 "Stay away from differential voting rights in an uncertain market")
If a top-rated company offers you an investment opportunity with higher dividend than it offers other shareholders but on the condition that you will have lower voting rights, would you accept it? The idea might sound good to a retail investor, who in any case may not be exercising his voting rights. The instruments that allow this are called Differential Voting Rights (DVR) shares.
As the name suggests, DVRs have different voting rights compared to equity shares. Usually, an equity share has one voting right, while it takes two or more DVR shares to constitute one voting right. The ratio of voting rights varies, depending on the issuer.
DVRs are separately traded, usually at a discount to the primary share because of their lesser voting rights and lack of liquidity. For instance, as on September 30, the ordinary share price of Tata Motors was Rs 332.35, while the DVR price was only Rs 163.75. The total traded volume of the company's share on both National Stock Exchange (NSE) and the BSE was Rs 125 crore, while in the case of DVR it was Rs 26 crore.
Ditto with Future Retail, Jain Irrigation and Gujarat NRE Coke, all of which offer DVRs in India. (NOT SO BENEFICIAL)
One school of thought is that if the investor is convinced about the long-term prospects of the company and its fundamentals, then he could consider investing in DVRs for the long term. So, if you get these at a steep discount and there is a chance for appreciation in the price, then they are a good buy.
However, many experts advise against DVRs as these are just a means for the promoter to remain in full control. While the only attraction for the investor is that he gets a slightly higher dividend, of late, even the dividends have been suspect. For instance, for 2012-13, Tata Motors' DVR holders got 105 per cent dividend at Rs 2.10 a share, while ordinary shareholders got 100 per cent dividend at Rs 2 apiece, on shares having a face value of Rs 2.
Future Retail recommended a dividend of Rs 1.14 for DVR holders and Rs 1.1 for ordinary shareholders on the face value of Rs 2 a share.
In the case of Jain Irrigation, the dividend was the same for both ordinary and DVR shareholders - 25 per cent or Rs 0.5 on shares having a face value of Rs 2. While Gujarat NRE Coke did not recommend any dividend for 2012-13. For 2011-12, the dividend was same for both ordinary and DVR shareholders. In this situation, what is the benefit of investing in DVRs?
According to Yogesh Nagaonkar, vice-president (institutional equities) at Bonanza Portfolio Limited, there is no additional benefit that DVR offers over a common equity. And, an obvious disadvantage of the DVR is that it trades at a discount to common equity, due to a lack of liquidity and lesser voting rights. "Why should one not buy common equity instead of a DVR? If companies like Tata Motors, Pantaloon retail and Jain Irrigation that have issued DVRs provide some additional benefits to the DVR shareholders, then it might become attractive. But that is not the case now," he says.
According to Prateek Agarwal, chief investment officer of ASK Investment Managers, it is best to stay away from DVRs right now. "Looking at the DVRs available in India, I don't think the gap between the DVR and the main stock will narrow down any time soon. So, it is better to invest in the main stock and stay away from DVRs. In bearish markets, DVRs would trade at a higher discount. The discount will narrow when times are good," says Agarwal.
Logically, DVRs should trade at a much lesser discount than what they are trading at now. However, in the Indian market, the gap between the DVR and the share price has only increased. "A DVR should trade narrowly with the main share because the investor is giving away ownership rights and is getting higher dividend in return. For instance, in the US, the gap between the DVR and share price is 6-10 per cent, while in other countries, it is 20-25 per cent. In India, it is over 40 per cent. This huge differential is inexplicable, more so because it has traded like this for a long time," Agarwal points out.
This can be seen from the BSE data. When Tata Motors' DVR was launched in 2008, it was trading at a premium of 24.75 per cent to the main stock. The DVR was trading at Rs 39.67 and the main stock was trading at Rs 31.80. But over the years, the price of the DVR fell, while that of the main stock gained. At present, the DVR is trading at Rs 165.55 and the main stock is trading at Rs 335.5. The DVR is at a discount of 50.66 per cent.
There is no fixed matrix as to what price the DVR should trade at so as to be attractive to investors. That depends on what additional benefit the investor gets compared to ordinary equity. This will decide the DVR discount or premium to the common equity, points out Nagaonkar.
