MODULE 4 INVESTMENTS INTRODUCTION There are different ways a company can invest internationally: through mutual funds, American

n Depositary Receipts, exchange-traded funds, foreign stocks, or direct investments in foreign markets. Two of the chief reasons why people and firms invest internationally are: i. ii. Diversification -- spreading the investment risk among foreign companies and markets that are different than the home countrys economy, and Growth -- taking advantage of the potential for growth in some foreign economies, particularly in emerging markets.

Sudden changes in market value are only one important consideration in international investing. Changes in foreign currency exchange rates will affect all international investments, and there are other special risks you should consider before deciding whether to invest. The degree of risk may vary, depending on the type of investment and the market. For example, international mutual funds may be less risky than direct investments in foreign markets, and investing in developed economies may avoid some of the risks of investing in emerging markets. By including exposure to both domestic and foreign stocks in the portfolio, the company can reduce the risk of losing money and the portfolio's overall investment returns will have a smoother ride. Thats because international investment returns sometimes move in a different direction than countrys market returns. FOREIGN DIRECT INVESTMENT The IMF defines foreign direct investment (FDI) as a category of international investment where a resident in one economy (the direct investor) obtains a lasting interest in an enterprise resident in another economy (the direct investment enterprise).

Foreign direct investment (FDI) in its classic definition can also be defined as a company from one country making a physical investment into building a factory in another country. Its definition can be extended to include investments made to acquire lasting interest in enterprises operating outside of the economy of the investor. The FDI relationship consists of a parent enterprise and a foreign affiliate which together form a Multinational corporation (MNC). In order to qualify as FDI the investment must afford the parent enterprise control over its foreign affiliate. The IMF defines control in this case as owning 10% or more of the ordinary shares or voting power of an incorporated firm or its equivalent for an unincorporated firm; lower ownership shares are known as portfolio investment. History In the years after the Second World War global FDI was dominated by the United States, as much of the world recovered from the destruction brought by the conflict. The US accounted for around three-quarters of new FDI (including reinvested profits) between 1945 and 1960. Since that time FDI has spread to become a truly global phenomenon, no longer the exclusive preserve of OECD countries. FDI has grown in importance in the global economy with FDI stocks now constituting 28 percent of global GDP. Consistent economic growth, de-regulation, liberal investment rules, and operational flexibility are all the factors that help increase the inflow of foreign direct investment or FDI. FDI is any form of investment that earns interest in enterprises which function outside of the domestic territory of the investor. FDIs require a business relationship between a parent company and its foreign subsidiary. Foreign direct business relationships give rise to multinational corporations. For an investment to be regarded as an FDI, the parent firm needs to have at least 10% of the ordinary shares of its foreign affiliates. The investing firm may also qualify for an FDI if it owns voting power in a business enterprise operating in a foreign country.

Types of Foreign Direct Investment FDIs can be broadly classified into two types: outward FDIs and inward FDIs. This classification is based on the types of restrictions imposed, and the various prerequisites required for these investments. An outward-bound FDI is backed by the government against all types of associated risks. This form of FDI is subject to tax incentives as well as disincentives of various forms. Risk coverage provided to the domestic industries and subsidies granted to the local firms stand in the way of outward FDIs, which are also known as "direct investments abroad." Different economic factors encourage inward FDIs. These include interest loans, tax breaks, grants, subsidies, and the removal of restrictions and limitations. Factors detrimental to the growth of FDIs include necessities of differential performance and limitations related with ownership patterns. Other categorizations of FDI exist as well. Vertical Foreign Direct Investment Vertical Foreign Direct Investment takes place when a multinational corporation owns some shares of a foreign enterprise, which supplies input for it or uses the output produced by the MNC. Horizontal foreign direct investments Horizontal foreign direct investments happen when a multinational company carries out a similar business operation in different nations. Foreign Direct Investment is guided by different motives. FDIs that are undertaken to strengthen the existing market structure or explore the opportunities of new markets can be called "market-seeking FDIs." "Resource-seeking FDIs" are aimed at factors of production which have more operational efficiency than those available in the home country of the investor. Some foreign direct investments involve the transfer of strategic assets. FDI activities may also be carried out to ensure optimization of available opportunities and economies of scale. In this case, the foreign direct investment is termed as "efficiency-seeking."

Benefits of Foreign Direct Investment * Growth of capital stock * Incorporated technologies * Possibilities to gain managerial and labor skills * Higher incomes and economic development. (Taxation for public sector) - Finance education - Finance health - Finance infrastructure development, etc. - Resource -transfer - Employment - Balance-of-payment (BOP) * Import substitution * Source of export increase Costs of Foreign Direct Investment * Adverse effects on the BOP - Capital inflow followed by capital outflow + profits - Production input importation * Threat to national sovereignty and autonomy - Loss of economic independence Advantages of FDI a. Economic development: Foreign direct investment is that it helps in the economic development of the particular country where the investment is being made. This is especially applicable for the economically developing countries. During the decade of the 90s foreign direct investment was one of the major external sources of financing for most of the countries that were growing from an economic perspective. It has also been observed that foreign direct investment has helped several countries when they have faced economic hardships. An example of this could be seen in some

