ASSIGNMENT

ON
Demutualisation of Indian stock
market.

ASSIGNMENT PREPARD BY
SHANKAR KUMAR SINGH -07F042.
SOHINI SAMANTA -07F044.
SOUMYA TRIPATHI -07F046.
SUBHOJIT DAS -07F048.

U ND ER T HE GU ID AN CE O F
PR OF (Dr .) . S. DEV

INSTITUTE OF MANAGEMENT AND INFORMATION SCIENCE

BHUBANESWAR
 C ON TENTS

ØEXECUTIVE SUMMARY 1
ØINTRODUCTION 2
ØDEMUTUALISATION 3
ØADVANTAGES OF DEMUTUALISATION 4
ØSTOCK EXCHANGE BOARD OF INDIA’S GUIDELINES 5
ØTHEORITICAL FRAMEWORK 6
ØM.H.KANAI COMMITTEE 8
ØDEMUTUALISATION OF REGIONAL STOCK
EXCHANGE 9
ØPROCESS OF DEMUTUALISATION 10
ØRESARCH AND METHODOLOGY 11
ØCHALLENGES OF DEMUTUALISATION 13
ØCONCLUSION 14
ØREFERENCES 15
 IN TR OD UC TIO N

Earlier the stock exchanges in India are formed as

association of stock brokers. Stock exchanges were mutual
organizations that were managed by members in a single city with
a huge dealer population. They were registered as what is known as
section 25 companies or as not-for-profit organization.
Organizational profit making was never the motive; the exchanges
required funds only the extent of meeting its expenses. Any surplus
made by the exchange resulted in reduced access fees for members.
Though outside professionals have been appointed to research
wings and to positions such as executive directors, in practice, the
exchanges have been run by broker-members elected
representatives.
The members, who provide brokerage services also own, control
and manage the exchange.

DRAWBACKS:-
1) The conflict of interests between the owners, the members
and the management - since all the brokers are managing the
exchange together then such conflict is advent to happen.
2) Brokers were manipulating the market for their advantage-
That is investor’s interest was ignored.
3) Scams took place in pre-demutualization phase-1992-
Harshad Mehta scam & 2001-Ketan Parekh Scam
4) Lack of strict vigilance on the market-No one person or
management was there to look after the affair of the
exchange.
So Indian market and financial sector felt the need of
demutualization.
 WHAT IS DEMUTUALISATION?

Demutualization means converting a “not for profit"

organization into a “for profit”organization.It implies that a
mutually owned association is converted into a company
owned by shareholders. BSE is converted into BSE LTD.
In other words transforming the legal structure, of an
exchange form to a business corporation form is referred to
a demutualization.
The ownership, management and trading is separated and
are in different hands.
They are clearly separated like a commercial entity. The
management of the exchange is separated from the
shareholders and the brokers.
The Stockholm Stock Exchange was the first stock
exchange to be demutualised. It is a Swedish based stock
exchange.
 AD VANT AGES O F DE MU TU ALISA TIO N.

ADVANTAGES OR REASONS FOR DEMUTUALISATION

1) Rationalized Governance: - The corporate model will enable

management to take actions that are in the best interest of
customers and the exchange itself. There would be transparency.

2) Investors Participations: - A demutualised exchange affords both

institutional investors and retail investors the opportunity to
become shareholders. Institutional investors require much greater
liquidity for block trading.

3) Competition from Alternate Trading System’s (ATS) and

Electronic Communication Networks:- ATS and Electronic
Communication Networks provide cheap and efficient access to
quoted stocks unlike traditional stocks exchanges. To cope with
competition, exchange required funds. While members owned have
limitations in raising funds.

4) Globalization: - Historically brokers and exchanges were locally

focused. Exchanges did not face meaningful competition from
exchanges in distance places. Through alliances, exchanges seek to
attract more investors by harmonizing distinct trading environment
and by offering greater product variety.
5) Resources for capital investment: - One of the drivers of stock
exchange demutualization is screen trading, which has which has
replaced floor trading on most exchanges. Once customers have
direct access to screens, exchanges memberships no longer have as
much economic value and clearing firms rather than traders
become a dominant force in exchange activities.

SEBI’s GUIDELINES

SEBI issued its guideline on 31- 11- 2006 for investment in stock
exchanges in India. Under this guidelines, shareholdings of trading
Members have to be brought down to 49% which can be either by
divestment or additional equity capital to be issued to make the
shareholding of existing trading members to 49%. Therefore, it can
be way of
1) Offer for sale by prospector by existing trading members
2) Placement of shares of shareholders having trading rights to
such persons or institutions may be short listed by the exchange
with the approval of SEBI.
3) Issue of equity shares on private placement basis by the stock
exchange to any person or group of persons not having trading
rights subject to approval of SEBI.

LIM ITATIO NS B Y SE BI .

• No person shall directly or indirectly acquire or hold more than

5% in the paid up capital.
• No person shall either individually or together with persons in
concert with him acquire and or hold more than 1% of the paid
up capital.
• Foreign investment up to 49% will be allowed in stock
exchanges with a separate FDI cap of 26% and FII cap of 23%.
• No FII shall seek and get representation on the Board of
Directors of stock exchanges. No foreign investor including
persons acting in concert will hold more than 5% of the equity
in the exchange.

