Any public or private, listed or unlisted company can raise funds through preferential allotment of shares or other securities from the specific group of investors. The company whether unlisted or listed in any recognised stock exchange is eligible to raise funds by preferential issues but the condition is, if the company is a listed in any stock exchange, the guidelines of SEBI Act, 1992 shall be applicable, otherwise, Section 62 of the Companies Act, 2013 shall be applicable in case of unlisted companies.
Now let’s understand what does it mean by preferential allotment/ issues and which guidelines need to be fulfilled during preferential allotment.
The Preferential Allotment refers to issues and allotment of shares and other securities to the selected group of people such as individuals, venture capitalists, promoters, employees or other institutional investors on a preferential basis. However, preferential allotments are different from rights issues, bonus issues, ESOP, issues of sweat shares, depository receipts (or foreign securities).
Under preferential allotment of shares, the companies issue bulk shares to those predetermined investors which may include existing shareholders, promoters who want to increase their stake in the company. Such allotments must be authorised by a special resolution passed by the members of the company in general meeting.
The other securities mean those securities which are convertible to equity shares on a future specified date such as equity shares, Partially Convertible Debentures (PCD), Fully Convertible Debentures (FCD) etc.
If a company which is already listed in any recognised stock exchange, the preferential allotment shall be governed under provisions of SEBI Act, 1992 on the other hand, if an unlisted company make a preferential allotment of shares, it will be regulated as per both the Section 42 and Section 62 (1) (c) of the Companies Act, 2013.
The company must issue the certificate of shares within 12 months from the date of passing the special resolution but within 60 days from the receipt of application money. If the allotment is not made within the above mentioned time period, the company will have to pass another special resolution in general meeting.
Conditions required for Preferential Allotment:
- The preferential allotment must be authorised by the company’s Article of Association (AOA).
- A special resolution passed by members in general meeting is mandatory for preferential allotment of shares and other securities.
- The securities issued through the preferential allotment could be equity shares, partially convertible debentures, fully convertible debentures or other securities which are convertible to equity shares at a later date.
- Such shares or other securities are allotted to existing shareholders such as promoters, employees (under ESOP) and other institutional investors.
- Such shares can also be allotted to outsider investors other than the existing shareholders but as per Section 42 of the Companies Act 2013.
- The issues of such shares or other securities through the preferential allotment shall be done to 50 persons at a time and up to 200 people in a financial year (excluding QIB and ESOP). However, such a limit is not applicable to securities issued by NBFCs and HFCs regulated under the Reserve Bank of India (RBI).
- The price of such shares or other securities must be determined by the valuation report in the case of an unlisted company.
- Valuation Report must be prepared by a merchant banker registered with SEBI or an independent practising CA having minimum experience of 10 years if there is no registered Valuer in the company.
- In case of determining the conversion prices of the convertible securities, the valuation report is required as well.
- The company has to open and maintain a separate bank account for receiving money raised through preferential allotment.
In a nutshell, the preferential allotment is the popular method of fundraising without diluting additional ownership for the companies. Unlike the right issue, the shares or other securities can be issued to other investors other than the existing shareholders. Hope you would have understood the concept of a preferential issue and its significance when it comes to fundraising for listed or unlisted companies.