Convertible preferred shares are a type of equity financing that can be converted into common shares at a later date, typically at the discretion of the holder or upon the occurrence of certain events, such as the sale of the company or the completion of an initial public offering (IPO).
Convertible preferred shares are similar to convertible notes in that they provide investors with the ability to convert their investment into equity at a later date. However, unlike convertible notes, convertible preferred shares are considered equity, not debt. This means that they are not required to be repaid, but rather are converted into common shares.
Convertible preferred shares typically have certain rights and privileges that are not afforded to common shareholders, such as the right to receive a fixed dividend and preference in the distribution of assets in case of liquidation. They also usually have a conversion price or a conversion ratio which are used to determine the conversion price of the shares into common shares.
Convertible preferred shares can be used as a way for startups to raise capital without having to immediately value the company, and for investors to gain exposure to a startup without having to commit to a valuation. They also provide investors with a degree of downside protection in the event that the company does not perform as well as expected.
Convertible preferred shares are not very common in India. In general, Indian companies prefer to use convertible debentures as a form of convertible securities. These debentures can be converted into equity shares of the company at a later date, as per the terms of the issue.
However, Indian Companies Act allows for the issuance of preference shares which can be convertible into equity shares. These shares carry some rights and privileges such as priority in dividend or liquidation preference over the equity shares.
In India, the issuance of convertible preferred shares is governed by the Companies Act, 2013, and the Securities and Exchange Board of India (SEBI) regulations. The Companies Act applies to all matters related to the incorporation, management, and dissolution of companies, while SEBI regulations apply to securities offerings, including convertible preferred shares.
It's worth noting that the Indian tax laws provide a tax benefit to the investors, in the form of a tax deferment, as the gain from the conversion of debt into equity is taxed only at the time of sale of equity shares and not at the time of conversion of debt into equity.
In summary, convertible preferred shares are not common in India, but it is possible for Indian companies to issue them if they comply with Companies Act and SEBI regulations.