Opinion | Sebi's differential voting right plan a critical change
Sebi had issued a consultation paper on the issuance of shares with DVRs in March
PremiumThe Securities and Exchange Board of India (Sebi) has taken certain notable decisions at its board meeting on 27 June. Among other decisions, as was widely expected, Sebi has approved a framework for issue of differential voting rights (DVR) shares, clarified the meaning of ‘encumbrance’ and revised the risk management framework for mutual funds. The proposal relating to issuance and listing of DVRs is a critical change and it would be germane to briefly discuss the regulatory background to DVRs. There has been increasing debate in India, especially among startups and promoter driven companies, about the need to implement a framework for the issuance and listing of DVR shares.
Differential voting rights have disproportionate rights as compared to their economic ownership, and as such, go against the principle of one vote one share. DVRs can mean shares carrying superior voting rights (i.e., multiple votes on an equity share), inferior voting rights (i.e., a fraction of the voting right on an equity share, or shares with differential rights as to dividend. DVRs have gained popularity with founders/promoters that are key to the success of their companies, since it enables them to retain control over the decision making process and rights and to raise funds through shares with superior voting rights.
Sebi had previously constituted a DVR group within its primary market advisory committee and also issued a consultation paper on the issuance of shares with differential voting rights in March this year. The consultation paper had proposed two structures for the issuance of DVRs: (i) shares with superior voting rights as compared to ordinary equity shares; and (ii) shares with fractional voting rights as compared to ordinary equity shares.
Sebi has now proposed to permit technology companies (being companies that use IT, data analytics, etc. to provide products or services) which have issued DVRs with superior voting rights, to their promoters/founders holding executive position in the company, to undertake an initial public offering (IPO) of their ordinary equity shares subject to a number of conditions and compliance measures. For instance, the differential voting aspect of the DVRs is required to be between the ratios of 2:1 to a maximum of 10:1. The proposed framework also envisages the listing of the DVRs, subject to a lock-in until conversion into ordinary shares.
From a governance standpoint, the regulator has also prescribed a higher standard of compliance for such companies with DVRs by requiring greater proportion of independent directors at the board and committee levels.
As per the proposal, the conversion of DVRs into equity shares may be a time-based or event-based process, with conversion expected to take place within five years of listing, with the option of one extension. Also, it has been clarified that for certain key management decisions, such as voluntary winding-up of the company or initiation of voluntary resolution plan under the Insolvency and Bankruptcy Code (IBC), related party transactions involving the DVR shareholder, etc., the voting rights of the DVR shares would be akin to an ordinary equity share. The matter of permitting fractional shares has been kept in the back-burner with the regulator likely to revisit the proposal depending on the success of the DVR regime currently outlined.
In addition to the above, in a reaction to promoter entities raising funds through various structured options and leveraging of their holdings, the scope of ‘encumbrance’ as defined in the Sebi takeover code has also been broadened to include ‘any restriction on the free and marketable title to shares’.
Sebi has also stipulated a requirement for promoters to disclose detailed reasons for creation of encumbrance in excess of certain thresholds. While this move is certainly aimed at providing greater transparency to investors, the impact on fundraising by promoters remains to be seen.
Shruti Rajan is partner at Cyril Amarchand Mangaldas.
Rohan Banerjee, principal associate at Cyril Amarchand Mangaldas, contributed to this article.
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