countries of the East Asian region. It was observed during the financial problems of 1997-98 that the amount of foreign direct investment made in these countries was pretty steady. The other forms of cash inflows in a country like debt flows and portfolio equity had suffered major setbacks. Similar observations have been made in Latin America in the 1980s and in Mexico in 1994-95. b. Transfer of technologies: Foreign direct investment also permits the transfer of technologies. This is done basically in the way of provision of capital inputs. The importance of this factor lies in the fact that this transfer of technologies cannot be accomplished by way of trading of goods and services as well as investment of financial resources. It also assists in the promotion of the competition within the local input market of a country. c. Human capital resources: The countries that get foreign direct investment from another country can also develop the human capital resources by getting their employees to receive training on the operations of a particular business. The profits that are generated by the foreign direct investments that are made in that country can be used for the purpose of making contributions to the revenues of corporate taxes of the recipient country. d. Job opportunity: Foreign direct investment helps in the creation of new jobs in a particular country. It also helps in increasing the salaries of the workers. This enables them to get access to a better lifestyle and more facilities in life. It has normally been observed that foreign direct investment allows for the development of the manufacturing sector of the recipient country. Foreign direct investment can also bring in advanced technology and skill set in a country. There is also some scope for new research activities being undertaken. e. Income generation: Foreign direct investment assists in increasing the income that is generated through revenues realized through taxation. It also plays a crucial role in the context of rise in the productivity of the host countries. In case of countries that make foreign direct investment in other countries this process has positive impact as well. In case of these

countries, their companies get an opportunity to explore newer markets and thereby generate more income and profits. f. Export/Import: It also opens up the export window that allows these countries the opportunity to cash in on their superior technological resources. It has also been observed that as a result of receiving foreign direct investment from other countries, it has been possible for the recipient countries to keep their rates of interest at a lower level. It becomes easier for the business entities to borrow finance at lesser rates of interest. The biggest beneficiaries of these facilities are the small and mediumsized business enterprises. Foreign direct investment leads to increase in profits within different industries as well as tax cuts and expanded marketability for singularly differing industries. Often times procurement of properties, buildings, and labor can be obtained at a fraction of the cost in host countries than would be the case within the company's home country. While this may seem unfair, it is a good idea to keep in mind the host countries economy and market. Companies are often forced to abide by local regulations rather than the regulations of their home country. On the other side of the coin, the host country benefits due to the increase in jobs it produces in the regional labor market to which the investment companies reach out to. Often times dying economies can be revived in the process of becoming a host for certain industries or markets in which that industry or market had not previously been. This is especially the case with third world countries that are trying to catch up to industrial nations or who need a boost due to changes in regional climates or in the advent of recovery from the aftermath of civil or world war. Routes under Foreign Direct Investment in India a. Automatic route - All sectors allow up to 100% FDI under the automatic route, where no prior Government approval is required. Also, FDI in sectors/activities to the extent permitted under automatic route does not require any prior approval either by the Government or the Reserve Bank

of India. The investors are only required to notify the Regional Office concerned of the Reserve Bank of India within 30 days of receipt of inward remittances and file the required documents with that office within 30 days of issue of shares to the non-resident investors. b. Government route - FDI in activities not covered under the automatic route requires prior Government approval and is considered by the Foreign Investment Promotion Board (FIPB). Plain paper applications carrying all relevant details are also accepted. Decision of the FIPB is usually conveyed in 4-6 weeks. Thereafter, filings have to be made by the Indian company with the RBI. c. General permission of RBI under FEMA - Indian companies having foreign investment approval through FIPB route do not require any further clearance from the Reserve Bank of India for receiving inward remittance and issue of shares to the nonresident investors. AMERICAN DEPOSITORY RECEIPT The stocks of most foreign companies that trade in the U.S. markets are traded as American Depositary Receipts (ADRs) issued by U.S. depositary banks. Each ADR represents one or more shares of a foreign stock or a fraction of a share. If the company owns an ADR it has the right to obtain the foreign stock it represents, but U.S. investors usually find it more convenient to own the ADR. The price of an ADR corresponds to the price of the foreign stock in its home market, adjusted for the ratio of ADRs to foreign company shares. Owning ADRs has some advantages compared to owning foreign shares directly: i. When the company buys and sells ADRs they are trading in the U.S. market. Their trade will clear and settle in U.S. dollars.

ii.

The depositary bank will convert any dividends or other cash payments into U.S. dollars before sending them. The depositary bank may arrange to vote the companys shares for the company as they instruct.

iii.

On the other hand, there are some disadvantages: i. It may take a long time for the company to receive information from the company because it must pass through an extra pair of hands. They may receive information about shareholder meetings only a few days before the meeting, well past the time when they could vote the companys shares. Depositary banks charge fees for their services and will deduct these fees from the dividends and other distributions on the companys shares. The depositary bank also will incur expenses, such as for converting foreign currency into U.S. dollars, and usually will pass those expenses on to the company.

ii.

American Depository Receipts, or ADRs, were created in the 1920s in order to make it easier for Americans to purchase, hold, and sell shares of non US companies. ADR depository banks issue receipts for underlying foreign shares, and those receipts trade efficiently on US exchanges and/or in the over the counter market. Some features of ADRs are: ADRs are priced in US dollars, and associated dividends are paid in US dollars. American Depository Receipts are a subset of the larger category of Depository Receipts. Global Depository Receipts, or GDRs, are another subset of this category. The GDR format allows for the simultaneous trading of the issuance in multiple markets outside that of the country of origin and is not specific to the American marketplace. GDRs are priced in the currency of the trading market.

