Processes related to Depositories

What this chapter covers

Chapter 12 carries 16 marks out of 100 — 16% of the paper, the largest single chapter in the syllabus.

Learning Objectives: After studying this chapter, you should know about the Processes related to Depositories: Dematerialisation of Securities · Rematerialisation of Securities · Trading and Settlement · Beneficial Owner Reporting · Corporate Action · Reconciliation

12.1 Dematerialisation of Securities

Dematerialisation is the process of converting physical securities into electronic form. It involves the investor, the DP, the issuer/R&T Agent and the Depository.

Four parties.

The steps

Investor hands over the securities to be dematerialised along with the Dematerialisation Request Form (DRF) to the DP.

The DP sends the request through the electronic system to the issuer/R&T Agent via the Depository interface system. The Dematerialisation Request Number (DRN) that is generated by the system is entered on the DRF and sent along with the physical certificate and a standard covering letter to the R&T Agent.

The DRN links the electronic request to the paper.

The certificates received by the R&T Agent will have the words 'Surrendered for Dematerialisation' on it, upon completion of demat process the certificates will be mutilated by the R&T Agent.

What the R&T agent must verify

The R&T Agent has to verify that:

The DRF has the DP's authorization

The dematerialisation request has been received in electronic as well as physical form.

The DRN in the physical documents matches with the DRN in the electronic request.

The certificates have the distinguishing marks such as hologram/water mark. Certificate issued with the remarks "Lock in period" shall also carry such tag in demat mode provided that such lock-in is still in force.

Lock-in travels with the shares into demat form.

The inward counter of the R&T Agent will verify the physical documents with the details in the covering letter and DRF and forward the documents for dematerialisation.

These checks come from a SEBI circular on Enhanced due diligence for dematerialisation of physical securities — SEBI Circular No.: SEBI/HO/MIRSD/RTAMB/CIR/P/2019/122 dated November 5, 2019.

Giving effect to it

The process of giving effect to dematerialisation by the R&T Agent is similar to that of transfer of registered ownership. The data to be captured, reports to be generated, documents to be filed are similar.

In the Register of Members (ROM) of the company, the Depository's name is included in the place of the investor to the extent of securities dematerialised.

The first sample question tests exactly this — the depository's name goes into the register of members.

However, no stamp duty is payable on dematerialisation unlike other transfer of ownership transactions.

No stamp duty — the one respect in which it is unlike a transfer.

Once the ROM of the company is amended, confirmation is sent to the Depository and the investor's account with the DP is credited with the number of dematerialised shares.

Grounds of rejection

A dematerialisation request may be fully or partially rejected for the following reasons:

Mismatch in the information between the DRF and physical certificates.

Certificates are fake, stolen or for which duplicates have been issued.

Securities stand in a different name(s) from that mentioned in the DRF.

The Securities do not pertain to the issuer/R&T Agent.

Signature of the holders does not tally with the records of the R&T Agent.

Delay of more than 30 days in the receipt of physical securities from the day of electronic request.

Six grounds — and note the last one: more than 30 days between the electronic request and the arrival of the paper.

After completion

The R&T Agent shreds the certificates once the process of dematerialisation is complete, after the specific retention period. The details of the certificate destroyed are entered into the Register of Destroyed Certificates.

The account number of the beneficial owner is entered into the holding master maintained by the R&T Agent for future reference.

The process of dematerialisation has to be completed within a period of 15 days from receiving the physical request.

And the forms are kept: the DRFs are required to be stored for atleast a period of 8 years.

Demat at the time of an IPO

For dematerialisation at the time of an IPO, the following steps have to be followed:

The Company, R&T Agent and the Depository enter into an agreement for admission of securities in the Depository.

The Depository assigns an ISIN for the security.

The allotment advice for demat shares will have the client account number, DP id and Depository details.

For the demat shares, the Depository will be entered as the registered holder in the Register of Members of the company and the details of the corresponding beneficial owners will be uploaded in the Depository's system.

The issuing company or the R&T Agent may also maintain the details of the beneficial owners.

12.2 Rematerialisation of Securities

Rematerialisation of securities is the process of converting the securities in electronic holding to physical form.

The steps

Investor submits a Rematerialisation Request Form (RRF) to the DP.

The DP validates the signature and the availability of the shares in free form in the investor's account.

"Free form" — shares under pledge or lock-in are not available.

The request is then electronically forwarded to the Depository.

The RRF will have details such as the name(s) of the holder(s), signature, Number of shares to be rematerialised, address, bank account details, PAN, age, tax status, lock-in indicator, if any, and nominees, if any.

