electronic records)”. In simple terms depository is an
organization where securities of an investor are held in electronic form. According to Section 2(e) of
the Depositories Act, 1996. “Depository means a company formed and registered under the Companies
Act, 2013 and which has been granted a certificate of registration under Section 12(1A) of the SEBI
Act, 1992”. Therefore, a Depository is an organization like a Central Bank where the securities of a
shareholder are held in the electronic form at the request of the shareholder through the medium of a
Depository Participant. To utilize the services offered by a Depository, the investor has to open an
account with the Depository through a Depository Participant. A depository cannot act as a depository
unless it obtains a certificate of commencement of business from SEBI. There are two Depositories
functioning in India, namely the National Securities Depository Limited (NSDL) and the Central
Depository Services (India) Limited (CDSL). Under the provisions of the Depositories Act, these
Depositories provide various services to investors and other Participants in the capital market, such as,
clearing members, stock exchanges, investment institutions, banks and issuing corporates. These
include basic facilities like account opening, dematerialization, dematerialization, settlement of trades
and advanced facilities like pledging, distribution of non-cash corporate actions, distribution of
securities to allottees in case of public issues, etc. All the securities held by a depository shall be
dematerialized and shall be in a fungible form. To utilize the services offered by a depository, the
investor has to open an account with the depository through a participant, similar to the opening of an
account with any of the bank branches to utilize services of that bank. Registration of the depository is
required under SEBI (Depositories and Participants) Regulations, 1996 and is a precondition to the
functioning of the depository. Depository and depository participant both are regulated by SEBI.

Depository System

In the depository system, share certificates belonging to the investors are to be dematerialized and their
names are required to be entered in the records of depository as beneficial owners. Consequent to these
changes, the investors’ names in the companies’ register are replaced by the name of depository as the
registered owner of the securities. The depository, however, does not have any voting rights or other
economic rights in respect of the shares as a registered owner. The beneficial owner continues to enjoy
all the rights and benefits and is subject to all the liabilities in respect of the securities held by a
depository. Shares in the depository mode are fungible and cease to have distinctive numbers. The
transfer of ownership changes in the depository is done automatically on the basis of delivery payment.
In the Depository mode, corporate actions such as IPOs, rights, conversions, bonus,
mergers/amalgamations, subdivisions & consolidations are carried out without the movement of papers,
saving both cost & time. Information of beneficiary owners is readily available. The issuer gets
information on changes in shareholding pattern on a regular basis, which enables the issuer to efficiently
monitor the changes in shareholdings. The Depository system links the issuing corporates, Depository
Participants (DPs), the Depositories and clearing corporation/clearing house of stock exchanges. This
network facilitates holding of securities in the soft form and effects transfers by means of account
transfers.

Benefits of Depository System

In the depository system, the ownership and transfer of securities takes place by means of electronic
book entries. At the outset, this system rids the capital market of the dangers related to handling of
paper. The system provides numerous direct and indirect benefits, like:

1. Elimination of bad deliveries - In the depository environment, once holdings of an investor are
dematerialised, the question of bad delivery does not arise i.e. they cannot be held "under objection".
In the physical environment, buyer of shares was required to take the risk of transfer and face
uncertainty of the quality of assets purchased. In a depository environment good money certainly begets
good quality of assets.

2. Elimination of all risks associated with physical certificates - Dealing in physical securities have
associated security risks of theft of stocks, mutilation of certificates, loss of certificates during
movements through and from the registrars, thus exposing the investor to the cost of obtaining duplicate
certificates and advertisements, etc. This problem does not arise in the depository environment.

3. Immediate transfer and registration of securities - In the depository environment, once the securities
are credited to the investors account on pay out, he becomes the legal owner of the securities. There is
no further need to send it to the company's registrar for registration. Having purchased securities in the
physical environment, the investor has to send it to the company's registrar so that the change of
ownership can be registered. This process usually takes around three to four months and is rarely
completed within the statutory framework of two months thus exposing the investor to opportunity cost
of delay in transfer and to risk of loss in transit. To overcome this, the normally accepted practice is to
hold the securities in street names i.e. not to register the change of ownership. However, if the investors
miss a book closure the securities are not good for delivery and the investor would also stand to loose
his corporate entitlements.
4. Faster disbursement of non-cash corporate benefits like rights, bonus, etc. – Depository system
provides for direct credit of non-cash corporate entitlements to an investors account, thereby ensuring
faster disbursement and avoiding risk of loss of certificates in transit.

5. Reduction in brokerage by many brokers for trading in dematerialized securities - Brokers provide
this benefit to investors as dealing in dematerialized securities reduces their back office cost of handling
paper and also eliminates the risk of being the introducing broker. Reduction in handling of huge
volumes of paper and periodic status reports to investors on their holdings and transactions, leading to
better controls.

6. Elimination of problems related to change of address of investor, transmission, etc. - In case of change
of address or transmission of demat shares, investors are saved from undergoing the entire change
procedure with each company or registrar. Investors have to only inform their DP with all relevant
documents and the required changes are effected in the database of all the companies, where the investor
is a registered holder of securities.

7. Elimination of problems related to selling securities on behalf of a minor - A natural guardian is not
required to take court approval for selling demat securities on behalf of a minor.