 ADRs contain both currency and equity risk they are priced continuously according to both the exchange rate and the price of the underlying foreign equity. ADRs are traded on major US exchanges such as the NYSE, AMEX, and NASDAQ. They are also traded as pink sheets in secondary, over the counter markets. Unlike foreign ordinary shares, ADRs are processed via the DTC system, which allows for fast and efficient trading and settlement for US investors. ADRs do not contain voting rights. Owning ADR shares in lieu of foreign ordinary shares can save American investors money on transaction, settlement, and custody costs.

BONDS A bond is a debt security issued by the borrower, purchased by the investor, usually through the intermediation of a group of underwriters.

The traditional bond is the straight bond. It is a debt instrument with a fixed maturity period, a fixed coupon which is a fixed periodic payment usually expressed as percentage of the face value, and repayment of the face value at maturity (This is known as bullet repayment of the principal). The market price at which such a security is bought by an investor either in the primary market (a new issue) or in the secondary market (an existing issue made sometime in the past) is its purchase price, which could be different from its face value. When they are identical the bond is said to be selling at par, when the face value is less than (more than) the market price, the bond is said to be trading at a premium (discount). The difference could arise because the coupon is different from the ruling rates of interest on bonds with equal perceived risk or because markets perception of creditworthiness of the issuer is different. The yield is a measure of return to holder of the bond and is a combination of purchase price and the

coupon. However there are many concepts of yield. Coupon payments may be annual, semiannual or some other periodicity. Maturities can be up to thirty years. Bonds with maturities at the shorter end (7-10 years) are often called notes.

A very large number of variants of the straight bond have evolved over time to suit varying needs of borrowers and investors.

A callable bond can be redeemed by the issuer, at issuers choice, prior to its maturity. The first call date is normally some years from the date of issue: e.g. a 15 year bond may have a call provision which allows the issuer to redeem the bond at any time after 10 years. The call price i.e. the price at which the bond will be redeemed is normally above the face value with the difference shrinking as maturity is approached. This feature allows the issuer to restructure his liabilities or refund a debt at a lower cost if interest rates fall. In an environment of higher interest rates (i.e. when they are expected to fall) the callable bond will have to given an incentive to the investor in the form of a higher yield compared to an otherwise similar non-callable bond. A puttable bond is the opposite of a callable bond. It allows the investor to sell it back to the issuer price to maturity, at investors discretion, after a certain number of years from the issue date. The investor pays for this privilege in the form of a lower yield.

Sinking fund bonds were a device, often used by small risky companies to assure the investors that they will get their money back. Instead of redeeming the entire issue at maturity, the issuer would redeem a fraction of the issue each year so that only a small amount remains to be redeemed at maturity.

A floating rate note (FRN) is, as its name implies, a bond with varying coupon. Periodically (typically every six months), the interest rate payable for the next six

months is set with reference to a market index such as LIBOR. In some cases, a ceiling may be put on the interest rate (capped FRNs), while in some cases there may be a ceiling and a floor (collared FRNs).

Zero coupon bonds are similar to the cumulative deposit schemes offered by companies in India. The bond is purchased at a substantial discount from the face value and redeemed at face value on maturity. There are not interim interest payments. One possible advantage can rise from tax treatment if the difference between the face value and the purchase price, realized at maturity is deemed to be entirely capital gains and taxed at a rate lower than the rate applicable to regular interest received on coupon bonds.

Convertible bonds are bonds that can be exchanged for equity shares either of the issuing company of some other company. The conversion price determines the number of shares for which the bond will be exchanged; the conversion value is the market value of the shares which is less than the face value of the bond at the time of issue. As the price rises, the conversion value rises. There is generally a call provision attached which allows the issuer to redeem the bond when the share price rises above a certain level which forces the holder to convert in order to avoid losing the premium on the bonds. Convertible bonds carry a coupon below that of a comparable straight bond, thus reducing cash outflow on account of interest. Small but rapidly growing companies find it an attractive funding device. It is a form of deferred equity, effectively sold above the current market price. One motivation might be that the issuer believes that the market is currently under pricing its shares.

Warrants are an option sold with a bond which gives the holder the right to purchase a financial asset at a stead price. The asset may be a further bond, equity shares of a foreign currency. (Currency warrants have been particularly popular in the Euromarkets). The warrant may be permanently attached to the

bond or detachable and separately tradable. Initially warrants were used by speculative issues as an added incentive to the investor to keep the interest cost within reasonable limits. Recently even high grade companies have issued warrants.

A large number of other variants have been brought to the market. Among them are drop-lick FRNs, convertible FRNs, dual currency bonds, bonds with exotic currency options embedded in them, bonds denominated in artificial currency units such ECU and so on. Short descriptions of some of these are given in the appendix to this chapter. A few of these will be analysed in detail in later chapters.

Bonds (straights, FRNs, zero-coupons etc.) can be classified into three categories. Domestic bonds are bonds issued by a resident issuer in its country of residence, denominated in the currency of that country. Examples are dollar bonds issued by US. Treasure of a US corporation in the US capital market. Foreign bonds are bond issued by a non-resident entity denominated in the currency of the country of issue. A US dollar bond issue, in the US capital market, by a British corporation or the Mexican government is a foreign dollar bond. Eurobonds are bonds denominated in a currency other than the currency of the country in which they are issued. Thus a deutsche-mark bond issued in Luxembourg is a Euro bond. In earlier years the main distinction between foreign bonds and Eurobonds used to be in the character of the underwriting syndicated and composition of the investors. For foreign bonds, the syndicated were constituted by investment banks resident in the country of issue and investors too were predominantly residents of that country. Thus, a foreign dollar bond in the US would be underwritten by a syndicate composed of American investment banks and predominantly subscribed to by American investors. A Eurobond issue on the other hand would be underwritten by an international syndicate and subscription would be spread across a number of countries. Over the years, this distinction has

more or less disappeared and it has become difficult to distinguish between the two on this basis.

