Parth Shah
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Parth Shah
Register Valuer | CA | CPA | 15+ Years of Experiance
Parth Shah is the Founder and Team Leader of the company, bringing extensive expertise in business valuation and financial advisory.
Introduction
If you are raising institutional capital for your startup in India, there is a near-certain chance your term sheet includes the words Compulsory Convertible Preference Shares, or CCPS. Almost every VC and PE-backed funding round from seed to Series C now uses CCPS as the primary investment vehicle. It is not a coincidence. CCPS brilliantly aligns investor protection with founder equity upside, which is exactly why it has become the default instrument in India’s startup ecosystem.
But this dual nature, part preference of share and part future equity, also makes CCPS among the most technically complex instruments value correctly. Mispricing your CCPS can create regulatory non-compliance under FEMA and the Companies Act, distort your ESOP strike price, cause disputes during future fundraises, and result in audit qualifications on your financial statements.
This guide explains everything you need to know about CCPS: what it means, how it works, what its key features are, and how valuation professionals determine a defensible fair value under Indian law.
Key Takeaways
- Compulsory Convertible Preference Shares (CCPS) are hybrid securities that must convert into equity shares at a pre-agreed date or upon a trigger event such as an IPO or next qualified funding round.
- Under the Companies Act, 2013 and FEMA (Non-debt Instruments) Rules 2019, CCPS issued to foreign investors are classified as equity, requiring FMV-based pricing certified by an IBBI Registered Valuer or authorised professional.
- The three primary valuation methods for CCPS are the Option Pricing Model (OPM), the Probability Weighted Expected Return Method (PWERM), and the Current Value Method (CVM). The CVM is rarely sufficient on its own.
- Liquidation preference (1x, 2x, participating vs. non-participating) and anti-dilution rights are the two most value-sensitive features of any CCPS structure, and both must be modelled explicitly in any defensible valuation.
- Under Ind AS 32 and Ind AS 109, CCPS is treated as a compound financial instrument on the balance sheet, requiring bifurcation into a debt component and an equity component, each valued separately.
- CCPS valuation directly affects your ESOP strike price. Ignoring the liquidation preference overhang when valuing common stock inflates the equity value and creates tax liability for employees.
- My Valuation uses PWERM and waterfall analysis to produce audit-ready CCPS valuations accepted by VCs, PE investors, and statutory auditors across India.
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Book A Free ConsultationWhat Are Compulsory Convertible Preference Shares (CCPS)?
Compulsory Convertible Preference Shares (CCPS) are a class of preference shares that must convert into equity shares of the company at or before a specified date, or upon the occurrence of a pre-defined trigger event. The conversion is not optional for either party. It is contractually mandated under the terms of the Shareholders’ Agreement (SHA) and the instrument itself.
Until conversion, a CCPS holder ranks above ordinary equity shareholders in two critical ways: priority in receiving dividends (if declared) and priority in receiving proceeds upon liquidation of the company. Once conversion happens, the CCPS holder becomes an ordinary equity shareholder with identical rights to any other equity holder.
As per Schedule III of the Companies Act, 2013 and the applicable SEBI regulations, CCPS is categorized as equity for most regulatory and compliance purposes, particularly when issued to non-resident investors under the FEMA (Non-debt Instruments) Rules, 2019.
What Are the Common Trigger Events for CCPS Conversion?
The shareholders agreement typically specifies one or more of the following triggers for mandatory conversion:
- Long-stop date: A fixed calendar date by which conversion must occur, regardless of any other event. Typically set between three and seven years from the date of investment.
- Qualified IPO: The company completes a public listing that meets a minimum market capitalization or minimum proceeds threshold defined in the SHA.
- Next Qualified Financing: The company completes a funding round above a defined minimum size or at a defined minimum valuation.
- Change of Control or M and A: A third party acquires a controlling stake, or the company undergoes an amalgamation or merger.
Why Do Startups and Investors Use CCPS for Fundraising?
