Page 30 - DMGT409Basic Financial Management

Unit 2: Source of Finance

Disadvantages of Certificate of deposit as a money market instrument Notes

The key disadvantages of certificate of deposits are as follows:
1. As compared to other investments the returns is less.

2. The money is tied along with the long maturity period of the Certificate of Deposit. Huge
penalties are paid if one gets out of it before maturity.
2.3.3 Treasury Bills

Treasury bills were first issued by the Indian government in 1917. Treasury bills are short-term

financial instruments that are issued by the Central Bank of the country. It is one of the safest

money market instruments as it is void of market risks, though the return on investments is not
that huge.
The reserve bank of India holds the major portion of outstanding treasury bills. These bills have
a low yield and hence the other holders of treasury bills such as banks rediscount these bills with
the RBI at the earliest opportunity.
The treasuries bills have not developed as an active monetary instrument in the market as these
bills of 91 days do not provide a yield which is positive. Due to their high liquidity and safety, 182
days treasury bills despite low rates represent the most important instrument of money market

and a versatile one in the hands of the effective fund managers of firms, companies and banks.
182 days treasury bills can be sold to discount and finance house of India or discounted with

banks and Financial Institutions. The market can be improved only by enhancing the nominal
rate of discount as compared to the expected rate in the price level. The development of an active
secondary market for treasury bills depends on suitable support to brokers and dealers and
permitting banks also to avail their services.

2.3.4 Inter-Corporate Deposits (ICDS)

A deposit made by one firm with another firm is known as inter-corporate deposits (ICDs).
Generally, these deposits are usually made for a period up to six months. Such deposits may be
of three types:
1. Call Deposits: Deposits are expected to be payable on call. In other words, whenever its
repayment is demanded on just one days notice. But, in actual practice, the lender has to
wait for at least 2 or 3 days to get back the amount. Inter corporate deposits generally have
12 per cent interest per annum.
2,. Three Months Deposits: These deposits are more popular among companies for investing
the surplus funds. The borrower takes this type of deposits for tiding over a short-term
cash inadequacy. The interest rate on these types of deposits is around 14 per cent per
annum.
3. Six-Months Deposits: Generally, the inter-corporate deposits are made for a maximum
period of six months. These types of deposits are usually given to ‘A’ category borrowers
only and they carry an interest rate of around 16% per annum.

Features of ICDs

1. There are no legal regulation, which makes an ICD transaction very convenient.
2. Inter-corporate deposits are given and taken in secrecy.
3. Inter-corporate deposits are given based on borrower’s financial sound, but in practice

lender lends money based on personal contacts.

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