by Equity Shares are the main source of finance of a firm. It is issued to the general public. Equity shareholders do not enjoy any preferential rights with regard to repayment of capital and dividend. They are entitled to residual income of the company, but they enjoy the right to control the affairs of the business and all the shareholders collectively are the owners of the company.
Issue of Shares:
When a company wishes to issue shares to the public, there is a procedure and rules that it must follow as prescribed by the Companies Act 2013. The money to be paid by subscribers can even be collected by the company in installments if it wishes. Let us take a look at the steps and the procedure of issue of new shares.
Procedure of Issue of New Shares
- Issue of Prospectus
Before the issue of shares, comes the issue of the prospectus. The prospectus is like an invitation to the public to subscribe to shares of the company. A prospectus contains all the information of the company, its financial structure, previous year balance sheets and profit and Loss statements etc.
It also states the manner in which the capital collected will be spent. When inviting deposits from the public at large it is compulsory for a company to issue a prospectus or a document in lieu of a prospectus.
- Receiving Applications
When the prospectus is issued, prospective investors can now apply for shares. They must fill out an application and deposit the requisite application money in the schedule bank mentioned in the prospectus. The application process can stay open a maximum of 120 days. If in these 120 days minimum subscription has not been reached, then this issue of shares will be cancelled. The application money must be refunded to the investors within 130 days since issuing of the prospectus.
- Allotment of Shares
Once the minimum subscription has been reached, the shares can be allotted. Generally, there is always oversubscription of shares, so the allotment is done on pro-rata bases. Letters of Allotment are sent to those who have been allotted their shares. This results in a valid contract between the company and the applicant, who will now be a part owner of the company.
If any applications were rejected, letters of regret are sent to the applicants. After the allotment, the company can collect the share capital as it wishes, in one go or in instalments.
Features of Equity Shares
- Ownership and Control
Equity shareholders are the owners of a company, holding a proportional stake based on the number of shares they own. They influence major corporate decisions by voting on critical matters, including mergers, acquisitions, and board member elections. Their level of control depends on their shareholding percentage. While they don’t manage daily operations, their votes impact strategic directions. This ownership grants them residual claims on profits and assets, making them key stakeholders in the company’s growth and decision-making processes.
- Voting Rights
Equity shareholders have voting rights that allow them to participate in key company decisions. Voting power is typically proportional to the number of shares owned. Shareholders vote on electing directors, approving financial policies, and strategic moves like mergers. Some companies issue shares with differential voting rights (DVR), offering varied voting privileges. While many retail investors do not actively use their voting rights, institutional investors influence company policies significantly. Shareholders may also vote through proxies, delegating their voting authority to representatives.
- Dividend Payments
Equity shareholders receive dividends, but payments are not fixed and depend on the company’s profitability. The board of directors determines dividend distribution, and shareholders approve it. If a company performs well, it may distribute higher dividends; if it incurs losses, dividends may not be paid at all. Some companies prefer reinvesting profits into business expansion rather than distributing dividends. While dividends provide income, shareholders primarily seek capital appreciation, as stock value growth often leads to higher long-term returns than periodic dividend payouts.
- Residual Claim in Liquidation
Equity shareholders have a residual claim on a company’s assets if it goes into liquidation. After repaying debts, liabilities, and preference shareholders, remaining funds are distributed among equity shareholders. Since they are the last to receive payments, equity shares are riskier than debt instruments or preference shares. If a company’s liabilities exceed assets, shareholders may receive nothing. Despite this risk, the potential for high returns attracts investors. The residual claim feature reflects the high-risk, high-reward nature of equity investments.
- High-Risk, High-Return Investment
Equity shares carry high risk but offer significant return potential. Their market price fluctuates due to company performance, economic conditions, industry trends, and investor sentiment. Unlike bonds or preference shares, equity shares do not provide guaranteed income. Investors may experience significant capital appreciation if the company grows, but losses if it underperforms. Long-term investments in well-performing companies often yield substantial gains, while short-term trading benefits from price volatility. Equity shares suit investors willing to tolerate risks for higher financial rewards.
- Limited Liability
Equity shareholders enjoy limited liability, meaning their financial risk is restricted to their investment amount. If the company incurs heavy losses or goes bankrupt, shareholders are not personally responsible for repaying debts. Their maximum loss is limited to the value of their shares, unlike proprietors or partners who may be liable for company debts. This protection makes equity investment attractive, as investors can participate in company growth without risking personal assets. However, share prices may fluctuate, affecting the overall investment value.
Different Types of Issues:
-
Initial Public Offering (IPO)
An Initial Public Offering (IPO) is when a company issues shares to the public for the first time to raise capital. It helps businesses expand, repay debts, or fund new projects. Companies must comply with regulatory requirements, such as those set by SEBI in India. Investors can buy shares at a predetermined price or through a book-building process. Once issued, these shares are listed on stock exchanges for trading. An IPO allows companies to transition from private to public ownership, increasing their market visibility and credibility.
-
Follow-on Public Offering (FPO)
A Follow-on Public Offering (FPO) occurs when a company that is already publicly listed issues additional shares to raise more capital. It is used to fund expansion, reduce debt, or improve financial stability. FPOs can be of two types: dilutive, where new shares increase total supply, reducing existing shareholders’ ownership percentage, and non-dilutive, where existing shareholders sell their shares without affecting the total share count. Investors analyze FPOs carefully, as they can impact stock prices based on the company’s financial health and growth prospects.
-
Rights Issue
A rights issue allows existing shareholders to purchase additional shares at a discounted price in proportion to their current holdings. This method helps companies raise funds without issuing shares to the general public. Shareholders can either subscribe to new shares or sell their rights in the market. Rights issues prevent ownership dilution by giving preference to existing investors. However, if shareholders do not participate, their ownership percentage decreases. This type of share issue is often used when a company needs urgent capital for expansion or debt repayment.
-
Bonus Issue
A bonus issue involves a company distributing free additional shares to its existing shareholders based on their holdings, without any cost. This is done from the company’s reserves or retained earnings. For example, a 2:1 bonus issue means shareholders receive two extra shares for every one they own. While it does not change the company’s total value, it increases the number of outstanding shares, reducing the stock price per share. Bonus issues enhance liquidity and investor confidence, rewarding shareholders without impacting cash flow.
-
Private Placement
Private placement is the issuance of shares to a select group of investors, such as institutional investors, venture capitalists, or high-net-worth individuals, instead of the general public. This method helps companies raise capital quickly without the regulatory complexities of a public offering. Private placements can be preferential allotment, where shares are issued at a pre-agreed price, or qualified institutional placement (QIP), which is exclusive to institutional investors. It is a cost-effective alternative to an IPO, allowing companies to raise funds with minimal market fluctuations.
-
Employee Stock Option Plan (ESOP)
An Employee Stock Option Plan (ESOP) allows employees to purchase company shares at a predetermined price after a specific period. It is a form of employee benefit, motivating and retaining key talent by aligning their interests with the company’s success. ESOPs are granted as an incentive, and employees can exercise their options once they meet the vesting period. This increases employee engagement and long-term commitment. Companies use ESOPs to attract skilled professionals, enhance productivity, and create a sense of ownership among employees.
6 thoughts on “Issue of Equity Share, Procedure, Kinds of Share Issues”