Depositories & Custodians

The Depository System

y Technology has changed the face of the Indian Stock Markets in the post reforms era. y Competition among the stock exchanges, increase in the number of players, and changes in the trading systems have led to a large increase in the volume of activity. The traditional settlement systems proved inadequate due to operational inefficiencies. y Hence, there has emerged a need to replace the traditional system by a modern system called the Depository System . y A Depository is an organization which holds securities of an investor in an electronic form and facilitates transfers on the settlement date.

The Depository System (continued)

y Section 2(e) of The Depositories Act, 1996 defines a Depository as a company formed under the Companies Act, 1956, and which has been granted a certificate of registration U/s 12(1) A, of SEBI Act, 1992. y The depository system revolves around the concept of paperless trading since the securities in a depository are held not in physical form but in electronic numbers form. These demat accounts of customers containing their securities are similar to their bank accounts holding their cash balances. y An effective and fully developed depository system is essential for maintaining and enhancing market efficiency, which is one of the core characteristics of a mature capital market.

Need For Setting up A Depository In India

y The need for setting up a depository in India was

realized in the early 1990 s due to various reasons outlined below

1) Large scale irregularities in the securities scam of 1992 (Harshad Mehta Scam) exposed the deficiencies in the prevailing settlement systems. 2) A lot of time was consumed in the allotment and transfer of shares, in the public and rights issues, impeding the healthy growth of the capital market. 3) With the opening up of the economy and the spread of the equity cult, there was a big spurt in the volume of transactions.

Need For depository In India (continued)

4) Mounting Fiscal Deficit made the Government realize that foreign investments were essential for the growth of the economy and that was restricted due to non availability of depositories. 5) There were various problems associated with dealing in physical shares such as theft, forgery and defective deliveries. 6) Share transfer delays, especially due to signature differences and, 7) Tedious paperwork in connection with share transactions added to the cost of transactions.

Establishment Of The Depository In India

y To overcome these problems, GOI enacted in 1996

the Depositories Act to commence depository services. y Depository System can be in two forms Dematerialized holding or Immobilized holding. In dematerialization , paper securities are totally eliminated after due verification by converting them into electronic numerical holdings. In immobilization, initial paper securities are preserved in safe vaults by the custodians and further movement of papers are frozen.

Services Offered By Depositories

y The Depository System provides a wide range of service such as 1) Primary market services by acting as a link between the issuers and the prospective shareholders. 2) Secondary market services by acting as a link between the investors and the clearing house of the exchange to facilitate the settlement of transactions through book keeping entries. 3) Ancillary services by providing services such as collecting interest and dividends, reporting corporate information and crediting bonus, rights , splits etc. These services lead to a reduction in both time and cost which ultimately benefits the investors, issuers, intermediaries and the nation as a whole.

Benefits Of A Depository System

y The Depository System offers the following benefits 1) It enables immediate allotment, transfer and registration of securities, thereby increasing the liquidity of stocks. 2) It eliminates all problems related the holding of shares in physical form such as theft, damage and defective deliveries. 3) There is saving in various costs such as brokerage, stamp duty, postage etc. 4) Pledging of shares and portfolio shuffling becomes convenient. 5) The inconvenience of dealing in market lots only is eliminated and one can buy or sell even a single share. 6) Loans against demat shares are cheaper than loans against physical shares. 7) Lastly, the system helps in integrating our capital markets with the global capital markets.

Move To The Depository System In India

y The move on to a depository system in India was initiated by SHCIL ( Stock Holding Corporation Of India Ltd ) in July 1992, when it prepared a concept paper on National Clearance & Depository System y Thereafter GOI constituted a technical committee under the chairmanship of Mr. R, Chandrasekaran, Managing Director, SHCIL, which submitted it s report in 1993. y Subsequently, SEBI constituted a 7 member committee to discuss various structural and operational issues of the Depository System. y GOI passed the Depositories Ordinance which paved the way for setting up the depositories in the country.

y There are 4 parties in demat transaction

The Depository Process

1) The Customer or Investor, 2) The Depository participant, 3) The Depository, and 4) Registrar & Share Transfer Agent. Step 1 Investor opens a demat account with one of the DP s Step 2 Investor submits his existing holdings in the physical form, if any, for dematerialization through the DP to the Registrar & Share Transfer Agent who cancels the physical shares and credits the electronic holdings to the demat account. Step 3 Rematerialization Investor has a choice to hold the shares in physical or demat form as per his wish. A physical share, once dematerialized , can be rematerialized again.