CCPS has become the default investment structure in India’s venture capital ecosystem because it solves a genuine problem for both sides of the table. Investors need downside protection in a high-risk asset class. Founders need capital without giving up control prematurely. CCPS delivers both.
What Benefits Does CCPS Offer to Investors?
- Liquidation Preference: CCPS holders are paid before equity shareholders in any liquidation or winding-up scenario. A 1x non-participating preference ensures the investor recovers their capital before founders receive anything.
- Anti-Dilution Protection: If a future funding round occurs at a lower valuation (a down round), the conversion ratio for CCPS adjusts in the investor’s favor. This gives them more equity shares for their original investment, reducing the dilution impact.
- Dividend Priority: CCPS holders are entitled to receive dividends before equity shareholders, though high-growth startups rarely declare dividends in practice. The contractual rights still provide protection.
- Defined Conversion Timeline: Unlike optional instruments, the conversion timeline is pre-agreed. Investors know exactly when they will hold equity, which helps with fund life management and LP reporting.
What Benefits Does CCPS Offer to Founders?
- Access to Institutional Capital: Most institutional VCs and PE funds require CCPS as a minimum condition for investment. Accepting this structure opens up the largest pool of available startup capital.
- No Mandatory Interest Burden: Unlike Compulsorily Convertible Debentures (CCDs), CCPS does not carry a mandatory interest obligation. There is no cash going out before the company reaches profitability.
- Clean Cap Table Structure: A well-structured CCPS round simplifies the capitalization table and makes it easier for follow-on investors to understand ownership and rights at each level.
What Are the Key Features and Terms of CCPS You Must Understand?
Not all CCPS are structured in the same way. The economic value of a CCPS depends heavily on the specific terms negotiated in the SHA. These are the features that any valuation professional must model explicitly.
1. Liquidation Preference: Participating vs. Non-Participating
The liquidation preference determines how sale or liquidation proceeds are divided. There are two main types:
Non-participating preference (most common in India): The CCPS holder chooses between two outcomes: receiving their preference amount (e.g., 1x the invested capital) OR converting to equity and receiving their pro-rata share of proceeds. They take whichever is higher, but not both.
Participating preference (investor-friendly): The CCPS holder first takes back their preference amount, and then also participates in the remaining proceeds as if they had already converted to equity. This “double dip” structure significantly increases investor payouts in mid-range exit scenarios and reduces the founder’s take.
2. Anti-Dilution Rights: Three Types You Need to Know
Anti-dilution provisions protect investors from down-rounds. The three most common forms are:
- Broad-Based Weighted Average: The conversion price adjusts based on a weighted average formula that accounts for all existing shares, including option pools and other convertible securities. This is the most founder-friendly form of anti-dilution and the most common in Indian startup term sheets.
- Narrow-Based Weighted Average: Only considers the specific series of shares being affected, resulting in a greater conversion of price adjustment in favour of the investor. Less common but present in certain institutional deals.
- Full Ratchet: The harshest form. The conversion price adjusts all the way down to the exact price of the new down-round shares, regardless of how small the new round is. Rare in India but seen in highly distressed situations.
3. Conversion Ratio
The conversion ratio specifies how many equities of shares each CCPS converts into. The initial ratio is typically set at 1:1 at the agreed conversion price. Anti-dilution adjustments, bonus issues, and stock splits can all change this ratio over time, which is why accurate tracking in your cap table is essential.
4. Voting Rights
Under Section 47 of the Companies Act, 2013, preference shareholders have the right to vote only on resolutions that directly affect their rights. In practice, institutional investors negotiate additional protective provisions in the SHA, giving them veto rights over major decisions such as new share issuances, related-party transactions above a threshold, or changes to the company’s constitution.
How Does CCPS Compare to Other Startup Funding Instruments?
Startup founders frequently encounter three primary instruments: CCPS, Compulsorily Convertible Debentures (CCDs), and plain equity shares. Here is a direct comparison.