The other basis for distinguishing between foreign bonds and Eurobonds could be the role played by domestic regulatory authorities. Thus for dollar bonds, issues made in US are subject to SEC regulations and registration; Eurodollar bonds are not. They are thus like bearer bonds. Different countries have different regulations in this matter.

Many Eurobonds are listed on stock exchanges in Europe. This requires that certain financial reports be made available to the exchanges on a regular basis. Trading in the secondary markets is done on the exchange through dealers (e.g. Eurodollar bonds).

Compared to syndicated bank loans, bond issues are a more expensive funding device in terms of issue costs. Much more elaborate preparations are required to ensure success of the issue. In some segments such as the US and Japan domestic markets, formal credit ratings are essential and, as in the case of US, disclosure requirements are quite elaborate. In general, bond issues as a funding device, are difficult to access without a good credit standing.

Bond issues can be public offering or private placements aimed at a limited number of large institutional investors. Registration and other requirements can be different for private placements. In the Eurobond markets, costs of an issue consisting of management fees, underwriting fees and selling commissions can be quite large amounting up to 2% of the issue size.

It has been estimated that during the 1980s, 70% of all Eurobond issues were tied to a Swap deal. A financial swap is not a funding instrument in itself. Rather, it is a transaction which allows both investors and issuers to achieve specific financial objectives such as particular currency composition of assets or liabilities, changing the interest basis of a liability or asset from fixed to floating or vice versa, reduce cost of borrowing by arbitraging certain market imperfections or difference in tax regulations and so forth. A swap deal can be done at the time of a new borrowing or with an existing asset or liability.

FOREIGN BOND A foreign bond is a bond issued in a domestic market for a foreign borrower. Foreign bonds tend to be more regulated than Eurobonds and are usually issued by a domestic group of banks. It is a debt security issued by a borrower from outside the country in whose currency the bond is denominated and in which the bond is sold. A bond denominated in U.S. dollars that is issued in the United States by the government of Canada is a foreign bond. A foreign bond allows an investor a measure of international diversification without subjection to the risk of changes in relative currency values. A foreign bond has three distinct characteristics: i. ii. iii. The bond is issued by a foreign entity (such as a government, municipality or corporation) The bond is traded on a foreign financial market. The bond is denominated in a foreign currency.

Foreign bonds are regulated by the domestic market authorities and are usually given nicknames that refer to the domestic market in which they are being offered. Since investors in foreign bonds are usually the residents of the domestic country, investors find them attractive because they can add foreign content to their portfolios without the added exchange rate exposure.

Today, corporations, governments and their entities utilize a variety of options to raise capital. In addition to issuing bonds in domestic markets and local currencies, governments and companies can also issue bonds in other markets and different currencies. Since interest rates may differ from country to country, issuers may choose to take advantage of these opportunities. Corporations domiciled outside of the United States may decide to issue and register their bonds in the United States, in the U.S. dollar referred to as Yankee bonds. On the other hand, U.S.-based corporations may decide to go outside the United States to issue bonds. Hence, it is possible to (1) issue and register bonds in the United States in the U.S. dollar (domestic issue); or (2) issue bonds in multiple markets, in addition to the U.S. market in the U.S. dollar (global issue); (3) issue bonds outside of the United States in the U.S. dollar (Eurodollar issue); or (4) issue bonds outside the U.S. in a foreign currency, such as Japanese yen (foreign currency issue). Similar options involving different markets and different currencies exist for other issuers seeking access to capital. For example, the Kingdom of Sweden and a Brazilian oil company, Petrobras, have issued bonds in local currency both inside and outside of their respective countries. They have issued Yankee bonds, and Eurodollar bonds. Bond offerings can be denominated in different currencies, such as Euros (EUR), U.S. dollars (USD), British pounds (GBP), etc. The risks associated with investing in foreign bonds, in part, depend on the types of markets and currencies in which they are issued. Securities issued in the United States are usually registered with the U.S. Securities and Exchange Commission. Most bonds issued outside of the United States are not registered for purchase by individual U.S. investors. FOREIGN CURRENCY CONVERTIBLE BONDS There are two ways to finance a company

