Preeti, 28, walked into my office with a confused look on her face. Even before I could say hello she asked her question. She said: ?I was thinking of buying some stocks. A close friend of mine suggested that I consider investing in Tata Motors. I checked the price of the stock and found that it quotes at about Rs 800. When I met my friend next, I informed him that at Rs 800 the stock seems expensive in my assessment. However, he immediately replied that in that case I can buy Tata Motors shares at about Rs 500 each. I thought he was joking, but he insisted that one could choose between the two prices for buying shares of the same company. Is he right? How can shares of the same company be available at the same time at two different prices??

I smiled. ?Your friend is broadly correct,? I replied. Two types of Tata Motors shares trade on the stock market: ordinary shares and ?A? ordinary shares (or Class A shares). The ?A? ordinary shares are also referred to as Differential Voting Right (DVR) shares.

?I know that an ordinary share is just a typical share issued by any company that trades on the stock market,? Preeti said. ?But what is a DVR share?? she asked.

Shareholders of a company are similar to partners in a small business. Each ordinary share holder has the right to vote on any business proposal that the company wishes to embark on. Each ordinary share comes with a single voting right. If you own 50 shares you will have 50 voting rights. Therefore, the more shares you own, the greater are your voting rights. If an individual acquires more shares than the promoters then he becomes the majority shareholder. This gives him the right to control the company. For obvious reasons, promoters do not want this to happen. Class ?A? shares or DVR shares are issued to prevent such takeovers.

What are class A shares?

Class ?A? shares have different voting rights and dividends. For example, a Class A share may have 1/10th the voting right of an ordinary (or Class B) share. This means that for an individual to get the same voting rights as an ordinary shareholder she must own 10 Class A shares. Since the voting rights are so low on these shares, promoters are able to safeguard themselves against hostile takeover attempts. It is with this thought in mind that many promoters, including those of Tata Motors, have issued DVR shares. The Tata Motors DVR shares will pay a 5 per cent extra dividend over ordinary shares.

The DVR shares of Tata Motors trade at about Rs 500 while the ordinary shares of Tata Motors trade at about Rs 800 currently.

?But just for giving up some voting rights is a discount of about 40 per cent justified?? Preeti asked.

?Not really,? I replied. The underlying fundamentals of the company are the same. Hence, the two classes of stocks should trade at prices very close to each other. The difference in the two prices can be explained by a demand-supply mismatch. It is likely that someone with a large holding of DVR shares is trying to offload them and demand in the market is much lower. This is causing them to trade at a significantly lower price.

?If the fundamentals are the same, is it not possible for someone to buy Class A (DVR) shares at a discount and sell Class B ordinary shares at a premium?? enquired Preeti.

Does an arbitrage opportunity exist?

A number of articles have been written about the arbitrage that exists between these shares. The writers go on to suggest that one could benefit enormously from buying DVR shares. These articles assume that one day the price of DVR shares will catch up with those of ordinary shares. Once this happens the owners of DVRs will benefit tremendously. I do not dispute this in theory. But there have been many instances in the stock markets where such discounts have persisted for years on end. It is certainly not a get-rich-quick strategy. But it is possible that over the years one could get a good return by buying the DVRs today.

In the international context, many companies have Class A and Class B stocks. These include big names like Google and the legendary investor Warren Buffet?s company ? Berkshire Hathaway. However, there are some important differences. Apart from having differential voting rights, Berkshire is always willing to exchange 30 shares of Class A (DVR) for a single share of Class B (ordinary shares). Whenever 30 shares of class A are cheaper than a single share of class B, there is an opportunity to profit from. Under these circumstances arbitrageurs sell Class A shares and buy Class B shares. This buying and selling by investors results in maintaining a fixed price ratio between the two classes of shares.

Unfortunately, in the case of Tata Motors or other Indian DVR issuers like Pantaloon Retail or Gujarat NRE Coke no such conversion option exists. This makes arbitrage a difficult possibility. Hence both classes of shares tend to move based on their independent demand and supply.

Preeti nodded. She had understood the reason for the different prices. ?Should I buy these DVRs?? she asked.

?There are two conditions that you should satisfy before buying these shares. First, you must be convinced that Tata Motors is a stock that you would like to own for the long term. Second, you should be willing to take a chance on the fact that over time market efficiency will bring these prices close to each other.?

?There is never a free lunch, is there?? she said. ?That is true. Risk and return always go hand in hand,? I replied. She said goodbye and left.

The author is the chief executive of Sardesai Finance. ceo@sardesai.com