The depository validates the information and forwards an electronic request through the Depository system to R&T Agent. This can also be viewed by the DP.

The DP sends the RRF to the Issuer/R&T Agent who cross verifies it with the electronic confirmation received from the Depository and forwards it for processing.

Acknowledgement of this is sent to the DP.

The R&T Agent will capture the information in the RRF and create a new folio or add to an existing folio. The procedure to be followed is the same as that for creating a folio in case of transfer of securities in physical mode.

The R&T Agent will assign a new certificate number and distinctive numbers from the set of shares already dematerialised.

New certificate number; distinctive numbers drawn from the demat pool.

The names of the beneficial owners along with shares rematerialised will be included in the Register of Members of the company and such shares standing in the name of the Depository be removed to that extent.

In the records of the Depository, the investor's account will show a reduction of shares to the extent of rematerialisation.

The R&T Agent shall ensure that the applicable revenue stamps are affixed on newly rematerialised share certificate.

The R&T Agent will print certificates in the name of the investor along with the lock-in period indicator, if any, and dispatch them directly to the shareholder after affixing common seal on the face of the certificate.

Confirmation of the rematerialisation will be electronically sent to the DP via the Depository system interface.

The time limit: rematerialisation of securities will have to be completed within a period of 30 days from the receipt of physical RRFs. The RRF should be stored for atleast a period of 8 years.

12.3 Trading and Settlement

One of the primary functions of a Depository is to facilitate the movement of securities that is necessitated by trading activities.

Trading in securities involves the movement and transfer of securities between the seller and the buyer. These transactions may be done within the structure of a stock exchange or on a person to person basis outside the purview of the stock exchange.

Trades done and settled within the mechanism provided by the exchange are called market trades. Trades done one-on-one and settled outside the clearing and settlement mechanism of a stock exchange are called off-market trades.

Both involve the depository: both market and off-market trades involve movement of securities from the seller to the buyers and hence the involvement of the Depository.

Debits and credits

The beneficiary account of a holder can be debited or credited only on the instruction of the holder.

For debits, the account holder gives this instruction to the DP through a Delivery Instruction Slip (DIS). The DIS form has the name, address and DP id pre-printed on the form. The client id is also pre-stamped on the form.

The fifth sample question asks what a debit requires — a delivery instruction.

The account holder will have to fill in the following information:

Receiver details — For market trades this would be the clearing member id, for off-market trades the DP id, the DP name and the client id of the receiver

The settlement number of market trades

The ISIN and the name of the security

The quantity in figures and words

The execution date which is the date on which the account will be debited

The signature of all the holders of the account

Credits

Credits to the account are received automatically if the account holder has given standing instructions (SI) to the DP for receipts. If SI has not been given, then a receipt instruction has to be given every time a credit is expected.

The third sample question tests this — it is true that credits are automatic only where standing instructions have been given.

The receipt instruction will have to be filled in for:

Details of the client and DP, clearing member id, settlement number if receipt is expected from a client, clearing member or as a result of market trade respectively.

The ISIN and name of security · The quantity of security · The execution date · The signature of all account holders

Off-market trades

In an off-market trade, there is no participation of the stock exchange or its institutions such as the clearing corporation. Usually large trades between institutions and large private clients among others may be done as off-market trades.

The securities involved in the trade, if held in electronic form, will have to be transferred from the beneficiary account of the seller to that of the buyer. The Depository mechanism is used only for the transfer of securities; the cash settlement is done outside the ambit of the Depository.

Securities move through the depository; money does not.

The process is as follows:

The seller gives instructions to the DP to debit the sellers beneficiary owners account with the securities according to the details in the DIS.

The DP verifies the signature of the holders on the DIS and enters the instruction on the depository system. The securities are moved out of the sellers account on the execution date.

The account of the buyer receives credit of the securities if a standing instruction has been given to the buyer's DP.

Market trades

Market trades are trades done through the trading, clearing and settlement mechanism of the stock exchange. The transfer of shares available for trading in the dematerialised form is conducted through the depository system.

Since the trades done on a stock exchange are anonymous, the clearing corporation of the exchange stands between all trades. There is no direct transfer of shares between the buyer and the seller.

The clearing corporation stands between — the essence of the market trade.

The transfer of securities for trades done on an exchange has to be within the time cycle, called the settlement cycle, specified by the exchange. The details of the settlement positions of each trading member in terms of obligation for delivery and receipt of shares are downloaded by the exchange to each broker.

Market trades are done through members of the stock exchange who are required to be participants in the depository system also.

Once a trade is done, the securities move in the following manner:

The seller gives instructions to his DP to move securities to the clearing member account of the broker.

