Share Capital, Debentures, and Dividends notes — Unit 3

Share capital is the money raised by a company through the issue of shares. A 'share' represents a unit of ownership interest in the company.

⇒Classification of Share Capital

• Authorized Capital: The maximum amount of capital a company is allowed to raise, as stated in its MoA.
• Issued Capital: The portion of authorized capital offered to the public for subscription.
• Subscribed Capital: The portion of issued capital that the public has actually applied for and agreed to buy.
• Called-up Capital: The amount the company has asked shareholders to pay on their shares.
• Paid-up Capital: The actual money the company has received from shareholders.

The Companies Act permits primarily two types of shares:

⇒1. Preference Shares

These shares carry two distinct preferential rights over equity shares:

• Dividend: Right to receive a fixed dividend before any dividend is paid to equity shareholders.
• Repayment: Right to be repaid their capital first if the company is wound up.

Voting Rights: Preference shareholders generally do not have voting rights, except on matters directly affecting their rights or if their dividend is unpaid for 2 years.

⇒2. Equity Shares

Shares that are not preference shares. They are the true risk-takers and owners.

• They get dividends only if profits remain after paying preference shareholders.
• They hold the primary voting rights to control the company (1 share = 1 vote).
• They can be issued with equal voting rights or with Differential Voting Rights (DVRs - e.g., higher dividends but lower voting power).

Because a company has limited liability, the creditors' only security is the company's capital. Therefore, the law strictly enforces the 'Maintenance of Capital' rule: A company cannot casually return capital to its shareholders.

⇒Reduction of Share Capital (Section 66)

A company can only reduce its share capital if it meets stringent conditions:

• Must be authorized by its Articles.
• Must pass a Special Resolution (75%).
• Must get approval from the NCLT (National Company Law Tribunal).
• The NCLT will ensure that the interests of all creditors are fully protected before approving the reduction.

⇒Buy-Back of Shares (Section 68)

A company can buy its own shares back from shareholders to extinguish them, but only out of:

• Free reserves.
• Securities premium account.
• Proceeds of an issue of different shares.

Buy-back is restricted to a maximum of 25% of the total paid-up capital and free reserves in a financial year.

A debenture is an instrument of debt executed by the company acknowledging its obligation to repay a loan at a specified rate of interest. Debenture holders are creditors, not owners.

⇒Creation of Charge

When secured debentures are issued, a 'charge' (mortgage/lien) is created on the company's assets. This charge must be registered with the ROC. If the company defaults, the debenture holders can sell the charged assets to recover their money.

Dividend is the portion of corporate profits distributed to shareholders.

⇒The Golden Rule of Dividends

Dividends can ONLY be paid out of Profits, never out of Capital. Paying dividends out of capital is ultra vires and illegal, as it defrauds creditors.

⇒Declaration Process

• Board Recommendation: The Board of Directors recommends the dividend rate.
• Shareholder Approval: The shareholders approve it at the Annual General Meeting (AGM). Shareholders can reduce the recommended rate, but they CANNOT increase it.

⇒Strict Timelines (Sec 124 & 127)

• Once declared, a dividend becomes a legally enforceable debt.
• It MUST be paid within 30 days of declaration.
• If unpaid after 30 days, it must be transferred to a special 'Unpaid Dividend Account' within the next 7 days.
• If it remains unclaimed there for 7 years, the money is swept into the Government's Investor Education and Protection Fund (IEPF).

⇒Summary of Master Concepts

• Equity vs Preference: Control vs Safety.
• Reduction of Capital: Heavily regulated, requires NCLT approval to protect creditors.
• Buy-Back: Limited to 25% of capital/reserves.
• Debentures: Secured debt. Fixed interest regardless of profits. No voting rights.
• Dividends: Paid only from profits. Board recommends, AGM declares. Must be paid within 30 days.

⇒University Exam Tips for this Unit (Premium Advice)

• Shares vs Debentures Table: This is a classic 10-mark question. Always use a table format focusing on Status, Return, Voting, and Priority in Winding up.
• Reduction vs Buy-back: Distinguish the two. Reduction is an NCLT-supervised court process because it destroys capital. Buy-back is an internal company process (up to 25%) using free reserves.
• Dividend Timelines: Examiners love testing the timeline. Memorize: 30 days to pay -> 7 days to Unpaid Account -> 7 years to IEPF.