All about preference shares and their types.

One of the most basic resources for starting a business is capital i.e funds. With no support of capital, it is quite difficult for a business to stay afloat. A person could still run a business without having any business premises or a physical office but one can’t imagine doing business in the absence of any funds to its aid, irrespective of the size of the amount.

When we talk about a company, the scale at which the business operates is comparatively higher than that of a sole proprietorship or a firm. It is implied that the volume of capital needed is also huge. The various options to raise capital for a company depends on its nature and size. If it is a private limited company, it usually creates its capital from a limited number of its members (since the maximum limit on the number of members is 200 as set by law). A public limited company on the other hand can issue shares or debentures to the general public in exchange of the money invested by them without having any limit on the number of members.

The shares so issued are broadly divided into two types – preference and equity shared. Persons holding both of these shares are considered to be owners of the company. However, the characteristic features of both these shares and the rights available to the holders of respective shares differ from each other.

 The points which can provide us with a detailed perspective on the preference shares and their different types are discussed below.

What are preference shares?

Preference shares are those shares that have a priority over other shares in terms of payment of dividend and also for repayment or redemption of capital. This means that the holders of preference shares will be the first to receive dividend and repayment of capital over any other type of shareholders.

What is the uniqueness of preference shares?

Preference shares comprise of the following features:

• Similar to ordinary shareholders, the holders of preference shares are also the owners of the company.
• The preference shareholders have the right to receive a fixed dividend unlike that of equity shares where there is no such fixed dividend.
• Generally, preference shareholders do not possess voting power. However, they can exercise voting rights on such matters discussed at the meeting which may affect their rights.
• In the case of the winding-up of the company, preference shareholders shall get the priority over other shareholders in respect of repayment of the preference share capital.

In India, what are the different kinds of preference shares that are issued?

• Cumulative preference shares:

(i) These are the type of preference shares wherein if the dividend is not paid in a particular year, it gets accumulated to the following year.

(ii) This means that in the next year, preference shareholders will be entitled to that year’s dividend and the previous year’s dividend.

• Non-cumulative preference shares:

  (i) The preference shares of this type do not have the feature of accumulating the dividend to the subsequent year.

  (ii) This means that the dividend for the year shall be paid during that year itself. If for this year the dividend is not paid then the holders of such shares will have to forego the dividend and cannot be claim it in the next year.

• Redeemable preference shares:

   (i) These preference shares are to be repaid after a specific period of time as decided by the company.

   (ii)  In short, the preference share capital and the dividend is to be repaid within the period as agreed between the company and the preference shareholders.

• Irredeemable preference shares:

    (i) Preference shares of this type are not repaid throughout the lifetime of the company.

    (ii) These shares are not allowed to be issued in India.

Companies involved in infrastructural activities are permitted to issue preference shares for a maximum period of 30 years provided the redemption shall begin from the 21^st year.

Companies involved in non-infrastructural activities are allowed to issue preference shares for a maximum period of 20 years.

• Convertible preference shares:

    (i) Preference shares which can be later converted into equity shares after a certain period of time as agreed are called convertible preference shares.

    (ii) Such preference shareholders enjoy the benefits of both fixed dividends on preference shares holders and later enjoy the status of equity shareholders.

• Non-convertible preference shares:

    (i) They are pure preference shares and do not get converted into any form of shares at a later stage.

    (ii) They have all those features that a preference share would otherwise carry.

• Participating preference shares:

     These preference shares carry an additional feature that enables the holders of such shares to be a beneficiary in the company’s profits other than the fixed dividends paid on these preference shares

• Non- participating preference shares:

   These preference shares do not claim any share in the surplus profits of the company other than the fixed dividend paid to them as preference shareholders.

Unless otherwise provided to the contrary, preference shares are usually cumulative, non-convertible, and non-participating.

Conclusion:

Investment in shares is another forum that is opening up more and more due to people becoming aware of managing their finances and exploring various areas for investments. In such a case, preference shares can thus be considered as a safe investment since it fetches a fixed dividend to the holder thereby making it a less-riskier investment compared to equity or ordinary shares. When the business of the company is being wound up, preference shareholders are repaid after the creditors of the company in case of any surplus funds remaining at the company’s disposal. It is still advisable to get oneself informed about any investment product from valid sources before making any investment in them.

This Article Does Not Intend To Hurt The Sentiments Of Any Individual Community, Sect, Or Religion Etcetera. This Article Is Based Purely On The Authors Personal Views And Opinions In The Exercise Of The Fundamental Right Guaranteed Under Article 19(1)(A) And Other Related Laws Being Force In India, For The Time Being. Further, despite all efforts that have been made to ensure the accuracy and correctness of the information published, White Code Legal and Tax shall not be responsible for any errors caused due to human error or otherwise.