CCPS vs. CCD vs. Equity Shares: Key Differences for Startup Founders
Feature | CCPS | CCD | Equity Shares |
Instrument Type | Hybrid (preference + convertible) | Debt + convertible | Pure equity |
Mandatory Interest / Dividend | Dividend only if declared (not mandatory) | Mandatory interest at fixed rate | No obligation |
Balance Sheet Treatment (Ind AS) | Compound instrument (liability + equity components) | Debt until conversion | Equity |
FDI / FEMA Classification | Treated as equity | Treated as equity (post-RBI clarity) | Equity |
Priority in Liquidation | Before equity, after secured debt | Before CCPS and equity (as debt) | Last in line |
Voting Rights | Limited (SHA protections apply) | Limited (similar to CCPS) | Full voting rights |
Best Used For | VC / PE institutional rounds (Series A onward) | Bridge rounds, tax-efficient structures | Founder shares, ESOPs, public markets |
Valuation Complexity | High (OPM or PWERM required) | High (bifurcate debt + equity) | Lower for plain equity |
For most pre-profitability startups, CCPS is preferable over CCD because it carries no mandatory cash interest burden. CCDs suit bridge rounds or situations where a founder wants to minimize short-term equity dilution.
How Is CCPS Valuation Done? The Three Core Methods
Valuing CCPS correctly is significantly more complex than valuing ordinary equity. The presence of liquidation preferences, anti-dilution rights, and conversion features means that a simple DCF (Discounted Cash Flow) on the company’s future cash flows is not sufficient on its own. You need a method that explicitly models these contractual rights and the full range of possible future outcomes.
As per the IBBI (Registered Valuers) Rules 2017 and International Valuation Standards (IVS 200), a registered valuer must select and justify the most appropriate method based on the nature of the instrument and the availability of data.
1. Option Pricing Model (OPM): Best for Complex Multi-Series Cap Tables
The Option Pricing Model (OPM) treats each class of shares as a call option on the total enterprise value of the company. Using the Black-Scholes framework, the OPM calculates the value of each share class by determining the breakpoints at which each class starts to participate in enterprise value.
Each CCPS series has a liquidation preference breakpoint. Below that breakpoint, only the preference holder is paid. Above it, common shareholders begin to participate. The OPM models this waterfall mathematically and produces a per-share value for each class.
When OPM works best: Complex cap tables with multiple series of CCPS (Series A, B, C), all with different preferences and conversion prices. OPM handles multi-layer waterfall structures efficiently.
Limitation: OPM assumes a log-normal distribution of exit outcomes, which may not reflect the discrete scenarios a startup actually faces. It can also be sensitive to the volatility assumption used.
2. Probability Weighted Expected Return Method (PWERM): Best for Near-Term Events
The Probability Weighted Expected Return Method (PWERM) models the value of each share class by explicitly defining multiple future scenarios and assigning a probability to each. The valuer then calculates the payout for CCPS holders under each scenario and discounts it back to the present using an appropriate risk-adjusted discount rate.
A typical PWERM analysis for a Series A CCPS might include:
- High-Growth IPO (Probability: 20%): Company lists at a valuation of Rs. 800 Crore in three years. CCPS converts equity; investors receive their pro-rata proceeds.
- Strategic Sale or M and A (Probability: 35%): Company is acquired at Rs. 300 Crore in two years. Liquidation preference is triggered first; remaining proceeds go to equity.
- Flat Growth or Bridge Round (Probability: 30%): Company continues at flat valuations. Anti-dilution may be triggered.
- Liquidation or Shutdown (Probability: 15%): Company is wound up. CCPS holders receive their preference amount (if assets are sufficient) before equity of shareholders.
Each scenario produces a different payout for CCPS holders. The probability-weighted average of these payouts, discounted to the present date, gives the current fair value of the CCPS.
When PWERM works best: Early-stage companies with identifiable near-term exit scenarios, or where the CCPS is approaching conversion due to a funding round or IPO.
PWERM in Practice: A Worked Example for an Indian Startup
Case Illustration: Series A CCPS Valuation
Company: A SaaS startup based in Bengaluru. Series A funding of Rs. 20 Crore at a pre-money valuation of Rs. 80 Crore. Investor receives 20% equity via CCPS with a 1x non-participating liquidation preference.
