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Unformatted text preview: MBA Education & Careers Types of Shares S ometime back we had carried an article on the meaning of share, and related terms. In this article, we will focus on types of shares. On the basis of the rights of shareholders with regard to casting their vote and receiving dividends, shares can be broadly classified into three types as follows: Shares Equity Shares Preference Shares Deferred Shares EQUITY SHARES Equity shares are regarded as corner-stone of the financial structure of a company without which a company cannot be founded. Equity shareholders are residual owners who have unrestricted claim on income and assets and who possess voting power in the company. Equity shareholders are considered as ‘owners’ of the company. Similarly, at the time of liquidation of the company, they will be last to receive anything from out of the assets of the company. If company earns sufficiently larger profits, they are the maximum beneficiaries. On the other hand, they are the biggest losers if the company suffers any loss. In fact, these equity shareholders are exposed to the highest risk. It is for this reason that share capital is also called risk capital. Characteristics Permanent Capital: The capital raised through the issue of equity shares is permanent. As long as a company exists, this capital need not be paid back. As the shares are transferable, they provide liquidity to the shareholders. Claims on Income : Equity shareholders are residual owners whose claims on income arise only after the claims of creditors and preference shareholders have been met. In such case, there is no guarantee that they will receive dividends every year. Even if a company earns adequate profits, it need not pay dividends to equity shareholders. Claims on Assets: In the event of the company’s liquidation, equity shareholders have the last claim on the assets of the company. After all claims have been met, they are entitled to receive all that is left. No Charge: To raise capital, the company need not create charge on the assets of the company. Limited liability: The liability of shareholders is limited to the par value of shares held by them. In case of partnership firms and proprietary concerns, the liability is unlimited, joint and several. Control: Equity shareholders have unchallenged voice in management and control of the company. They exercise control through voting power and electing the board of directors. The board of directors act according to the directions of the shareholders. December 2007 45 MBA Education & Careers ECO FUNDAS FOR YOU: TYPES OF SHARES Pre-emptive Right: All companies have a legal obligation to offer new issues to the existing equity shareholders in the existing proportion before placing them in the market for public subscription. This right of equity shareholders to purchase new shares is called “pre-emptive right”. The sale of equity shares to the existing shareholders as a matter of privilege is referred to as “rights offering or issue”. This helps the shareholders as it does not dilute their controlling power. Also, the company gets to carry out its objectives uninterruptedly. Merits ☞ Equity share capital is the most powerful and reliable source of finance. ☞ As there is no legal obligation to pay dividends every year, equity capital involves less risk. ☞ Equity capital does not create any charge on the assets of the company. ☞ This capital enables the company to plough back the profits and use them for future expansion and growth. ☞ Due to the operation of financial leverage, equity shareholders gain more. Demerits ☞ Excess mobilisation of equity may lead to a situation of over-capitalisation. This reduces the profitability of the company. ☞ Over-dependence on equity may result in depriving the company of using debt capital, which is a cheaper source of finance. ☞ Control of the company may get diluted, when it issues new shares on large scale. 46 December 2007 PREFERENCE SHARES Preference shares represent that part of share capital of a company, which carry preferential rights and privileges with respect to income and assets over equity shareholders. The Indian Companies Act, 1956, describes a preference share as one, which fulfills two requirements: (a) With regard to dividends it carries a preferential right to be paid a fixed amount, and (b) with regard to capital it carries a preferential right to be repaid. The rate of dividend on preference shares is generally paid at a fixed rate while it is fluctuating in case of equity shares. Characteristics Preference share capital is also refered to as a hybrid form of finance as it possesses the features of both ownership capital and borrowed capital. The important characteristics of preference capital are: Maturity: In respect of maturity, preference shares resemble equity shares in that the company is ordinarily not obliged to repay until the liquidation of the company. Thus, it brings in permanent capital. Sometimes, preferred shares are redeemed at a stipulated time as per the terms of the issue. In such case, these shares would be redeemed out of the surpluses or by issuing new preference shares, etc. Claims on Income: Preferred shareholders have priority of claim to dividend over equity