1. Debt ( Bonds) 2. Equity (Shares / IPOs ) What is an FCCB and how it works A foreign currency convertible bond (FCCB) is a type of convertible bond issued by Indian companies in a currency different from the rupee. Thus, a company raises capital in foreign currency through FCCBs. Several FCCB commitments are set to mature in the near future. The instrument is a mix between equity and debt. Investors holding this security receive regular coupon payments, which gives it a debt flavor, and at maturity or any other specified time investors have the option to convert these bonds into equity shares. The price for conversion is typically predetermined at the time of issuance of the FCCB. These kinds of securities are usually issued when equity markets are doing well, but there is no way to be sure that markets will be in a similar state at maturity. While it seems a bit complicated and as retail investors may not really be interested, one should be aware that the conversion option chosen by the holder of the FCCB can have a material impact on the balance sheet of a company and thereby its share price. This usually happens when the current market price is higher than the conversion price of an FCCB. So the holder converts at a low price and sells the shares in the market at a higher price, pocketing a profit. When FCCBs get converted into equity shares, they add to the existing shareholder capital of the company, increasing its equity base. This results in diluting the earnings or profits for existing shareholders. However, it may not have a material impact on the share price since the possibility of diluted earnings is usually factored in. If the holder chooses not to convert the bonds into equity, the issuing company can either redeem the bonds at the end of the tenor or extend the tenor and keep the bonds as debt on the balance sheet. In case the latter happens, the liabilities side of the balance sheet will show additional debt. This will also increase the

debt-equity ratio of the company. A higher ratio indicates high debt, which can result in earnings fluctuation on account of interest expense. Currency changes between the currency of issue and the rupee can also impact the value of such debt. The interest rate applicable on an extended term would most likely be renegotiated at current rates. This kind of development in turn can have an adverse impact on the share price. MULTIPLE CURRENCY BONDS A multi-currency bond is a bond denominated in more than one currency. For example, Toyota issuing a bond promising interest payments in yen and the repayment of principal in U.S. dollars. The "Euromarket" is another major source of foreign currency bond issues. European investors will buy the bonds of well known issuers like Ford, Toyota or General Electric or their international subsidiaries, in many different currencies depending on their currency views. This makes for a constant arbitrage between the foreign and domestic bond markets as investors seek to gain the best possible yield employing currency hedges and swaps. YANKEE BONDS Bonds issued in foreign currencies are given the names listed beside the currencies below: "Yankee Bonds" for U.S. dollars; "Samurai Bonds" for Japanese Yen; "Bulldog Bonds" for British pounds; and "Kiwi Bonds" for New Zealand dollars. So, Yankee Bonds are issued by foreign governments and corporations, are generally dollar denominated, trade in the U.S., and must register with the security and Exchange commission. Issuers in the Yankee bond market are predominately highly-rated sovereign, or sovereign guaranteed issuers, although

foreign corporations and financial institutions have increased issuance of Yankee bonds over the last decade. Issuance in the Yankee bond market is dependent on U.S. interest rates, and the value of the dollar. In a declining interest rate environment, issuance of Yankee bonds will rise as foreign issuers take advantage of lower cost funding. In an appreciating dollar environment, issuance of Yankee bonds will increase as issuers take advantage of the dollar's increasing purchasing power. In the U.S. bond market, Ontario and Ontario Hydro, its power corporation, have many "Yankee" issues and is considered an alternative to domestic U.S. corporate issuers. EUROBOND MARKET The Eurobond market is made up of investors, banks, borrowers, and trading agents that buy, sell, and transfer Eurobonds. The Eurobond market consists of several layers of participants. First there is the issuer, or borrower, that needs to raise funds by selling bonds. The borrower, which could be a bank, a business, an international organization, or a government, approaches a bank and asks for help in issuing its bonds. This bank is known as the lead manager and may ask other banks to join it to form a managing group that will negotiate the terms of the bonds and manage issuing the bonds. The managing group will then sell the bonds to an underwriter or directly to a selling group. The three levelsmanagers, underwriters, and sellersare known collectively as the syndicate. The underwriter will actually purchase the bonds at a minimum price and assume the risk that it may not be possible to sell them on the market at a higher price. The underwriter (or the managing group if there is no underwriter) sells the bonds to a selling group that then places bonds with investors. The syndicate companies and their investor clients are considered the primary market for Eurobonds; once they are resold to general investors, the bonds enter the secondary market. Participants in the market are organized under the International Primary Market Association (IPMA) of London and the Zurich-based International Security Market Association (ISMA).

After the bonds are issued, a bank acting as a principal paying agent has the responsibility of collecting interest and principal from the borrower and disbursing the interest to the investors. Often the paying agent will also act as fiscal agent, that is, on the behalf of the borrower. If, however, a paying agent acts as a trustee, on behalf of the investors, then there will also be a separate bank acting as fiscal agent on behalf of the borrowers appointed. In the secondary market, Eurobonds are traded over-the-counter. Major markets for Eurobonds exist in London, Frankfurt, Zurich, and Amsterdam. Eurobond A type of foreign bond issued and traded in countries other than the one in which the bond is denominated. A dollar-denominated bond sold in Europe by a U.S. firm is a Eurobond. A bond that is denominated in a different currency than the one of the country in which the bonds issued. A Eurobond is usually categorized by the currency in which it is denominated, and is usually issued by an international syndicate. An example of a Eurobond is a Eurodollar bond, which is denominated in U.S. dollars and issued in Japan by an Australian company. Note that the Australian company can issue the Eurodollar bond in any country other than the United States. Eurobonds are attractive methods of financing as they give issuers the flexibility to choose the country in which to offer their bond according to the country's regulatory constraints. In addition, they may denominate their Eurobond in their preferred currency. Eurobonds are attractive to investors as they have small par values and high liquidity. Eurobonds are unique and complex instruments of relatively recent origin. They debuted in 1963, but didn't gain international significance until the early 1980s. Since then, they have become a large and active component of international finance. Similar to foreign bonds, but with important differences, Eurobonds