Scenario A – IPO in 4 years (Probability: 25%): Exit valuation Rs. 500 Crore. CCPS converts equity; investor receives 20% of Rs. 500 Crore = Rs. 100 Crore. Discounted at 20% for 4 years = Rs. 48.2 Crore present value.
Scenario B – Strategic Sale in 2 years (Probability: 40%): Exit at Rs. 120 Crore. Investor takes higher of: 1x preference (Rs. 20 Crore) or equity share (20% x Rs. 120 Crore = Rs. 24 Crore). Investor takes Rs. 24 Crore. Discounted at 20% for 2 years = Rs. 16.7 Crore present value.
Scenario C – Flat or Down Round in 2 years (Probability: 25%): Company raises bridge at lower valuation. Anti-dilution adjusts conversion ratio. Estimated CCPS present value = Rs. 10.4 Crore.
Scenario D – Liquidation in 1 year (Probability: 10%): Company wound up; assets realized at Rs. 12 Crore. CCPS receives Rs. 12 Crore (capped at preference). Discounted at 20% for 1 year = Rs. 10.0 Crore.
Probability-Weighted Present Value: (0.25 x 48.2) + (0.40 x 16.7) + (0.25 x 10.4) + (0.10 x 10.0) = 12.05 + 6.68 + 2.60 + 1.00 = Rs. 22.3 Crore for the CCPS block, or approximately Rs. 111.5 per preference share
This is a simplified illustration. An actual PWERM analysis involves more granular scenario modelling, company-specific discount rates, and detailed review of SHA terms.
3. Current Value Method (CVM): Simple but Often Inadequate
The Current Value Method (CVM) values the CCPS by assuming immediate conversion into equity shares and applying the current per-share equity value. It is the simplest of the three approaches and sometimes used for early-stage companies where conversion is imminent.
Why CVM is usually insufficient: The CVM completely ignores the liquidation preference. A CCPS with a 2x liquidation preference is worth significantly more than plain equity in a downside scenario. Using CVM alone understates the value of CCPS for investors with meaningful preference terms and is rarely accepted as a standalone method for statutory or compliance purposes.
Choosing the Right Method: A Direct Comparison
OPM vs. PWERM vs. CVM: When to Use Which Method
Criteria | OPM | PWERM | CVM |
Best For | Complex multi-series cap tables | Near-term exit scenarios; early to mid-stage rounds | Imminent conversion; very simple structures |
Handles Liquidation Preference? | Yes, via breakpoint modelling | Yes, explicitly per scenario | No |
Handles Anti-Dilution? | Yes, via adjusted conversion price | Yes, modelled per scenario | Partially |
Data Required | Volatility, time to exit, risk-free rate | Scenario probabilities, exit valuations, discount rate | Current equity value only |
Complexity | High | High to Medium | Low |
Regulatory Acceptance in India | Accepted (IBBI, FEMA, Ind AS audits) | Accepted (IBBI, FEMA, Ind AS audits) | Limited — rarely accepted standalone |
My Valuation’s Recommendation | Series B+ with multiple CCPS series | Seed to Series B rounds | Only where conversion is guaranteed and imminent |
As per the IBBI (Registered Valuers) Rules 2017 and standard valuation practice, PWERM or OPM (or a combination) is required for any defensible CCPS valuation used for regulatory, financial reporting, or fundraising purposes.
Confused About Which Valuation Method Applies To Your CCPS Structure?
My Valuation’s IBBI-registered team will assess your cap table, funding terms, and share structure to recommend the most appropriate valuation approach for your CCPS.
Explore Complex Financial Instruments ValuationWhy Is Accurate CCPS Valuation Critical for Regulatory Compliance?
Getting the CCPS valuation right is not just about negotiating a fair price with your investor. It is a legal requirement across multiple Indian regulatory frameworks. An incorrect valuation can result in regulatory penalties, audit qualifications, and complications in every future funding round.
