Fractional shares, while being interesting from investor viewpoint, may not excite companies
The recommendation of the Company Law Committee regarding issuance, holding and transfer of fractional shares is novel and can help in increasing investor participation in equity markets. But the idea could run into implementation difficulties. Fractional shares are parts of one share unit and these are typically created as a result of corporate actions such as rights or bonus issues and mergers and acquisitions. Since the Companies Act 2013 does not permit holding of fractional shares, the issuing company would normally sell such fractional shares through a market intermediary and distribute the proceeds to the shareholders. The Committee is now trying to enable trading in these fractional units as well as allow companies to issue fresh fractional units of any class of their shares, as per their requirement. Fractional units of shares are rare globally, and only a few countries such as Canada and UK contain such provisions in their statutes. The enabling provision, if inserted in the Companies Act, can be used by companies at a later date, if they feel the need to increase retail participation.
There is no disputing the advantages in making available fractional units of equity shares to smaller investors. These shares require lower capital outlay, thus helping expand the reach of capital markets considerably. One of the reasons for the large demand for alternative assets such as private cryptocurrencies is that they can be bought in any fraction of one unit; retail investors are seeking products which offer greater flexibility in lot sizes. This could also be a way to move smaller investors from trading into investing; many retail investors prefer to buy equity options since these can be bought with a small part of the sum needed to buy the stock. But the regulator and intermediaries would need to do a lot of groundwork. The minimum lot size in Indian markets is currently one unit and the demat accounts are also designed according to these parameters. Fractional units will require modification of depository and trading system of exchanges. Trading in fractional shares is enabled in the US and other countries using the services of discount brokers. These brokers accept buy and sell orders in fractions of one equity share, consolidate them into marketable lots and execute the trades. The overseas brokers however hold the fractional shares of investors on their books in pool accounts. While it is simple, it could be risky in the Indian context given the experiences of brokers misappropriating client funds held in pooled accounts. Investors can instead, be allowed to directly trade in fractional shares on exchanges. Exchanges can create a separate platform. SEBI would have to create the framework in consultation with exchanges and other stakeholders.
The challenge may, however, arise in making companies issue fractional shares. Holding an expanded register of small shareholders will increase the compliance as well as servicing cost for companies, deterring them from such issuances. Only those companies intending to tap the capital market regularly could try to use this route. The idea is unlikely to take off until companies see benefits accruing for them from this. Any such benefit is not evident at this point in time.