shareholders. They are paid dividend at a fixed rate specified in the agreement. MBA Education & Careers ECO FUNDAS FOR YOU: TYPES OF SHARES Claims on Assets: Although, no specific assets Merits are pledged against preferred shares, they have a ☞ For risk-averse investors who are interested claim on the general assets of the company. Their in a fixed return, preference shares offer a claims on assets are superior to those of equity good opportunity of investment. shareholders on dissolution of the company. ☞ Preference capital as a source of finance is Preference shareholders are paid their principal more economical as the dividend is paid at amount well before equity shareholders. a fixed rate. When compared to the equity Controlling Power : Generally, preference shareholders do not have voting power and hence cannot make any policy decision. However, they can exercise their rights on matters relating to them. shares, cost of preference capital is low. Surplus profits, if any, will go to equity shareholders only. ☞ Preference share capital provides flexibility in the usage of capital. Preference capital can be repaid when the need for additional In case of cumulative preference shares, if a company fails to pay dividends for more than two years and in case of non-cumulative preference shares, if a company fails to pay dividend for three years in a total period of six years, preference shareholders also get voting power on par with equity shareholders. funds is over while it is not possible in case of equity share capital. ☞ Both the company and the shareholders stand to gain with the use of preference capital. ☞ As preference capital does not entail voting rights, there is not fear of dilution of control. Types of Preference Shares As per the provisions of the Articles of Association, a company can issue different types of preference shares as follows: ☞ Cumulative preference shares ☞ Non-cumulative preference shares ☞ Convertible preference shares ☞ Non-convertible preference shares Demerits ☞ The cost of preference capital is lower than equity capital but higher than debt capital. ☞ When the rate of return is less than the cost of preference shares, it creates risk to the company. ☞ When company fails to pay dividend, preference shareholders would get voting ☞ Redeemable preference shares rights and consequently, the control is ☞ Irredeemable preference shares diluted. ☞ Participating preference shares ☞ Non-participating preference shares ☞ Preference shareholders have no guarantee of receiving dividends every year. December 2007 47 MBA Education & Careers ECO FUNDAS FOR YOU: TYPES OF SHARES Deferred Shares Deferred shares are generally issued to the promoters of the company. Therefore, these are also called promoter’s shares. However, only independent private companies can alone issue this type of shares. A fixed rate of dividend is paid on these shares, but these shareholders are paid only after all the types of shareholders are paid at the time of liquidation of the company. The distinct feature of this type of shares is that these shareholders enjoy disproportionate voting rights. The purpose of giving disproportionate rights is to ensure the existing control of the management of the company. Therefore, these are also called “management shares”. M E & C Global Warming: Skeptic vs IPCC Idea: Evidence that the earth’s temperature is getting warmer is unclear Skeptic Instruments show there has been some warming of the Earth’s surface since 1979, but the actual value is subject to large errors. Most long-term data comes from surface weather stations. Many of these are in urban centres which have expanded in both size and energy use. When these stations observe a temperature rise, they are simply measuring the “urban heat island effect”. In addition, coverage is patchy, with some regions of the world almost devoid of instruments. Data going back further than a century or two is derived from “proxy” indicators such as tree-rings and stalactites which, again, are subject to large errors. Counter Warming is unequivocal. Weather stations, ocean measurements, decreases in snow 48 December 2007 cover, reductions in Arctic sea ice, longer growing seasons, balloon measurements, boreholes and satellites all show results consistent with the surface record of warming. The urban heat island effect is real but small; and it has been studied and corrected for. Analyses by Nasa for example use only rural stations to calculate trends. Recently, work has shown that if you analyse long-term global temperature rise for windy days and calm days separately, there is no difference. If the urban heat island effect were large, you would expect to see a bigger trend for calm days when more of the heat stays in the city. Furthermore, the pattern of warming globally doesn’t resemble the pattern of urbanisation, with the greatest warming seen in the Arctic and northern high latitudes. Globally, there is a warming trend of about 0.8C since 1900, more than half of which has occurred since 1979. ...
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This note was uploaded on 04/11/2010 for the course ECONOMICS HU-203 taught by Professor Hitashi during the Spring '10 term at Punjab Engineering College.

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