The Depository Process (continued)

Step 4 Dividend and other corporate actions A company or its Registrar & Share Transfer Agent shall advise the depositories of all the corporate actions and the respective record dates. The depository then electronically provides a list of the holdings of the clients as on the record date. The company then gives effect to all the corporate actions. Step 5 Closing of a demat account A demat account will be closed only after all the securities held in the account are disposed off or transferred to another account with the same DP or another DP.

The National Securities Depository Ltd (NSDL)

y Setting up of the National Securities Depository Ltd. was a major step in

the rapid modernization of the Indian capital markets. NSDL was promoted by IDBI, UTI, NSE and SBI and was registered on June 7, 1996 with SEBI and commenced operations in November, 1996. NSDL is a public limited company under the Companies Act, 1956 with a paid up capital of RS.1050 Million. y NSDL interacts with clearing members through the DP s and performs a wide range of securities related functions such as 1) Maintenance of individual investors beneficial accounts in an electronic form, 2) Dematerialization / Rematerialization of securities, 3) Account transfer for settlement of trades in electronic form, 4) Allotment in demat form in case of IPO s, 5) Distribution of non cash corporate actions,

The NSDL ( continued )

6) Facility for freezing or locking of Investors accounts, and 7) Facility for pledging a part or whole of the holdings. NSDL s computer system handles nearly 10 million transactions everyday on an online basis. It has three types of databases a central database of NSDL itself, those of 245 DP s as well as those of 6679 companies. It also has the ability to monitor all that is happening in the computers of the DP s. NSDL has also undertaken a pilot project to dematerialize NSC, IVP, KVP etc at select post offices. It also manages a countrywide Tax Information Network for the GOI.

Central Depository Services Ltd. (CDSL)

y CDSL is the second depository set up by the BSE and co sponsored by SBI, BOI, BOB and HDFC Bank. BSE has 45% stake and the banks have 55%. CDSL commenced operations on 22-3-99. In the same year, 5 stock exchanges established connectivity with CDSL for offering trade in demat securities and 765 companies signed up with CDSL to get their securities dematerialized. y CDSL has 372 DP s in 124 cities across 269 locations covering 320 cities, with a net worth of RS.1040 Million. y CDSL plans to offer facilities like inter depository transfers and linking of accounts through cell phones. y CDSL has been the preferred platform for the Government of India for its public sector disinvestment operations..

Custodians
y Custodians provide custodial services which are

quite different from the depository services. A custodian is an intermediary who keeps the scrips of the clients in custody or is the keeper of the accounts of his clients. y A Custodian is not only a safe keeper of the securities and a Trustee of the same but also provides ancillary services such as physical transfer of securities, collecting interest and dividends, and conforming to transfer regulations. y Custodians act as complements to depositories and are required. The volume of transaction by fund managers is so large that custodial services are imminent.

Custodial Services
y Custodians are clearing members but not trading members. In India, SHCIL and SBI Share Holding Corporation are the two most prominent Custodians catering to the requirements of LIC, UTI and other financial institutions. SHCIL is leading the pack with a market share of over 70%. The custodians usually provide custodial services to the Institutional Investors. y A custodian must be registered with SEBI. SEBI Regulations provide eligibility criteria and code of conduct to be followed by a custodian. A custodian is required to participate in the clearing and settlement process. y As on 31- 3- 2004, there were 11 duly registered custodians.

Stock Holding Corporation Of India Ltd (SHCIL)

y The SHCIL, promoted by 7 all India financial institutions IDBI, IFCI, ICICI, IRBI, UTI, LIC, GIC and it s subsidiaries, was incorporated on 1986. It commenced operations in 1988. y SHCIL was established to provide well developed and fully automated infrastructural facilities for trading, clearance, settlement and depository services for securities and monetary instruments. The objectives of SHCIL are to provide services which include market operations, corporate actions, safe keeping, custodial management, registration, transfer and reporting. y Support services include information feeds.

funds transfer and

data

SHCIL ( continued )
y SHCIL handles market operations for UTI, LIC,

GIC etc and provides custodial services to them as well as other financial institutions and mutual funds. It acts as a scrutiny agent for Morgan Stanley Bank for India Magnum Fund. It holds more than 100000 Cr worth of securities and has a very sophisticated operating system. It is the largest custodian with market share in excess of 70%, for domestic custodial business. y SCHIL is a participating member of the International Society for Securities Administration (ISSA), a specialized agency for promoting the exchange of ideas among global security administrators.

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