The broker will in turn transfer the securities to the clearing corporation by the pay-in date specified in the settlement schedule of the exchange.

The clearing corporation will transfer the securities to the clearing member account id of the receiving broker, i.e. the broker through whom the buyer bought the shares, on the pay-out day.

The buyer's broker will give instructions to transfer the securities to the beneficiary account of the buyer. For this, either the buyer should have given standing instructions to his DP to receive all credits to his beneficiary account or give receipt instruction for every credit that is expected.

Four hops — seller → seller's broker → clearing corporation → buyer's broker → buyer.

The settlement cycle: secondary market trades in India, have moved into the T+1 (Trade + 1) settlement cycle from 27 January 2023. SEBI has implemented this new cycle to bring operational efficiency, quicker fund remittances, share delivery, and easy trading for stock market investors.

Inter-depository delivery

Trades done on a stock exchange may require transfer of securities between depositories. The SEBI (Depositories and Participants) Regulations, 2018 requires depositories to be inter-connected.

Inter-depository delivery of securities is possible only if the security is available for dematerialisation in both the depositories. For inter-depository debits and credits, instructions have to be given in the inter-depository delivery or receipt forms to the DPs of the seller and the buyer.

Inter-depository transfer instructions are exchanged on-line for each day between the depositories.

12.4 Beneficial Owner Reporting

An investor holding dematerialised shares can conduct transactions such as transfer of shares without having to resort to the Issuer/ R&T agent.

However, information about the change in the holding of beneficial owners of the shares of the company and details of new beneficial owners have to be periodically provided to the issuer depending upon the agreement between the Issuer and the depository.

In case of the entry of a new beneficial owner, the information that is provided by the depository are:

ISIN · Name(s) of the holder(s) · Address · Minor Indicator/Date of Birth · PAN details · Bank account details · Nominee details, if any · Details of the DP · Client account number of the beneficial owner · Number of shares

Ten items.

The Beneficial Owner Master Register is updated by the R&T agent based on the above information. For existing beneficial owners, any change of information such as address, bank information and nominee details shall be communicated to the DP.

Changes go to the DP, not the R&T agent.

The issuer/R&T agent need to download the Beneficial Owner Master every time there is a corporate action such as dividend, bonus and the like. The depository provides a beneficial owner download as on the record date/book closure for the corporate actions which have all the following information of the beneficiary owner including:

ISIN · Name of beneficial owner(s) · Address & Bank Info of beneficial owner · Quantity of shares held in the account · Details of the shares under lock-in period

And the crucial rule: the entitlement of beneficial owners to corporate actions depends upon the holding as per the download provided as of record date/book closure.

12.5 Corporate Actions

Apart from the public issue of shares, the depository, issuer, R&T agent, DP and the investor are involved to give effect to other corporate actions such as: Bonus/Split/Consolidation · Rights · Mergers/Acquisitions

Bonus issue, split and consolidation

The company informs the depository as well as R&T agents about the record date for the bonus issue. The depository generates a beneficial owner's report as on this date based on which the R&T agent updates the beneficial owner master and calculates the entitlements for each beneficial owner.

The R&T Agent obtains the download from the depository as of the record date/book closure date and after the Company completes the listing formalities with the Stock Exchanges on the basis of the "In principle approval for listing of the shares" given by the Stock Exchange. Then they approach the depository for carrying out a corporate action for crediting the bonus shares into the respective investors account. After the shares are credited, the R&T Agent will send a communication to the investors for the corporate action carried out.

One ISIN per equity share: as per the present directions given by SEBI, a company is not permitted more than one ISIN for its equity shares unless the amount called and paid is not the same or the shares have differential voting rights. In other words, all shares under an ISIN shall be pari pasu in all respects.

The fourth sample question tests this — it is false that a new ISIN is created every time there is a bonus or rights issue.

SEBI has also specified that allotment of Bonus shares is to be done only in dematerialised form, after ensuring issuer has received approval from the stock exchanges for listing and trading of all the securities, excluding options granted to employees pursuant to an employee stock option scheme and convertible securities, prior to the issuance of bonus shares.

The 2024 acceleration: aimed at improving the efficiency of bonus share issues and streamlining processes and protect investor interests, SEBI mandates a reduction in the time for trading bonus shares from the record date, effective from October 1, 2024 — SEBI Circular No.: CIR/CFD/PoD/2024/122 dated September 16, 2024.

And a simplification: the requirement for temporary ISINs for bonus shares is exempted, allowing direct credit into the permanent ISIN.

