When investors enter the startup’s cap table, they are given preference shares – shares that have rights to liquidate during the company’s lifetime. In India, these preference shares are generally issued as a class of CCPS or Compulsory Convertible Preference Share. The latest class of CCPS has a higher preference than its preceding classes when it comes to payout, meaning a Series B CCPS will have higher preference over Series A CCPS, so on and so forth.
Investors, who are granted Compulsory Convertible Preference Shares, have the privilege of linking the time of conversion to the company’s performance. This essentially means that the investor might choose to convert CCPS to equity only after the company achieves the promised growth. If these milestones are not achieved, investors may also have the option to increase their stake in the startup.
At times, there might be a ratio linked to the conversion of Compulsory Convertible Preference Shares to equity shares. The ratio is generally 1:1, meaning 1 CCPS upon conversion will become 1 equity share. But, there might be instances where the conversion ratio is 1:1.5, 1:2. 1:3 or in any other proportion. Such conversion ratios are generally seen when advisors or promoters demand more shares. The conversion ratio is generally agreed upon in the Shareholder Agreement (SHA).