Par value of shares – An outdated concept
Source: Financial Express
Par value refers to the fixed value that is assigned to each share issued by a private or a public company. Also referred to as the nominal or face value of the shares, it remains the minimum value that can be assigned to the share and is required to be specified in the Memorandum of Association—Section 4(1)(e)(i) of the Indian Companies Act, 2013.
The significance of the common law concept of shares being assigned with par value has eroded in modern company law, and several jurisdictions have done away with it. A notable example is Singapore, where a company was required to set a threshold, below which value it could not issue or sell new shares; however, companies are now permitted to issue shares at any value they choose (as long as the by-laws allow for such issuance).
Nominal value was originally seen as assisting creditors to assess whether a company had adequate capital, by showing the minimum amount that an applicant for a share would pay, or become liable to pay. Since shareholders would be obligated to invest in capital at least to the extent of the par value of the shares, it was understood to be a safety net for the creditors to extend credit to the company. In reality, however, creditors largely rely on the company’s business reputation, its net worth and its cash flow, besides the amount contributed by its shareholders to grant such credit. Creating a no-par environment instead would clarify the misleading perception that based on the par value of its shares, a company would have reserves and be able to repay its creditors. Under the Companies Act, 1956, and Companies Act, 2013, there is no clarity on a benchmark par value for companies. Since companies are largely free to fix their own par values—which could range from R1 to R100—the protection it renders to shareholders and creditors is illusory. This is especially so when par values are so minimal as to not afford any protection.
The requirement of a nominal value adds complexity to accounting and financial statements and disclosures. Share issuance at a premium requires categorisation of capital as par value and premium in the accounting statements. While that itself may not pose challenges, any future capital restructuring entails making adjustments for both the par value and the premium accounts. Under a no-par value scheme, there would be no need for a share premium account. A no-par value regime would be elegant as the company’s accounts can be greatly simplified, and it would remove artificial constraints on conversion mechanics when companies’ structure fund raises through convertible preference shares.
Par value on shares introduces inflexibility in financing options for companies, especially those that are experiencing deterioration in their financial condition. Under Section 79 of the Companies Act, 1956, onerous conditions such as obtaining the approval of the Company Law Board were required to be adhered to when issuing shares at a discount. Under Section 53 of the Companies Act, 2013, discount issue is prohibited with penal provisions against its violation. The issue of shares of no-par value affords flexibility, as the concept of issue at a discount would disappear.
Where shares have no-par value, the directors of a company have a wider discretion in determining the appropriate amount of consideration for issuing the shares. However, a major concern has been whether it is sufficient to rely on the directors’ fiduciary duty while sanctioning share issuances, as Australia and Singapore have done, or whether there is a need to legislate more specifically for that duty. The New Zealand Companies Act requires directors who vote in favour of an issue price to certify that in their opinion the consideration and terms of the issue are fair and reasonable to the company and all existing shareholders, thereby putting a check on the exercise of powers of the directors.
The simplicity of the no-par value regime outweighs the benefits of the existing structure of assigning nominal value that is of only historical importance. Indian company law ought to move towards doing away with the par value of shares, with simplified disclosure and a regime suitable for the needs of the 21st century.