What Are the FEMA Rules for CCPS Issued to Foreign Investors?
When a non-resident investor subscribes to CCPS in an Indian company, the transaction falls under the FEMA (Non-debt Instruments) Rules, 2019 and requires compliance with RBI pricing guidelines.
As per Rule 21 of the FEMA (Non-debt Instruments) Rules 2019, the issue price of CCPS to a person resident outside India must not be less than the fair market value (FMV) determined using any internationally accepted pricing methodology on an arm’s length basis. The certifying authority can be a SEBI Registered Category I Merchant Banker, a Chartered Accountant, or as per current practice, an IBBI Registered Valuer.
The valuation establishes a floor price. The transaction must occur at or above this floor. Pricing below the floor is treated as a FEMA violation and can attract RBI penalties, compounding, and in serious cases, repatriation obligations.
How Is CCPS Treated Under Ind AS? (Financial Reporting Implications)
Under Indian Accounting Standards, specifically Ind AS 32 (Financial Instruments: Presentation) and Ind AS 109 (Financial Instruments), CCPS is classified as a compound financial instrument when it contains both a liability component and an equity component.
The bifurcation works as follows:
- Liability Component: The present value of the contractually required dividends (if cumulative) calculated using a market rate for a similar instrument without the conversion feature.
- Equity Component: The residual amount after deducting the liability component from the total proceeds received. This represents the value of the embedded conversion option.
This means a company that raises Rs. 50 Crore through CCPS may not record the entire Rs. 50 Crore as equity on its balance sheet. A portion may be classified as a financial liability, affecting the company’s debt-to-equity ratio and its financial covenants with banks or lenders.
Every Ind AS reporting period, the company may also be required to remeasure the fair value of the CCPS and recognize changes through profit and loss (under FVTPL classification) or through other comprehensive income (FVOCI). This requires a fresh valuation at each reporting date.
How Does CCPS Affect ESOP Valuation?
This is a connection many founders miss entirely. When a company issues ESOPs, the strike price must be set at fair market value of the common shares. That FMV is determined after accounting for the liquidation preference overhang of all outstanding CCPS.
Consider an example: A company has a post-money valuation of Rs. 100 Crore after a Series A round. The CCPS carries a 1x liquidation preference of Rs. 20 Crore. If the company is sold for Rs. 80 Crore (below the post-money valuation), the CCPS investor receives Rs. 20 Crore first, leaving only Rs. 60 Crore for equity holders. The common stock is therefore worth less per share than a simple division of total enterprise value by total shares would suggest.
An ESOP valuation that ignores this overhang overstates the FMV of common shares. This results in employees exercising at an inflated strike price, which creates personal tax complications under Section 17(2) of the Income Tax Act, 1961, and may invite scrutiny from the income tax authorities.
My Valuation’s ESOP valuation process always accounts for the full CCPS waterfall before determining common equity value. This ensures your ESOP plan is defensible, fair to employees, and compliant with Ind AS 102.
What Are the Companies Act, 2013 Requirements for Issuing CCPS?
Under the Companies Act, 2013, a private limited company can issue CCPS subject to the following conditions:
- The issue must be authorized by a special resolution of shareholders under Section 55 to read with Section 62.
- For issues to non-promoter investors, the valuation of shares must be conducted by an IBBI Registered Valuer under Section 247 to determine the issue of price.
- The terms of conversion must be clearly specified, including the conversion ratio, conversion price, and all trigger events.
- Preference shares cannot be redeemable after 20 years from the date of issue, with limited exceptions for infrastructure projects.
- Any alteration to preference of share rights requires approval from the preference of shareholders as a class under Section 48 of the Companies Act.
What Are the Most Common CCPS Valuation Mistakes Founders Make?
Based on real-world CCPS structuring and valuation experience at My Valuation, these are the errors that appear most frequently:
Mistake 1: Using NAV or Simple DCF Without Modelling the Preference
A Net Asset Value or DCF analysis gives you the enterprise value. It does not tell you how that value is divided between CCPS holders and equity holders. Applying a simple per-share calculation without running a waterfall analysis produces an incorrect value for both classes.
