Introduction:
The term ‘capital’ has a variety of connotations. To an economist, it will mean one thing, to an accountant, and to a businessman or lawyer, it will mean something else. The amount invested in a firm is referred to as capital in accounting. It can refer to a variety of things: capital items, such as instruments of production; money available for investment, or money already invested; the discounted value of future income to be received from an investment; and the actual or money worth of total assets.
In company law, it refers to the company’s share capital. During the lifetime of a company, there are many forms of share capital. Issued capital, subscribed capital, called up capital, paid-up capital, and so on are some of them. Now, what do we mean by shares? A share is a share in the share capital of a company including stocks.[1]
An amount invested in a company to enable it to carry out its activities is referred to as its share capital and is considered as one of the most efficient ways to raise cash by expanding ownership holdings and therefore generating a diverse set of interests in the company’s operations that will help it grow. Certain requirements must be met before the share capital may be changed or raised.
Depending on the kind of business and its formation documents, such as the Memorandum of Association and Articles of Association, a company may issue shares from its share capital if it is permitted to do so. It does so for the simple reason that a company must be willing to raise money in order to expand its business.
To do so, it will release a prospectus to attract people who are interested in investing in its firm to become potential investors. After the prospectus is published, applications are accepted, and shares are distributed. This process is known as the issue of shares.[2]
There are two kinds of share capital, namely equity share capital and preference share capital. When a corporation is limited by shares, equity share capital refers to any share capital that isn’t preference share capital. It refers to the percentage of the company’s funds raised in return for a share of the company’s ownership.[3]
Preference shares are a special type of share capital with a fixed dividend rate and preferential rights over ordinary equity shares in terms of profit sharing and claims on the firm’s assets. People who purchase preferential share capital receive priority in dividend declaration and are the first to receive money when the company is wound up. It is important to note that only when a subject directly or indirectly affects them do they have the right to vote.[4]
A company can issue shares in the following ways:
- Issue of share for consideration other than cash
- Issue of shares for cash
- Issue of shares at par
- Issue of shares at a premium
- Issue of shares at a discount
This Article deals exhaustively with the issue of shares at a premium and at discount. It aims to analyse the scope of its implementation and admissibility under the Companies act, 2013 in light of important judgments.
Issue of Shares at Discount
Issue of shares at a discount is dealt with under Section 53 of the Companies Act, 2013. Issue of shares at a discount means when a company issues shares at a price lesser than its face value. For instance, the face value of the share is Rs. 100, the company issues it at Rs. 90. Here, the amount of discount is Rs. 10. One would think that it’s a complete loss for the firm. It’s important to note that an issue of shares below the Market Price (MP) but over the Face Value (FV) is not referred to as an “issue of shares at discount”. The Nominal Value (NV) of the shares is always lower when a Share is issued at a discount. It is debited to a separate account known as the “Discount on Issue of Share” Account.[5] There are several conditions that must be complied with by the companies.
- The company must get approval from the appropriate authority in order to issue the shares at a price lower than the face value. They should convene a general meeting and discuss and authorise the subject there in order to obtain authorization.
- After getting approval from the appropriate government, the business shall issue the shares within 60 days. In some circumstances, after receiving authorization in the permission, the firm may be able to prolong this time limit.
- There is a cap on the discount rate. A firm cannot issue shares at a discount of more than 10%.
- The shares must be from the same class as those that are currently offered on the market. For example, if the company has previously issued Equity shares, it must issue Equity shares solely this time.
- The company cannot issue these shares until one year has passed after the company began operations.
- In addition, the company must obtain Central Government permission after receiving approval from the general meeting.
Prohibition of Issue of Shares at Discount
Generally, companies act has always discouraged the issue of shares for a price less than their face value. As also seen in Ooregum Gold Mining Co of India v. Roper,[6] it was held that the allotment of shares at a discount is ultra vires[7] and the allottees are bound to pay the full value of their shares. It should be noted that a contract to take shares on a discount is unenforceable.[8]
Moreover, the indirect issue of shares at a discount is also not permitted. In Mosley v. Koffyfontein Mines Ltd.,[9]the company issued debentures at a discount (allowed as per the act) but gave each debenture holder the right to convert the debenture into shares, it was a sheer colourable scheme for issuing shares at a discount and was an illegal practice.
