Issue of Shares at Discount

In the stock market, a share refers to a small portion of a company's stake or a proportion of the company's total amount of capital. Shares are the major source of capital or funds for a company. A company can raise funds by issuing its shares in the market to individuals or institutions.

Buying shares is beneficial for the investors also because it provides them with a huge return on their investment unlike the fixed rate of debentures. A company can issue its shares in different ways or at different prices like the issue at par, premium, and discount. Here, we are going to discuss the issue of shares at discount in detail.

What is the Meaning of Issue of Shares at Discount?

When a company issues its shares at a price lower than the face value of the share, then it is known as the issue of shares at discount. For example, if the face value of a share is Rs. 200 and the company issues it at Rs. 180, then the difference of Rs. 20 (i.e., Rs. 200 - Rs. 180) is the discount given by the company on the issue of each share.

Issuing shares at discount is a type of loss for the company. A point that should be noted here is if the shares are issued at a price less the Market Price (MP) but higher than the Face Value (FV) then it is not concluded as 'Issue of Shares at Discount'.

The prices of shares issued at discount are always lower than the Nominal Value (NV) of the shares. The loss that occurred due to issuing shares at discount is debited to a separate account by the company called 'Discount on Issue of Share Account'.

Conditions for Issue of Shares at Discount

Some of the conditions that are to be followed when a company issues its shares at a discount are given below:

• A company must get permission from the relevant authority if it wants to issue shares at a price lower than its face value. To get this permission, the company has to call and convene a general meeting first so that a proper discussion can be done on this matter.
• The company is bound to issue shares within 60 days of getting permission from the relevant authority. However, in certain cases, this time frame can be extended by the company but again permission is required in the general meeting for this also.
• There is a limit on the rate of discount that a company can apply to issue shares. As per the Companies Act, 2013, a company can't issue any shares at a discount of more than 10%.
• A company can issue its shares at a discount only if it has completed one year from the date of commencement of business.
• Other than this, the shares that the company wants to issue should belong to the same category of shares that are already issued by the company in the market. For example, if the company issued equity shares last time then the company can issue only equity shares this time also (in case of discount).
• After getting the approval in the general meeting, it is required for the company to acquire the sanction by the Central Government.

Note: When a sick industry issues shares at discount for rehabilitation, the company must get permission from the 'Tribunal' instead of the 'Central Government'.

When a Company can't Issue Shares at Discount?

A company is prohibited to issue equity and preference shares at a discount as per Clause 2 of Section 53 of the Companies Act 2013. If a company breaks the law, then proper legal actions can be taken against such a company or officer who is a defaulter in the form of a penalty of the amount equal to the amount that the company has raised by issuing such shares at a discount or the five lakh rupees, whichever is less. Other than this, the company also has to return all the money that is raised with an interest of 12% p.a. from the date of issue of the shares to the shareholders.

Unlike the Companies Act, 2013, the erstwhile Companies Act of 1956 allowed a company to issue shares at discount under its Section 79. But this could be done only after getting prior approval from the Company Law Board.

When a Company can Issue Shares at a Discount?

Issue of shares at discount is not completely prohibited in our country. There are certain cases when a company is allowed to issue shares at discount. They include the following:

1. Sweat Equity Shares

These are the shares that a company issues to its Directors or Employees. Sweat equity shares are issued in the form of a reward or acknowledgment of the efforts and contributions given by an employee or director in the company towards its growth and development. As per Section 2 (88) of the Companies Act, 2013, a company can issue sweat equity shares at discount.

These shares are fundamentally different from ESOPs. Sweat equity shares can be issued in the form of both a reward and incentivization mechanism to motivate and appreciate the employees for their better performance and contributions to the organization. On the other hand, ESOPs are only used as an incentivization mechanism to appreciate them for their better work because of their ownership in the company.

2. Issue of Shares to Creditors

As per the Section 53 (2A) of the Companies Act, 2013, a company can issue shares to creditors at a discount when its debt is converted into shares:

• In pursuance of any statutory resolution plan.
• Or in debt restructuring scheme, in accordance with guidelines or regulations of RBI Act 1934 or the Banking Regulation Act 1949.

It is the latest provision that was introduced by the Companies Amendment Act 2017. This amendment is helpful for the creditors in getting flexibility so that they can convert their debt into shares issued at a discount.

3. Rights Issue at Discount

A company may require some additional capital for growth and expansion of the business or maybe due to some other reasons. For this purpose, the company is allowed to issue the rights shares at discount as per Section 62 of the Companies Act 2013.

When a company issues the right shares, then it first asks its existing shareholders and if they refuse to buy only then the company is allowed to issue them in the market. The company issues such shares at a discount that is applied to the market price. It also increases the stake of existing shareholders in the company.

The prime motive of issuing the right shares is to raise capital. But a company issues them only when it is highly required to arrange funds for corporate expansion or a large takeover. Also, a company may take the help of the right issue to prevent it from being conked out.

The right issue provides a higher equity base for the organization and also provides better leveraging opportunities. Other than this, the practice also reduces the debt-to-equity ratio of the company.

A real-life example of this was seen in 2019 when Vodafone Idea issued its right shares at a deep discount to compete with Airtel's and Jio's right issues. The face value of this right issue was Rs. 25,000 crores and it was priced at Rs. 12.50 per share. It is the largest discount on the right issue given by a company in India's history. The shares were 1.08 times oversubscribed.

4. Initial Public Offering (IPO)

The first issue price of an unlisted company's share capital (which becomes a listed company after it) is known as Initial Public Offer (IPO). A company is allowed to offer a maximum discount of 10% to its employees or retail individuals while issuing the IPOs.

Once the IPO is issued, the company can go for the Follow on Public Offer (FPO) refers to the issue of shares to its existing shareholders by the company which got listed after issuing an IPO. Here, the company is allowed to offer discounts to retail investors but only at the permissible limit.

5. Offer for Sale (OFS)

When a listed company transparently issues shares so that it can dilute the stakes or holdings of the promoters then such shares are known as OFS. This practice is done under the norms of minimum public shareholdings as per SEBI.

An investor can be eligible to apply for the OFS only as a retail investor for which he/she has to fulfill certain conditions. As per the SEBI guidelines, the company can offer OFS at a discount rate to retail investors.

The company has to mention the details regarding the discount that is provided on the issue of OFS in the announcement notice. The discount on OFS is calculated either on the bid price or the final allotment price.

Accounting Treatment for Shares Issued at Discount

Generally, the companies issue the shares at discount at the time of allotment of shares. So, all the entries other than allotment will remain the same at that time. The accounting treatment for the shares issued at discount is given below:

1. Share Allotment A/c Dr.

Discount on Issue of Shares A/c Dr.

To Share Capital A/c

(Being the allotment due after providing the discount)

2. Bank A/c Dr.

To Shares Allotment A/c

(Being the amount of allotment received after deducting the discount amount)

3. P & L A/c or Securities Premium A/c Dr.

To Discount on Issue of Shares

(Being the amount of the discount is written off)