The shares which can be issued by a company, are of two types:- 1. Preference Shares 2. Equity Shares.
The Preference Shares are those which have some preferential rights over the other types of shares. A share to be preference share, must have two preferential rights: [Sec. 85(1)]
(a) They have a preferential right to be paid dividend during the life-time of the company.
(b) They have a preferential right to the return of capital when the Company goes into liquidation.
Features of a Preference Share:
1. It has preferential rights to dividends at a fixed rate.
2. It has cumulative rights to dividends.
3. It has preferential rights to assets of the company in the case of liquidation.
4. It is redeemable after the expiry of a period of ten years from the date of its issue.
5. It can be purchased or sold in a stock exchange at a price above or below its face value.
6. It has no voting power.
7. It may or may not be converted into equity share(s).
The Preference Shares are of the following types:
(a) Cumulative Preference Shares:
The dividend payable on these shares goes on accumulating till it is fully paid off. If dividend at the fixed rate cannot be paid in any year due to inadequate profits, arrears of dividends will accumulate and will have to be paid out of profits of future years.
The arrears of dividend shall be paid before anything is paid out of profits to the holders of any other class of shares. This type of shareholders have a right to claim a fixed percentage as dividend every year. Preference shares are always cumulative unless otherwise stated.
(b) Non-Cumulative Preference Shares:
These shares get preference in the matter of payment of dividend at a fixed rate in any year, only if there is any profit available for distribution in that year. The right to claim dividend will lapse if there are no sufficient profits in a particular year. Shareholders cannot claim arrears of dividends of any year out of the profits of the subsequent years. That is, if the dividend is not paid, it cannot be carried forward.
(c) Participating Preference Shares:
These shares are not only entitled to a fixed rate of dividend, but also to a share in the surplus profits which remain after the claims of the equity shareholders. This type of right should be expressly provided in the Article of Association.
(d) Non-Participating Preference Shares:
The holders of these shares are entitled to a fixed dividend and not in the surplus profits. If the Articles and Memorandum are silent and there is no clear provision in the terms of issue of these shares, all preference shares are deemed to be non-participating preference shares.
(e) Convertible Preference Shares:
The holders of these shares have a right to get their preference shares converted into equity shares within a certain period.
(f) Non-Convertible Preference Shares:
(g) Redeemable Preference Shares:
Ordinarily, the amounts paid on the shares are not redeemable (refundable) except when the company goes into liquidation. If a company is authorised by its Articles of Association, it may issue redeemable preference shares. Such shares are issued for a fixed term, and they are paid off after the expiry of the term.
(h) Irredeemable Preference Shares:
Share, which cannot be redeemed during the life time of the company is known as irredeemable preference share.
Equity shares, with reference to any company limited by shares, are those which are not preference shares [(Sec. 85(2)]. Equity shares are also known as Ordinary Shares. These type of shares do not enjoy any preferential rights. Generally, rate of dividend is not fixed on equity shares. The rate of dividend may vary from year to year, depends upon the profits of the company.
If profits are insufficient, equity shareholders may not get any dividend at all. On the other hand, they usually stand to receive a relatively higher return in the years of prosperity when the business is good and profits are large. The rate of dividend is determined by the Directors of the company.
Features of an Equity Share:
1. It is a part of the capital of the company.
2. It can be purchased or sold in a stock exchange.
3. It has no cumulative rights to dividends.
4. It can vote in the election of directors.
5. It can take part in the making of certain important company decisions.
6. It can participate in the profits of the company.
7. It can purchase a proportionate part of future share issues (i.e., rights issue).
8. It has the right to share in assets upon liquidation.
9. On winding up, the shareholders will receive surplus, after all obligations are met.