When a company violates the provisions of this section, the company is subject to a fine of not less than one lakh rupees but not more than five lakh rupees, and every officer who is in violation is subject to imprisonment for a term not less than six months or a fine of not less than one lakh rupees but not more than five lakh rupees.[10]
Exceptions
It is pertinent to note that the law provides for certain exceptions, wherein the issue of shares at a discount is not prohibited:
Sweat Equity Shares
It is issued to the directors or employees of the company. It can be given out at a discount or in exchange for something other than cash. Sweat equity shares are granted as a reward or recognition for the directors’ and workers’ efforts and contributions in offering their know-how or making intellectual property rights or value additions available.
Sweat equity shares are fundamentally different from Employee Stock Option Plans (ESOPs) in that they serve as both a reward and an incentivization mechanism for employees’ performance and contributions, whereas ESOPs serve solely as an incentivization mechanism to encourage employees to perform better due to their ownership element in the company.
Issue of Shares to Creditors
When the Company’s debt is converted into shares, the Company may issue such shares to its creditors:[11]
- In order to comply with any legislative resolution plan (as under Insolvency and Bankruptcy Code 2016)
- Or a debt restructuring plan in compliance with any Reserve Bank of India Act 1934 or Banking (Regulation) Act 1949 guidelines, directives, or rules.[12]
Right to Issue at Discount
A company may need to obtain extra cash for a variety of reasons, including expansion or preservation. It is permissible to issue additional share capital in accordance with Section 62 of the Companies Act 2013. Instead of issuing shares to the general public, the firm may choose to offer shares to its existing owners in a rights issue.[13]
Initial Public Offering
The first issue price of an unlisted business’s share capital, which thereafter becomes a listed company, is known as an IPO. At a maximum discount of 10%, an issuing firm can allocate shares to its workers or retail individual investors. An initial public offering (IPO) may be followed by a follow-on public offering (FPO), which is when the newly listed business issues share with investors or existing shareholders. In this case, a discount may be provided to retail investors within the permitted limits.
Offer for Sale
An OFS occurs when listed companies (as sellers) sell shares in a transparent way in order to diminish promoter interests or holdings while adhering to SEBI’s minimum public shareholding rules. The sellers of shares in an OFS issuance will have to include the terms of the discount in the OFS announcement notice. Typically, the reduction is applied to either the bid price or the final allotment price.
Issue of Shares at Premium
It refers to the sale of shares at a price greater than the share’s face value. In other terms, the premium is the amount paid for a share over and above its face value. Typically, firms that are financially sound, well-managed, and have a positive market reputation issue their shares at a premium. For instance, when a company issues shares worth Rs.100 at Rs. 110. This includes a 10% premium. A company may demand payment of the premium from applicants or shareholders at any time, including during the application process, allotment, or calls. However, it is at the time of allotment that a company usually calls the amount of Premium.[14]
The Securities Premium can be used in a variety of ways, according to Section 52 of the Companies Act of 2013. The following are the rules in this regard:
- The funds might be used to issue previously unissued shares to the company’s shareholders or members as fully paid bonus shares.
- This sum can be used to deduct the preliminary costs.
- It might be used to pay the redemption premium on debentures or redeemable preference shares.
- It can also utilise this money to write off any expenditures, commissions paid, or discounts granted on securities or debentures issued.
- It can also use it to purchase back its own shares or other assets.[15]
The shares can be issued at a premium, however, one must adhere to the SEBI Guidelines as they indicate when an issue has to be charged at par and at a premium.[16] Premium can be received in cash or kind.
The disbursement of the money received as a premium is governed by Section 52(1) of the Companies Act, 2013. It is expressly stated that any sum received, whether in cash or in-kind, must be deposited into a separate account called The Securities Premium Account (SPA).[17]
The credit balance must be treated with the same respect as share capital. The amount of securities premium may only be lowered in the manner of share capital.[18] The SPA can only be decreased if the Articles of Association allow it and if the legislation requires a specific decision with approval.[19] A decrease in the Share Capital Account will result in a decrease in the Securities Premium Account. If shares have been issued at a premium, both must add them up.
