Sector Salud

Asset servicing functions begin after settlement and are performed for as long as the investor owns the security. The brokers and custodians holding the investor’s assets conduct many of these asset-servicing functions.

As a part of this chapter, we will be looking at Income Collection (dividend and interest collection) and Corporate Actions (mandatory and voluntary actions).

Income collection can be of two types:

• Dividend Collection

• Interest Collection

Any action that changes the capital structure of a firm is a corporate action. Conceptually these actions are easy to understand. The difficulty arises in processing their details and errors are very expensive for firms to correct as they may involve a financial loss for the investor that the broker / custodian has to cover.

Corporate actions can be of two types:

Mandatory actions: A mandatory corporate action is one where the issuer has the right to insist that the corporate action takes place. The action is therefore mandatory for the investor. The actions that will be covered here are: right to decide whether to accept or reject the proposed corporate action. The topics that will be covered in this are:

• Optional Convertible Bonds (Conversions)

• Tender Offers

• Warrants

• Put Options

In the end we shall have a look at some other asset servicing actions like Pricing, Proxy and Escheatment

9.9.1 Dividend Collection

Though we saw dividends and dividend collection are two separate asset-servicing topics, we shall combine them here to aid ease of learning.

Dividends are a portion of a company's profit paid to common and preferred shareholders.

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A company’s board of directors is responsible for declaring dividends. The date on which the information regarding dividends is released to the public is called the Announcement Date. Once a dividend has been declared for a share, the issuer determines the names of the holders by asking the transfer agent for a list of holders. For this purpose, a key date is the Record Date. This is the date at which the shareholders on an issuer’s register are identified. This is also known as the Books Closing Date. In a T+3 settlement cycle, investors who buy at least 3 days prior to record date are entitled to get the dividends, as their name will appear as legal owner on the record date. This particular date is known as Ex-Dividend Date as any trade happening after this date will not be eligible for dividends. The information about the shareholders is then forwarded to a paying agent, who is responsible for transferring the correct amount of dividend from the issuer to the registered owners of the securities. The date on which the dividend is paid is called the Payment Date.

Let us understand these concepts with the help of an example.

Example

Hindustan Lever Ltd (HLL) declares a dividend of 250% on July 1st, 2003, which is the Declaration Date.

But the company’s announcement would also mention a Record date. Suppose, it is July 25th, 2003. That means, HLL would pay dividend to all those investors whose names appear in its records as on July 25, 2003. Since there is a time lag between purchase of shares and getting one’s name registered as a shareholder, the Ex-Dividend Date is July 22nd 2003 for T+3 settlement cycle. That means, whoever is purchasing the stock on July 23rd, 2003 (before the record date and after the ex-dividend date) cannot get the announced dividend. Suppose, the Dividend Payment Date is here Aug 5th, 2003, which means HLL would pay dividend only on Aug 5th, not before.

Because of the significance of different dates associated with dividend payment, market price of the stock also moves in tandem. Upto, but not including the ex-dividend date, the price payable is known as the

‘cum-dividend’ (CD) price. This would carry within itself the ‘embedded dividend’ component. On and after the ex-dividend date, the price quoted is known as ‘ex-dividend’ price. Thus, everything else remaining same, on the ex-dividend date, the price of the stock ought to come down by the amount of embedded dividend.

Book Closure

As mentioned above, before a company declares a dividend or issues bonus or rights shares, it closes its register of members for a certain period, from one week to a month, during which no transfer of shares is registered. Only those shareholders whose names appear on the register after the book closure are eligible to receive dividends and bonus shares and entitlement to rights shares. After the book closure, shares are quoted as ex-dividend, ex-bonus (if bonus has been announced) or ex-rights (if announced) prices, and carry XD, XB, XR after the price figures. Before book closure, the shares are quoted with CD, CB, CR (Cum-dividend) after the price figures. The buyer of a share at CD price is entitled to the dividend

Private and Confidential Page 115 of 152 L1 Training Module declared if he buys the share before the closure of the company’s books. Dates of book closure dates are announced in leading financial newspapers and journals.

Dividend Cover / Dividend Payout Ratio (DPR)

DPR is dividend payout as a proportion of undistributed net profit transferred to reserves. Dividend cover is reciprocal of that. Say, one third of the net profits are a distributed as dividend, the dividend cover is 3 and DPR is 0.33.

Dividend Yield

Dividend Yield is the Dividend per share divided by its market price, multiplied by 100.

Gujarat Ambuja Cement Ltd. (GACL) declares 50% interim dividend. Face value of GACL is Rs 10 and market price is Rs 230.

Then Dividend Yield is (5*100/230) = 2.17%.

Historically, almost each time that the average yield on common stocks for the S & P 500 fell below 3 percent, a bear market started, with the market declining. For example, in 1987 after the average yield dropped below 3 percent to 2.68 percent, October shocked the market with a precipitous crash.

Now let us understand the dividend payment process.

It is possible that a broker or custodian holds the physical certificate for the investor. In such cases the broker or custodian is called the nominee i.e. can act on behalf of the investor. In such cases the nominee is the registered holder, receives the dividend and then must identify the actual owners and transfer to them the correct amount of money. So the paying agent determines who the registered owner is. If the owner is a custodian or a broker, the paying agent credits the depository’s account. This has been referred to as Credit Checks in the diagram below. The depository in turn determines how much each custodian or broker should receive in dividend and credits their accounts. Finally the custodians or brokers pass on the dividends to the actual investors.

The entire dividend payment process is depicted below:

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Figure 23: Dividend payment process

9.9.2 Interest Collection

Interest collection is the process of distributing interest on bonds to investors (called bondholders).

Bonds pay interest that is usually defined at the time of issuance. Similar to dividend collection, at the time of interest payments, the issuer of the bond provides the paying agent the money to make the interest payments. However, in this case the transfer agent notifies the paying agent of the identity of the holders. For variable rate bonds, the paying agent has to verify that the interest rate is correct.

Interest payments are the obligations of the issuer and therefore it is the issuer’s responsibility to ensure that the correct amount is paid to the holders. The paying agent also is responsible to the holders, not to the issuer.

Just like dividend collection, bonds can be held by nominees who receive the interest from the paying agent, and then transfer it to the actual owners.

There are two key dates in interest processing:

• Record Date: This is the date on which entitlement to the interest payment is established.

• Payment Date (Due Date): This is the date on which the payment of interest is made. Incase the interest payment date is a holiday, the payment is made on the next working day, known as the Value Date.

The interest payment process is depicted below:

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Figure 24: Interest payment process

There can be slight changes to processes of dividend and interest payment from what has been described above. At times another intermediary steps in after the paying agent. This intermediary, known as the sub-paying agent, receives the money from the paying agent, and then passes it on to other players like the shareholders.

Further, sometimes paying agents perform the role of providing event information and pre-advice to the depository. The depository then passes on the same to the custodians and brokers.

Also, sometimes there is another agent, known as the rate fixing agent, whose role is to fix the rates incase the bonds have variable rate of interest. The rate fixing agent conveys the interest rates to the paying agent.

In general paying agents come into the picture not only for dividend/interest payment, but in various actions that change the capital structure of the company. For example when the company shares recalls the shares issued by the public, the company has to compensate the investors for shares held by them.

In such cases the paying agent performs a role similar to the one mentioned above.

Let us now look at some mandatory corporate actions.