Investors who own DVR shares should wait for the discount to narrow, which may happen if the company announces some special benefits such as increase in voting rights, increment in dividend compared to common equity, etc. Also keep in mind that where liquidity is less, one should sell the DVRs in tranches, as selling in one go could lead to price erosion.
As the name suggests, DVRs have different voting rights compared to equity shares. Usually, an equity share has one voting right, while it takes two or more DVR shares to constitute one voting right. The ratio of voting rights varies, depending on the issuer.
DVRs are separately traded, usually at a discount to the primary share because of their lesser voting rights and lack of liquidity. For instance, as on September 30, the ordinary share price of Tata Motors was Rs 332.35, while the DVR price was only Rs 163.75. The total traded volume of the company's share on both National Stock Exchange (NSE) and the BSE was Rs 125 crore, while in the case of DVR it was Rs 26 crore.
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One school of thought is that if the investor is convinced about the long-term prospects of the company and its fundamentals, then he could consider investing in DVRs for the long term. So, if you get these at a steep discount and there is a chance for appreciation in the price, then they are a good buy.
However, many experts advise against DVRs as these are just a means for the promoter to remain in full control. While the only attraction for the investor is that he gets a slightly higher dividend, of late, even the dividends have been suspect. For instance, for 2012-13, Tata Motors' DVR holders got 105 per cent dividend at Rs 2.10 a share, while ordinary shareholders got 100 per cent dividend at Rs 2 apiece, on shares having a face value of Rs 2.
Future Retail recommended a dividend of Rs 1.14 for DVR holders and Rs 1.1 for ordinary shareholders on the face value of Rs 2 a share.
In the case of Jain Irrigation, the dividend was the same for both ordinary and DVR shareholders - 25 per cent or Rs 0.5 on shares having a face value of Rs 2. While Gujarat NRE Coke did not recommend any dividend for 2012-13. For 2011-12, the dividend was same for both ordinary and DVR shareholders. In this situation, what is the benefit of investing in DVRs?
According to Yogesh Nagaonkar, vice-president (institutional equities) at Bonanza Portfolio Limited, there is no additional benefit that DVR offers over a common equity. And, an obvious disadvantage of the DVR is that it trades at a discount to common equity, due to a lack of liquidity and lesser voting rights. "Why should one not buy common equity instead of a DVR? If companies like Tata Motors, Pantaloon retail and Jain Irrigation that have issued DVRs provide some additional benefits to the DVR shareholders, then it might become attractive. But that is not the case now," he says.
According to Prateek Agarwal, chief investment officer of ASK Investment Managers, it is best to stay away from DVRs right now. "Looking at the DVRs available in India, I don't think the gap between the DVR and the main stock will narrow down any time soon. So, it is better to invest in the main stock and stay away from DVRs. In bearish markets, DVRs would trade at a higher discount. The discount will narrow when times are good," says Agarwal.
Logically, DVRs should trade at a much lesser discount than what they are trading at now. However, in the Indian market, the gap between the DVR and the share price has only increased. "A DVR should trade narrowly with the main share because the investor is giving away ownership rights and is getting higher dividend in return. For instance, in the US, the gap between the DVR and share price is 6-10 per cent, while in other countries, it is 20-25 per cent. In India, it is over 40 per cent. This huge differential is inexplicable, more so because it has traded like this for a long time," Agarwal points out.
This can be seen from the BSE data. When Tata Motors' DVR was launched in 2008, it was trading at a premium of 24.75 per cent to the main stock. The DVR was trading at Rs 39.67 and the main stock was trading at Rs 31.80. But over the years, the price of the DVR fell, while that of the main stock gained. At present, the DVR is trading at Rs 165.55 and the main stock is trading at Rs 335.5. The DVR is at a discount of 50.66 per cent.
There is no fixed matrix as to what price the DVR should trade at so as to be attractive to investors. That depends on what additional benefit the investor gets compared to ordinary equity. This will decide the DVR discount or premium to the common equity, points out Nagaonkar.
Investors who own DVR shares should wait for the discount to narrow, which may happen if the company announces some special benefits such as increase in voting rights, increment in dividend compared to common equity, etc. Also keep in mind that where liquidity is less, one should sell the DVRs in tranches, as selling in one go could lead to price erosion.