In Hyderabad Industries Ltd.[20], In re, reduction of the SPA was authorised to wipe off losses suffered in securities trading. The company’s SPA was reduced thanks to the Articles of Association. There was no decrease of obligation for unpaid capital or payment of paid-up capital to any shareholder as a result of the capital reduction. The court ruled that no firm can write off or modify a loss against the share premium account unless and until the share capital is reduced and the share premium account is correspondingly reduced.
The SPA is considered as a paid-up share capital for a limited purpose, according to the Court in Global Trust Bank Ltd, re.[21] However, it will not be used as reserve money. If there is no decline of the SPA and commensurate reduction in the SPA, a firm may be allowed to write off or adjust a loss against the SPA.
The court decided in the instances of Drown v Gaumont- British Picture Corporation Ltd[22] that the SPA cannot be considered as profit and hence cannot be given as a dividend. The same can, however, is capitalised and given as bonus shares. SPA can also be used to issue fully paid bonus shares, according to Section 63 (1)(ii) of the Companies Act, 2013.
It was ruled in ComatInfoscribe P Ltd. re[23] that a decrease in SPA as a reduction in the capital is allowed when authorising a scheme of merger. However, if the reduction is not for the purposes set out in Section 78(2) of the Companies Act, 1956, the method for reducing share capital set out in the Act must be followed. The court decided in Zee Tele films Ltd, re[24] that a decrease in the SPA is permissible under a plan that experts deemed fair, equitable, and suitable. It should be noted that the court cannot approve the resolution unless the Articles of Association allow the use of the share premium account for purposes other than those listed in Section 52 (2). No judicial permission or sanction is necessary to use the Securities Premium Account for the reasons listed in Section 52(2).
Moreover, Section 52(3), is a novel provision not included in Section 78 of the Companies Act, 1956. Section 52 (3) states that SPA may be applied to any classes of firms that are specified and whose financial statements meet the accounting requirements set out in Section 133.
Conclusion
It may be argued that the issuing of premium securities has a number of limitations in terms of its use. To begin with, the premium cannot be considered profit and hence cannot be given as dividends. Second, the amount of premium received, whether in cash or in-kind, must be documented in a separate account (SPA). Third, the value of the share premium must be treated with the same reverence as the share capital. The SPA can only be decreased if the Articles of Association authorise it, and it must be reduced in the same way as the share capital. The SPA is not a profit and cannot be given as dividends, but it can be issued as bonus shares. As far as Section 53 is concerned one must strictly adhere to the provisions given under section 53 of the Companies Act as it provides for strict punishment for the violation.
References:
[1] Section 2(84) Companies Act, 2013.
[2]Kirti Dubey, July 2018, Share Capital: Exploring the Backbone of Company Law, Research Gate.
[3]Dignath Raj Sehgal, May 2020, Shares and Share Capital, iPleaders.
[4] Ibid.
[5]Komal Shah, May 2020, Issue of Shares at Premium and at Discount, Legal Sarcasm.
[6] 1892 AC 125: 66 LT 427 (HL)
[7]Section 53(2) Companies Act, 2013.
[8]Sandys, ex p, (1889) 42 Ch D 98: 61 LT 94.
[9] 1904 2 Ch 108:91 LT 266
[10]Section 53(3) Companies Act, 2013.
[11]Section 53 (2A) Companies Act, 2013.
[12]Companies Amendment Act, 2017 vide Notification No. File No. 1/1/2018-CL.I dated 9th February, 2018.
[13]Shobhana Chadha, Dec 2018, What’s a Rights Issue, The Economic Times Panache.
[14]Avtar Singh, Company Law, Seventeenth Edition, EBC.
[15]Supra Note 5.
[16] SEBI Guidelines for Disclosure and Investor Protection
[17] Head (Henry) & Co. Ltd. v. Ropner Holding Ltd., (1951) 2 ALL ER 994.
[18]Dr. G.K. Kapoor, Sanjay Dhamija, Taxmann’s Company Law, 17th Edition, Taxmann Publication Pvt. Ltd.
[19]Ibid.
[20](2004) 3 ALD 832.
[21](2004) 5 ALD 667.
[22](1937) Ch 402.
[23] (2004) 53 SCL 41 (Kar).
[24](2005) 124 Comp Cas 102 (Bom).
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