Rights issue

When a company is planning a rights issue it has to obtain the beneficial owner download from the depository by giving details of the ISIN for which they want the report and the book closure period/record date.

The R&T agent calculate the rights allotment of each beneficial owner and send the composite application form to them. The beneficial owners/renouncees mention in the form whether they want the rights allotted (electronic or physical) and submit it to the ASBA / Collection bank.

The process of allotment, refund and intimation of allotment follows the normal procedure. The depository's name is included in the register of members of the company for the shares allotted to investors in the electronic form.

After verification, the R&T agent sends the information of the rights allotted through a credit corporate action to the depository. The statement gives details of the client account number, DP Id, ISIN and quantity allotted. The depository validates, acknowledges receipt of the statement and downloads the information to the DPs who inform their clients. The R&T Agent also sends an individual communication to the investor.

Mergers and amalgamations

In a merger of two companies or a takeover of a company by another (transferee company), a scheme of amalgamation or takeover is decided which defines the number of shares of one company that will be exchanged for the other or issued in the other company.

The various scenarios are as follows:

Note the difference between "option" and "required."

The R&T agent of the transferee company is responsible for undertaking all activities related to the merger/takeover such as:

Informing the depository about the corporate action and record date.

Obtaining the record of beneficial owners, if applicable.

Calculating the entitlement according to the scheme of amalgamation/takeover.

Informing the shareholders and beneficial owners of the details of the scheme of amalgamation/takeover and the option, if available, to receive shares in the electronic form.

Completing the process of allotment of shares in electronic and/or physical form just as it is done for a rights issue of shares, downloading the information to the depository, if shares are being allotted in the electronic form and obtaining the acknowledgement from the depository.

Including the depository in the register of members for the shares allotted in electronic form and updating the beneficial owners' master.

12.6 Reconciliation

The records of the holdings in a security are maintained by the issuer/R&T agent through the register of members. If the shares are also held in electronic form, then a record of the holdings are also available with the depository.

The records held with the R&T agent and with the depository are reconciled on a daily basis to check the integrity of the total capital issued by the Company. The reconciliation is an end of day process done on a daily basis.

The equation: the holding in the register of members along with the pending dematerialisation and rematerialisation requests should be equal to the holding in the depository along with the pending dematerialisation and rematerialisation requests.

If there is a discrepancy, the same has to be resolved between the issuer and the depository before any other activity is undertaken.

The common reasons for discrepancies are requests which are in transit between the DP and the R&T agent or a communication failure between the depository and the R&T agent.

12.6.1 The Distinctive Number database

The Depository System Review Committee (DSRC), constituted by SEBI, while emphasising on the issuer's responsibility for reconciling records of total issued capital, listed capital and capital held by depositories in dematerialized form, recommended that the depositories may maintain complete reconciled record of total issued and listed capital, including both physical and dematerialized shares.

Subsequently SEBI issued a circular, CIR/MRD/DP/ 10 /2015 dated June 5, 2015, to ensure centralised record of all securities, including both physical and dematerialised shares, issued by the company and its reconciliation thereof, it had been decided that the Depositories shall create and maintain a database of distinctive numbers (DN) of equity shares of listed companies with details of DN in respect of all physical shares and overall DN range for dematerialised shares.

The second sample question tests this — the DN database is created and maintained by the depositories.

The DN database shall make available, information in respect of issued capital, such as DN Range, number of equity shares issued, name of stock exchange where the shares are listed, date of in-principle listing / final trading approval / dealing permission, shares held in physical or demat form, date of allotment, shares dematerialized under temporary (frozen) ISIN (International Securities Identification Number) or Permanent (active) ISIN etc., at one place.

Part I — physical mode

When a company is incorporated and shares are allotted to their promoters and subscribers to memorandum, the distinctive numbers are assigned to each share that gets allotted.

The worked example: 20,000 shares in seven folios.

Full transfer: when shares are transferred in physical form from one person to another, new folio will be allotted and the same certificate number and distinctive number will be carried on to the new person.

C transfers his entire 4,600 to H — H gets folio 00000008 but keeps certificate 0003 and DN 15,001–19,600. C ceases to be member and folio will carry Nil holding.

New folio, old certificate and distinctive numbers.

Partial transfer: in case of partial transfer, then the certificate is split into two and then the transfer is affected.

C transfers 600 of his 4,600 to H — certificate 0003 is split into two – no.0008 & 0009: C keeps 0008 with DN 15,001–19,000 (4,000) and H receives 0009 with DN 19,001–19,600 (600) in folio 00000008.

Duplicate certificate: when share certificates are lost and a duplicate certificate is issued, the certificate number alone will be changing, while distinctive numbers and folio numbers will remain the same.