THEORITICAL FRAMEWORK.
In this theoretical framework we have taken three models of
demutualization from the Indian stock market. The models are of
Bombay Stock Exchange, National Stock Exchange and National
Commodity and Derivative Exchanges Limited.
DEMUTUALISATION OF BSE.

The Bombay stock exchange. Asia’s oldest stock exchange with 131 year
old history. It was handled by 790 brokers.

It was corporatised on 19 May 2005.The process of converting these

exchanges into incorporated companies is called corporatization. Around
51% stakes of 790 brokers were offloaded to 21 investors. Like SBI, LIC,
Aditya Birla Group, beside Deutsche Brose and Singapore Exchange’s.

• 19 investors (like SBI, LIC, Aditya Birla and so on) have picked up
41% stake.

• 10% by Deutsche Borse and Singapore Exchange. Each group has

picked up 5 % stake for Rs. 189 crore each.

DEMUTUALISATION OF NSE:

The National Stock Exchange was formed in November 1992 as a tax paying
company. Unlike other stock exchanges in the country. From day one, NSE
has adopted the form of a demutualized exchange’s. It is owned by a set of
leading financial institutions like banks, insurance companies and other
financial intermediaries and is managed by professionals, who do not
directly or indirectly trade on the exchange.
The promoters of the NSE are like: –
Industrial Development Bank of India Limited.
Industrial Finance Corporation of India Limited.
National Insurance Company Limited.
Infrastructure Development Finance Company Limited. And so on.

DEMUTUALISATION OF NCDEX.
National Commodity & Derivatives Exchange Limited, is
a public limited company incorporated on April 23, 2003 under the
Companies Act, 1956. It obtained its Certificate for Commencement of
Business on May 9, 2003. It commenced its operations on December 15,
2003. NCDEX currently facilitates trading of 57 commodities.
NCDEX is a national-level, technology driven de-mutualised on-
line commodity exchange with an independent Board of Directors and
professional management - both not having any vested interest in commodity
markets. It is committed to provide a world-class commodity exchange
platform for market participants to trade in a wide spectrum of commodity
derivatives driven by best global practices, professionalism and
transparency.
The promoters and its shares can be known through the pie chart
given below.
 COMMITTEE FORMED FOR SUGGESTIONS:-

A group was constitute by SEBI to advise on the matter of corporatization

and demutualization of exchanges under the chairmanship of Justice M K
Kania, former chief justice of India which has suggested some steps for
implementing the demutualisation concept in the Indian stock market.

The group formed to view the corporatization and demutualization of stock

exchanges submitted its report on August 28, 2002 and made the following
silent observations and recommendation:-

1) Stock Exchanges are converted into companies limited by shares from

associations of persons/companies limited by guarantee.

2) Amendment is made to the Income Tax Act 1961, so that past

accumulated profits of the stock exchanges are not subject to tax.

3) Amendment would also be required in the Indian Stamp Act 1899 and
Sales Tax law to allow a tax- free transfer of assets from the old entity to the
demutualized new entity.

4) The system of permission to trade on the basis of ownership of a trading

card is replaced by a system where money is deposited to obtain trading
rights.

5) Shareholders, brokers and investing publics are equally represented on the

governing board of the demutualized exchanges.

6) A uniform model for corporatization and demutualization would have to

be adopted by all stock exchanges.

7) The merger of stock exchanges is a commercial decision that would be

left to stock exchanges.
DEMUTUALIZATION OF REGIONAL STOCK
EXCHANGES.

Government asks for demutualisation of regional stock

exchanges in two ways:-

1) Either by becoming trading arms of BSE & NSE, or

2) no. of regional stock exchange joins hands to make a separate

platform.

Nine exchanges recently signed an MOU with the National

Stock Exchange (NSE) to extend its trading platform on the
regional stock exchanges.

THE REGIONAL STOCK EXCHANDES THAT HAS BEEN

DEMUTUALIZED ARE:-

Vadodara Stock Exchange Magadh Stock Exchange

Jaipur Stock Exchange Ludhiana Stock Exchange

Saurashtra Kutch Stock Exchange Delhi Stock Exchange

Bhubaneshwar Stock Exchange Cochin Stock Exchange

Inter Connected Stock Exchange Pune Stock Exchange

Bangalore Stock Exchange Ahmedabad Stock Exchange

Calcutta Stock Exchange Madras Stock Exchange

Madhya Pradesh Stock Exchange Gauhati Stock Exchange

Hyderabad Stock Exchange.

THE STOCK EXCHANGES THAT HAS NOT BEEN

DEMUTUALIZED.
Coimbatore Stock Exchange.

Mangalore Stock Exchange .

Meerut Stock Exchange .

Uttar Pradesh Stock Exchange.

