Section 79A of the Companies Act, 1956 and Unlisted Companies (Issue of Sweat Equity Shares) Rules, 2003 provide for issue of sweat equity shares by an unlisted company to its employees or directors at a discounted rate or for consideration other than cash for providing know-how or making available rights in the nature of intellectual property rights or other value additions by whatever name called.
Rule 6 bars a company from issuing sweat equity shares of more than 15% of total paid up equity share capital in a year or shares in excess of the value of Rs. 5 crore, whichever is higher. In the event the ceiling is to be exceeded, prior approval of the central government would be required.
The Companies Act also stipulates a pre-condition that at least 1 year should have elapsed from the day of commencement of business by the company on the date of issuance of sweat equity. In addition, the Companies Act, 1956 stipulates that sweat equity shares should be of the same class as already issued by the company and such an issuance is required to be authorized by a special resolution passed in the general meeting.
This special resolution must specify, inter alia, the number of shares, current market price, and class or classes of directors or employees to whom these equity shares are to be issued. Rule 4 of the aforesaid Sweat Equity Rules requires an explanatory statement to be annexed to the notice for the said general meeting, which includes the reasons/justification for the issue, the number of shares, consideration and the person's relationship with the company.
Furthermore, a separate resolution for approval of shareholders in the general meeting would be necessary if the sweat equity stake is equal to or more than 1% of the issued capital on the date of such issuance.
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