became popular with issuers and investors because they could offer certain tax shelters and anonymity to their buyers. They could also offer borrowers favorable interest rates and international exchange rates. EUROCURRENCY MARKET The money market in which Eurocurrency, currency held in banks outside of the country where it is legal tender, is borrowed and lent by banks in Europe. The Eurocurrency market allows for more convenient borrowing, which improves the international flow of capital for trade between countries and companies. For example, a Japanese company borrowing U.S. dollars from a bank in France is using the Eurocurrency market. Eurocurrency It is the currency deposited by national governments or corporations in banks outside their home market. This applies to any currency and to banks in any country. For example, South Korean deposit at a bank in South Africa is considered. It can also be defined as a time deposit in an international bank located in a country different than the country that issued the currency. For example, Eurodollars are U.S. dollar-denominated time deposits in banks located abroad. Euroyen are yen-denominated time deposits in banks located outside of Japan. The foreign bank doesnt have to be located in Europe. Most Eurocurrency transactions are interbank transactions in the amount of $1,000,000 and up. Common reference rates include: LIBOR the London Interbank Offered Rate PIBOR the Paris Interbank Offered Rate SIBOR the Singapore Interbank Offered Rate. EURIBOR - New reference rate for the new euro currency. It is the rate at which interbank time deposits are offered by one prime bank to another. It is also known as "Euro money".

Having "Euro" doesn't mean that the transaction has to involve European countries. However, in practice, European countries are often involved Funds deposited in a bank when those funds are denominated in a currency differing from the banks own domestic currency. Eurocurrency applies to any currency and to banks in any country. Thus, if a Japanese company deposits yen in a Canadian bank, the yen will be considered Eurocurrency. SHORT TERM BORROWING AND INVESTMENT The short term capital market can be used to raise funds. The instruments are: a. Certificate of deposit: Certificate of deposit is a certificate issued by a bank evidencing receipt of money and carries the banks guarantee for the repayment of principal and interest. Certificates of deposits are negotiable instruments and are issued payable to bearer and are traded in the secondary market. The certificate of deposits are issued for a minimum denomination of U.S. dollar 50,000/- and for a maximum period, generally of 1 year. Certificates of deposits provide an excellent avenue to the investors in Eurocurrency market who would like to part their surplus in a high interest instrument with liquidity. For example if an investor say bank surplus fund which it would like to invest for a period of say 3 months it can buy a C.D. for 3 months. If need be, the bank can sell the C.D. in the secondary market and liquidate it. b. Straight or top CDs: These are certificates of deposits with a fixed rate of interest and a fixed date of maturity (Generally 1-12 months). The interest is fixed in terms of LIBOR and interest rate depends on the standing of the issuing bank and liquidity position in the market Floating Rate CDs: These are certificates of deposits which are issued with the interest rate linked to the : LIBOR rate and are normally issued for a period of maximum of 3 years. Interest rate is reviewed a predetermined periodicity say every six months and adjusted in line with the base rate (i.e.) LIBOR rate.

c. Discount CDs: These are issued at a discount and are paid at maturity for the face value, the difference between the issue price and face value representing the interest. Tranche CDs: A Tranche CD is a share in a programme of CD issues by a bank up to a predetermined level. Each Tranche CD carries the same rate of interest and matures on the same date. They are normally placed directly with the investors and they represent short terms bonds. These CDs are issued with maturities up to 5 years. d. Commercial papers: Commercial Paper (CP) is a short term unsecured promissory not that is generally sold by large corporations on discount basis to institutional investors and other corporate for maturities ranging from 7 to 365 days. Commercial paper is cheap and flexible source of fund for highly rated borrowers as it works out cheaper than bank loans. For an investor it is an attractive short term investment which offers higher interest than bank accounts. In U.S.A. the commercial paper is in existence for more than 100 years and accounts more than 400 billion US dollars. U.S.A. is the largest commercial paper market. It is used extensively by U.S. and non U.S. corporations. Any issuer who wants to launch a C.P. in U.S.A. has to get it rates by Moodys or by Standard and Poors Corporation, the credit rating agencies. The commercial papers then can be placed either directly or through C.P. dealers. The major investors are Corporates, Trusts, Insurance Companies, Pension Funds and other funds, banks etc. Commercial papers can be issued either directly in their own name or with third party support in the form of standby letters. Most C.P. programs have a back-up credit line of a commercial bank covering at least 50% of the issue. In Europe, commercial paper evolved out of Euronotes like Note issuance facilities, which are under-written facilities. AS the underwriting facility is expensive, in 1984, Saint Gobbain, an issuer and Banque Indo-Suez dealer issued Euronotes without underwriting facility and thus became the first Euro CP issue. The commercial paper issues in the Euromarkets

developed rapidly in an environment disintermediation of traditional banking. INTERNATIONAL EQUITY FINANCING

of

securitization

and

International equity offering generally takes any one of the two forms. i) Dual syndicate equity offering, where the equity offering is split into overseas and domestic trenches and each is handled by separate lead managers, and, Euro-equity offering placed overseas and managed by one lead manager GDRs, ADRs and IDRs (Global, American and International Depository Receipts) are the prime modes of Euro-equity offerings.

ii)