PROCESS OF DEMUTUALISATION:-
All the assets are valued by the exchange, which includes the value of seats.
A total value is founded and divided into shares, which are offered to the
public. Then the stock exchange lists the shares. The members of the
exchange will get the payment for their seats from the funds available
through the sale of shares. The goal of demutualization is corporate structure
which offers the management greater flexibility. Demutualization helps to
respond to changes in a better way and it also provides the company to spin-
off its subsidiaries, get into mergers and acquisitions, raise funds,
etc.Membership cardholders of the exchange will be the shareholders of the
exchange initially. There would be only a single class of trading members
having the same rights and privileges. If any person is admitted as a trading
member then uniform standards will be followed in terms of capital
adequacy, deposits, fees, etc.In the governing board of any demutualized
exchange, the representatives will not exceed one-fourth of the total strength
of board. The public, apart from the shareholders who have the trading
rights, will hold at least 51% of its equity shares. The trades are being
cleared and settled by the trading members until the clearing and settlement
functions can passed on to a recognized clearing corporation which might
take place within two years. The corporatized and demutualized exchange
will initially use the existing assets and reserves transferred from the
previous exchange. The government transfers the surplus funds built in the
process of demutualization to the consolidated fund of India. It also has the
option of using such funds to acquire capital assets or to develop the market.
Demutualization avoids conflict of interests between the owners, the
members and the management.

RES AR CH AND METH OD OL OG Y.

We have used the secondary data information here. We have taken the six
months Bombay Stock Exchange’s index from pre- demutualisation and
post- demutualisation phase each. All this data are available on the BSE.
Website. So the data’s are:-

MONTHS B.S.E Indices

Nov- 04 6248.43
Dec- 04 6617.15
Jan- 05 6696.31
Feb- 05 6721.08
Mar-05 6954.86
Apr-05 6694.42
May-05 6772.74
Jun-05 7228.21
Jul-05 7708.59
Aug-05 7921.39
Sep-05 8722.17
Oct-05 8821.84
Nov- 05 9033.99

Now we are going to draw the line graph with the aid of above
data’s
B.S.E Indicies

10000
9000
8000
7000
6000
5000 B.S.E Indicies
4000
3000
2000
1000
0
05
A 5

Se 5

O 5
A 5
M 5

Ju 5

5
D 04

05
Fe 5
Ja 4

-0

-0

0
-0

l-0
-0

-0

-0
0
-0

n-

p-
ar

ug
pr

ay

ct
-

Ju
n-

b-

ov
ov

ec

M
N

N
So what we analyze from the above graph that the performance of the index
gets stable after the month of May, 2005(the BSE was demutualised on 19
May, 2005). The index is quite volatile in pre-demutualisation phase (i.e.
before May, 2005).
Now we will look that whether there is any improvement in the turnover of
the BSE index because of demutualisation or not? We have taken the four
months turnover (buys & sells figure) from pre- demutualisation and post-
demutualisation phase each. The data’s are:-

MONTHS BUY SELLS

Jan-05 25663.2 25899.67
Feburary2005 28427.63 30895.75
Mar-05 33414.38 38510.1
Apr-05 22636.1 22859.74
May-05 26297.33 27057.4
Jun-05 34275.59 35576.7
Jul-05 38247.85 39624.35
Aug-05 48063.69 49342.17
Sep-05 52561.82 53842.46

Now we are going to draw the bar graph with the aid of above
data’s
 60000

50000

40000
BUY
30000
SELLS
20000

10000

0
05

5
5

05
5

5
05

05

05
-0

-0

l-0
r-0
20

g-

p-
n-

n-
ar

ay

Ju
Ap

Au
Ja

Ju

Se
ry

M
ra
bu
Fe

So we see that the turnover increases at faster rate after May, 2005. But in
the pre-demutualisation phase there is not any fixed trend in the turnover.
Sometime the figure is increasing and sometime it is diminishing.

Therefore we can conclude that the performance of the Bombay Stock

Exchange has revamped because of demutualisation.

CHALLENGES OF DEMUTUALISATION.

Demutualization is not enough for obtaining a franchisee

agreement though it is a necessary condition. There will be no
changes in the conflict of interest if an exchange is converted from
an association of persons into a limited liability company. The
same board and the same organizational structure will continue to
exist and nothing much will be achieved. The government can not
solve the exchange’s management problem by steering the
demutualization process. There have been arguments that
demutualization by itself may not achieve improved governance.
 CONCLUSION.

If stock exchanges are of self regulatory nature then they find ways
to profit making objectives. The stock exchanges have the option
of setting up separate entity within the stock exchanges defining
the regulatory powers. Though demutualization is beneficial, many
stock exchanges are hesitating to adopt it because they are afraid of
loosing their identity. They also have the fear of paying huge tax
conversions. This new revolution will become successful when the
government will take the necessary steps. This issue has already
gained importance at the international but it needs to be considered
more intensely at domestic level.
 REFERENCES.
The sources from where we have availed the information
mentioned above are:-

• ICFAI Journals of 2005.

• Financial market & services, By Gordon & Natarajan.
• www.livemint.com
• nseindia.com
• Bseindia.com