Golden Shares: Indian Legal Perspective

Recently, the Chinese Government’s move to acquire ‘golden shares’ in Alibaba and Tencent surfaced the internet. Back in 2021, China’s Government also bought golden shares in ByteDance, the parent company of TikTok.Keeping up with the ESG wave, Tony’s Chocolonely, the Dutch confectionery company, introduced a ‘golden share mechanism’ that carry a veto on changes to its ethical and sourcing strategy. These examples of golden share acquisitions have raised various questions around the same. What exactly are golden shares? Does the Companies Act, 2013, India’s primary legislation that regulates companies, contemplate such class of shares? Can companies which are listed on India’s recognized stock exchanges issue golden shares?

In this article, we will delve into these questions.

What are Golden Shares?

Golden shares were first introduced in Great Britain in the late 20^th century with the sole aim of safeguarding the State’s interests in private companies. Back then, golden shares were predominantly issued to Governments to maintain special rights in leading private companies – a strategy being put into practise by the Chinese Government till date.

Golden shares are a kind of shares that grant its holders, regardless of the contribution, more favourable (or unfavourable) management and economic rights than an ordinary share. In terms of management rights, a golden share may allow veto power over certain decisions – a mechanism adopted by Tony’s Chocolonely. With respect to economic rights, a golden share holder may receive higher (or lower) dividends compared to ordinary shareholders, despite their shareholding in the company’s capital. This allows companies to deviate from the general rule under which dividend is distributed in proportion to a shareholder’s contribution in the company’s capital. Similarly, departing from the ‘one share one vote’ rule, these shares may also allow its holders to receive higher (or lower) voting rights.

Golden Shares vis-à-vis Companies Act, 2013

While the Companies Act, 2013 (Companies Act) does not, per se, use the term ‘golden shares’, it contemplates the concept of equity shares with Differential Voting Rights (DVRs). DVRs refer to equity shares holding differential rights as to ‘dividend’, ‘voting’ or ‘otherwise’. Although, the Companies Act does not clarify the scope of ‘otherwise’, the term may include any other right attached to equity shares, such as rights of participation in management, rights over assets of a particular division of the company etc.

Section 43 of the Companies Act read with Companies (Share Capital & Debenture Rules), 2014 (Rules) permits the issuance of equity shares with DVRs. Given their distinctive nature, the Rules provide for extraordinary prerequisites for issuance of equity shares with DVRs, which, inter alia, include the following:

• • the articles of association must authorize the issue of equity shares with DVRs;
  • the issue of shares must be authorized by an ordinary resolution passed at a general meeting of the shareholders;
  • the voting power in respect of equity shares with DVRs should not exceed 74% of the total voting power in the company.

Interestingly, Section 43 of the Companies Act does not apply to private companies provided the articles or memorandum of association of the company provides for such exemption. As a result, a private limited company is exempted from the conditions set out in the above Rules and may issue equity shares with DVRs.

Listed Companies and DVRs

Back in 2009, the Securities & Exchange Board of India (“SEBI”), India’s securities market regulator, had imposed a blanket ban on listed companies from issuing shares with superior rights as to voting or dividend vis-à-vis the rights on equity shares that are already listed. A decade later, SEBI approved a framework for enabling listing of companies with dual classes of shares, that is, ‘SR equity shares’ and ordinary shares.

‘SR equity shares’ are basically equity shares that have superior voting rights compared to all other equity shares. With this shift in the regulatory framework, SEBI now permits listing of entities that have issued equity shares with superior voting rights. That said, it must be noted that a listed entity is still barred from issuing shares with superior or inferior rights as to dividend vis-à-vis the rights on equity shares that are already listed or inferior voting rights vis-à-vis the rights on equity shares that are already listed.

The above discussion has been summarized in the table below:

It is pertinent to note that only a certain category of entities that have issued SR equity shares are permitted to undertake an initial public offering (IPO) of only its ordinary shares (and not its SR equity shares). SEBI has further prescribed various eligibility criteria to be met for such categories of entities. In respect of the SR equity shares, SEBI has also prescribed the following:

Rights of a SR Shareholder

The voting rights exercised by SR Shareholders cannot exceed 74% of the total voting share capital of the company. Further, no SR equity share can carry more than ten votes for every SR equity share held, that is, the ratio of voting rights cannot exceed 10:1 compared to ordinary shares.

Additionally, the SR equity shares are required to be equivalent to ordinary equity shares in all respects (including dividend), except for having superior voting rights. However, in certain circumstances, such appointment/removal of independent directors and/or auditor, voluntary winding up of the listed entity etc., the SR Shareholders will lose their superior voting rights, that is, in such situations, one SR equity share shall have only one vote.

Lock-in Period

The SR equity shares are subject to lock-in restrictions until the time such shares are converted to ordinary shares of the company. Further, inter-se transfer of the SR equity shares among the promoters/ founders, creation of a pledge or other encumbrance on the SR equity shares is also not permitted during such lock-in period.

Mandatory Conversion to Ordinary Shares

SR equity shares are mandatorily converted into ordinary shares on the 5^th anniversary of the listing of the company, unless extended for an additional period of 5 years by way of a resolution passed by the shareholders of the company. Notably, SR Shareholders are not permitted to vote on such resolution.

Additionally, SR equity shares also compulsorily convert into ordinary shares on the occurrence of certain extra-ordinary events such as death or resignation of the SR Shareholder, or a merger or acquisition that results in the SR Shareholder losing control over the company, etc.

Conclusion

For obvious reasons, listing of entities that have issued SR equity shares is riddled with conditionalities and compliances. Private limited companies, on the other hand, enjoy considerable levy thanks to the exemption from Section 43 of the Companies Act. This relaxation has incentivized numerous closely held companies to raise funds from strategic as well as financial investors. Basis their investment strategy and given the rising concerns over ESG the investors, in turn, also prefer subscribing to equity shares with DVRs. Strategic investors favour equity shares with superior voting rights as often their intention is to stay long term and ultimately contribute to the operations of the company. On the other hand, financial investors ordinarily may opt for subscribing to equity shares with inferior voting rights in exchange for equity shares with superior rights as to dividend, as their interest is majorly financial gain.

Having said that, the above considerations are not exhaustive. An investor choosing to opt for a particular type of equity share with DVRs ultimately depends on the circumstances and motivations of each investor, in particular their investment and exit strategy.

Authors: Ambuj Sonal, Partner, Dentons Link Legal, Meghna Punjabi, Senior Associate, Dentons Link Legal and Khushi Shah, Trainee Associate, Dentons Link Legal