The Hindu Business Line : Differential voting rights

Nearly seven years after the government permitted the issue of equity shares with differential voting rights, Tata Motors becomes the first Indian company to make a rights issue carrying differential voting rights (DVR), with its offer opening on September 29. Gujarat NRE Coke also plans a rights offer with differential voting rights. In a situation where investors do not intend using their voting rights in a company, such offers allow investors to acquire shares at lower prices with prospects of higher dividends in return for surrendering their voting rights.

The Companies Act permits a company to issue shares carrying differential voting rights when, among other conditions, the company has distributable profits and has not defaulted in filing annual accounts and returns for a minimum of three financial years preceding the year of offer. The issue of such shares cannot exceed 25 per cent of the total issued share capital of the company.

Why differential?

If offers with differential voting rights allow investors to earn better return in lieu of surrendering their voting rights, it allows a company to dilute its equity without matching dilution in the promoters’ stake. Shares with differential voting rights comes to the management’s rescue at the time of hostile take-over threats. Promoters of Gujarat NRE Coke — India’s largest merchant coke producer — for example, will float a rights issue with DVR to ward off any takeover threat from companies seeking to secure coking coal assets. The company’s Managing Director has on record said that the strong demand for coke had resulted in steel companies scouting for takeover candidates in this space. The company, thus, hopes that differential voting rights would prove to be a long-term guard against a takeover bid. The DVR offer from Gujarat NRE Coke is expected to help promoters increase their voting rights to 51 per cent though their actual equity will remain at 41 per cent.

Tata Motors’ rights offer, now open, combines an offer of two different classes of shares. Shares with full voting rights are being offered at Rs 340 in the ratio of 1:6. But shares with one-tenth of the voting rights of the ordinary shares are being offered at a discount of Rs 35 per share. These shares will also be entitled to a 5 per cent higher rate of dividend over the normal shares. Capital raised through the rights issue is proposed to be utilised to pay off the bridge finance loans for the Jaguar-Land Rover acquisition.

Pantaloons Bonus Issue

If Tata Motors is the first to issue shares with DVR option, Pantaloon, India’s leading retailer, is the first to issue bonus shares with a DVR option. The company recently announced a bonus issue of 1:10 shares with differential voting rights. Although there is no fund-raising involved in a bonus issue of shares, the idea is get the markets familiar with such instruments and create another alternative to raise funds in the future.

Investors’ angle

While DVR is a well-accepted instrument used by blue-chip companies in international markets to raise funds, even after seven years of government’s notification, the concept is yet to become popular in India. A clutch of foreign companies — prominent among them are Google, Ford Motors, and Berkshire Hathaway — have raised funds through DVR issues.

Shares with DVR are mainly targeted at passive investors. In most cases, small or retail investors, hardly exercise their voting rights or know enough to influence corporate actions. They look only for economic returns when they invest in a company and are not interested in running it or having any say in its management. So, they give away their voting rights in favour of those investors who run the company and have management control.

With DVR offers being relatively new to the market, it would take Indian investors some time to get acclimatised to the new form of equity. For now, one has to sit back and watch. The future of shares with differential voting rights depends on investors’ response to Tata Motors’ rights issue.