Equity Shares with Differential Rights under Companies Act, 2013: A Comprehensive Guide

Equity shares with differential rights refer to shares that provide specific rights or privileges to certain shareholders, which differ from the rights enjoyed by other shareholders holding the same class of shares. This concept has been a part of Indian company law since 2000, but it was only with the Companies Act, 2013 that it was given a formal statutory framework. In this article, we will delve into the provisions of the Companies Act, 2013 regarding Equity Shares with Differential Rights.

Short Glimpse

Equity shares are the most common form of ownership in a company. They represent a proportional ownership in the company’s profits and assets. However, in recent times, there has been a growing trend in companies offering equity shares with differential rights. Equity shares with differential rights, also known as DVRs, are shares that have different rights attached to them than ordinary shares.  

Let us first delve into the concept of Equity Shares, before we move on to discuss Equity Shares with Differential Rights.

Meaning of Equity Share as per Companies Act, 2013

Equity shares are a crucial component of a company’s capital structure and are considered the most important type of stock for a company. The Companies Act, 2013 defines equity shares as a type of security that represents ownership in a company and provides voting rights to the shareholder. These shares can be traded on stock exchanges, and their value is dependent on the financial performance of the company. 

Key Features of Equity Shares

The following are the key features of Equity Shares:

• Represent Ownership: Equity shares represent ownership in a company and provide the shareholder with a portion of the company’s profits and assets.
• Voting Rights: Equity shareholders have the right to vote on important matters such as the appointment of directors, changes to the company’s articles of association, and major business decisions.
• Dividends: Equity shareholders are entitled to receive dividends declared by the company. The amount and frequency of dividends are determined by the company’s board of directors.
• Residual Claims: In the event of liquidation, equity shareholders are considered residual claimants and are entitled to any remaining assets after all debts and obligations have been satisfied.
• Transferable: Equity shares are transferable, which means they can be sold or traded on stock exchanges.

Since, now we have a short gist about the Equity Shares, let us now move on to discuss about relation between Equity Shares with Differential Rights in greater detail.

Equity Shares with Differential Rights under Companies Act, 2013

Section 43 of the Companies Act, 2013 deals with the issuance of equity shares with differential rights. It states that a company may issue equity shares with differential rights, including the right to receive dividends, voting rights, or any other rights, in accordance with the rules prescribed by the central government.

The central government, in turn, has prescribed the rules for the issuance of equity shares with differential rights through the Companies (Share Capital and Debentures) Rules, 2014. These rules set out the conditions and requirements that companies must follow when issuing such shares.

Conditions for issuance of Equity Shares with Differential Rights

One of the primary conditions for issuing equity shares with differential rights is that the company must have a consistent track record of distributable profits for the preceding three years. Additionally, the company must have no default in filing its financial statements or annual returns for the preceding three years.

Furthermore, the company must obtain the approval of its shareholders through a special resolution, which requires the affirmative vote of shareholders holding at least 75% of the total voting rights of the company. The explanatory statement accompanying the notice of the general meeting where the resolution is proposed must disclose the full details of the differential rights being sought and the rationale for such rights.

The rules also prescribe that the articles of association of the company must contain provisions for the issue of equity shares with differential rights, including the specific rights and restrictions attached to such shares. These provisions must specify the conditions under which the rights attached to the shares may be altered or varied.

In addition, the rules impose certain disclosure requirements on companies that issue equity shares with differential rights. Companies must disclose in their annual reports the total number of shares issued with differential rights, the details of the voting rights and dividend rights attached to such shares, and the percentage of the total issued share capital represented by such shares.

Benefits of Equity Shares with Differential Rights

The following are the benefits of Equity Shares with Differential Rights:

• Flexibility in Capital Structure: Equity shares with differential rights provide companies with the flexibility to raise funds without diluting the control of existing shareholders.
• Increased Voting Rights: Equity shares with differential rights allow companies to provide their promoters or founders with higher voting rights, enabling them to have better control over the company’s affairs.
• Reduced Dividend Payout: Equity shares with differential rights with lower dividend rights can help companies conserve cash by reducing the dividend payout to shareholders.

Examples of Equity Shares with Differential Rights Include

Equity shares with differential rights are commonly used by companies to provide specific rights or privileges to promoters or founders of the company. For example, a company may issue shares with higher voting rights to its founders to ensure that they retain control of the company even if their shareholding decreases over time. Similarly, a company may issue shares with higher dividend rights to a particular investor who has provided significant financial support to the company.

• Class A Share: Class A shares typically have more voting power than Class B shares, giving the shareholder increased influence over company decisions.
• Preferred Shares: Preferred shares are entitled to receive a higher dividend rate than common shares and often have priority in the event of liquidation.
• Founder Shares: Founder shares are typically issued to the company’s founders and provide additional voting power or a guaranteed dividend rate.

A Point of Concern regarding the applicability of Equity Shares with Differential Rights in India

The issuance of Equity Shares with Differential Rights has been a subject of controversy in India, with some critics arguing that it undermines the principles of corporate democracy and may lead to the concentration of power in the hands of a few. The Securities and Exchange Board of India (SEBI) has also expressed concerns about the potential misuse of such shares and has proposed changes to the regulations governing their issuance.

Takeaway

In conclusion, equity shares with differential rights provide companies with a flexible tool to raise capital and reward certain shareholders. However, the rules governing their issuance impose strict conditions and disclosure requirements to ensure that the interests of all shareholders are protected. The controversy surrounding the use of such shares highlights the need for ongoing scrutiny and regulation of their use in the Indian corporate sector.

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