This article has been written by Ms. Preksha Bothra, a 4th year BA LLB student from BMS College of Law, Bengaluru.

Introduction:

In India, equity shares with differential rights (ESDR) were introduced in 2000 as a way to provide flexibility to companies in raising funds while allowing shareholders to enjoy differential rights. Equity shares with differential rights are an instrument that provides the issuer with the ability to provide different rights to different classes of shareholders. It is a way to ensure that the issuer can raise capital while also providing additional rights to certain shareholders.

What are Equity Shares with Differential Rights?

Equity shares with differential rights are shares that give different rights to their shareholders. Companies issue equity shares with differential rights to provide flexibility in terms of raising funds and to provide additional benefits to a certain class of shareholders. These rights may include voting rights, dividend rights, or rights in relation to the company’s assets. The different classes of equity shares with differential rights are classified as Ordinary Shares and Equity Shares with Differential Voting Rights (DVR).

Ordinary Shares:

Ordinary shares are the most common type of shares that are issued by companies. These shares give the shareholder an equal right to vote on company decisions, such as the election of the board of directors and other matters of corporate governance. Each ordinary share carries one voting right. The dividend payable on an ordinary share is also proportional to the number of shares held by the shareholder.

Equity Shares with Differential Voting Rights (DVR):

Equity shares with differential voting rights (DVR) are a special class of shares that provide different voting rights to shareholders. They are issued by companies that want to maintain control of the company while still raising capital. DVRs can be issued with differential voting rights of up to 10 times the voting rights of ordinary shares.

The concept of DVRs was introduced in India in 2000 by SEBI. The rationale behind introducing DVRs was to enable promoters to raise capital without diluting their control over the company. The idea was that promoters could issue shares with higher voting rights and retain control while still raising capital. DVRs are often issued at a premium to ordinary shares.

Why are Equity Shares with Differential Rights Important?

Equity shares with differential rights are important for companies as they provide flexibility in raising funds. By issuing different classes of shares, companies can cater to different types of investors. For example, DVRs can be issued to investors who are interested in the company’s long-term growth prospects and who are willing to accept a lower dividend payout in exchange for higher voting rights. This helps companies to retain control while still raising capital.

Equity shares with differential rights are also important for investors as they provide a means to invest in a company while still enjoying additional rights. For example, an investor who is interested in the long-term growth prospects of a company may choose to invest in DVRs as they provide higher voting rights. This helps the investor to exercise greater control over the company’s decisions.

Regulatory Framework for Equity Shares with Differential Rights in India:

The regulatory framework for equity shares with differential rights in India is governed by the Companies Act, 2013 and the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018.

1. The Companies Act, 2013:

The Companies Act, 2013 provides the legal framework for equity shares with differential rights in India. Section 43 of the Companies Act, 2013 allows companies to issue equity shares with differential rights. The act lays down the conditions for the issue of such shares. According to the act, equity shares with differential rights can be issued only if they meet the following conditions:

• The shares must be issued as part of the company’s authorized share capital.
• The shares must have differential rights as to dividend, voting or otherwise.
• The differential rights attached to the shares must be approved by special resolution passed by the shareholders.
• The company must have a consistent track record of distributable profits

1. The SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018:

The SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018 govern the disclosure requirements for equity shares with differential rights in India. According to these regulations, companies issuing equity shares with differential rights must comply with the following requirements:

• The company must disclose the details of the issue of equity shares with differential rights in its prospectus.
• The company must disclose the reasons for issuing equity shares with differential rights.
• The company must disclose the percentage of shares held by promoters and the percentage of shares held by the public.
• The company must disclose the terms and conditions of the issue of equity shares with differential rights.

Advantages of Equity Shares with Differential Rights:

Equity shares with differential rights have several advantages for both companies and investors.

1. For companies:

• Flexibility in raising funds: Companies can issue different classes of shares to cater to different types of investors. This helps them to raise capital while still maintaining control.
• Retention of control: DVRs enable promoters to retain control over the company while still raising capital.
• Higher valuation: Companies can issue DVRs at a premium to ordinary shares, which can result in a higher valuation.

1. For investors:

• Additional rights: Investors can invest in companies and still enjoy additional rights, such as higher voting rights.
• Long-term growth prospects: DVRs are often issued with a focus on the company’s long-term growth prospects. Investors who are interested in the company’s long-term growth prospects can invest in DVRs.

Disadvantages of Equity Shares with Differential Rights:

Equity shares with differential rights also have some disadvantages.

1. For companies:

• Limited investor pool: Not all investors are interested in investing in DVRs. This can limit the company’s investor pool.
• Negative perception: Some investors may perceive DVRs as a way for promoters to maintain control over the company while still raising capital.

1. For investors:

• Lower dividend payout: DVRs are often issued with a lower dividend payout than ordinary shares. This can result in lower returns for investors who are primarily interested in dividend income.

Conclusion:

Equity shares with differential rights are an important instrument for companies and investors. They provide flexibility in raising funds while allowing investors to enjoy additional rights. The regulatory framework for equity shares with differential rights in India is governed by the Companies Act, 2013 and the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018. While equity shares with differential rights have several advantages, they also have some disadvantages. Companies and investors should carefully consider the pros and cons before deciding to issue or invest in equity shares with differential rights.

Additionally, it is important to note that the issuance of equity shares with differential rights is not without controversy. Some investors and corporate governance advocates are concerned that the issuance of such shares can lead to a concentration of power and control in the hands of a few individuals, thereby eroding shareholder democracy. There have been instances where companies have issued equity shares with differential rights that have significantly higher voting rights compared to ordinary shares. This has led to concerns that promoters can use these shares to push through decisions that may not be in the best interests of all shareholders.

In response to these concerns, the Securities and Exchange Board of India (SEBI) has taken several measures to regulate the issuance of equity shares with differential rights. For instance, SEBI has capped the voting rights of shares with differential rights at 2-10 times that of ordinary shares. This ensures that promoters do not have an unfair advantage over other shareholders. Additionally, SEBI has mandated that companies must disclose the reasons for issuing equity shares with differential rights and the terms and conditions of the issue. This ensures that investors have access to all relevant information before making an investment decision.

Despite these measures, there are still concerns that the issuance of equity shares with differential rights can lead to a concentration of power in the hands of a few individuals. Therefore, it is important for investors to exercise due diligence before investing in such shares. Investors should carefully evaluate the reasons for the issuance of equity shares with differential rights, the terms and conditions of the issue, and the potential impact on shareholder democracy.

In conclusion, equity shares with differential rights are an important instrument for companies and investors in India. They provide flexibility in raising funds while allowing investors to enjoy additional rights. However, the issuance of such shares is not without controversy, and there are concerns that it can lead to a concentration of power in the hands of a few individuals. Therefore, it is important for companies and investors to carefully evaluate the pros and cons before deciding to issue or invest in equity shares with differential rights. Additionally, it is crucial for regulators to continue to monitor and regulate the issuance of such shares to ensure that they do not erode shareholder democracy.