The existing shareholders of a public limited company have a right to be offered shares in the company whenever the company proposes to increase its share capital. This is a special right which a member of a public limited company acquires under the companies act 1956. But a shareholder will get this right only in respect of issue of further shares by a public limited company after two years from the formation of the company or after expiry of one year from the allotment of shares made for the first time after registration, whichever is earlier to issue.
Private Limited company exempted
The provision of section 81 do not apply to a private limited company.
Such shares are called right shares
As such shares are offered to the existing shareholders by virtue of their right as per the provisions of the act, these shares are called right shares. In a company whose shares are quoted in a stock exchange, these rights shares command a premium in the market depending on the performance of the company and market values of the shares at the time. In order to safeguard the right of the existing shareholders specific provisions have been made in section 81 of the companies act to regulate such issues by the companies.
The provisions of section 81 are applicable to an unlisted public company and these are explained first. As far as listed company is concerned, the provisions of section 81 and the guidelines of SEBI will both have to be compiled with in respect of a right issue.
Manner of making the issue of right shares
The company can make such further issue of shares (equity or preference or convertible debentures) in the following manner:
- Where it is proposed to make a further issue of shares to existing shareholders strictly in accordance will section 81(1) and where there is no need to increase the authorized capital and there is no provision in the articles for approval by general meeting, there is no need for approval of members for a right issue. But where there may be fractional allotment and fraction may be discarded, the approval of shareholders by ordinary resolution is necessary before right issue is made. But it is customary for a company registration to get the approval of members before making a right issue as the company will use the opportunity to inform in detail the object of the issue. The approval of members will help towards the success of the issue.
- The further shares will be offered to the existing shareholders proportionately on the basis of the paid-up value of the shares held by them in the company on a date fixed by the board of directors in advance.
- For the purpose of determining the number of shares, which will be offered to each shareholder out of the proposed further issue, the board of directors, after giving advance notice to the members, will work out of the proposed further issue, the board of directors, after giving notice to the members, will work out the shares that will be offered on the basis of the shares held by each member on the said date.
- The offer will be made by way of a letter of rights which will indicate the number of shares held by each member on the appointed date. The number of further shares offered by the board to each of them and the price at which they are offered.
- The offer will allow enough time to the shareholders which will be about 30 days in the case of an one person company within which time, every shareholder shall be bound to take action on the offer.
- Unless the articles otherwise provide, the offer will include a right in the hands of the shareholder to renounce the shares offered to him wholly or partly in favor of any other person who may be a shareholder or not.
- Within the time stipulated in the letter of rights, members can accept the rights shares or part of them and make payment for the same in the manner indicated in the letter of rights.
- The shareholders will, in the letter of offer, be given a further right to apply for additional shares in addition to the rights shares offered to them. The additional shares will be allotted to the persons concerned either in full or proportionately on the basis of the number of shares that are available for allotment.
- After the expiry of the prescribed time, the board of directors will be free to dispose of any shares, if any, which are not taken up by the members.
- It is a normal feature that persons to whom shares are renounced by members, will not be eligible to apply for additional shares.
Approval by company in general meeting
As already stated, the issue of further shares in a company shall be approved by members in a general meeting where the offer is at par or at a premium. For this purpose, the board of directors will meet in advance and fix their date, time and day for the meeting.
Issue of shares for financing working capital
The petitioners asserted that no company had the right to issue shares for working capital as the same must be met by loans from banks.
Preferential allotments and issue of sweat equity shares
The preferential allotments and issue of sweat equity shares by public limited companies are examples of issue of shares which come within the purview of section 81(A).
Issue of convertible debenture and preference shares
Whenever a company issues convertible debentures and preference shares to any person, such proposals also require the prior approval of shareholders under section 81(1A).
Increase in share capital by exercise of option to convert debentures/loans into equity shares
A public limited company may borrow loan capital from financial institutions and the conditions of the loan may include a right to the financial institutions to convert a part of the loan into equity shares of the company.
Restrictions on Right issue
No listed company can issue right issue if it has outstanding convertible debt instruments unless it has made appropriate reservation of equity shares in favor of the holders of such outstanding convertible debt instruments. Further, the equity shares issued on conversion will be on the same terms on which the equity shares are offered in the right issue.
Letter of offer, abridged offer, pricing and period of subscription – Regulation 54
- The abridged letter of offer with application form shall be dispatched by registered past or speed post to all the existing shareholders at least 3 days before the date of opening of the issue.
- The letter of offer shall be given by the issuer or lead merchant banker to any existing shareholder who has made a request for the same registration company.
- The shareholder who has not received the application form may apply in writing on plain paper with the requisite application money. But such a shareholder shall not renounce his rights nor can he utilize the application form even if received subsequently.
- Application made on plain paper and on the application form are liable to be rejected.
- The issue price shall be determined in consultation with the designated stock exchange before fixing the record date.
- A right issue shall be open for a minimum period of 15 days and a maximum of 30 days.