The shares are issued by the company to an intermediary called the depository in whose name the shares are registered. It is the depository which subsequently issues the GDRs. The physical possession of the equity shares is with another intermediary called the custodian who is an agent of the depository. Thus while a GDR represents the issuing companys shares, it has a distinct identify and in fact does not figure in the books of the issuer. The concept of DGRs has been in use since 1927 in Western Capital Market originally they were designed as an instrument to enable US investors to trade in securities that were not listed in US Exchanges in the form of American Depository Receipts (ADRs). Issues traded outside the US were called International Depository Receipt (IDR) issues. Until 1983, the market for depository receipts was largely investor driven and depository banks often issued them without the consent of the company concerned. In 1983, the Securities and Exchange Commission (SEC) of the US made it mandatory for certain amount of information to be provided by the companies. Till 1990, the companies had to issue separate receipts in the United States (ADRs) and in Europe (IDRs). Its inherent weakness was that there was no cross border trading possible as ADRs had to be traded, settled and charged through

DTC (an international settlement system in the US) while the IDRs could only be traded and settled via Euroclear in Europe. In 1990, changes in Rule 144A and regulation 5 of the SEC allowed companies to raise capital without having to register the securities within the SEC or changing financial statements to reflect US accounting principles. The GDR evolved out of these changes. FOREIGN TRADE FINANCING International trade is important for all countries as it increases the overall efficiencies of world production. The significance of international trade has resulted in the supporting activities assuming their own importance. The most important supporting activity is that of financing international trade. Financing of international trade takes two forms - financing imports and financing exports.

The major way in which imports are financed is through letters of credit. Though a letter of credit, per se, is not a financing instrument, it is an important document which facilitates financing.

a. Letters of Credit A letter of credit is defined as "an arrangement by means of which bank acting at the request of a customer, undertakes to pay to a third party a predetermined amount by a given date, according to agreed stipulations and against presentation of stipulated documents". There are four parties to a letter of credit. These are: i. Applicant (or opener): It is the importer who approaches the bank for opening a letter of credit. ii. Issuing bank: It is the bank which opens the letter of credit. iii. Beneficiary: It is the exporter in whose favor the letter of credit is opened.

iv.

Advising bank: It is the bank which informs the exporter about the letter of credit being opened, at the behest of the issuing bank. It is generally based in the same place as the exporter.

b. Export Financing Exports are a subject of significance to every economy whether developing or developed because they represent the biggest source for earning foreign exchange. The need is all the more acute for a developing economy, which mostly experiences deficit on current account as well as capital account. Attempts to create capital account surplus are also desirable yet the funds that come in shall remain under the ownership of the non-residents. However, surplus on current account represents earnings by residents and thus the ownership rests with residents. While there are exceptions to what is stated above it is quite common for countries to take steps to encourage exports in the larger interest of the economy. It is no different in India. Government of India provides incentives either directly or indirectly to exporters for undertaking their normal business activities.

c. Pre-shipment Credit The purpose of this credit is to provide the necessary funds to the exporter to procure raw material and meet the costs involved in manufacturing the goods. This credit may be initially extended without any security in which case it is known as extended packing credit. At this stage it remains a clean advance. The funds so lent are used to procure the raw material, which then is charged to the bank. Then the advance becomes a secured advance. The advance is given either in the form of a loan or in the form of an operating account. The advance so given has to be adjusted with the proceeds of the export. Hence it is necessary to ensure that the loan given for executing a particular export order is adjusted out of the sale proceeds of that export. However the banker is vested with the authority by RBI to waive this condition and to allow the advance to be adjusted from the proceeds of any export transaction. Pre-shipment credit is extended for the

period which matches with the operating cycle of the activity. However, the period of credit is normally restricted to a maximum of 180 days. It is envisaged that the export will be materialized within the due date and the loan will be adjusted from the export proceeds. However, the banks have the discretion to extend the period of credit up to 360 days under special circumstances. In order to ensure that export will materialize banks normally insist for a Letter of Credit opened in the name of the exporter or a confirmed order before releasing the pre-shipment credit.

d. Post-Shipment Credit Once the goods are exported there will be a time lag between the time of export and the receipt of the payment from the importer. This time depends on the transit time and the credit period extended by the exporter if any. The banks extend finance during this period, which is known as Postshipment finance. This is usually in the form of finance extended against documents (Bill Finance). The documents presented along with the bill should conform to the terms and conditions of the Letter of Credit, which normally accompanies an export transaction.

e. Advance Against Cash Incentives In order to encourage exports the Government of India extends certain cash incentives to the exporters so that exporting becomes more competitive than selling in the domestic market. Once the export is complete the government releases the amount of cash incentive. In such instances the commercial banks extend credit to the exporter in anticipation of the receipt of cash incentive. The advance may be extended either at pre-shipment stage or at post-shipment stage.

f. Deferred Payment Exports Generally, export proceeds are expected to be realized within a period of six months from the date of shipment. Where payment extends beyond this period, it is known as deferred payment contract. Payment will be made by the importer over a period in installments. Deferred payment contracts are allowed with the prior approval of RBI.

TRANSFER PRICING Multinational firms that conduct business among their cross-border subsidiaries can use tax-advantageous transfer pricing. Transfers occur when a company transfers goods or services between its subsidiaries in different countries. For example, a firm might design a product in one country, manufacture it in a second country, assemble it in a third country, and then sell it around the world. Each time the good or service is transferred between subsidiaries; one subsidiary sells it to the other. The question is what price should be paid? The transfer price is the price that one subsidiary (or subunit of the company) charges another subsidiary (or subunit) for a product or service supplied to that subsidiary.

