Unit 2: Credit rating, leasing and merchant banking

Credit rating is an opinion of a rating agency about the relative ability and willingness of an issuer to meet its debt obligations in full and on time, expressed through symbols.

• Advantages: helps investors judge risk; lowers borrowing cost for good issuers; wider investor base; regulators and banks use ratings (capital adequacy).
• Limitations: ratings are opinions, not guarantees; conflict of interest (issuer pays); rating lag (IL&FS 2018 was AAA until shortly before default); rating shopping.

• SEBI (Credit Rating Agencies) Regulations, 1999 govern CRAs; registered CRAs include CRISIL (1987), ICRA (1991), CARE (1993), India Ratings & Research (Fitch), Acuité, Brickwork (registration cancelled 2022), Infomerics.

• Methodology factors: business risk (industry, market position, operations), financial risk (leverage, interest cover, cash flows, liquidity), management risk (track record, governance), project risk, support from parent/government.

A lease is a contract in which the owner (lessor) gives the right to use an asset to another (lessee) for a period in return for periodic payments (lease rentals), while ownership remains with the lessor.

• Legal framework: Hire Purchase Act, 1972 (passed but never brought into force) — so HP is governed by the Indian Contract Act (bailment), Sale of Goods Act, Motor Vehicles Act (registration in the name of hirer with endorsement of financier); leasing by the Contract Act (bailment); stamp duty under state laws.
• Income tax: HP — hirer claims depreciation and the interest component; lessor in a finance lease (tax view) claims depreciation; lessee deducts lease rentals.
• GST: lease rentals are a supply of service at the rate applicable to the goods; HP is a supply of goods.
• Accounting: Ind AS 116 (lessees recognise right-of-use assets and lease liabilities), AS 19 for non-Ind AS entities.
• RBI guidelines: leasing and HP companies are NBFCs — must register with RBI (minimum net owned funds ₹10 crore for new NBFCs by 2027), follow prudential norms (income recognition, asset classification — NPA after 90 days, provisioning, capital adequacy 15%), fair practices code (transparent terms, no coercive recovery), scale-based regulation (2021) — base, middle, upper, top layers.

Merchant banking is a fee-based service of managing and underwriting new issues, advising companies on raising capital, mergers, restructuring and project finance. SEBI (Merchant Bankers) Regulations, 1992 define a merchant banker as any person engaged in issue management by making arrangements for selling, buying or subscribing to securities, or acting as manager, consultant or adviser.

• Registration: SEBI-registered merchant bankers must meet minimum net worth and staffing norms; the 2024 amendments created two categories (Category I may handle main-board issues) with higher net-worth requirements.

• SEBI (Merchant Bankers) Regulations, 1992 (amended 2024): registration, capital adequacy (minimum net worth), qualified staff, code of conduct, maintenance of books, half-yearly results, no underwriting beyond limits, due diligence certificates, disclosure of interests, no insider trading.
• SEBI (ICDR) Regulations, 2018: obligations of lead managers in public issues — due diligence, offer document disclosures, allocation, post-issue monitoring.
• Code of conduct: integrity, fairness, avoid conflicts of interest, maintain confidentiality, ensure investor grievance redressal.

Venture capital (VC) is long-term equity or equity-linked finance provided to new, innovative, high-risk, high-growth ventures, along with management support.

• Features: equity participation, high risk–high return, long-term (5–10 years), active involvement (board seats, mentoring), exit through IPO, trade sale or buy-back.

• Early phase: IDBI Venture Capital Fund (1986) after the Technology Development Fund; TDICI (ICICI and UTI, 1988) — later ICICI Ventures; RCTC, GVFL.
• Regulation: SEBI (Venture Capital Funds) Regulations, 1996 → replaced by SEBI (Alternative Investment Funds) Regulations, 2012 (VCFs and angel funds under Category I AIF).
• Growth phase (2000s onwards): IT and internet boom; global VCs (Sequoia — now Peak XV, Accel, Tiger Global); India has the world's third-largest start-up ecosystem with over 100 unicorns.
• Government support: Startup India (2016), Fund of Funds for Startups (SIDBI, ₹10,000 crore), tax exemptions (Section 80-IAC), angel tax abolished (2024 Budget), SIDBI Venture Capital.
• Challenges: valuation corrections ("funding winter" 2022–23), exit options, regulatory uncertainty, concentration in a few cities and sectors.