Mistake 2: Ignoring the Liquidation Preference in ESOP Pricing
Common stock is always worth less than CCPS in a downside scenario. ESOP strike prices derived from a total-equity-divided-by-total-shares calculation will almost always overstate the value of the common shares being granted. The employees pay the price.
Mistake 3: Treating All Liquidation Preferences as Equal
A 1x non-participating preference and a 2x participating preference are fundamentally different instruments with very different economic outcomes for founders. A blanket of “preference shares” treatment in any valuation misses these critical distinctions entirely.
Mistake 4: Not Revaluing for Each New Funding Round
As the cap table changes with each funding round, the CCPS valuation for prior rounds changes too. Anti-dilution adjustments, new preferences ranking ahead of existing ones, and changes in enterprise value all affect earlier series. Failing to update the valuation creates inaccurate financial statements and incorrect ESOP pricing for subsequent grants.
Mistake 5: Skipping FEMA Valuation for Foreign Investors
Some founders assume that because the valuation is agreed between them and the investor, no independent valuation certificate is needed. This is incorrect. FEMA requires an independent FMV certificate for any CCPS issuance to non-residents, regardless of whether the parties agree on pricing. The penalty for non-compliance can be up to three times the value of the transaction.
Conclusion
CCPS is the backbone of India’s venture capital ecosystem. Its combination of downside protection, anti-dilution rights, and equity upside makes it the preferred instrument for institutional investors from seed to pre-IPO stage. But the very features that make CCPS attractive also make it one of the most technically demanding instruments to value correctly.
A defensible CCPS valuation must model the liquidation preference of waterfall, account for anti-dilution adjustments, and reflect the full probability spectrum of outcomes. Anything less creates compliance risk under FEMA, inaccurate financial statements under Ind AS, and an unfair ESOP strike price for your employees.
My Valuation is one of India’s leading IBBI-registered valuation firms, with a proven track record of delivering audit-ready CCPS and complex financial instrument valuations for startups raising from seed to Series C. Our reports carry a 95% plus acceptance rate from institutional VCs and PE investors without major adjustments.
Need A CCPS Valuation For Funding, Compliance, Or Financial Reporting?
Whether you need a CCPS valuation for a new funding round, FEMA compliance, Ind AS reporting, or ESOP pricing, our expert team is ready to help with accurate and defensible valuations.
Schedule Your Free ConsultationFrequently Asked Questions (FAQs)
1. What is the difference between CCPS and ordinary preference shares?
CCPS must compulsorily convert into equity at a pre-agreed date or event. Ordinary preference shares are redeemed for cash and never become equity.
2. Is CCPS valuation mandatory under Indian law?
Yes. Section 247 of the Companies Act, 2013 requires an IBBI Registered Valuer to certify the issue price. Foreign investor transactions additionally require an FMV certificate under FEMA (Non-debt Instruments) Rules, 2019.
3. What happens to CCPS if the company goes through a down round?
The anti-dilution clause in the SHA triggers, adjusting the conversion ratio in the investor’s favour. This gives the investor more equity shares, diluting founders further.
4. How much does CCPS valuation cost in India?
It depends on cap table complexity and the method required. My Valuation offers a free preliminary discussion to assess scope, with delivery typically in five to seven business days.
5. Can a company issue CCPS without a valuation report?
No. The Companies Act, 2013 and FEMA both require an independent valuation before issuance. Skipping it invites penalties from the RBI, MCA, or income tax department.
6. Are CCPS dividends taxable in India?
Yes. Post abolition of DDT from April 1, 2020, dividends are taxable in the recipient’s hands at their slab rate. TDS at 10% applies on payments above Rs. 5,000 per year under Section 194 of the Income Tax Act.
7. Is it a misconception that CCPS and equity shares have the same per-share value?
Yes. CCPS carries a priority claim that makes it worth more than common equity in a downside exit. A proper OPM or PWERM valuation captures this difference; a simple NAV approach does not.