Since the pricing taking place is between entities owned by the same parent firm, theres an opportunity for pricing an item or service at significantly above or below cost in order to gain advantages for the firm overall. For example, transfer pricing can be a way to bring profits back to the home country from countries that restrict the amount of earnings that multinational firms can take out of the country. In this case, the firm may charge its foreign subsidiary a high price, thus extracting more money out of the country. The firm would use a cost-plus markup method for arriving at the transfer price, rather than using market prices.

Although this practice optimizes results for the company as a whole, it may bring morale problems for the subsidiaries whose profits are impacted negatively from

such manipulation. In addition, the pricing makes it harder to determine the actual profit which the favored subsidiary would bring to the company without such favored treatment. Finally, all the price manipulations need to remain compliant with local regulations. In fact, to combat such potential losses of income tax revenue, more than forty countries have adopted transfer-pricing rules and requirements.

Generally, compliance with local tax regulations means setting prices such that they satisfy the arms length principle. That is, the prices must be consistent with third-party market results. The test of fairness is, What would an independent company, operating in a competitive market, charge for performing comparable services or selling similar products?

Nonetheless, even within these guidelines, multinational firms can adjust prices to shift income from a higher-tax country to a lower-tax one. Governments, of course, are instituting or revising legislation to ensure maximum taxes are collected in their own countries. As a result, multinational firms must monitor compliance with local transfer-pricing regulations.

FRONTING LOANS A fronting loan is a loan made between a parent company and its subsidiary through a financial intermediary such as a bank. The advantage of using fronting loans as a way to lend money, rather than the parent lending the money directly to the subsidiary, is that the parent can gain some tax benefits and bypass local laws that restrict the amount of funds that can be transferred abroad. With a fronting loan, the parent deposits the total amount of the loan in the bank. The bank then lends the money to the subsidiary. For the bank, the loan is risk free, because the parent has provided the money to the bank. The bank charges the

subsidiary a slightly higher interest rate on the loan than it pays to the parent, thus making a profit.

The tax advantages of fronting loans come into play if the loan is made by a subsidiary located in a tax haven. A tax haven is a country that has very advantageous (i.e., low) corporate income taxes. Bermuda is a well-known tax haven. The bank pays interest to the tax-haven subsidiary. The subsidiary doesnt pay taxes on that interest because of the tax-haven laws. At the same time, the interest paid by the subsidiary receiving the loan is tax deductible.

NRI INVESTMENT IN INDIA Non Resident Investors (NRIs) and Persons of Indian Origin (PIOs) are eligible to bring investment trough the automatic route of the RBI for all sectors excluding those falling under government approval. Further, under the non-repatriation scheme (i.e., capital is not repatriable outside India), the NRIs are permitted to invest even in those sectors where sectoral caps are prescribed under the FDI policy. The NRIs are also permitted to purchase and sell shares/convertible debentures under the portfolio investment scheme through a branch designated by an authorized dealer for the purpose and duly approved by the RBI, subject to fulfillment of certain conditions. The total holding by each NRI cannot exceed 5 per cent of the total paid up equity capital or 5 per cent of the paid up value of each series of convertible debentures issued by an Indian company. Further, the total holdings of all NRIs put together cannot exceed 10 per cent of paid up equity capital or paid up value of each series of convertible debentures. This limit of 10 per cent may be increased to 24 per cent by the concerned Indian company by sanction of the shareholders through a special resolution.

NRE INVESTMENT IN INDIA According to UNCTADs World Investment Prospects Survey 2010-2012, India is the second-most profitable destination for foreign direct investment (FDI) in the world. Indian markets have significant potential offering prospects of high profitability and a favorable regulatory regime for investors.

Investment for saving purpose in future is certainly a good idea. There are large numbers of companies that offer plenty of opportunities for different individuals. India with a matured capital market, backed by liberal policies and strong banking system has turned to a profitable business ambience both for domestic and international businessmen.

Entry strategies for global investors in India The various entry strategies for foreign investors in India have helped to bring in huge amounts of FDI into India. Some of the investment strategies initiated by Indian government are: a. A foreign company can start its operations in the country by setting up a new company according to the Companies Act 1956. The foreign direct investment of 100 per cent has been allowed by the Government of India in such companies. b. An international company can start its operations in India by forming joint collaboration with an Indian company. c. An international company can start its operations in India by setting up their branch office, representative office, and project office. d. A foreign company can start its operations in India by establishing a wholly owned subsidiary in the sectors, where foreign direct investment up to 100 per cent is permitted under the FDI policy.

Areas of Investment The scope for business in India is enormous and has led to more investment options in India. Some key areas like infrastructure, petrochemicals, power, automobile, electronic hardware, etc. are receiving attention not only for foreign but for domestic ventures also.

Further, there are various exciting opportunities for conducting business in India, especially, for entrepreneurs dealing in outsourcing technology, internet ventures, software development, e-commerce, etc. People can also find a niche market in India where they can sell various products like health care products.

Major initiatives in India There are various initiatives taken in India that provide a liberal and investor friendly environment: i. ii. iii. iv. v. Simplified investment procedures Liberalized trade policy and exchange regulations Intellectual property rights Enactment of competition law Financial sector reforms

There is no dearth of investment options in India after the investment under the automatic route has been allowed by the Government. The Government has also revised its policy regarding FDI in Indian companies engaged in retail trade. Foreign investors will now be permitted, subject to certain conditions, to own up to 100 per cent of single-brand retail trading companies in India.