Should India Allow Fractional Share Investing?

[Ajith Kidambi is a V year student at the NALSAR University of Law, Hyderabad]

Fractional share investing could finally be a reality in the Indian stock market. The Company Law Committee, which the Ministry of Corporate Affairs constituted in 2019, had released its third report in April 2022, making several recommendations to the government to improve the ease of doing business in India and enhance the operation of the Companies Act, 2013 and the Limited Liability Partnership Act, 2008. The report had urged the government to amend the Companies Act to allow companies to issue fractional shares, along with Restricted Stock Units and Stock Appreciation Rights. Section 4(1)(e) of the Indian Companies Act, 2013, which governs a company’s Memorandum of Association, states that the amount of share capital to be registered and divided into shares cannot be sub-divided into less than one share by a subscriber. This effectively disallows companies from issuing fractional shares.

This post aims to explain what fractional share investing is, why its implementation could be a positive for India, and how certain foreign jurisdictions have dealt with the policy aspect of allowing fractional share investing along with the question of voting rights of such shareholders.   

What are Fractional Shares?

A fractional share is a portion of one share unit of a company’s stock. Essentially, if an investor wants to invest 200 Rupees in a company with one individual share being worth 1000 Rupees, the proposed change, if implemented, will allow the investor to buy 20% of the stock for 200 Rupees instead of having to buy the entire stock as per the current system. The investor of a fraction of a share will be treated as any investor with full shares and will make the same percentage of gains or losses from the stock ownership.

Generally, in India, fractional shares have only arisen due to mergers, issuing of bonuses, stock splits, mergers and acquisitions, and other corporate actions. In practice, when the shares become fractional due to the above reasons, the fractional shares are either converted into whole number of shares or the fractional shares will be collated and sold in the market in whole numbers for the best price and the returns distributed in proportion to the fractional ownership by a trustee appointed by the Board of the company.

Advantages of allowing Fractional Share Investing in India

A key benefit of fractional shares is that they make the world of investment more accessible to smaller investors by enabling them to buy stocks from companies with share prices which they may not be able to afford. For example, an investor who cannot afford to buy one share of MRF which is at around Rs. 70,000, can invest a lesser amount of say Rs. 700 and own a fractional share of 1% share unit of MRF. This also helps investors invest precise amounts as per their will instead of amounts that are exactly divisible by the share price and buy as much of a stake in the company as the investor chooses. Fractional shares allow a broader spectrum of options for the investors, primarily due to the share’s price not being a concern anymore along with the reduced risk of investing through diversification of investments made easier. The only major disadvantage of such diversified fractional investments is the brokerage fees that accumulate with every individual investment adding up to be much higher than a single investment of a larger amount of money.

Laws in Foreign Jurisdictions on Fractional Share Investing

Countries allowing the holding and trading of fractional shares include the USA, Canada, Japan, and the UK. In the UK, under section 618 of the UK Companies Act, 2006, companies are allowed to have a fractional nominal value of their shares after sub-division of the shares, provided the company’s articles of association do not restrict the company from doing so. In Canada, corporations are allowed to issue fractional shares but according to section 49(17) of the Canadian Business Corporation Act, holders of such fractional shares are not entitled to voting rights or dividends from the fractional shares unless the fractional share results from a consolidation of shares or the articles of the company provide otherwise. Interestingly, the Japanese company law treats fractional shares in a different way where if there are fractional shares arising due to a share split or consolidation, or due to the issuing of the same by the stock company, the said company will sell the number of shares equivalent to the total sum of the fractions by auction and will deliver the earnings to the shareholder in proportion to the fractions of shares they own.

The US, which started the concept of fractional investing, has always taken a more laissez-faire approach operationally by allowing fractional share investing and giving the power to the brokerage firms to decide on the availability of fractional shares, types of securities to trade, order types and trading limitations, and the manner in which the brokerage firms handle and execute trades on the orders to buy or sell fractional shares. While owners of fractional shares will not be able to exercise voting rights directly, the US approach allows leeway even on that front by giving the brokerage firms power to decide whether the investors can exercise “proxy” voting rights or not.

Proxy Voting Rights on Fractional Shares and Applicability in India

A single person or firm does proxy voting on behalf of a shareholder, which in many cases are brokerage firms or asset management firms. Since the US does not restrict proxy voting for fractional shareholders, certain brokerage firms like Robinhood, which give proxy voting rights to fractional shareholders, aggregate the votes and report the results of the voting, and the transparency of the same will be in compliance with the regulations imposed by the US Securities and Exchange Commission. However, most countries define shareholder rights on a full-share basis, and even if they allow the holding of fractional shares, they do not give voting rights to fractional share holder. Furthermore, the law governing proxy voters in India, which includes section 105 of the Companies Act, 2013, provides a very narrow scope of rights to the proxies. Considering all the above, it is likely that only shareholders with full shares would be given voting rights. An alternate arrangement could involve allowing only one shareholder (as agreed among the fractional shareholders) to exercise a vote on their behalf.

Conclusion

As the option of investing in fractional shares possibly opens up the equity market to a number of smaller investors, the idea serves the public policy goal of bringing in more retail investors to the Indian equity market. While allowing investors to hold fractional shares is a change that would be welcomed by shareholders, companies, and brokers alike, it will be interesting to see how the government amends the framework to accommodate this change. The government will be looking to match up with the global regulatory standards, especially since the NSE IFSC, based in the International Financial Services Center in Gujarat, has recently announced trading in US Stocks, including fractional ownership.

India will likely not mirror the US’ non-interventionalist approach giving more power to the agents and brokers. It will probably provide a more uniform and rigid policy for companies issuing fractional shares, such as Canada or the UK. However, it is important that India makes the policy extensive and clear as there are several lingering questions on its implementation, such as the rights of such shareholders and the application of such a policy on the issuance of Employee Stock Ownership Plans (ESOPs). Ultimately, there is a need in the country for more people to invest in equities as currently only under 5% of Indian household assets exist in equities, and allowing investment in fractional shares will include a larger demography of the Indian population who can invest in smaller amounts and diversify their investments lowering the risk and encouraging more people to invest in equities.

– Ajith Kidambi

About the author

Add comment

Subscribe to Blog via Email

Enter your email address to subscribe to this blog and receive notifications of new posts by email.

Top Posts & Pages

Topics

Recent Comments

Archives

web analytics

Social Media