G seeks a duplicate — certificate 0007 will cease to be valid - Dup, replaced by 0010, with folio 00000007 and DN 19,901–20,000 unchanged.

Transmission and transposition: will be same process as that of Transfer with regard to updation of the Register of Members, except that the type of transaction in the records will be showing as Transmission/Transposition, as the case may be.

Split and consolidation of certificates: only the certificate number changes and the distinctive number for the shares remains the same. In respect of split, the distinctive numbers will be split as to the number of shares split is requested for. In respect of consolidation, the distinctive numbers will be consolidated and reflect under same certificate number.

Part 2 — demat mode

When this company gets demat connectivity, the depositories will be added in the Register of Members as a shareholder. When a few of their shareholders gets their shares dematerialised with NSDL and CDSL, their respective distinctive numbers will be moved to the folio of NSDL and CDSL in the Register of Members (RoM). For arriving at the beneficiary owners, the BenPos received form NSDL and CDSL will be considered.

In the example, A and C dematerialise with NSDL and D with CDSL. Their folios show "Dematerialised and folio ceases to be valid", and the depositories appear as members:

Total capital remains 20,000 throughout.

Rematerialisation: when a shareholder wants to Remat the shares, the shares are converted into physical mode, where a new folio and new certificate number (which will be the running number), will be allotted to the shareholder and distinctive numbers will be moved from the folio of the respective depository, from where Remat request is confirmed.

J remats 100 shares from an NSDL DP — J gets folio 00000009, certificate 0011 and DN 18,901–19,000, while NSDL's holding falls to 13,900 with its range ending at 18,900.

The total is still 20,000 — which is exactly what daily reconciliation checks.

12.7 Crediting shares to the IEPF Account

Procedure for transferring shares to fund:

Shares to be credited to demat account of IEPF Authority within 30 days of such shares becoming due for transfer to IEPF.

The transfer of shares by the companies to IEPF shall be deemed to be transmission of shares and the procedure for transmission of shares to be followed while transferring the shares to IEPF.

Deemed to be transmission — not a transfer.

Board of Directors shall authorize Company Secretary or any other person to sign the necessary documents for effecting transfer of shares to IEPF.

Company shall inform, at the latest available address, the shareholder concerned regarding the transfer of shares. Such details shall also be posted on website of the company.

Simultaneously, the company to publish a notice in a leading newspaper in English and regional language having wide circulation informing the concerned that the names of such shareholders and their folio number or DP Id and Client Id are available on their website and duly mentioning the website address.

Company to inform CDSL and NSDL by way of corporate action requesting them to transfer the shares to the demat account of IEPF Authority (if the shares are held in demat form). On receipt of such information, the depository shall effect the transfer of shares in favour of demat account of IEPF Authority.

The company shall make such transfers through corporate action and shall preserve copies for its records.

While effecting such transfer, the company shall send statement to the Authority in Form No. IEPF – 4 containing such transfer.

Voting rights on the shares transferred to the IEPF shall remain frozen until the rightful owner claims the shares.

Frozen, not extinguished — and for takeover purposes they still count: for the purpose of the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011, the shares which have been transferred to the Authority shall not be excluded while calculating the total voting rights.

The company shall maintain details of shareholding of each individual shareholding whose shares have been credited to the demat account of the IEPF Authority.

All the benefits accruing on such shares i.e. bonus shares, split, consolidation, fraction shares etc, except right issue, shall also be credited to the demat account.

Everything except rights.

Claiming a refund

The refund claim to be filed in Form IEPF-5, downloadable from the IEPF website: http://www.iepf.gov.in.

Submit the duly filled in form online by following the instructions given in the upload link on the website. On successful uploading an acknowledgement will be generated.

The claimant should submit an indemnity bond in original, copy of acknowledgement and self-attested copy of e-form along with the other documents as mentioned in the Form IEPF-5 to Nodal Officer (IEPF) of the company at its registered office in an envelope marked "Claim for refund from IEPF Authority".

Claim forms completed in all aspects will be verified by the concerned company and on the basis of company's verification report, refund will be released by the IEPF Authority in favour of claimants' Aadhaar linked bank account through electronic transfer.

The company verifies; the Authority pays — into an Aadhaar linked bank account.

The chapter's sample questions confirm that on dematerialisation the name of the depository is entered in the Register of Members; that the depository creates and maintains the distinctive number database; that it is TRUE that credits are received automatically only where standing instructions are given; that it is FALSE that a new ISIN is created for every bonus or rights issue; and that debits to a beneficiary account require a delivery instruction.